By John Davison and Andrew Torchia
DOHA/DUBAI (Reuters) - Qatar's financial markets stabilized on Monday after a week of losses as the government showed it could keep the economy running in the face of sanctions by its neighbors, the biggest diplomatic rift for years among the rich countries of the Gulf.
Saudi Arabia, the United Arab Emirates, Bahrain and Egypt cut diplomatic and transport ties with Qatar a week ago, accusing it of fomenting regional unrest, supporting terrorism and getting too close to Iran, which Doha denies.
This has disrupted imports of food and other materials and caused many foreign banks to scale back business with Qatar, the world's richest country per capita, which calls the measures an illegal blockade.
On Monday it was becoming clear that Qatar could prevent the economic damage from becoming critical. Some of its food factories are working extra shifts to process imports from nations outside the Gulf, such as Brazil. Shipping lines have re-routed container traffic via Oman instead of the UAE.
These measures may involve delays and raise costs for Qatar; on Monday Fitch put Qatar's AA credit rating on Rating Watch Negative, saying a sustained crisis could hurt its credit outlook. But they are unlikely to prevent the economy from functioning in any fundamental way, economists say.
The diplomatic confrontation has become a major test for the United States, which is closely allied to the countries on both sides. Qatar hosts the largest U.S. air base in the Middle East, while Bahrain hosts the main base for the U.S. Navy.
As the world's leading exporter of liquefied natural gas, Qatar's wealth has allowed it to crown its small Gulf peninsula with skyscrapers. It has also given the government the means to take an outsized role in regional affairs, sponsoring factions in revolts and civil wars and brokering peace deals across the Middle East. Several neighbors have been furious for years.
"STILL NO CLUE"
Qatar's Foreign Minister Sheikh Abdulrahman al-Thani told a news conference in France that Qatar "still had no clue" why the nations cut ties. He denied that Qatar supported groups like the Muslim Brotherhood that its neighbors oppose, or had warmer ties with Iran.
So far, the measures do not seem to have caused a serious shortages of supplies in shops. Some people have even joked about being "blockaded" in the world's richest country: a Twitter page called "Doha under siege" pokes fun at the prospect of readying "escape yachts", stocking up on caviar and trading Rolex watches for espresso.
But a serious economic downturn could have more dire consequences for the nearly 90 percent of Qatar's 2.7 million residents who are not citizens but foreign workers, mostly unskilled laborers, many dependent on construction projects, including stadiums for the 2022 soccer World Cup.
In an interview with CNBC television, one of the first public appearances by a Qatari economic policy maker since the crisis erupted, Finance Minister Ali Sherif al-Emadi sounded confident.
He said the energy sector and economy were essentially operating as normal and that there had not been a serious impact on supplies of food or other goods. Qatar can import goods from Turkey, the Far East or Europe and will respond to the crisis by diversifying its economy even more, he told CNBC.
"Our reserves and investment funds are more than 250 percent of gross domestic product, so I don't think there is any reason that people need to be concerned about what's happening or any speculation on the Qatari riyal."
Jason Tuvey, Middle East economist at London-based Capital Economics, said that as long as the other Gulf countries did not interfere with Qatar's gas exports, the tiny state would probably be able to carry on without a serious recession.
"It seems Qatar would be able to weather quite a prolonged period of sanctions," he said, adding that economic growth, fueled by government spending and infrastructure projects, was "highly unlikely to grind to halt".
UNDERPINNED BY WEALTH FUND
Qatar's riyal currency, pegged at 3.64 to the U.S. dollar, was under pressure last week as banks reacted nervously to the diplomatic rift. On Monday, the currency came off last week's lows in the spot QAR= and offshore forwards markets QAR1Y=W.
Bankers said the central bank, which has $34.5 billion of net foreign reserves, backed by an estimated hundreds of billions of dollars of assets in Doha's sovereign wealth fund, was supplying enough dollars to the spot market to keep exchange rates under control.
The cost of insuring Qatar's sovereign debt against default QAGV5YUSAC=MG fell back for the first time in a week, while yields on Doha's international bonds XS140578215=TE dropped almost 10 basis points and the stock market .QSI stabilized after sliding 8.7 percent in the past week.
Tuvey said the main threat to the economy was that Qatari banks could find it much harder to obtain wholesale funding from other banks to sustain growth in their loan portfolios. This could force them to call in loans.
However, if the situation becomes critical, the Qatari government can liquidate some of its overseas assets and provide the funds to its banking system, much as Saudi Arabia did last year when its banks faced a funding squeeze due to low oil prices, he said.
Qatar's sovereign wealth fund has major stakes in top Western companies such as Credit Suisse CSGN.S. Asked by CNBC whether it might now sell some of these stakes to raise money, Emadi indicated this was not on the cards at present.
"We are extremely comfortable with our positions, our investments and liquidity in our systems," he said.
Political efforts to end the crisis have run into difficulty, in part because of mixed signals from Washington, where U.S. President Donald Trump has strongly backed the countries imposing sanctions even as his Defense Department and State Department have tried to remain neutral.
Qatar's normally bustling border with Saudi Arabia was deserted on Monday. Soldiers in an armored pick-up truck looked out over barbed-wire at sprawling dustland separating Qatar from Saudi Arabia. Indian migrants who work at the border in green uniforms lay on inspection platforms sheltering from the sun.
Normally, thousands of passengers and hundreds of trucks from Saudi Arabia pass through the crossing each day, bringing fruit and vegetables, as well as construction materials.
(Additional reporting by Tom Finn and Ibrahim Saber at the Abu Samra border crossing; Editing by Peter Graff and Peter Millership)