Arabian Gulf Business Insight - GCC economies to weather latest Fed rate hike

Gulf economies will be able to absorb the latest rate hike from the US Federal Reserve, but the ripple effect from the rise will still have repercussions throughout the region, according to economists.

Despite uncertainty across the banking sector, the Fed raised interest rates by a quarter of a percentage point on Wednesday, less than the 50 basis points (bps) projected prior to the collapse of Silicon Valley Bank and Signature Bank, and the struggles of Credit Suisse.

Most Gulf central banks followed suit by raising benchmark borrowing rates with their currencies pegged to the dollar.

The Saudi Central Bank, also known as Sama, increased its repo and reverse repo rates by 25 bps each to 5.5 percent and 5 percent, respectively.

The Central Bank of the UAE also raised its base rate by 25 bps to 4.9 percent, state news agency Wam said.

Bahrain’s central bank raised its rates by 25 bps, which included its key policy rate on its one-week deposit facility.

The Central Bank of Qatar increased its deposit, lending and repo rates by 25 bps to 5.25 percent, 5.75 percent and 5.5 percent, respectively.

And Oman Central Bank said in a statement on Thursday it had raised its repo to 5.5 percent.

Private sector slowdown

“Tighter monetary conditions, coupled with the fall in oil prices, tend to drive general economic sentiment,” said James Swanston, an emerging markets economist specialising in the Middle East and North Africa at Capital Economics.

“The implication for the GCC economies will likely be a slowdown in private sector credit growth over the coming months. This will in turn weigh on non-hydrocarbon growth prospects.

“That said,” he added, “the door for fiscal loosening in some of the larger Gulf states – Saudi Arabia, the UAE and Qatar – remains open and this could be used to offset any impact of tighter monetary policy.”

In February central banks in Saudi Arabia, the UAE and Bahrain mirrored the policy of the Fed and increased their interest rates by 25 bps. Qatar opted to hold.

The Fed has undertaken its most aggressive tightening cycle since the 1980s over the past year as it strives to control rising inflation.

Scott Livermore, chief economist at Oxford Economics Middle East, warned there were more increases to come.

“The policy statement gives the Fed more latitude to respond to incoming events and economic data, but the hiking cycle is not finished, with a further two 25 bps hikes likely,” he said.

“This will by and large be reflected across the GCC and will add to the drag from monetary policy on non-oil GDP growth.”

Swanston remained slightly more optimistic, forecasting just one more hike before a cut in interest rates “by the end of the year”.

On Tuesday, Monica Malik, chief economist at Abu Dhabi Commercial Bank, said that “oil prices, rising economic confidence and a focus on domestic development plans have meant the GCC economies have been able to absorb higher rates”.

Dubai-based Vijay Valecha, chief investment officer, Century Financial, cautioned that small- and medium-sized enterprises (SMEs) could suffer from higher bank funding costs.

“In an adverse situation, these SMEs may lower their hiring to stay more competitive or profitable,” he said.

Impact on tourism

Valecha also warned that the global ramifications of the latest hike could impact the region’s tourism industry, which is well on the road to recovery following the coronavirus pandemic.

“Citizens of countries with weaker currencies tend to avoid or postpone major foreign trips. This is especially true for countries where the money is not managed or pegged with the dollar,” he said.

“With GCC currencies being pegged, this could imply lower tourism spend from other global tourists.”

Fed chair Jerome Powell said that the banking industry stress could trigger a credit crunch with “significant” economic implications.

He added that officials had considered not raising interest rates due to banking system stress following the collapse of Silicon Valley Bank.

Justin Alexander, director of Khalij Economics and Gulf analyst for GlobalSource Partners, said there are currently no signs of any repeat of the worries around bank solvency and deposit flight.

“Were they to emerge, Gulf governments have a solid track record of supporting bank liquidity,” he said.

Gold bullion price hike following Fed rate rise

Gold stocks rose 1.1 percent on Thursday as bullion prices jumped after the US Fed rate hike.

Gold is traditionally considered a hedge against inflation and a low interest-rate environment makes non-yielding bullion a more attractive bet.

John Reade, chief market strategist at the World Gold Council, said: “While we’ve seen the price of gold pull back slightly from its 2023 high last week, the price remains elevated both year-to-date and in the context of the past 12 months.

“This suggests investors are balancing their portfolios away from riskier assets.

“Our database of physically backed gold exchange-traded funds shows continued inflow yesterday and month-to-date inflows totalling 18.8 tonnes with all regions in positive territory.”