24 November 2009
International investors fleeing low-interest rate countries could herald the return of so-called hot money to the Emirates in search of better short-term returns, stoking inflation, economists warn.
Rising oil prices, the weakening dollar and an anticipated return of regional growth could lead to dollar-imported inflation and rekindle the debate about whether regional currencies should remain pegged to the American currency. The peg requires Gulf countries to synchronise their interest rate decisions with those of the US Federal Reserve, although their economies may have different needs.
"We are anticipating an inflow of hot money," said Marios Maratheftis, the regional head of research at Standard Chartered. "It would not be surprising to see more [money] inflows based on currency plays."
Strong growth in emerging economies compared with their developed counterparts have increased the likelihood of cross-border movements of capital around the world.
The Institute of International Finance (IIF) has said private capital flows will almost double over the next year with Asia and emerging markets seeing the largest surge.
The UAE had just got through a period of "volatile inflows that led to [excessive] bank lending, portfolio flows and carry trades", Mr Maratheftis said. In carry trades, investors borrow low-yielding currencies and invest the proceeds in countries with higher yields.
Last year, inflation reached a 20-year high of more than 12 per cent. Standard Chartered expects about 6 per cent inflation for next year.
Capital inflows into emerging economies has already led Brazil and Taiwan to impose capital controls and policymakers in other countries are already talking of restrictions.
Emerging markets will lead the global economic recovery over the next two years, Masood Ahmed, the director of the IMF's Middle East and Central Asia department, told a conference in Abu Dhabi yesterday.
Massive inflows of hot money to the country stoked double-digit inflation and a housing bubble last year as investors brought in funds in the expectation that the dirham would be revalued. The revaluation did not happen and the financial crisis sparked a sudden outflow of an estimated Dh180 billion (US$49bn), leaving the local economy cash-starved. Now investors could again be speculating on a revaluation.
Hedging against the oil price, for example by buying forward contracts, and banking on a revaluation of GCC currencies were the main drivers of speculative capital inflows, said Alastair Newton, the managing director and senior political analyst at Nomura International. "We have a dollar-oil hedge in there," he said.
"Some politicians will call it speculation, I would call it a hedge. This has a good side in pushing up oil prices, good for revenues, but it also has a downside ... inflationary risks. There's also money coming in on speculation of some sort of de-pegging."
Policymakers should reconsider the dollar peg before the region finds itself in another inflationary cycle, economists say. But politicians and regulators disagree. On Sunday, Sultan al Suwaidi, the Central Bank Governor, said the country would not depeg its currency. "The US dollar is the best medium of exchange in international trade and we will continue to use it," he said.
Uta Harnischfeger and Tom Arnold
The National 2009
International investors fleeing low-interest rate countries could herald the return of so-called hot money to the Emirates in search of better short-term returns, stoking inflation, economists warn.
Rising oil prices, the weakening dollar and an anticipated return of regional growth could lead to dollar-imported inflation and rekindle the debate about whether regional currencies should remain pegged to the American currency. The peg requires Gulf countries to synchronise their interest rate decisions with those of the US Federal Reserve, although their economies may have different needs.
"We are anticipating an inflow of hot money," said Marios Maratheftis, the regional head of research at Standard Chartered. "It would not be surprising to see more [money] inflows based on currency plays."
Strong growth in emerging economies compared with their developed counterparts have increased the likelihood of cross-border movements of capital around the world.
The Institute of International Finance (IIF) has said private capital flows will almost double over the next year with Asia and emerging markets seeing the largest surge.
The UAE had just got through a period of "volatile inflows that led to [excessive] bank lending, portfolio flows and carry trades", Mr Maratheftis said. In carry trades, investors borrow low-yielding currencies and invest the proceeds in countries with higher yields.
Last year, inflation reached a 20-year high of more than 12 per cent. Standard Chartered expects about 6 per cent inflation for next year.
Capital inflows into emerging economies has already led Brazil and Taiwan to impose capital controls and policymakers in other countries are already talking of restrictions.
Emerging markets will lead the global economic recovery over the next two years, Masood Ahmed, the director of the IMF's Middle East and Central Asia department, told a conference in Abu Dhabi yesterday.
Massive inflows of hot money to the country stoked double-digit inflation and a housing bubble last year as investors brought in funds in the expectation that the dirham would be revalued. The revaluation did not happen and the financial crisis sparked a sudden outflow of an estimated Dh180 billion (US$49bn), leaving the local economy cash-starved. Now investors could again be speculating on a revaluation.
Hedging against the oil price, for example by buying forward contracts, and banking on a revaluation of GCC currencies were the main drivers of speculative capital inflows, said Alastair Newton, the managing director and senior political analyst at Nomura International. "We have a dollar-oil hedge in there," he said.
"Some politicians will call it speculation, I would call it a hedge. This has a good side in pushing up oil prices, good for revenues, but it also has a downside ... inflationary risks. There's also money coming in on speculation of some sort of de-pegging."
Policymakers should reconsider the dollar peg before the region finds itself in another inflationary cycle, economists say. But politicians and regulators disagree. On Sunday, Sultan al Suwaidi, the Central Bank Governor, said the country would not depeg its currency. "The US dollar is the best medium of exchange in international trade and we will continue to use it," he said.
Uta Harnischfeger and Tom Arnold
The National 2009