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Will a US dollar rally now undermine the case for UAE revaluation?

United Arab Emirates: Wednesday, January 16 - 2008 @ 11:43

It is notable that Monday’s awful $9.8bn loss from Citi and news about deteriorating retail sales failed to dent the dollar which actually rose marginally against the euro, pound and yen.

Could this be the end to the long fall in the value of the US dollar? Certainly economist Marc Faber believes that the US dollar is about to rally.

He sees the recent tightening of global liquidity in the credit crunch as banks scale back lending to preserve capital as a very significant turning point for the greenback. Any tightening of money supply is dollar positive.

Stock market falls

It matters not a great deal if the Federal Reserve cuts interest rates if the banks still do not choose to lend money. There is also the matter of the flight to the safe haven of the US dollar in a global liquidation of equities to consider.

Share prices are far too high around the world and reflect valuations achieved in times of easy money. If money is no longer so freely available to companies or fund managers then ipso facto share prices must fall.

As share portfolios are liquidated around the world then much of that money will be converted into US dollars and dollar-denominated bonds boosting the value of the US dollar. Hence the value of the greenback will rally and not fall any further.

Besides, the economic downturn is now catching up with the UK and Japan in particular, and the rest of Europe and Asia excluding Japan should be next. In these conditions the weakening of their currency will result in a relative rise in the US dollar.

Revaluation bonus

The UAE authorities now contemplating – and information from the highest levels suggests this debate is ongoing and not concluded – a revaluation of the local currency to head off inflation which threatens to undermine corporate profit growth in 2008.

They should still go ahead as the bounce in the value of the US dollar is not likely to be nearly strong enough to fully restore the competitive position of the UAE economy. But the good news is that a stronger dollar will make revaluation even more successful in combating local inflation.

Indeed, a combination of rent-price control, dollar strength and a meaningful revaluation of the dirham could be an extremely effect policy to beat back inflation which economists say is in the high-teens.

Already real economic growth in the UAE has slowed down and it is possible that in 2008 inflation could rise above nominal GDP growth which would place the economy in recession: a ridiculous position for an oil boom but actually in line with the classic expansion cycle with growth ultimately choked by inflation and capacity constraints like human resources.

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Wednesday, January 16- 2008 @ 11:43 UAE local time (GMT+4) Replication or redistribution in whole or in part is expressly prohibited without the prior written consent of Mediaquest FZ LLC.

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