Gulf central banks raise interest rates as Fed benchmark hits 22-year high

The central banks of the UAE, Saudi Arabia, Bahrain, Kuwait and Qatar raised their benchmark borrowing rates after the US Federal Reserve pushed its key interest rate to a 22-year high to tame inflation and restore price stability.

After hitting pause on its tightening cycle last month, the Fed increased the policy rate for the 11th time since March 2022 by 25 basis points, the highest since 2001, as it aims to bring inflation down to its 2 per cent target range after prices hit a four-decade high in June 2022.

The Fed has now raised rates by a total of 525 bps since March 2022. This latest increase raises the federal funds rate to between 5.25 per cent and 5.5 per cent.

This is despite inflation slowing more than expected in June, to 3 per cent, from 4 per cent in May, while annual headline CPI inflation is at its lowest since March 2021.

Wage growth, an important driver of inflation, remains a main concern of the Fed and was stronger than expected last month.

Most central banks in the GCC follow the Fed's policy rate moves due to their currencies being pegged to the US dollar, with Kuwait the only exception in the six-member economic bloc whose dinar is linked to a basket of currencies.

The Saudi Central Bank raised its repurchase agreement (repo) rate by a quarter of a percentage point to 6 per cent and its reverse repo rate by a similar margin to 5.5 per cent.

Inflation in Saudi Arabia, the Arab world's largest economy, is forecast to reach 2.1 per cent in 2023, according to preliminary forecasts. Consumer prices in the kingdom have been declining steadily since starting at a rate of 3.4 per cent in January and the annual inflation rate fell to 2.7 per cent last month, from 2.8 per cent in May, according to official data. The UAE Central Bank raised its base rate for the overnight deposit facility by a quarter of a percentage point to 5.4 per cent, effective from Thursday.

It maintained the rate applicable to borrowing short-term liquidity from the regulator through all standing credit facilities at 50 bps above the base rate, the regulator said on Wednesday.

The base rate, which is anchored to the Fed's interest on reserve balances, signals the general stance of the Central Bank's monetary policy and provides an effective interest rate floor for overnight money market rates.

The UAE economy, the second largest in the Arab world, grew 7.9 per cent last year, the highest in 11 years, after expanding 4.4 per cent in 2021, supported by its non-oil sector at a time when the country is advancing its diversification strategy.

Earlier this month the seasonally adjusted S&P Global purchasing managers’ index reading for the Emirates showed that business activity in the non-oil private sector strengthened to 56.9 in June, from 55.5 in May, as new order growth hit a four-year high, the most pronounced improvement since June 2019.

The health of the non-oil private sector has now improved in each of the past 31 survey periods.

The UAE's economy is forecast to expand by 3.3 per cent this year, reflecting Opec+ oil production cuts, according to the Central Bank's latest Quarterly Economic Review.

Inflation in the Emirates – stoked by increasing energy prices, imported inflation and rising employment – was 4.8 per cent in 2022.

It is projected at 3.1 per cent and 2.6 per cent in 2023 and 2024, respectively, reflecting lower energy and food prices, according to the Central Bank.

That compares with a global inflation rate of 8.7 per cent in 2022, which is set to fall to 6.8 per cent this year and 5.2 per cent in 2024, according to International Monetary Fund estimates. This is still above the preferred 2 per cent target of central banks.

The Institute of International Finance has projected an even lower UAE inflation rate of 2.4 per cent in 2023, supported by lower global commodity prices and manufacturing unit value.

Despite tighter global financial conditions the UAE's non-hydrocarbon real growth will remain strong at 4.8 per cent this year, according to the IIF. That is above the 4.5 per cent estimate of the Central Bank for this year and 4.6 per cent forecast for 2024.

“Rising interest rates will have limited impact on economic activity in the UAE,” the Washington-based IIF said.

Meanwhile, the Central Bank of Bahrain also increased its key rate on one-week deposits by 25 bps to 6.25 per cent.

The Bahraini regulator raised its interest rate on overnight deposits by a quarter of a percentage point to 6 per cent, while maintaining its four-week deposit rate at 6.75 per cent and lending rate at 7 per cent.

The Central Bank of Kuwait raised its key policy rate, the discount rate, by 25 bps to 4.25 per cent.

The Central Bank of Qatar raised its repo rate by a quarter of a percentage point to 6 per cent.

It also increased its deposit rate by a similar margin, pushing it to 5.75 per cent, and the lending rate by 25 bps to 6.25 per cent.

Moody’s Analytics estimates that the US economy will slow between now and the end of the year, continuing into 2024, but it is expected to skirt a recession.

The IMF estimates that it will grow 1.8 per cent in 2023 and expand 1 per cent in 2024.

The global economy will slow to an annual 2.2 per cent in 2023 in Moody's Analytics June baseline forecast, with recession risks “uncomfortably high” and additional negative shocks expected to undermine growth forecast projections, relative to estimates made at the end of last year.

In its latest global growth forecast this week, the IMF projects a 3 per cent expansion for this year and 2024.