Dubai's default "a serious miscalculation"?

[OxFan: Excerpts:]

"... Dubai's heavily foreign investment-dependent economy began to unravel in September 2008 following the global credit crunch.... By the close of 2008, government-backed companies responsible for Dubai's development had accrued debts of more than 80 billion dollars.

Abu Dhabi bailout. In February this year, following Dubai's difficulty in refinancing a 3.8 billion dollar loan, the United Arab Emirates (UAE) Central Bank, backed by Abu Dhabi, subscribed to a 10 billion dollar bond, with interest rates set at 4%. However, earlier this month, it became apparent that Dubai would need a much bigger capital injection, especially given that its largest property developer -- Nakheel, a subsidiary of Dubai World -- was due to refinance a 3.5 billion dollar Islamic sukuk bond on December 14.

On November 24, it was announced that Abu Dhabi had provided an addition 5 billion dollar loan:

• Significantly, insiders indicated that this loan came with strings attached, and that it was to be used to pay disgruntled foreign contractors rather than to re-finance the Nakheel debt.
• While little is known about Abu Dhabi's reasons for these limits on its assistance, it may have been reluctant to be associated with Nakheel, a company with problems considered to be too big to solve through loans.

Sovereign default? Dubai World had little choice but to announce that it was not only intending to restructure its operations, but also requesting a six-month 'standstill' on its debts. The announcement coincided with the Eid Al-Ahda Islamic and the US Thanksgiving holidays, perhaps in an attempt to limit the impact on global markets.

Although not technically an example of a sovereign default, the request has been viewed as such. This is due largely to the fact that ratings agencies previously stated that any attempt by Dubai to 'restructure the Nakheel sukuk' would be classed as a default. The agencies have thus downgraded most government-backed Dubai companies and entities either to below investment grade or to junk status.

International fallout . The international impact has been immediate and significant. Shares in London yesterday fell by more than 3% -- the greatest one-day loss since March -- on fears that UK companies owed payments in Dubai would be unable to press for them. European bank shares fell by about 3.5%, and shares across Asia suffered. ......Dubai now has a high credit default swap rate of the kind that Iceland incurred at the height of its crisis, making its government one of the riskiest in the world with which to do business.....

Transparency questions. The lack of transparency surrounding these developments is a serious concern:

• Sheikh Mohammed bin Rashid Al-Maktoum, .... told critics to "shut up".
• Crown Prince Sheikh Hamdan bin Mohammed Al-Maktoum told the World Economic Forum meeting in Dubai that the emirate's economy was "humming".
• The same day, the chairman of Emaar Properties, another of Dubai's large real estate developers, told the meeting that the emirate's economy was likely to grow by 5% in 2009. ..... Gulf News newspaper carried the business headline "Investors Show Confidence in Dubai".

The announcement therefore came as a shock, undermining the government's reputation.

Political collapse? If Abu Dhabi does not mount a serious rescue operation, creditors are likely to seek legal redress against the defaulting Dubai government:

• In this scenario, 'Dubai Inc' will be widely regarded as bankrupt and the ruling Al-Maktoum family held responsible, due to the 'blurred lines' between the government and the wealth of the ruling family.
• There would also be political ramifications. It would be unfeasible for Sheikh Mohammed or Sheikh Hamdan to remain in power following such a massive loss of prestige.

If, on the other hand, Abu Dhabi does agree to provide more credit, there will also be significant implications:

• It will do so only under very strict conditions, since it will be reluctant to pour money into rescuing failed projects.
• It will thus begin to dictate terms to Dubai, and almost certainly seek to centralise power the UAE federation and rein in Dubai's autonomy.

However, given the political culture of the Gulf states, such moves are likely to be made discretely, in order to allow the Dubai ruling family to save some face. ........There may be a quiet succession to power of one of the members of the al-Maktoum ruling family who is seen as favourable to Abu Dhabi. ....."