AMMAN, 5 April 2004 — The US dollar has lost 5 percent of its value against the euro in 2002 and a further 16 percent last year, reaching a low of $1.295 to the European currency before settling in a trading range of $1.20-1.25. The dollar is now weaker than it was in January 1999 when the euro was officially launched, and is some 35 percent below the peak it attained in 2000. As the US advances into the election year, there are a set of factors that have been weighing down on the dollar.
These include tax cuts, low interest rates, large budget and current account deficits, and an administration determined to bring forth a weaker dollar to help the US economy export itself out of the current slump in employment growth. President George W. Bush wants to avoid the fate of his father who was successful in forcing the Iraqi Army out of Kuwait in 1991, but lost the elections in 1992 because the US economy was not doing well.
The impact of the weak dollar on the economies of the region is broad. Europe is the region’s largest trading partner, with imports from the 15 member countries of the European Union accounting last year for 26.5 percent of total imports. Most of the Arab countries have put in place fixed exchange rate regimes, whereby their currencies are either pegged to the US dollar, whether officially (Saudi Arabia, Kuwait, UAE, Bahrain, Qatar and Oman) or de facto (Jordan), or pegged to a basket of currencies where the euro is the dominant currency (Tunisia and Morocco). Other Arab countries have followed a middle of the way exchange rate regimes such as managed float against the dollar (Lebanon) or managed float against the euro (Algeria). Egypt adopted a floating exchange rate policy on Jan 29, 2003. It is not surprising, therefore, that the euro’s 35 percent appreciation against the dollar has been felt in most economies of the region. Prices of such European imports as automobiles, electronics, machinery and equipment, consumer durables, food, clothing and medicine among others have all increased in the local markets. This will start showing in the inflation figures for this year.
The rise in prices have so far been gradual, with the consumer price indices in the region expected to end at least 1 percent to 2 percent higher than in 2003. The higher inflation will reduce the purchasing power of people living on fixed salaries and wages and the governments may end up incurring higher wage bills to maintain the standard of living of their civil service. The private sector’s institutions will also need to pay higher salaries in line with the rise in the inflation rate. Interest rates of less than 1.5 percent that depositors currently receive from banks will be lower than the inflation rate, (i.e. negative real interest rate) and this will reduce the value of people’s saving even after adding the interest earned. Inflation, which affects all consumers, is considered regressive by nature because it impacts the poor more than the rich.
The higher prices of products originating in Europe and Japan have invariably encouraged a move away from them toward Asian and US goods. While we cannot yet speak of a permanent change in consumer behavior away from European products, it is clear that if the rise in the euro is to last, consumers could rebalance their expenditures in favor of non-European products. For businesses importing European goods and services, the hit to the bottom line has already been felt, as they are unable to pass the full rise in the euro exchange rate to their consumers. Clearly banks in the region gave an important role to play in advising their clients on the need and ways and means to hedge against exchange rates fluctuations affecting non-dollar imports.
The region’s main exports which include oil, gas, petrochemicals, aluminum, phosphate, potash, pharmaceuticals, agricultural products and light consumer goods, are all priced in dollars. The weaker dollar and Arab currencies exchange rates should increase the price competitiveness of locally produced goods in the European and Japanese markets. Apparently this has started to happen with exports from the region to the European Union rising by around 20 percent last year.
The higher exchange rate of the euro against the dollar and most Arab currencies reflected positively on the flow of tourists especially from the Gulf to Jordan, Egypt, Lebanon and Dubai.. Many Gulf nationals and Arab expatriates living in the GCC countries decided to spend their vacations in the region, shunning Europe which became 30 percent more expensive because of the higher euro. This trend is likely to continue especially with the added restrictions that Washington has imposed on Arab visitors to the US after Sept. 11, 2001
The weaker US dollar also has a direct impact on the fiscal position of the region’s oil producing countries. Most of government revenues come from oil while a growing proportions of government expenditures goes on goods and services from countries of the European Union, the UK and Japan, all of which have seen their currencies surge against the dollar. Clearly the declining value of the dollar has weakened the purchasing power of governments’ oil revenues. In euro terms, non of the major oil exporters would have earned more than what they did in 2000 and 2001. In 2002, the average price of the OPEC basket rose by 5.4 percent in dollar terms while the dollar depreciated against the euro by 5 percent. Last year, oil prices surged by 15.5 percent while the dollar shed 16.3 percent against the euro. This is why OPEC countries are allowing oil prices to drift above the official $22-$28 a barrel price target in an attempt to protect the purchasing power of their petro dollars.
As long as we think in dollars and calculate our networth in the US currency, large swings in the dollar exchange rates will have an impact on our consumption and saving habits, and will add complexity to doing business. But it is hardly the most crucial problem facing the region at present. Far more significant issues that need to be addressed include economic reform, liberalization, boosting employments opportunities for nationals, unemployment, debt reduction and higher economic growth.
It is likely that if and when the euro deflates, which I believe it will in the months ahead to $1.10, the pressure on retail trade will subside. The higher inflation due to the weaker euro/dollar exchange rate will be a non recurring event and will drop out from the annual inflation figures of the countries of the region. Importers will then stop hedging against further declines in the dollar. Still, at today’s exchange rate, the euro is not much above the $1.17 at which it was launched in January 1999. Then no one described the new currency as being too strong, in fact many claimed it was too weak.
(Henry T. Azzam is chief executive officer at Jordinvest.)
