The combination of Dubai’s exposure to international financial and real estate markets and Abu Dhabi’s reliance on oil and gas earnings meant that the UAE was the hardest-hit of the Gulf economies in the global downturn of the past two years.
Real estate continues to drag … Until Dubai is back on its feet, I can’t see the UAE getting back up to speed
Richard Fox, senior director, Fitch Ratings
Having enjoyed real gross domestic product (GDP) growth of more than 5 per cent in every year from 2005 to 2008, and in excess of 8 per cent in 2005 and 2006, the UAE’s economy shrank by 0.7 per cent in 2009.
According to the IMF, growth in 2010 is likely to be little better, at 0.6 per cent. The recovery will be stronger in 2011, with growth reaching 3.1 per cent.
“We see an improvement in the outlook for this year, compared to the severe headwind last year, but overall the economy will continue to suffer,” says a senior economist at a leading bank in Dubai.
The UAE’s accelerated growth
Despite the shared poor fortunes of the country’s two largest economies in late 2008 and early 2009, their experience has since diverged. The recovery of oil prices to $70-80 a barrel has restored Abu Dhabi’s main source of revenue, while the severity of Dubai’s banking and real estate problems means its re-emergence is likely to take much longer.
There are still things coming out of the woodwork. A number of companies still have to deal with debt issues
The wealth of Abu Dhabi’s natural resources have long made it the engine for the UAE’s economy, but it was Dubai’s rapid development that underpinned the more recent acceleration in the country’s growth.
In 2007, Dubai grew at 9.4 per cent, compared to 6.2 per cent in Abu Dhabi, and in 2008 it weathered the early effects of the global financial crisis to post growth of 5.7 per cent, compared to 4 per cent in its neighbour, according to figures from EFG-Hermes. Now the roles have been reversed. EFG-Hermes estimates Dubai’s economy contracted by 5 per cent in 2009, compared to a 2.7 per cent contraction in Abu Dhabi. In 2010, the divergence is set to be even more pronounced, with Abu Dhabi’s real GDP expected to grow 4.1 per cent, compared to a fall of 0.4 per cent in Dubai.
“We can be confident of Abu Dhabi’s continued growth,” says Richard Fox, senior director of ratings agency Fitch Ratings in London.
“At an oil price of $60-70, it will have the budget surplus to forge ahead with infrastructure development spending. Dubai is more tricky. Real estate will continue to be a drag, and the banking sector is not lending much. Until Dubai is back on its feet, I can’t see the UAE economy getting back up to speed.”
The downturn in fortunes that began in Dubai with the property market crash in 2008-09 was followed by a collapse in confidence in the emirate’s ability to service the tens of billions of dollars in debt it had accumulated in order to finance its building spree. In November 2009, state-owned Dubai World shocked investors by announcing that it was requesting a six-month standstill on debt repayments, amounting to about $25bn, and in May this year it emerged that Dubai Holding, another state-owned company, was also seeking to restructure several billion dollars worth of debt.
The shock was less that the companies were struggling – market pressures were known to be squeezing them hard – but that the state seemed reluctant to intervene.
When the original loans were made, banks had assumed that, in the case of default, these companies would receive the full backing of the government, and that the risk they were taking was on a sovereign level rather than a corporate one. This proved not to be clear-cut. Shortly before the Dubai World announcement, the Dubai government announced that it was “under no obligation to extend support to any government-related entity.”
Credit squeeze in the UAE
Even more surprising was the reaction of the federal government to Dubai’s credit squeeze a few months before. In February 2009, Abu Dhabi subscribed to $10bn of a $20bn sovereign bond programme launched by Dubai in order to stave off an imminent credit default in the emirate. But it made it sweat before doing so. The message from the federal government was that Dubai could not assume it would be bailed out of its credit problems. Abu Dhabi has pointedly failed to make any such assurances either before or since.
“Everyone thought that, as long as Abu Dhabi was there, things would be okay,” says Mohsin Khan, senior fellow at the Peterson Institute for International Economics in Washington DC. “When they didn’t come out immediately, everything began to unravel.”
These events have changed the relationship between the two emirates. It is clear that Abu Dhabi is unwilling to support Dubai without something in return. On a symbolic level this was evident in the renaming of the Burj Dubai to Burj Khalifa, after the president of the UAE and Abu Dhabi ruler Sheikh Khalifa bin Zayed al-Nahyan. But the changes go far deeper.
“Abu Dhabi is helping out – but for a price,” says Eckart Woertz, economics programme manager at the Dubai-based Gulf Research Centre. “Customs control could move from an emirate to a federal level, and I would imagine that Abu Dhabi will assert itself more on a political level. In foreign policy, for example, federal considerations might start to take precedence over Dubai’s economic priorities.”
In the future, the traditionally conservative Abu Dhabi will be increasingly watchful of its more profligate sibling.
“There will be a focus on economic recovery and deleveraging for the next couple of years,” says Marios Maratheftis, head of research at Standard Chartered in Dubai. “The federal government will want to avoid there being too much debt from one emirate without there being co-ordination from a central body. It will make sure that, in the case of a future boom, borrowing is more disciplined.”
The experiences of the past 18 months have been painful for Dubai and a shock to investors. But, for many economists, Dubai’s explosive economic growth was unsustainable, and some sort of correction was inevitable.
The recovery is likely to be a slow one. There is still some argument as to whether Dubai’s real estate market has bottomed out and the restoration of confidence to a battered banking sector will take time.
“Real estate prices have stabilised for the moment, but it’s not a V-shaped recovery by any means,” says Woertz. “The real estate sector will remain murky for some time.”
“There are still things coming out of the woodwork,” says another senior Dubai-based economist. “A number of Dubai companies still have to deal with their debt issues.”
Restoring confidence in the UAE
The successful restructuring of Dubai World’s debts will be an important step to restoring confidence in the emirate. On 20 May this year, the company announced that it had agreed the headline terms of a restructuring covering $23.5bn of its liabilities, agreed by 60 per cent of financial creditors. But it could still be months before a deal is completed.
“The trust and confidence of investors has been shaken,” says Khan. “Until the Dubai World issue is sorted out, they will be cautious, and rightly so.”
The downturn in the property market gives Dubai a renewed opportunity to develop other areas of its economy. On a regional level, the emergence of the emirate as a financial and real-estate centre represented a diversification away from the overwhelming reliance on hydrocarbon resources that characterises much of the Gulf. But within Dubai itself there are also opportunities for diversification.
“Dubai can now focus on its key strengths: as a global logistics centre of excellence, based around its ports and airports; as a tourism hub; and as a retail centre,” says Maratheftis.
Regional economists believe a long-term result of the crisis will be that Dubai will grow more sustainably in the future. The 42 per cent increase in government expenditure in 2009, designed to stimulate growth, has been followed by a 6 per cent spending cut for 2010. But, of the $9.64bn in budgeted expenditure, just less than half – $4.71bn – has been earmarked for infrastructure and transportation. This is intended not only to provide a platform for inward investment, but to build the foundations for more sustainable growth in the future.
“There should be a focus on the quality, not rate of growth,” says Maratheftis. “Before, it was based on an unsustainable real estate boom.” Fox agrees: “We’re getting a recovery, but it’s slower than we’re used to, which is a good thing.”
Financial transparency in the UAE
Institutional improvements have also been made in order to restore confidence in the emirate, and throughout the UAE. On 6 May, the government issued a decree authorising the collection of credit information in Dubai by Emirates Credit Information Company, which will help creditors make more informed decisions on dispensing loans. A new Federal Statistics Law and the creation of a National Bureau of Statistics will also foster a culture of financial transparency and disclosure.
However, in the short term the recovery could still be threatened by a further global downturn. “I see a strong possibility for a double-dip global recession,” says Woertz. “If this happens, the impact on the UAE as a whole would be considerable.”