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By Ulf Laessing
KUWAIT, May 20 (Reuters) - Kuwait unshackled its dinar from the tumbling U.S. dollar on Sunday and switched the exchange rate mechanism to a basket of currencies, throwing plans for currency union with other Gulf Arab oil producers into disarray. Kuwait's central bank, which battled speculators for weeks to defend the peg, said the dollar's slide against other currencies had forced it to break ranks with fellow Gulf states to contain inflation from the rising cost of some imports.

The move stunned Gulf currency markets and volumes dried up. The impact would be clearer on Monday when international markets open, said Steve Brice, chief middle east economist at Standard Chartered Bank in Dubai.
Oman and Bahrain, the two smallest Gulf economies, and Saudi Arabia, the largest Arab economy, said they planned to stand by their pegs. There was no comment from the central bank of the United Arab Emirates, whose currency could take centre stage on Monday as prospects for a single currency evaporate.
Kuwait was still committed to monetary union, the central bank governor said in a statement, after changing the dinar's rate to $0.228806, an appreciation of about 0.37 percent. "The massive decline in the dollar's exchange rate against main currencies ... has contributed to the increase in local inflation rates and this step is part of the central bank's efforts to curb inflationary pressure," Sheikh Salem Abdul-Aziz al-Sabah said in a statement carried by state news agency KUNA.

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