Interest rate hikes by central banks in the UAE and other GCC states following the much-anticipated US Federal Reserve rate hike aimed at curbing inflation will impact the growth of the credit in the respective economies and will lead to increased loan and debt service costs for businesses. , individuals and sovereigns while helping to stimulate household savings.
On Wednesday, the Central Bank of the United Arab Emirates raised its base rate, which is on its overnight deposit facility, by 25 basis points to 0.4% following the Fed’s decision to raise rates from 0.0-0.25% to 0.25-0.50% after an extended period of near zero rates.
The Central Bank of the United Arab Emirates has kept the rate of borrowing short-term cash from it through all standing credit facilities at 50 basis points above the base rate. The Fed is expected to announce additional 100 basis point hikes by the end of 2022 and four more 25 basis point hikes in 2023, bringing the target rate to 2.25-2.50%.
If Gulf policymakers did not allow interest rates to follow those of the United States, capital would flow out of their economies and this would put downward pressure on their currencies. There are three main channels through which rising interest rates will affect Gulf economies, analysts at Capital Economics said.
“The first is to affect the incentives to borrow and save. At the margin, higher rates will dampen the willingness of businesses and households to take on additional borrowing for investment or consumption. Households are also more likely to save. In terms of lending supply, the rate hikes will cause banks to consider some potential lending opportunities no longer viable,” they said.
All of this is acting as a headwind on domestic demand, although this may be welcomed insofar as it helps to ease inflationary pressures in the Gulf.
The second channel through which higher interest rates will affect Gulf economies is through the impact on the quality of banks’ existing loan portfolios.
Finally, debt servicing costs for governments will increase. For much of the period since 2014, Gulf governments have issued debt (rather than depleted savings) to finance large budget deficits.
In terms of lending supply, the rate hikes will cause banks to consider some potential lending opportunities no longer viable, leading to higher debt servicing costs for businesses and individuals.
“All of this is acting as a headwind on domestic demand, although this may be welcome insofar as it helps to ease inflationary pressures in the Gulf,” wrote Middle East and Africa economist James Swanston. du Nord at Capital Economics, in a research note. .
Businesses in the UAE and Qatar, especially in sectors hard hit by the pandemic like tourism and real estate, risk a further rise in non-performing loans as central banks end coronavirus-related payment holidays. pandemic, he said.
Analysts said that although higher rates discourage borrowing and dampen demand, the UAE property market will continue to benefit from the recent round of reforms and the country’s growing global appeal to investors, while costs Mortgages will likely remain low over the next few years relative to historical levels.
Public debt servicing costs will rise, but with Brent over $97 a barrel, all Gulf governments are expected to run budget surpluses this year, reducing the need to increase debt to meet deficits. Historical precedents indicate that oil prices are a more powerful harbinger of the fortunes of Gulf economies than interest rates, although hikes may impact individuals’ and businesses’ appetite for borrowing to invest and consume and stimulate household savings.
While banks in the UAE and other GCC countries will remain cautious in issuing new loans despite higher liquidity, their broader profitability is expected to be driven by growth in net interest income (NII).
Miguel Rodriguez, chief market analyst at CAPEX.com for the Mena region, said GCC equity markets were mostly behaving positively today as investors return to the market to buy the decline after a week of price corrections.
“The Dubai stock exchange continued its rebound as the emirate attracts capital fleeing the Russian conflict. Additionally, investors expect a boost from the planned IPOs,” he said.
“The Abu Dhabi stock market, on the other hand, is seeing price corrections as investors price in uncertainties in oil markets,” he added.
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