Paying the price

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As Gulf policymakers meet in Bahrain to find ways to curb rampant inflation, economists are warning against intervention through price controls.

Gulf Arab central bankers meet this week in Bahrain, and one issue will dominate the agenda. Near-record inflation is endemic in the GCC, and forum delegates will hear from speakers from the EU and the International Monetary Fund, among others. The forum's goal is a simple one: to halt the rampant price increases that are hitting households across the Gulf.

Inflation in Saudi Arabia reached a record 7% in January, while National Commercial Bank (NCB), the largest lender in the kingdom, has warned that inflation could rise to 7% overall in 2008, compared with 4.1% last year.

The UAE, Qatar and Oman all have rent caps in place, while the UAE is also considering a plan to give its national citizens discounts on 14 food items as well as gasoline and cooking fuel as it struggles to keep inflation below 10%. Yet analysts remain unimpressed.

"You can't have this level of economic growth without structurally high inflation, but if you look at the main driver of inflation in the region, it is rental price increases," argues Monica Malik, an economist at EFG-Hermes. "There are very few policy tools a government can use to tackle this inflation, because the only sustainable solution is to increase supply, and that takes time.

"We have seen rent caps, wage increases and boosts in subsidies, but those are really designed to stop inflation affecting the living standards of the population," she continues. "Those are measures that don't directly tackle inflation, but rather tackle the resultant implications of inflation."

The UAE has set an inflation target of 5% for 2008, although even those charged with helping the government achieve this target admit that it may prove a near-impossible task. "It's a big challenge whether we can make it," said Sultan Bin Saeed Al Mansouri, Minister of Governmental Sector Development, when the target was announced. "We need to look and see how that can happen."

Merrill Lynch is painting a far less rosy picture of the year ahead. It warned in January that UAE inflation could touch a 20-year high of 12% in 2008 unless the dirham is revalued or depegged from the dollar.

Many analysts believe that Merrill's prognosis is the more likely of the two to come true, particularly if Gulf governments fail to address economic policy concerns.

"[Rent caps and subsidies] is not the right way to approach the problem, because we're not tackling monetary policy," insists Marios Maratheftis, regional head of research at Standard Chartered Bank. "There is too much money in the region chasing too few goods, and we need policy to be tighter in order to fight inflation.

"What we have here would be good for the US economy which is falling into recession, or for the Japanese economy, but not for a region that is booming and facing inflationary pressures," he continues. "Interest rates are not where they should be, the currency is extremely weak, and the extremely loose conditions are providing an even bigger stimulus to the economy, which is not what is needed right now.

"We need to manage the boom, so that we don't have to manage a bust two or three years down the line."

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