Currency revaluation now on the IMF agenda

'There are two ways to tackle global imbalances,' said IMF Deputy Managing Director, Takatoshi Kato: 'Increasing the rate of growth in the surplus countries, or a revaluation of exchange rates. This sort of multilateral consultation is new for the IMF.'

Currency revaluation speculation is normally focused on the Chinese Yuan but the Saudi Riyal is also increasingly under scrutiny these days. Indeed, the $200 billion US trade deficit with China is smaller than its $250 billion trade deficit with the Middle East oil producers.

However, IMF officials note that 80 per cent of export revenues in the Gulf States are US dollar denominated and 70 per cent of imports. This suggests that any possible upward revaluation in the GCC currencies would likely be a modest movement, five or at most 10 per cent.

Revaluation implications

But for countries whose exchange rate has been pegged firmly to the US dollar for more than two decades even the mention of the word 'revaluation' is unsettling to a cozy status quo. It could have serious implications for liquidity flows.

On the one hand, a stronger Riyal or UAE Dirham would make Euro-priced products cheaper, dampening consumer price inflation. There would also be a one-off currency gain for the owners of local real estate. But on the other hand, the region would become more expensive for some tourists and the inflow of foreign money might falter as assets would be more expensive.

Even putting revaluation on the agenda will be enough to make many potential investors sit up and think. For if you know a currency stands a good chance of being revalued then investing before that valuation change is a sure-fire hit, and worth leveraging.

It has to be pointed out that the alternative strategy mentioned by the IMF Deputy Managing Director of raising rates of GDP growth in the Gulf countries is much easier said than done. Indeed, it is hard to imagine how the super inflationary current growth rates could be stimulated much further without placing an unbearable strain on the local financial systems whose stock markets have already crashed from wanton speculation this year.

Monetary union

However, the wheels of financial management turn slowly. Oman has recently questioned the viability of 2010 as the year for a scheduled monetary union in the GCC. As all these currencies are pegged to the US dollar this is not such a big deal in any case, but the creation of a GCC central bank with policy authority is a difficult political issue.

The UAE Central Bank has suggested that a more limited currency union might be achieved without a central bank with the fixing of currency rates and issuing of currency rather than an institutional union. This is practical so long as the dollar peg is maintained.

And in that case a one-off revaluation of the GCC currencies at the same time as this more limited currency union might make good sense. It is certainly a more sensible way to address structural oil imbalances than trying to over stimulate the booming economies of the GCC.