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15pc dirham revaluation seen 'ideal'

DUBAI — Predicting a dollar resurgence within months on stronger US economic performance, a leading economist said switching to a floating rate mechanism is the key to stemming the steady slide of the UAE dirham against other currencies.

The forecast of a dollar recovery comes amid a warning by the head of International Monetary Fund of a potential abrupt fall in the greenback that could roil the global economy.

"There are risks that an abrupt fall in the dollar could either be triggered by, or itself trigger, a loss of confidence in dollar assets," the outgoing IMF managing director Rodrigo Rato said last week.

John Calverley, Chief Economist & Strategist of American Express Bank, speaking to Khaleej Times, said a 10 to 15 per cent revaluation of the dirham against the dollar is ideal and could help restore the intrinsic value of the UAE currency and arrest the spiralling inflation.

"De-pegging from the dollar in favour of a basket of currencies is something the UAE should consider for the long-term. Equally important is to have an inflation targeting regime," he said.

Calverley based his upbeat projections for the dollar on stronger US exports, increased consumer spending and a drop in housing activities. An expected 10 per cent growth in exports will reduce the US trade deficit, which last year rose to a record high of $857 billion, he said. "The dollar is expected to regain its strength against the euro next year by remaining in the $1.10-1.20 band." The European single currency hit a new high of $1.4384 yesterday.

Calverley, who is also renowned for his expertise on housing bubbles and has authored “Bubbles and How to Survive Them,” said housing will remain the key vulnerability for the US economy, but economic growth should stay positive.

"Housing starts and permits continue to plummet and homebuilder sentiment at an all-time low points to further weakness to come. Factory activity is also weakening, though is still short of recessionary levels. Higher energy prices have boosted headline inflation, but steady core inflation should allow the Fed to ease once more to limit spill-over damage from the housing slump."

"We still expect the economy to stay positive, on reasonable incomes growth and strong exports, and see Fed funds bottoming out at 4.5 per cent by end-2007," he said.

He said further dollar downside should be limited, if "we are right about the US economy and the Fed." US exports are benefiting from the cheap dollar and European exports are doing well despite the euro’s strength.

Calverley said forecast of a stronger dollar should also help to pull oil weaker in time. "Oil prices may spike higher still on geo-politics, heightened risk aversion and seasonal demand. But the current climb looks unsustainable over the long term. The Turkish stance and fresh US sanctions on Iran are a reminder of the fragility of the region."

He said a crisis in the risky US subprime mortgage sector, where loans are given to homebuyers with poor credit histories, will have little impact in the Middle East. The subprime crisis erupted this year as borrowers defaulted on mortgages amid rising interest rates and a sharp slump in US housing prices. Of the $2.5 trillion US subprime mortgage sector, the total write off is between $200 and $300 billion. The credit woes spilled into global financial markets and roiled stock markets worldwide. Although markets have recovered somewhat, the uncertainties of the extent of the problems are plaguing investors.