Macroeconomics Of Gulf Cooperation Council Countries

Sustainability of the GCC’s Current Exchange Rate Arrangements

Discuss about the Macroeconomics for Gulf Cooperation Council Countries.

In the international market, the Gulf Cooperation Council Countries (GCC) is known as an alliance of six Gulf States or Middle Eastern countries. It is an economic and political coalition among six countries including Saudi Arabia, the United Arab Emirates (UAE), Kuwait, Qatar, Oman, and Bahrain. The GCC was founded on 25^th May 1981 in Riyadh, Saudia Arabia. Along with this, the key purpose of this alliance is to build unity among its members. The GCC is also works to accomplish common objectives as well as political & cultural identities in an effective and a significant manner. Moreover, this discussion paper is helpful to determine the sustainability of the current exchange rate arrangements of the GCC. 

In recent times, the sustainability of the GCC’s current exchange rate arrangements has become a major subject of concern to the gulf countries. The decreased oil prices are the main reason behind this concern. As, it is well known that, oil related products/goods are the key export of the GCC countries; and in this situation the weak oil prices totally affect the export revenues of the gulf countries. The low energy or oil prices could destabilize the sustainability of pegs in the GCC countries (Adama, Kessyb, Kombec and O’Connelld, 2012). Along with this, the fixed exchange rate arrangements are under pressure in the gulf countries. It is because of currencies to the GCC countries are suffering devaluation because of the free floating arrangements. Moreover, it should be noted down that, free floating arrangements are more beneficial to the nations. But, in the context of the GCC countries, they are a major subject of issue as a consequence of the currency risks. It is because of the gulf countries perform cross border trades as well as investments; and for that reason they suffer currency risks more than other countries (Khatat, 2016).

On the other hand, the devaluation prospects could produce huge capital outflows that would also put currencies of the GCC countries under pressure. This thing also reflects the sustainability of the current exchange rate arrangements of the GCC countries. Furthermore, the result of the decreased low prices is already clear in exports profits and in the BOP (Balance Of Payments) as well. For example, in the quarter first (Q1) of the financial year 2015, Saudi Arabia and Qatar has been registered a BOP insufficiency of 14% and 21% of GDP (Gross Domestic Product) correspondingly. The current account imbalances or deteriorations are considered major reasons of this discrepancy (MacDonald and Al Faris, 2010).

Challenges in Maintaining Exchange Rate Regimes

In addition to this, foreign reserves play a major role to maintain the sustainability of the current exchange rate arrangements of the countries. But, the GCC countries do not have much foreign reserves to make their exchange rate arrangements more sustainable. Only Saudi Arabia has the biggest amount of central bank reserves in the Gulf countries. These bank reserves are sufficient to Saudi Arabia. These reserves may provide finance for imports for approximately three years (Gervais, Schembri and Suchanek, 2016). Moreover, these reserves may also offer finance to maintain BOP shortage in an effective manner. But, the other remaining GCC countries seem in the position of mergers & acquisitions because of the lack of foreign reserves or central bank reserves. Moreover, it should be noted down that, sovereign wealth fund assets are only used for the purpose of monetary policy; so they are not involved in the foreign bank reserves. So, in this situation, the GCC countries cannot use sovereign wealth fund assets to maintain the sustainability of their current exchange rate regimes (Thorpe, 2009).

Along with this, a portfolio reshuffle could create current account deficits and current account imbalances to the GCC countries. For case, a restructure of portfolio, from foreign assets to the currency assets of the CGG countries’ may enhance the central bank reserves and also create account deficits to the Gulf countries. In this situation, the GCC countries will face numerous issues in order to maintain the sustainability of their exchange rate arrangements. Moreover, currency rules in the Qatar, United Arab Emirates (UAE), and Kuwait are stronger as opposed to Saudi Arabia (SA). All these three countries are proficient to finance their BOP scarcities of 10% for around 16, 32 and 35 years in that order (Kamar, Carlotti and Krueger, 2009). Furthermore, Oman and Bahrain are also capable to finance their BOP shortfall for around five years. But, the true fact is that, the CGG countries do not have enough reserves to maintain the sustainability of their current exchange rate arrangements.

On the other hand, the major authorities of the gulf countries are capable to offer short run fixed exchange commands to the GCC countries. The main reason behind it is that the exchange rate arrangements of the gulf countries totally depend on the oil prices. If the oil prices increase then the authorities may provide funds or finance for the long time period (Ghanem, 2010). But, in current, there is a decrease in the oil prices of the countries. The reality is that the sustainability of the current exchange rate arrangements depends on the growth of oil prices in the long time period or long run. Moreover, the devaluation also creates troubles in the sustainability of the current exchange rate arrangements of the CGG countries. The devaluation can create uncertainty in inward investments of the CGG countries that may also reduce the profits of Gulf countries. Also, the devaluation also improves the foreign investment or reserves to improve the economies of the nations (Series, 2012). In this way, devaluation reduces the benefits as well as reserves of the Gulf countries and therefore they face problems in the sustainability of their current exchange rate arrangements.

Impact of Devaluation and Reduced Oil Prices

On the other hand, the reduced oil prices also destructive for the GCC countries. It is because of the reduced oil prices reduce the profits of the GCC countries. There can also be seen a high increase in the demand of the oil related products due to the decreased oil prices. In this situation, the GCC countries are obliged to export oil related products to other nations at a very lower costs. The reduced oil prices improve the economies of other nations instead of the gulf countries. The economy of the gulf countries will decline and will be weaker in this situation. In this situation, the GCC countries are unable to preserve the sustainability of their current exchange rate arrangements (Rutledge, 2008). Apart from this, it is expected that, oil prices may increase on the upcoming twelve months; and the increased oil prices would be beneficial to offer long run profits to the GCC nations.

In addition to this, at the present, the exchange rates of the GCC nations are fixed. But, the exchange rate of Kuwait is not fixed like all other GCC countries. It is because of the exchange rate of Kuwait is hooked to a container of currencies (International Monetary Fund. 2009). Along with this, the GCC countries also have some same economic characteristics. For example, the major similarity is that, the oil sector controls the economy as well as export of all these six countries. Moreover, the macroeconomic stability of the GCC countries plays a major role in order to determine the OCA (Optimal Currency Area) of these nations regardless of real as well as nominal shocks. Along with this, to improve the economies of the nations, the GCC countries have been determined that, their exchange rate arrangements must be stable.  They also decided that their exchange rate arrangements should be capable to protect monetary credibility as well as international competitiveness, and also to condense balance sheet risks as well as transaction costs in an effectual manner (Adama, Kessyb, Kombec and O’Connelld, 2012).

Along with this, the GCC countries are doing their best to preserve the sustainability of the current exchange rate arrangements. But, the reality is that high uncertainty exists in the economy of the GCC nations. In other words, it also can be said that, the level of inconsistency of the economy of the GCC countries is high; so it is very hard to decide the exchange rates and preserve sustainability of the exchange rate arrangements. Moreover, the SDRs (Special Drawing Rights) as well as nominal exchange rate also affects the exchange rates of the gulf nations. As a result, the current exchange rate arrangements of the GCC do not seem more sustainable (Kamar, Carlotti and Krueger, 2009).

Conclusion

On the premise of the above discussion, it can be said that, the CGG countries are facing a lot of issues in order to maintain the sustainability of their current exchange rate arrangements. There are numerous factors that influence the exchange rate arrangements of the gulf nations. For example, oil prices, balance of payment, monetary policy, foreign reserves, the central bank reserves, current account imbalances, devaluation, and so on are the major factors that create trouble in the sustainability of the current exchange rate arrangements of the GCC nations. So, it is recommended that, the GCC countries should adopt and execute long-term reforms to improve the sustainability of their exchange rate arrangements effectively. 

References

Adama, C.S., Kessyb, P., Kombec, C. and O’Connelld, S.A. (2012). Exchange Rate Arrangements in the Transition to East African Monetary Union. Available At: https://www.csae.ox.ac.uk/workingpapers/pdfs/csae-wps-2012-07.pdf [Accessed On: 6th Feb. 2017]

Gervais, O., Schembri, L. and Suchanek, L. (2016). Current account dynamics, real exchange rate adjustment, and the exchange rate regime in emerging-market economies. Journal of Development Economics, 119, pp.86-99.

Ghanem, D. (2010). Fixed Exchange Rate Regimes and Price Stability: Evidence from MENA Countries (No. 10-16). Available At: https://www.lameta.univ-montp1.fr/Documents/DR2010-16.pdf [Accessed On: 6th Feb. 2017]

International Monetary Fund. (2009). Angola: Request for Stand-By-Arrangement. UK: International Monetary Fund.

Kamar, B., Carlotti, J. and Krueger, R.C. (2009). Establishing Conversion Values for New Currency Unions: Method and Application to the planned Gulf Cooperation Council (GCC) Currency Union. UK: International Monetary Fund.

Khatat, M.E.H. (2016). Monetary Policy in the Presence of Islamic Banking. UK: International Monetary Fund.

MacDonald, R. and Al Faris, A. (2010). Currency Union and Exchange Rate Issues: Lessons for the Gulf States. USA: Edward Elgar Publishing.

Rutledge, E. (2008). Monetary Union in the Gulf: Prospects for a Single Currency in the Arabian Peninsula Durham Modern Middle East and Islamic World Series. NY: Routledge.

Series, O.O. (2012). Exchange Rate Regimes in the OIC Member Countries. Available At: https://www.sesric.org/files/article/445.pdf [Accessed On: 6th Feb. 2017]

Thorpe, L. (2009). The suitability of the GCC for Monetary Union. International Journal of Business and Management, 3(2), p.71.