Goodbye, Dubai

How can such a tiny place as Dubai cause such amazing ructions in world markets? My little bro, BalancedPaul, has long worked with Middle Eastern investment organisations and he has unique knowledge to share. Here's his brief but insightful take:

Before...

I have been asked to guest this week on the subject of Dubai. This raises two thoughts: one, I'm flattered and two, Ubergrumpy doesn't know me very well. Nevertheless having pretended some inside knowledge I'd better deliver something. So here goes.

Dubai is one of seven autonomous Emirates that makes up the UAE. Together with Abu Dhabi, Dubai dominates the UAE. That is, however, rather like saying that Canada dominates the Americas along with the USA. No prizes for guessing which Emirate is the USA.

Up until the 1920's Dubai's main source of income was pearling - the Great War saw an end to that however the discovery of oil (the UAE has the sixth largest proven oil reserves) gave Dubai an economic leg up. The rulers of Dubai (the Al Maktoums, of horse racing fame) foresaw the end of oil and wanted to diversify. They chose finance and construction.

The construction boom was so successful that oil only contributes 6% of GDP. This is a good thing as Dubai is running out of the stuff, and all the real oil wealth belongs to Abu Dhabi.

...and after.

The construction boom gave us the palm island development and the Al Burg, the world's tallest freestanding hotel; seven stars! It also landed Dubai with eye watering debts in excess of $100bn. This may not seem so huge compared to the UK national debt of $1.3 tn or so, but per capita (Dubai contains a shade over a million souls) this equates to near $100,000 a head.

Of Dubai's $100 bn debt, only a small proportion is sovereign. This is important; the confusion between sovereign and quasi-sovereign is what causes the uncertainty and it is uncertainty that spooks the market. It is this opacity, often a feature of Middle Eastern enterprises, that militates against western style dealing. Take your pick - structural opacity or complex instruments that lead to unquantifiable risk. The fundamental issue is that business in the Middle East is not as straightforward as some overpaid bankers think it is!

Luckily it is always good to have a rich brother¹ so the Central Bank of UAE has guaranteed Dubai's banks liquidity in case of a run. Nakheel (effectively a state construction company) has asked for a moratorium on its debts and the amount in global terms is small but, bankers being bankers, it has caused panic around the world's financial markets.

Could it be that they are waking up to the fact that Dubai is an Empire that is, literally, built on sand?

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1 - Whatever could you mean? - UG