The Fed rate cut effect spreads! As oil prices come under pressure, the Gulf Central Bank follows suit with a rate cut

According to Zhitong Finance APP, policymakers in the Gulf countries are following the footsteps of the Federal Reserve and have taken interest rate cuts for the first time since the outbreak of the COVID-19 pandemic to alleviate the impact of falling oil prices on the energy-rich region. This Wednesday, the central banks of Saudi Arabia, the United Arab Emirates, and Bahrain responded to the Federal Reserve's rate cut decision by lowering interest rates by half a percentage point. Qatar, on the other hand, took a more proactive approach by cutting interest rates by 55 basis points. Meanwhile, Kuwait, whose monetary policy is not solely dependent on the US dollar but is pegged to a basket of currencies, also reduced its discount rate by 25 basis points.

This move came after the Federal Reserve unexpectedly announced a 50 basis point rate cut, bringing the benchmark interest rate down from its 20-year high of 5.25%-5.5% to the 4.75%-5% range. This is the first rate cut by the Federal Reserve in over four years, as it had previously used high interest rates to successfully curb inflation but also increased borrowing costs for American consumers. Federal Reserve officials also anticipate further rate cuts of 50 basis points at the November and December meetings, with plans for four rate cuts by 2025 and two more in 2026. The Federal Reserve expressed confidence in overcoming inflation, expecting it to continue moving towards the 2% target.

Details of the interest rate cuts in the Gulf region are as follows:

• Saudi Arabia: Repo rate cut by 50 basis points to 5.5%, reverse repo rate cut to 5%.

• United Arab Emirates: Overnight deposit rate cut by 50 basis points to 4.9%.

• Qatar: Repo rate cut by 55 basis points to 5.45%, loan rate cut to 5.7%, deposit rate cut to 5.2%.

• Kuwait: Discount rate cut by 25 basis points to 4%.

• Bahrain: Overnight deposit rate cut by 50 basis points to 5.5%.

Despite relatively low inflation rates in the Gulf region, policymakers have limited choices in monetary policy due to their policy linkage with the US dollar. They typically align their decisions with those of the Federal Reserve and have been closely monitoring the Fed's tightening moves since the economic turmoil caused by the COVID-19 pandemic.

Monica Malik, Chief Economist at Abu Dhabi Commercial Bank, pointed out before the Federal Reserve rate cut that Gulf countries do not need as high rates as the US because inflation in the region is mostly at or below 2%. She believes that the rate cut cycle will be welcomed as the outlook for oil prices remains weak, increasing the financing needs for some regional countries and their investment plans.

For the Gulf region, which heavily relies on energy production, the decrease in oil prices is more critical than the relaxation of monetary policy. This month, Brent crude oil prices have dropped by nearly 8% to around $72 per barrel, well below the levels needed for several countries in the region to balance their budgets.

For Saudi Arabia, the largest economy among the six member countries of the Gulf Cooperation Council, lowering interest rates may bring some relief. The borrowing costs measured by the three-month Saudi Interbank Offered Rate (Saibor) had already declined before the Federal Reserve rate cut, falling below 6% for the first time this year.

Saudi Arabia is implementing the "2030 Vision" diversification plan advocated by Crown Prince Mohammed bin Salman, which requires billions of dollars in investment. Part of the funding will come from oil revenues, but the government also needs to attract foreign investment and borrowing.

Ziad Daoud, Chief Emerging Markets Economist at Bloomberg Economics, commented that for Middle Eastern and North African countries, the greater the interest rate cut, the greater the boost in capital inflows seeking higher returns, oil demand, and the boost brought by simultaneous interest rate cuts in Gulf countries.

Malik from Abu Dhabi Commercial Bank stated that the impact of interest rate cuts by Gulf Cooperation Council member countries will be limited in 2024 and will take time to reflect in bank loan rates, but should provide support in 2025, especially with more interest rate cuts taking place