UAE monetary policy is wrong and must be changed in the medium term to prevent the country's economy from

falling into a boom-bust cycle, the Chief Economist at Standard Chartered Bank has warned. Dr Gerard Lyons offered the stark assessment as inflationary pressures in the UAE increase. "Current monetary policy is not suitable for a booming economy it's fuelling excesses," said Lyons. "The region is seeing a boom, but that could easily become a bust. If we do not have the right policy then bottleneck pressures will develop," he said. UAE monetary policy is currently set in Washington thanks to the dirham's peg to the US dollar. This means the UAE must mirror US interest rates and the Federal Reserve has reduced its borrowing benchmark from 5.25 per cent in September to two per cent today. The UAE has followed suit, despite such actions being contrary to conventional economic wisdom in a move that has fuelled money supply growth up 51 per cent in 2007 and therefore asset price inflation. Lyons said there was a one-in-three chance of the UAE revaluing the dirham this year, with the likelihood rising to one-in-two by the end of 2009. He said: "The region has the wrong monetary policy, it is as simple as that. Why should Dubai have the same interest rates as Kansas? The UAE needs a tighter monetary policy, with a stronger currency against the dollar. "It's difficult to see how the problem will be solved when negative real interest rates are widening and so the liquidity boom will continue for the next couple of years." The UAE Central Bank has long been criticised for the quality of its inflation data and it has yet to announce the official inflation figure for 2007. The 2006 figure was 9.3 per cent, but economists say it comfortably reached double figures last year and some experts believe it is now running at between 15 and 20 per cent. When asked why the UAE and other Gulf states seem so reluctant to change monetary policy, Lyons said it was an intricate mix of politics and economics. However, the former may now be easing, with the United States seemingly more ambivalent about a change or move away from the existing dollar pegs following a limited recovery by the US currency in recent months. "Contrary to popular belief, a strengthening dollar increases the case for a currency revaluation," he said. "The perception is that any move by the Gulf states in terms of currency will weaken the dollar and, while sentiment will be affected in the short term, I'm not convinced stronger

Middle East currencies will lead to added dollar weakness. "The dollar has been declining for the past seven years based on huge current account weakness. Unfortunately, this has seen it fall against the euro, sterling and the Swiss Franc, even though it needed to weaken against Asian and Middle East currencies. "The dollar has been adjusting against the wrong currencies, so if it were allowed to depreciate against the likes of the dirham it would reduce the pressure from the European currencies. A change to Gulf currency regimes could actually be positive for the dollar." Gulf governments are reportedly reluctant to revalue their currencies because it would mean that oil revenues, which are priced in dollars, would be worthless relative to the strengthened home currency, but Lyons insists this is a fallacy. "That's simply an accountancy aspect because the real value and, therefore the spending power of the local currencies, have been declining as a result of the falling dollar," said Lyons. Further rate cuts by the Fed may force the UAE to take action, although Standard Chartered is one of the banks to predict rates will be reduced further. However, Standard Chartered believes the credit crunch is far from over, warning "this is the end of the beginning, not the beginning of the end". "The Fed will not do anything for the next few months, but if there are further wobbles then it could be forced to act," said Lyons. "The next stage will see the problems of the financial sector feed into the real economy," said Lyons. The global economy will slowdown over the next 18 months, in part because of the US woes, but also because the likes of China and India are also looking to tighten monetary policy to keep a check on growth. "The US corporate sector is doing well, as are exports and farming, but there are still parts of the economy that look vulnerable, particularly housing. The key indicator will be job figures if these fall, it will signal the worst is not yet over and that the Fed will have to cut rates again." The UAE can learn three key lessons from the credit crisis, Lyons said. "The market did not price for risk correctly; liquidity needed to managed better and the authorities should have avoided pro-cyclical policies, he said. sharp fall in oil prices not expected Unlike some commentators, Standard Chartered is not forecasting a dramatic drop in oil prices, instead forecasting an average price for 2008 of $108, rising to $120 in 2009. The year-to-date average this year is $102. "We do not see a price correction in the next one to two years, but nobody really knows how much of the price rise is down to speculators and so that makes it very difficult to

make predictions. If they suddenly went from long to short, then there could be a big swing," said Lyons. Source: Business24-7.ae