Thursday, Jun 14, 2012

-- Qatar Says Maintaining Dollar Peg Involves Challenges

-- No Plans To Drop Dollar Peg, Qatar Governor Says

-- Dollar Weakening Trend Not Yet Clear, Governor Says

(updates with analyst comment)

By Alex Delmar-Morgan

Of ZAWYA DOW JONES

DOHA (Zawya Dow Jones)-Qatar's central bank has broken ranks with other monetary authorities in the oil-rich Gulf region to express its first public concern about the longstanding policy of linking its currency to the U.S. dollar.

While reaffirming that the central bank intends to maintain the Qatari riyal's peg to the dollar, Qatari central bank governor Abdullah Saud Al Thani departed from his previous outright endorsement of the peg by highlighting some of the problems it has caused for Qatari policy-making.

"There are some challenges while operating under fixed exchange rates," Mr. Al Thani said in an emailed response to questions from Zawya Dow Jones. "With the fixed anchor, we have to maintain our stance of policy consistent with that of the US which may not be always justified based on our own domestic considerations."

Qatar needed to cut interest rates for domestic reasons in 2010 and 2011, a time when the U.S. Federal Reserve was holding its interest rates steady, he said.

Qatar, like most of the central banks in the oil-rich Gulf region, has pegged its currency to the U.S. dollar for more than a decade. Saudi Arabia, the United Arab Emirates, Oman and Bahrain also maintain dollar pegs, while the Kuwaiti dinar is linked to a basket of currencies in which the dollar is predominant.

Despite recent weakness in the dollar and the move by Standard & Poor's last year to downgrade the U.S. credit rating, the oil-rich Gulf states have refrained from voicing concerns about their currency pegs to the dollar, the currency in which their oil exports are denominated. While the currency link provides stability for oil and gas exports, a weaker dollar tends to push up the prices of imported goods for the GCC states, triggering inflationary pressures.

Mr. Al Thani said the Qatari central bank decided to keep the Qatari riyal peg to the dollar after assessing the benefits of the current regime, and would continue to keep the situation under review.

"We continue to reiterate our faith in the pegged exchange rate regime after carefully weighing the benefits against the costs," he said. "Nevertheless, we will continue to review the situation in the light of evolving international and domestic macroeconomic developments," he added.

Mr. Al Thani said it may be too early to conclude that the dollar has entered a weakening phase. The U.S. currency has rebounded against the euro this year, as the euro zone crisis has deepened.

"The US dollar is reflecting a two-way movement and a definitive trend on its gradual weakening is yet to be fully ascertained," said Mr. Al Thani.

As a result, "it may be premature to come to a conclusion about the losses from pegging the Qatari Riyal to the US dollar," he said.

Inflation has mostly remained subdued in the Gulf as the regional economies continue to recover from the after-effects of the global financial crisis, reducing the pressure to review the currency pegs. But Qatar has faced particular challenges because of its high growth rate, which was nearly 20% in 2011 due to investment in its energy sector that peaked last year.

Qatar has been cutting domestic interest rates steadily since August 2010, despite U.S. rates remaining unchanged at close to zero, in the face of an inflow of so called "hot money" that has been attracted by Qatar's relatively high interest rates compared with those in the U.S.

Indeed, Qatar has demonstrated some "independence of policy" by slashing interest rates in 2010 and 2011 while the U.S. held rates steady, Mr. Al Thani said. He said the central bank's monetary policy is to manage short term interbank interest rates "with a view to sustaining the peg".

In its last review, the International Monetary Fund said the Qatari exchange rate is "broadly aligned with fundamentals" but warned about the dangers of renewed inflationary pressures as a result of high public spending, and urged the central bank to manage excess liquidity.

Mr. Al Thani said the central bank is "not unduly worried" about inflation, with year-on-year inflation falling to 1.1% in April 2012 from 1.5% in April 2011. Qatar's 2012 inflation would likely be lower than the IMF's recent forecast of 4%, the governor said, due to depressed rental prices.

Qatar has so far favored the dollar peg because almost all of its oil and gas export contracts and invoicing is done in U.S. dollars, providing stability to foreign export earnings, the main component of government revenue, the governor said. Qatar has also benefited from a stable economic environment in the U.S., the governor said. And he said Qatar needs more developed financial markets with proper instruments to hedge exchange rate risks, which are "necessary in a floating exchange rate regime."

Analysts said it's unlikely that Qatar will abandon the peg to the dollar for both political and economic reasons.

The current low inflation in Qatar reduces the need for monetary policy independence to take more drastic action against inflationary pressures. And Qatar retains strong links to the dollar both because its oil and gas exports are denominated in dollars and because it invests most of its surpluses in U.S. assets.

"These are oil based economies, the revenues are in dollars, they're investing the surpluses in (U.S. Treasurys) and there are political issues that are as important as the economy," said Rami Sidani, head of investment at Schroders Investment Management in Dubai. "These (Arab Gulf) states are strong allies with the U.S. and all of this is a crucial and sensitive formula - everybody is a winner."

Meanwhile, Mr. Al Thani said that Asian banks are stepping in to fill a funding "void" created by the pullback in lending by European banks due to the euro zone debt crisis.

Banks in Qatar are seeking longer term funding for a slew of infrastructure projects as the country prepares to host the 2022 World Cup, and are increasingly turning to well capitalized Asian lenders to meet their requirements.

"Banks are resorting to longer-term funding to support their activitiesand stronger Asian banks have been stepping in to fill the gap created by the void in lending by European banks," Mr. Al Thani said. Europe's banks - traditionally big lenders to the Middle East- have been reducing their lending to overseas borrowers due to the European sovereign debt crisis.

Qatari banks have been forced to look elsewhere for funds at a time when the demand for loans to fund infrastructure development is outpacing the growth in deposits.

"The pickup in credit growth is likely to place demands on deposit growth, as large-scale projects go on-stream," the governor warned.

However, he said that deposits will likely get a boost from a recent rise in public sector salaries and improving public finances, thanks to buoyant oil and gas revenues, he added.

-By Alex Delmar-Morgan, Dow Jones Newswires; +974 6659 9818; alex.delmar-morgan@dowjones.com

Copyright (c) 2012 Dow Jones & Co.

(END) Dow Jones Newswires

14-06-12 1104GMT