[OPE-L] Kuwait’s decision to delink its currency from the dollar

From: Alejandro Valle Baeza (valle@SERVIDOR.UNAM.MX)
Date: Sun Jun 03 2007 - 16:20:09 EDT

Kuwait casts doubt over Gulf currency union
By Simeon Kerr in Dubai
The Financial Times , 03:14 p.m. 03/06/2007
Published: June 3 2007 18:11 | Last updated: June 3 2007 18:11

Kuwait’s decision to delink its currency from the dollar last month sent
reverberations around the Gulf and beyond.

Central bankers were surprised that Kuwait had broken ranks in spite of
months of hints that it would act to offset the weakening US currency’s

effect on raising import prices, which were fuelling inflation.

If Kuwait’s oil-rich neighbours also dropped their dollar pegs, the
effect would be felt way beyond the Gulf. Countries in the region could buy

fewer dollars and put less of their booming foreign exchange reserves
into US assets such as Treasury bonds.

Analysts say a domino effect across Gulf currencies is unlikely in the
short term because of resistance from central banks, which have known only

the dollar peg since the early1980s.

Saudi Arabia, the region’s economic giant, strongly downplayed the
chances of revaluation. It is not as concerned about import-led
inflation and

values currency stability too highly.

But Kuwait’s move has raised the debate over whether Gulf countries
should peg to a trade-weighted basket of currencies rather than just the


Kuwait’s revaluation is the end to a short, four-year experiment
intended to herald a unified currency in the Gulf Co-operation Council

Arabia, Kuwait, Bahrain, Qatar, the United Arab Emirates and Oman) by
2010. Kuwait dropped a basket for the dollar peg in 2003 in preparation

for a single currency.

There were doubts over currency union before Kuwait’s revaluation. Oman
had said it would not meet the deadline. Kuwait remains committed

to the single currency, it says, but would have to re-establish the
dollar peg or persuade the other GCC states to adopt the basket.

The International Monetary Fund has advised GCC members to keep pegs
intact. Lower inflation would be outweighed by perceptions of currency

instability, it said. But some economists argue for a common currency
tied to a trade-weighted basket.

When the decision was made to peg to the dollar, oil prices were low and
the US currency strong: the reverse of today’s situation. Pegging to a

basket would better reflect the GCC’s modern trading patterns. It has
closer links to Asia and the eurozone than almost 30 years ago.

GCC central banks are quietly mulling how to deal with undervalued
currencies, analysts say.

Standard Chartered Bank has said there is a 25 per cent chance that the
UAE will allow the dirham to appreciate this year.

“The only country that would consider revaluation would be the UAE, but
it still isn’t a high probability,” says Monica Malik, economist with

regional investment bank EFG-Hermes.

The country said last month it was “sticking to the dollar for the time


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