Dollar peg remains Saudi Arabia’s best option

Maintaining its currency peg to the dollar has limited Saudi Arabia’s options in dealing with falling oil revenues. The inflexible riyal means the kingdom can’t devalue to compensate for low oil prices. But given Riyadh’s huge forex reserves, the risks of suddenly floating its currency far outweigh the rewards.

The riyal has been fixed at a rate of 3.75 to the dollar since June 1986 and the policy has helped the kingdom control inflation and borrowing costs. However, a 40 percent decline in the value of Brent crude over the last year has exposed the limitations of this rigidity, and encouraged speculators to bet on its imminent demise.

Saudi Arabia faces economic headwinds. The International Monetary Fund forecasts a fiscal deficit of 20 percent of GDP this year. Because it pays government workers in riyals, a devaluation could reduce the need for steep spending cuts, which are politically difficult to make.

The kingdom also wouldn’t be the first petro-dollar economy to devalue. Kazakhstan allowed the tenge to float freely on Aug. 20. Bank of America Merrill Lynch commodities analysts now see Saudi Arabia de-pegging as the No. 1 “Black Swan” event for oil markets in 2016.

http://blogs.reuters.com/breakingviews/2015/11/27/dollar-peg-remains-saudi-arabias-best-option/