Gulf monetary union is a cracking project?
Gulf News | 16 December 2006
Gulf monetary union is a cracking project?
By Emilie Rutledge
Although few observers will be surprised if the GCC’s planned single currency (perhaps ’Gulf Dinar’) doesn’t come into circulation on schedule in 2010, most will have been by Oman’s decision to unilaterally opt out.
This is primarily because Oman, the poorest member of the bloc, looked set to reap considerable dividends from entering into a monetary partnership with its economically larger and wealthier neighbours.
In 2005, the Sultanate’s GDP per capita income was 63 per cent of the GCC average and its economy constitutes just five per cent of the GCC’s total GDP.
Evidence from the euro zone reveals that increased intra-regional FDI, combined with structural grants and subsidies, fostered a process of catch-up, which has helped reduce income disparities between member states.
Indicating that the general lack of preparation was behind Oman’s decision, Deputy Economy Minister Abdullah Al Hinai said that the 2010 deadline was unfeasible because key prerequisites such as a common market have yet to be established.
However, last week’s final GCC summit communiqué stated that leaders had agreed to finalise the customs union and ensure that all requirements of a common market will be fulfilled by the end of 2007.
Furthermore, the main reason for the delay in the finalisation of the customs union was the unilateral decision by Oman, preceded by Bahrain, to sign a free trade agreement with the US.
Bahrain’s move in particular was met with considerable disquiet, and was considered to be against the spirit of previously signed GCC economic agreements.
The imperative to diversify is much stronger in these states nevertheless and, if one looks at the time it is taking the GCC as a bloc to negotiate an FTA with the EU, their decisions to act unilaterally are more understandable. Policymakers in Muscat cannot afford the luxury of taking years to implement economic reforms.
In many respects, Oman’s announcement was the only concrete decision made regarding currency union at last week’s summit.
GCC leaders did not officially approve the euro-style convergence targets which central bank governors had agreed upon amongst themselves. Nor was any decision reached on the mandate for, or location of, a GCC central bank.
At the 2001 GCC summit convened in Muscat, leaders set out in unambiguous terms their intention to establish a currency union, yet apart from Kuwait’s move to the dollar-peg and the launch of the customs union in 2003, little progress has taken place.
Oman is perfectly justified in not wanting to join an ill-prepared monetary union, but instead of opting out altogether it could have set preconditions; not committing to join, for instance, until a common market was successfully up and running.
Decision timing
Why then, has it made such a decision now?
Earlier this year the GCC states provisionally agreed on several convergence targets, including capping budget deficits at three per cent of GDP, public debt at 60 per cent of GDP and all states holding enough foreign exchange reserves to cover four months’ imports.
It is hard to see how any of these targets could have contributed to Oman’s decision, as it was unlikely to face any serious difficulties in meeting them.
In 2005, Oman’s fiscal surplus stood at 11 per cent of GDP, public debt is well under the limit, and its foreign exchange reserves covered more than five and a half months’ imports. The Oman-US FTA, signed in late 2005, demonstrated Muscat’s desire to integrate further into the global economy and diversify its economic base.
It also revealed that Oman is unwilling to compromise what it perceives as its optimal national economic interests.
It indicates that the loss of some econ-omic policymaking sovereignty, necessary for a viable currency union, may be too high a cost for it to bear.
The most likely reason why Oman has opted out now, however, is a conflict of interest on the future choice of exchange rate regime for the unified currency.
Oman’s economic diversification strategy going forward may well be best served by a relatively weak currency.
On the other hand, states such as Kuwait and Qatar are suffering from "imported inflation" due to the declining dollar, and are likely to want any future unified currency to strengthen vis-à-vis the dollar.
By being part of a stronger unified currency, Oman’s nascent non-oil export oriented industries will suffer because its products will be less competitive. And as a tourist destination, Oman will be less attractive to higher-end European visitors if euros buy fewer Gulf Dinars than they currently do Omani riyals.
There is, of course, a real danger that by opting out Oman could ultimately lose out. Oman has significant trade levels with several GCC states, and if a Gulf Dinar does come to fruition, it will continue to face transaction costs and exchange rate risks, regardless of it being a member of any future common market.
Last year, Oman received just 3.6 per cent of the total GCC FDI inflows. It may receive even less in the future, as international investors are likely to buy Gulf Dinar-denominated assets as a hedge against the possibility of the currency being used to invoice oil and gas sales.
Likely union
A currency union among the other five states remains a distinct possibility, and would be economically viable. They are on the way to meeting many of the optimal currency area criteria conditions which economists argue are necessary for a given region to be suitable for currency union.
Yet, and as with the euro zone, political commitment is by far the most important criterion.
As the deadline approaches, necessary reforms which will involve devolving some decision-making powers to pan-GCC bodies, coordinating economic policies, improving data transparency, exercising fiscal restraint and opening up budgetary plans to outside scrutiny, may be deemed politically unpalatable.
Consequently, Muscat’s move may become a catalyst providing a convenient excuse for other states to follow suit.
A more likely eventuality is a collective agreement to defer the launch date by a few more years.
Following Oman’s announcement, Saudi Arabia’s Finance Minister, Ebrahim Al Assaf, declared that the five remaining states could "extend the 2010 deadline if faced with more obstacles."
- The writer is Visiting Professor, United Arab Emirates University.
