Greenback's recovery reverses dirham's flagging exchange rate

Dubai: The appreciation of US dollar against leading currencies has come as a big relief to most expatriates living and working in the UAE as the dirham now fetches more in terms of their respective domestic currencies.

Due to the dirham's peg to the dollar, the dirham depreciated along with the dollar, which meant a fall in exchange rates of the dirham against most other currencies.

During the past three years, UAE residents have been reeling under the rising cost of living. While the inflation was at all time high of 11.1 per cent last year, IMF estimates the inflation to remain in double digits this year. In addition to the rising cost of living, most expatriates have been losing heavily due to declining exchange rate.

"The strengthening dollar has come as a big relief to expatriates who are earning in the dirham and saving and/or spending in their home currencies. While the dollar has remained under valued for long, the euro and sterling were overvalued and we expect dollar to remain strong against these two currencies in the near term," said Sudhir Shetty, General Manager of UAE Exchange Centre.

Analysts expect the relative strength of the dollar against the euro and sterling will be reflected in the exchange rate of the dirham against other currencies.

The exchange rate data for the last 24 months up to July 15 shows that various groups of expatriates living in the UAE lost in the range of 14 to 23 per cent in exchange rate losses. In simple terms this means, the earnings and purchasing power in home currencies were down about 14 per cent in terms of the Indian rupee, 15 per cent in the (Philippine) peso and 22 per cent and 19 per cent in the euro and sterling, respectively.

The dirham depreciated 37 per cent against a basket of 11 leading currencies during the last five years while all other Gulf currencies with the exception of the Kuwaiti dinar declined by 37 to 47 per cent during the same period according to a recent study by NCB Capital, a regional investment bank.

While currency flexibility enabled Kuwait to limit the depreciation of the dinar against the dollar to 23 per cent, the Saudi riyal and the Qatari riyal depreciated 40 per cent and 47 per cent, respectively.

The currency depreciation effectively meant higher imported inflation in the UAE adding to the overall high inflation caused by factors such as supply shortages and surging demand due to the economic boom.

The strengthening dollar is expected to bring some relief to Gulf residents in the form of a decline in the cost of living and higher purchasing power for local currencies that are pegged to the dollar, economists said.

The dollar has hit a six-month high against a basket of major currencies, benefiting from weakness in commodities and euro zone economies.

The euro has tumbled nearly six per cent against the dollar in two weeks.

Meanwhile, the dollar yesterday retreated from seven-month highs against the yen and snapped an 11-day rise versus a currency basket, as investors took advantage of a commodities rebound to take profits on the greenback's recent sharp rally.

The euro fell to a six-month low of $1.4645, according to electronic trading platform EBS, before recovering to $1.4717, up 0.2 per cent on the day. The euro zone single currency has fallen nearly nine per cent versus the dollar from its record peak hit last month.

The dollar also slipped 0.3 per cent to 110.13 yen, falling from seven-month highs around 110.51 hit last Friday, according to Reuters data, while the euro was down 0.1 per cent at 162.10 yen.

"The strengthening dollar is good for the Gulf region because it will reduce the imported inflation in the region and it also increases the purchasing power of the regional currencies," said Monica Malik, Director of Economic Research, EFG Hermes, a regional investment bank.

In the context of currencies being forced to decline in nominal terms because of the dollar peg, the Gulf governments' policy of currency peg has been under increasing calls for a review as falling interest rates, a steady decline in the US dollar, and record high oil prices translated into a flood of liquidity and rising inflation.

Economists expect that the pressure on Gulf currencies will decline if the dollar manages to keep its upward momentum.

"The dollar's gain will put less pressure on GCC governments to revalue their currencies. However, it is too early to say the trend will continue as the US still has a very high trade deficit. In addition, the economy is still facing a recession. If the credit crisis worsen, the US might also be forced to cut rates again, which could see the dollar losing its ground," said Dr Eckart Woertz, Programme Manager Economics, Gulf Research Centre.

Additionally, analysts now believe that regional central banks will be less inclined to revalue currencies as they will incur huge translation losses on the large pool of dollar denominated assets they hold when the dollar is poised for a recovery.