Middle East will feel effect as Federal Reserve turns off the tap

As the United States Federal Reserve gets ready to gradually ease off its fire hoses, governments and businesses in the Middle East and North Africa are hoping it won't lead to an outbreak of financial wildfires.
The signal from the central bank's chairman Ben Bernanke earlier this month that the Fed may start to taper off quantitative easing (QE) this year, triggered a sell-off across equities, government bonds and emerging market assets. The Middle East and North Africa (Mena) region was no exception. The general index of the Dubai Financial Market slumped the most in a year and yields on UAE credit spiked to their highest in 18 months.
While the Fed has said the stimulus withdrawal depends on the performance of the US economy, the prospect of an end to almost five years of cheap money sloshing around the global financial system is enough to strike fear into the hearts of investors.
In the Mena region those markets most vulnerable to the tapering are those that have benefited the most from the asset purchasing.
"QE tapering likely hurts the outperforming regional equity markets which have benefited from easier liquidity and foreign funds inflow, like Dubai, as opposed to those that have underperformed like Saudi [Arabia] and Qatar," says Hasnain Malik of Frontier Alpha Research, a Dubai-based financial research company.
Dubai and its corporations used the more favourable global economic climate of the past 18 months to set about refinancing existing debt and make fresh issues. The Dubai Financial Market General Index also surged by nearly 13 per cent in the first quarter compared with the previous quarter.
"Less favourable global liquidity conditions or emerging market risk appetite would mean greater scrutiny of credit risk in the Dubai Inc space," writes Jean-Michel Saliba, an economist covering Eastern Europe, the Middle East and Africa at Bank of America Merrill Lynch, in a research report.
Dubai and its stable of companies have an estimated US$60 billion of debt falling due between this year and 2017, estimates the IMF.
The withdrawal of cheap cash and the gradual setting in of a risk sentiment is likely to make capital less abundant than before and investors more selective.
The other loser from the QE tapering could be Egypt.
The Fed's announcement, together with fresh political tensions and delays to a US$4.8 billion loan deal have contributed to a sell-off in Egyptian assets. The benchmark stock market has tumbled by 22 per cent since its peak at the start of the year and bond yields have reached a post-Arab Spring high.
The government had been pinning its hopes on the securing of an IMF loan deal to tempt back foreign investors. But the end of QE could threaten those aspirations.
"For those who are more dependent on capital inflows, such as North Africa and especially Egypt, the reliance on foreign aid becomes more pressing," said John Sfakianakis,the chief investment strategist of the Riyadh-based investment firm, Masic.
But analysts say the regional impact of an end to QE will be uneven and not all negative.
Longer term, as the Fed starts to move interest rates higher, economies in the GCC with pegs to the US dollar will start to do the same.
"The single biggest operational impact of QE tapering in Mena is that GCC banks gradually benefit from margin expansion as local rates ultimately follow US rates higher," says Mr Malik.
A spike in the US dollar in the wake of the Fed's announcement will also have a regional impact through the fixed currency systems. A higher dollar helps to moderate the cost of imports to the region.
"GCC pegs would consequently imply stronger trade-weighted expectations amid the gradual credit recovery," writes Mr Saliba.
Other impacts are likely to be more contained.
During previous rounds of QE, oil prices have tended to rise before falling back once the purchases came to an end.
This time around there had been no visible boost to prices, according to a Capital Economics research note, released last week.
Ultimately, the pace the Fed turns off its fire hoses, together with the outlook in the regional and global economy, will determine the scale of the impact on the Mena.

tarnold@thenational.ae