Kuwait – Mubasher: The U.S. Federal Reserve decision to raise rates is expected to have minimal impact on gulf economies in the near term. Its effect on the Kuwaiti economy would be insignificant in the short term as it is already priced across asset classes such as equities, bonds and real estate, said KAMCO Investment in a report.
“However, subsequent rate hikes, as indicated by the Fed Reserve, would result in higher financing costs for corporates and therefore would in turn affect corporate profitability and performance in the long-run. It would also keep oil and commodity prices under pressure,” it added.
Moreover, the apparent flow of higher interest earnings (higher NIM) to banks would fade as demand for financing declines amid higher borrowing costs (it will affect their loan portfolio growth). Consequently, the spread between the yield on investment and the benchmark rate will narrow. Higher rates would affect capital expenditure and will slow down the pace of growth which in turn will spill over to the economy and stock market causing less attractive prices. Lack of growth in the business along with higher financing cost will affect corporates’ topline and bottom-line results which will lead to sell-offs and therefore drive stock prices down.
In a much anticipated move, the Federal Reserve raised interest rates for the first time in almost eight years to a new target range of 0.25% to 0.5%, up from zero to 0.25% since 2008.
According to the official statement, the rate hike would be followed by a gradual tightening based on higher inflation levels in the forecast period.
According to the official forecast, a rate of 1.375% is expected at the end of 2016, implying four 25 bps increase in the target range next year. The move by the Fed was seen as one of the loosest fiscal tightening measures sending a dovish signal to the market. The marginal increase also sent a positive signal, especially for the equity markets, as it gave depositors a marginally higher interest earnings, stemmed investor confidence in the economy and expectations of a little bit higher prices in the near term.
Following the U.S. Fed rate hike announcement, Saudi Arabia, Kuwait and Bahrain raised their benchmark rates.
Saudi Arabia raised its overnight reverse repo rate by 25 bps to 50 bps but left its benchmark repo rate unchanged at 2.0%. Meanwhile, the Central Bank of Kuwait (CBK) raised its benchmark discount rate by 25 bps to 2.25%, whereas Bahrain, while keeping the repo rate unchanged at 2.25%, raised its overnight interest rate by 25 bps to 0.5% and its rate for one week also by 25 bps to 0.75%.
The move by the three gulf countries was expected since the GCC countries have pegged their respective currencies against the USD (with the exception of Kuwaiti Dinar which is pegged against a basket of currency dominated by the USD), according to KAMCO.
The rate hikes comes at a time when gulf economies are suffering from a severe economic slowdown due to the excessive dependence on oil revenues. Also, banks in the gulf region have been hit with tightening liquidity conditions in the recent months owing to the decline in oil prices.
The decline in oil revenues has affected the flow of oil money flowing in the form of bank deposits. Moreover, higher interest rates on bank loans would act as a deterrent for borrowers in the region. Clearly, changes in the benchmark rate affect the behavior of consumers and businesses, as well as the stock market, although the impact on the latter is not immediate.
