The decision of the United Arab Emirates (UAE) to opt out of a long delayed regional currency union of the Gulf Cooperation Council (GCC)-Saudi Arabia, Kuwait, Bahrain and Qatar signed up to it last Sunday- as exposed divisions that are hallmarks of Middle Eastern politics.
The withdrawal of the UAE, the region?s second largest economy, from the FX union paralyses what could have been a beneficial arrangement to reduce the costs of trade and tourism. Conceived in 2001 but stalled due to internal bickering within the six-member GCC, the union is now a rump with two states (Oman quit in 2006) backing out.
UAE?s boycott reflects pique at the proposed location of the union?s central bank in Saudi Arabia rather than in one of its own financial hubs. This bank would manage the new gulf currency and be the powerful locus of regional monetary policies. UAE is miffed that Saudi Arabia?which lacks advanced financial infrastructure despite being the largest regional economy?could arrogate the lever to control the whole union?s interest and exchange rates.
When the GCC was formed in 1981, UAE was a junior partner of Saudi Arabia. But the global economic crisis and fall in oil prices tilted the regional balance of power in favour of smaller but more dynamic states like UAE and Qatar. Buoyed by the depression-generated turn in fortunes, UAE?s foreign minister is refusing to be cowed down by the Saudis. He confidently declares that Abu Dhabi cares two hoots for a union that ?does not recognise the strength of the UAE economy.? Riyadh is also digging in its feet. Instead of renegotiating the central bank venue, it is forging ahead without UAE and Oman to get the union agreement signed on June 7.
One of the tussles underlying the spat over the central bank?s location is the question of the currency peg for the region?s massive foreign exchange reserves. The Saudi finance minister, Ibrahim Al-Assaf, is talking up the benefits of the FX union as a remedy to the ?built in risk of exchange rate variations.? In his opinion, ?even if you now have most of the (regional) currencies pegged to the dollar, that will not necessarily be the case in the future.?
The holding of reserves in the dollar by the gulf?s rich economies is an important source of capital for the American financial sector.
The Saudi intent is to build a stable regional currency through the FX union and ease out of the dollar before it depreciates. Although the dictatorial house of Saud depends on US military and diplomatic backing to retain power, it is also eyeing diversification of its reserves to cut losses in the event of a further weakening of the dollar.
Riyadh?s determination to create the union without UAE and Oman conveys a deeper anxiety of needing a stitch in time to save nine. Saudi Arabia is thus no different from other jittery foreign holders of US treasury securities like China.
The UAE is playing the perfect spoilsport to the FX union from an American point of view. Its central bank chief believes that the weakening of the dollar is ?a temporary situation? and has certified it as the irreplaceable ?currency for investment.? Abu Dhabi is sending an unambiguous message to the GCC that attempting to gradually diversify reserves out of the dollar via a regional currency is foolhardy.
Britain?s distancing from the Euro is often portrayed as the result of the UK?s national pride and separate identity from continental Europe. But it is also the product of politically-motivated pegging of the pound sterling to the dollar. The UAE?s holdout act bears parallels to that of the UK.
Currency unions are arduous achievements with seemingly endless setbacks. The journey between the European Coal and Steel Union of 1951 and the adoption of the Euro in 1995 was long and treacherous. National egos and manipulation by foreign powers from outside Europe held back the inauguration of a continental currency for decades. Similar hurdles will plague the gulf FX union but not kill it in entirety.
The author is associate professor of world politics at the Jindal Global Law School