Dubai: Currencies of the Gulf Cooperation Council (GCC) countries face speculation during times of oil price volatility, especially when oil prices are falling, but under the current circumstances, there is no urgency to change the dollar peg, according to economists and regional central banks.
“We do not expect changes to GCC currency pegs to the dollar despite the oil price outlook being weaker than in previous years. Rather, the pegs support economic stability, helping to limit the feed through of oil-price volatility into GCC economies,” said Monica Malik, Chief Economist of Abu Dhabi Commercial Bank.
The central banks of Saudi Arabia and the UAE which faced some degree of speculation on their currencies have already clarified that they don’t see the need for a change in their respective currency policies even if the oil price is to face a longer term decline.
The UAE Central Bank governor said on Monday that the country is benefiting from the dollar peg and has no plans to change it. “The strong dollar helps the UAE. We have benefited a lot from the link to the dollar,” Mubarak Al Mansouri said at a conference in Abu Dhabi.
Most of the recent speculation, in 4Q 2014 and in January 2015, was against the Saudi riyal with the two-year and three-year forwards in particular moving lower. The pressure on the currency was mounted by hedge funds and other speculators who betted on potential devaluation of the riyal. The pressure on the riyal was also magnified by the lack of liquidity providers.
With a more diversified economy, the UAE dirham forwards did not feel the same pressure as the Saudi riyal.
“We do not expect a change in the GCC pegs, due to the macroeconomic stability they provide to largely commodity-exporting economies; and the GCC’s strong forex reserve position,” said Malik.
Although, the intervention by regional central banks is limited in the currency markets, analysts say with massive reserves at their disposal they are well positioned to defend their currencies. Saudi Arabia has an estimated $750 billion of foreign reserves more than any country except for China and Japan.
Analysts in general consider one of the greatest benefits of the pegged currency regime in the GCC is the limited transmission of oil-price volatility into these economies via currency movements. The dollar pegs anchor foreign exchange and inflation expectations. In addition a strong dollar keeps imported inflation low, benefiting domestic customers. Argument in favaour of weakening currencies to support exports also do not hold good for most of GCC as most of its exports are hydrocarbon and it are priced in dollar.
Although many GCC countries have the capacity to fully defend their respective currencies, some economists say, they region should look at exchange rate flexibility as a longer term goal.
“The current currency policy in the GCC is not sustainable over a longer time horizon. The region needs exchange rate flexibility. In times of high market volatility currencies should work as a shock absorber,” said Marios Maratheftis, Global Head of Research at Standard Chartered Bank.
Supporters of the dollar peg say the strong dollar is currently helping to maintain GCC currencies’ purchasing power and contributing to low imported inflation, which in turn supports consumption. Meanwhile, weaker regional exchange rates would provide limited support to export competitiveness, with hydrocarbons and petrochemicals — which are priced in the dollar dominating GCC exports.
