The crisis has hit the emirate hard, but it is wrong to write it off
THE first glamorous residents have already made a home for themselves at “The World”, an archipelago of 300 artificial islands (pictured above) created off the coast of Dubai by Nakheel, one of the emirate’s big three developers. Pilot fish and parrot fish have colonised the man-made reef surrounding the islands. The reef, built from 34m tonnes of rock, forms a protective ring around the islands—a breakwater that stops the Gulf’s currents from slowly washing The World away.
To its many critics, Dubai’s economy is as artificial as Nakheel’s islands. The emirate borrowed capital and labour to make speculative bets on real estate, of which The World is only one outlandish example. Now policymakers are scrambling to build an economic breakwater that might protect the emirate’s prosperity from adverse tides: plunging property prices, ebbing trade and tourism, and the unaccustomed difficulty of refinancing its ambitions.
The debt of Dubai’s government and government-controlled companies is about $80 billion. Almost $11 billion comes due this year (including interest) and $12.4 billion next. Nakheel alone must refinance a $3.52 billion bond in December and another worth 3.6 billion dirhams ($980m) five months later, according to EFG-Hermes, an Egyptian investment bank.
The rocks for Dubai’s breakwater have been provided by its neighbour Abu Dhabi. The wealthiest of the seven members of the United Arab Emirates (UAE), Abu Dhabi sits on 94% of the federation’s oil reserves. Through the central bank, it bought $10 billion of Dubai’s bonds, half of a proposed $20 billion issue. This bail-out, announced in February, has restored calm, as shown by the falling cost of insurance against default (see chart). The economy has shifted “from the crisis mood to the solution mood,” wrote Dubai’s ruler, Sheikh Muhammad bin Rashid al-Maktoum, in an online discussion with reporters on April 18th, his first in eight years.
The solution includes reshaping the archipelago of quasi-government companies known loosely as “Dubai Inc”. These enterprises mostly fall into one of three holding companies: Dubai World, Investment Corporation of Dubai, and Dubai Holding, which belongs to Sheikh Muhammad himself. Each holding company boasts its own master-developer: Nakheel, Emaar and Dubai Properties.
The ruler was happy to devolve power to these companies, which were run like personal fiefs. The competition between them kept them on their toes, unlike sluggish ministries of urban development elsewhere. But the developers also fell prey to one-upmanship. Emaar is building the world’s tallest building, so Nakheel announced a 1km tower that would surpass it. The government stood behind these companies, giving them the confidence to overreach. But the authorities did not stand over them, ensuring their plans cohered with each other and with reality.
During the boom, supply seemed to create its own demand. Developers sold properties before ground was even broken, asking for first instalments of 10% or even lower. This allowed speculators to buy ten apartments for the price of one, with the aim of selling them at a profit before the second instalment fell due.
The market peaked in September 2008, about 30 months after Dubai allowed foreigners from outside the Gulf to buy freehold properties in designated areas. Prices fell by about 25% in the last quarter of 2008, according to several of the private indices compiled in the absence of sound official data. They may have fallen by the same amount in the first quarter of 2009.
The market is sending a signal that even Dubai’s bullish developers cannot mistake. In March, Middle East Economic Digest (MEED), a business journal, calculated that UAE developers had postponed $335 billion-worth of construction projects. One two-year project was proceeding so slowly that it would take 20 years to complete. Three months after announcing its 1km tower, Nakheel postponed it.
The restructuring of Dubai Inc has begun. Nakheel shed 15% of its staff in December and has continued to pare its numbers since. Sheikh Muhammad’s own Dubai Holding has also cut staff. “Last year, people would talk about how many houses they owned,” says one Dubai veteran. “Now, they talk about how many friends have lost their jobs.” Other economies benefit from automatic fiscal stabilisers as the unemployed stop paying taxes and start spending welfare benefits. The UAE suffers from an automatic destabiliser: 30 days after a foreigner loses his job, he loses his right to stay. Once they leave, Dubai’s ex-expats will spend nothing in the economy they leave behind.
Companies often keep people on their books (unpaid) while they look for alternative employment. But EFG-Hermes forecasts that Dubai’s population will fall by 17% this year. Its workforce will shrink to fit a contracting economy, just as it grew to fit an expanding one. One architect in Dubai has proposed turning vacant labour camps, where migrant builders once lived eight to a room, into affordable housing for people who can no longer rent the apartments the labourers were hired to build.
Dubai lives in a good neighbourhood, however. Abu Dhabi, the next-door emirate, has 92 billion barrels of oil reserves and a sovereign-wealth fund with probably over $300 billion of assets. The consolidated balance-sheet of the UAE is not overly stretched. It is just that one emirate has most of the assets; its neighbour has most of the liabilities.
Good-neighbour policy
As Dubai’s crisis deepened, everyone waited for its oil-rich neighbour to bail it out. The wait lasted an agonising few months, from the onset of the crisis in September until the central bank’s decision to buy Dubai’s bonds was revealed in February. What accounted for the delay? Many commentators argue that Dubai was reluctant to ask for help, and that Abu Dhabi asked for something more than 4% interest in return. Abu Dhabi was perhaps not unhappy to see Dubai’s wings clipped and the federation tightened.
But Georges Makhoul of Morgan Stanley thinks it is wrong to describe the federation’s deliberations as if they were a “family soap opera”. He adds: “It’s not as if people in Abu Dhabi are scheming about how to make Dubai suffer, and the people in Dubai are scheming about how to wring money out of Abu Dhabi.” The offer of help was extended in November, he says.
In his online interview, Sheikh Muhammad denounced “vicious attempts” by the media to “fabricate differences between Abu Dhabi and Dubai.” He complained about a “media bombardment” of the UAE since the crisis broke. “I know that some people from outside the region have wished that [the] Dubai model will go down the river,” he says.
The critics of Dubai have indeed been as prone to overstatement as the Dubai developers they disdain. The Dubai model has deep roots. The emirate has, after all, been borrowing to invest in infrastructure since the 1950s, when it sold a bond to Kuwait to finance the dredging of its creek. The results of this investment are sometimes hubristic, but often impressive. The Jebel Ali Port, for example, is one of the biggest container docks in the world.
Dubai has also put similar efforts into its “soft infrastructure”. For example, the Dubai International Financial Centre has imported English law and international arbitration from London—even if it lacks the institutional history to back it up.
The skills Dubai needs to prosper are most abundant in the West. To attract these skills, it has turned itself into a country Westerners can enjoy, notes one Saudi onlooker. Saudi Arabia is a bigger economy offering more interesting work. But it struggles to attract the lawyers, financiers and other professionals it needs.
Not everyone is fresh off the plane, or booking their flights home. Dubai’s older family businesses, which trace their origins to Iran, India and Zanzibar, will not abandon the emirate during its downturn, any more than they were carried away by the boom. Dubai attracts people from 202 nationalities, according to the Ministry of Labour. Some of these people are footloose and flighty. But for others, the emirate is the only place in the region they would want to live. Dubai was a microcosm of the world even before Nakheel decided to build its island replica.
