Medium-term economic prospects in the UAE look bright, with the pace of growth likely to remain strong in 2007 but slowing from 2008, the International Monetary Fund said, warning that high inflation needed to be contained.

“The medium-term prospects look bright, supported by a continued favorable outlook for energy prices given sustained global demand, a strong investment momentum, and an improved domestic business climate,” the IMF said in its 2007 annual economic consultations with the state.
“(IMF) directors agreed that the key challenges will be to ensure sustained non-inflationary growth and further diversification of the economy” less reliant on oil, it added.
Strong domestic demand and housing shortages in the UAE have led to sharp increases in rents and added to upward pressure on other prices. As a result, the consumer price index inflation exceeded nine per cent in 2006, pushing inflation to a 19-year high.
The IMF said that although assessing inflation was complicated by the UAE’s weak data, the rate of price increases was too high.
“They acknowledged, however, that the anticipated reduction of capacity constraints – especially in the housing market – is likely to reduce inflation pressures over the medium term,” the IMF said, adding that fiscal policy could play a bigger role in regulating domestic demand.
“In particular, expenditure increases --including by public and quasi-public entities – should be consistent with the country’s absorptive capacity,” it said, adding, “This, together with efforts to alleviate capacity constraints, would help subdue inflation and support a continued economic expansion with macroeconomic stability.”
The Washington-based institution said that the current peg of the dirham currency to the dollar “has served the UAE well” and that the exchange rate of the dirham was in line with fundamentals.
Except for Kuwait, which recently dropped the dollar peg in favor of a basket of currencies to ward off inflation, the remaining five GCC states have kept their currencies linked to the dollar.
“(IMF) directors noted the authorities’ commitment to work closely with other GCC member countries to reach consensus on the appropriate future exchange rate regime to be adopted as part of the GCC currency union,” the IMF said.
“Looking forward, a few IMF directors saw value in some flexibility,” the fund added.
The IMF said UAE authorities should strengthen business regulations and bank supervision, given the rapid credit growth and buoyant real estate market.
It also called for closer scrutiny of financial services companies such as banks, insurance companies and securities firms.
Foreign Minister Sheikh Abdullah bin Zayed Al Nahyan said recently that the UAE would only revalue its dirham currency with its GCC neighbours and the change will not happen in the “short-term”.
The UAE ratcheted up market expectations it would allow the dirham to rise for the first since 1997 when the central bank called in November for members of the Gulf Cooperation Council regional bloc to drop their pegs to the tumbling dollar.
“We are going to take the appropriate decision, but only as the GCC,” Sheikh Abdullah said on the sidelines of a conference in Bahrain, when asked whether the UAE was considering revaluing the dirham.
“But there isn’t any thought right now of taking such a decision in the short-term,” he said. UAE Central Bank Governor Sultan Nasser Al Suweidi fired market expectations of a policy shift when he said in November that he was under growing social and economic pressure to switch from the dollar peg to a currency basket to contain inflation.