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The GCC & the dollar

  • Story Highlights
  • Two aggressive U.S. rate cuts putting pressure on GCC members' dollar-peg
  • Falling U.S. dollar stoking inflation across the Gulf as cost of imports rise
  • GCC introduced common market in 2008, wants single currency in 2010
  • GCC economy growing strongly despite fears of a recession in the U.S.
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Hilary Whiteman
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(CNN) -- It was back in December at a summit in Qatar that members of the Gulf Cooperation Council (GCC) decided to weather falling interest rates and soaring inflation and retain the dollar-peg.

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Lower U.S. interest rates are likely to hurt the U.S. dollar further as foreign investors seek higher returns

Since then, the U.S. Federal Reserve has taken the axe to U.S. interest rates, forcing Gulf States with currencies linked to the dollar to follow suit.

So while inflation in the Gulf is at record highs, the region's Central Banks are in effect devaluing their currencies, increasing the cost of imports and adding further fuel to local price rises.

It seems timely to review the basics: What is the GCC? Why do members have a dollar-peg? And why might they scrap it?

Who is in the GCC?
Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and the United Arab Emirates

Who pegs, who doesn't?
Kuwait is the only GCC country not to peg its currency to the dollar. It dropped the link in May in response to rising inflation. Kuwait's inflation rose to a record 6.2 percent in the year to September. Analysts said the rate would have been even higher if the Gulf State retained its dollar link.

Why lose the peg?
The pressure's mounting in the form of soaring inflation. The dollar's decline is pushing up import prices across the region. Food prices are especially high. Qatar has the highest inflation in the region. Third quarter figures released in September put it close to 14 percent. Saudi Arabia's inflation rate hit a record high of 4.89 percent in September, and in Oman, inflation's at a 16 year high of 7.09 percent.

What's the problem?
As well as rising prices, by linking their currencies to the dollar, Gulf States are compelled to cut interest rates in tandem with the U.S. Federal Reserve.

What suits the U.S. doesn't necessarily suit the GCC. While the U.S. economy is slowing -- and is predicted to slow even more in 2008 -- the Gulf region is booming on the back of higher oil prices.

Merrill Lynch expects the GCC's economy to grow around six percent in 2008 and 2009, as the region reinvests its oil profits.

In a recent report it said: "The GCC region is awash with cash. Big investment projects kick start one after another... A massive accumulation of current account surpluses is helping the GCC build up international reserves, reduce indebtedness, financial structural change and investing social and economic projects."

"Having learned from their past mistakes, GCC countries have saved some 80 percent of the oil windfall, almost triple the amount they saved in past oil booms," the report said.

Your comments

Why keep the peg?
Qatar's finance minister Yousef Hussain Kamal made his thoughts on the issue clear at the GCC summit in Doha in December: "There is also the other side that the U.S. dollar will again rebound within 18 months, so why we should be hurried and do something in the future we don't like?"

Bahrain's Finance Minister Sheikh Ahmed bin Mohammed Al Khalifa also dismissed talk that it might drop the dollar: "We are fully committed to keeping the dollar peg. It has served us. Our exchange rate hasn't changed since 1980."

"We are very happy with it. And we maintain the dollar peg and our monetary policy is going to continue, no change", he said.

What's next?
The GCC is working on a bigger plan -- a single currency for the region, much like the Euro in the European Union. It aims to launch the common currency by 2010, although there's considerable doubt both within and outside the group as to whether that goal can be reached. Oman has already said it doesn't want to be involved.

The GCC made some progress towards its aim when it launched a common market at the start of 2008.

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The GCC says: "The Gulf common market aims at realizing one market through which GCC nationals benefit from opportunities in the Gulf economy and opening broader spheres for inter and foreign investment."

The GCC is hoping that by bringing people closer together, it can pool its resources and build on its ever-growing economic clout. E-mail to a friend E-mail to a friend

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