(Adds details of law, context, analysis)
By Stanley Carvalho
ABU DHABI, Oct 13 (Reuters) - The United Arab Emirates has taken a major step towards deepening its financial markets by issuing a law permitting the federal government to begin issuing sovereign debt, the finance ministry said on Saturday.
Several of the seven emirates in the UAE, including rich Abu Dhabi and Dubai, already sell bonds in international markets. Allowing the central government to issue could benefit the poorer emirates as federal bonds would carry higher credit ratings than those emirates could achieve individually.
Banks in the UAE will be able to buy government bonds in dirhams or foreign currencies, giving them highly-rated assets with which they can manage their liquidity and obey global Basel III regulatory standards for banks, the ministry said.
The central bank will meanwhile use the bonds to help manage the interbank money market, while the bonds will support the creation of a secondary market in government debt. This will develop a UAE dirham yield curve serving as a reference for local companies to issue debt, the ministry added.
The long-awaited law, which was in preparation for several years, also provides for the central government to establish a Public Debt Management Office at the ministry.
The office will propose policies in coordination with the central bank, monitor risks linked to debt, set short- and long-term targets and advise the finance minister on investing any public debt surplus.
The office will also coordinate with local governments to support the issuance of public debt instruments in the individual emirates, and every local government issuing instruments will establish its own debt office.
The UAE has no urgent need to issue federal debt; its consolidated fiscal deficit, including individual emirates as well as the federal government, is expected to remain stable at about 1.6 percent of gross domestic product this year and turn to a surplus next year, the International Monetary Fund says.
Nevertheless, bankers in the region think the UAE could sell federal bonds in coming months, depending on market conditions, to launch the system and begin the process of developing secondary market trading. (Writing by Andrew Torchia; Editing by Catherine Evans)