More bad news for the dollar as the UAE gets ready to dump it

November 28th, 2007 - 5:05 pm ICT by admin  

Dubai, Nov.28 (ANI): A serious crisis looms ahead of the US dollar as the UAE along with other Gulf Cooperation states are reportedly considering a move to dump the US currency.

For GCC states where the main export; oil; is dollar denominated it makes sense. This week the governor of UAE’s central bank twice questioned the existing currency regime.

Washington, however, will resist another blow to the dollar, and it is using all its muscle to discourage the Gulf regimes from dropping the dollar.

If the oil exporting nations drop the dollar, experts say that it will lose at least twenty percent of its value.

In September this year, as the dirham faced further value erosion following the dollar’s decline against major international currencies, UAE residents became poorer as the currency bought less and less of what it used to in the past.

The UAE economy is facing a unique situation due to high growth, high inflation and low interest rates as the dirham faces further erosion as a result of the falling dollar. Due to the inherent weakness of the US economy and the tightening credit situation in the US, economists expect the dollar to decline further.

The Middle East News quoted Serhan Cevik, an economist at Morgan Stanley, as saying recently that the weaker dollar would worsen the already high inflationary pressures in the Gulf Cooperation Council states.

Last year, the UAE’s inflation hit a 19-year high of 9.3 per cent.

According to Sudhir Shetty, the General Manager of the UAE Exchange Centre, was quoted as saying that the Indian rupee gained more than 14 per cent against the dirham in 2006.

He warned then that the exchange rate losses combined with domestic inflation is wiping out more than one third of the earnings of Indian expatriates working in the UAE.

Western expatriates to have suffered heavily from the dirham’s fall. The dirham fell 17 per cent against the euro from December 2005 to the end of August 2007 and dropped 16 per cent against sterling.

The recent sharp fall of the dirham’s exchange rate against all leading international currencies was triggered by a 50-basis-point (0.5 per cent) interest cut by the US Federal Reserve.

Due to the growing pressure of the global credit crunch arising out of the US mortgage market turmoil and sagging economic growth, the Fed was forced to cut interest rates, reports the business website

The lowering of interest rates and the growing prospects of future interest rate cuts in the US has driven the currency markets to dump the dollar in favour of other currencies such as the Euro, Sterling, the Canadian dollar and a host of Asian currencies such as the Indian rupee and the Chinese yuan.

While the dollar’s decline was proportionately reflected in the dirham’s exchange rate against other currencies due to the dirham’s peg to the dollar, a big surge in domestic prices (inflation) in recent years has seen the dirham’s purchasing power shrink rapidly.

The sharp decline of the dollar against major currencies has revived the debate about the dirham’s revaluation as a viable solution.

More than 70 per cent of the UAE’s imports are from Europe, the UK and Asia where currencies have appreciated against the dollar. The decline of the dollar has added to imported inflation.

Earlier this month, following the recent OPEC meet in Riyadh, Iran’s President Mahmoud Ahmadinejad said all GCC states were concerned about the falling US currency and have asked their finance ministers to study the feasibility of selling oil in another currency.

However, OPEC’s official communique omitted to mention any such intention, probably due to Saudi Arabia’s determination to not rock an already capsizing boat.

It is certainly a dilemma for oil-producing nations. Sticking to a currency in decline doesn’t appear to make financial sense on the surface, but were they to change, say, to euros there is a good chance the dollar would collapse causing chaos in world markets and a possible global recession.

The GCC must make similar decisions over the dollar peg with the exception of Kuwait, which unilaterally made the switch earlier this year and has since seen its currency revalued upwards by 4.5 per cent.

The peg has served GCC nations well for decades but is now triggering inflation due to the high cost of imports.

The governor of the UAE Central Bank, Sultan Bin Nasser Al Suwaidi, hinted in the middle of November that the Emirates may link the dirham to a basket of currencies that would also include the dollar.

It’s not my prediction but everybody is expecting that the US dollar will go down further. It will trigger a review,” Al Suwaidi said during a visit to South Korea.

Previously, Al Suwaidi has indicated the UAE would not move without a consensus from its fellow GCC partners, but there is a general impression that Saudi Arabia, Bahrain, Qatar and Oman are reluctant to alter the status quo.

Eventually the UAE will have to decide whether to bite the bullet or go it alone. (ANI)

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