Mirages in Dubai

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Burj-dubai-worlds-tallest Last Wednesday, before heading to California for the long Thanksgiving weekend, I wrote that "Dubai is looking to be the ultimate boom and bust story". As the weekend progressed, things halfway around the world went from bad to worse. The latest news is that the Government of Dubai will not stand behind the debt of its wholly-owned subsidiary, Dubai World. Felix Salmon likens this to over-indebted homeowners in the United States walking away from their homes.

Dubai's troubles have unveiled the complicated power relationships in the Gulf, and given investors pause in regards to the robustness of the current emerging market rally. A simple bailout from Abu Dhabi may be more complicated than was first imagined.

The FT's Middle East columnist Roula Khalaf explains why Dubai's oil-rich neighbors are wary of writing a blank cheque:

Today, while everyone is looking to the Gulf, much of the Gulf is looking to Abu Dhabi to resolve the Dubai World crisis. It has long been assumed that the most endowed emirate in the UAE would always back other members in the federation.

Abu Dhabi, however, is caught in a trap. Though fearful of Dubai World's impact on the UAE economy and the reputation of UAE corporations that are increasingly encouraged to raise funds on international markets, Abu Dhabi has insisted it will not be rushed into action and that any move has to be channeled through the federal government.

Some analysts also point out that, if it were to guarantee Dubai World's debt, Abu Dhabi could open itself up to a host of other demands. "What about contractors in Dubai who have not been paid and what about infrastructure projects that still have to be completed?" says one analyst from a neighboring Gulf state.

Until the UAE sorts out Dubai World, Abu Dhabi - and much of the rest of the region - will try to limit the tremors unleashed by the crisis and hope that investors will not confuse Dubai with the generally healthier state of other Gulf economies.

The unfolding events in Dubai bring into question the stability of the global recovery, which has largely been fueled by extraordinary government support mechanisms. The combination of the Dubai government abandoning the liabilities of its own company, along with Abu Dhabi's reluctance to get involved, shows that government support cannot always be assured, even when capital for a bailout can be easily secured. If Abu Dhabi, home of the world's largest sovereign wealth fund (and a very small population), is unwilling to bail out its own compatriot, can it be guaranteed that Germany will bail our Greece (or Ireland, or Spain)? Or Sweden will bail out Latvia? Or Austria will protect its banks' exposure to Eastern Europe? Or that Washington will bail out California?

For those interested in following the latest events in Dubai, Calculated Risk and the Times of London (which was temporary pulled from newsstands in Dubai) are very resourceful. The more we learn about this crisis, the less likely it seems that it will go away without repercussion.   

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