Policy Briefs

Currency-Plus-Commodity Basket: A Proposal for a New Exchange Rate Arrangement for Gulf Oil-Exporting Countries




June, 2017


E. Macroeconomics and Monetary Economics

In a nutshell • Oil-exporting countries have experienced huge swings in the dollar price of oil on world markets since the turn of the century. • The effects of these swings on Gulf state economies have been exacerbated by their currency pegs to the dollar, which have forced monetary policy to be pro-cyclical, i.e., exacerbating economic fluctuations. o During oil booms, such as 2006-08 or 2011-13, some Gulf countries have experienced unwanted monetary inflows, credit expansion, inflation and asset bubbles. o During oil busts, such as 2014-15, they experience worrisome balance of payments deficits and economic contraction. • These problems would have been moderated if the currency had been allowed to appreciate during the boom and depreciate during the bust. o During the boom, a strongly valued currency would have dampened monetary inflows, credit expansion, wasteful spending, overheating, inflation, debt, and asset prices. o During the downturn, a currency depreciation would have moderated the balance of payments deficit and losses of output and employment. o It would also have automatically incentivized the private sector to diversify into other traded goods and services, thereby reducing long-term dependence on the oil sector. • The usual way of accommodating trade shocks and allowing monetary policy to be countercyclical (stabilizing) is to allow the currency to float. • But recent research proposes a new exchange rate regime for oil-exporting countries. o The goal is to achieve the best of both flexible and fixed exchange rates. o The arrangement is designed to deliver monetary policy that counteracts rather than exacerbates the effects of swings in the oil market, while yet offering the day-to-day transparency and predictability of a currency peg. • The plan is called Currency-plus-Commodity Basket (CCB). • The CCB proposal would peg the national currency to a basket, a basket that includes not only the currencies of major trading partners (in particular, the dollar and the euro), but also the export commodity (oil). The research offers a practical blueprint for detailed implementation of the CCB proposal.