World reacts as Dubai’s economy stumbles

The Dubai government announced Nov. 25 that it was “requesting” that its investment company, Dubai World, be allowed to stop making interest payments for six months. This move would have had much more impact if it hadn’t been made the day before “Thanksgiving” in the U.S. and the start of Eid el-Ahda, a three-day Islamic festival.

But this was big news, as Dubai World has run up a debt of $59 billion in the past few years building glitzy resorts, Las-Vegas-style casinos and other luxury properties, as well as managing ports around the world. (New York Times, Nov. 28) Nakheel, Dubai World’s real estate subsidiary, has borrowed an additional $21 billion. (Les Echos, Nov. 26)

Dubai is part of the United Arab Emirates, a federation of seven emirates in the southeastern part of the Arabian Peninsula that borders Saudi Arabia, Oman and the Gulf. While its neighbor Abu Dhabi, also part of the UAE, has vast oil wealth, Dubai’s economy relies on tourism and shipping.

It is unclear if Dubai World will be able to start paying when the six months are over. Dubai’s $80 billion in debt is equal to 100 percent of the emirate’s 2008 gross domestic product, according to Moody’s Investors Service.

European stock markets fell by 3.2 percent on Nov. 26, the day after Dubai’s announcement. Asian markets also had big losses of between 4 and 5 percent. Bank stocks in France dropped by more than 5 percent in a day and falling share prices wiped $23 billion off the value of British banks. (The Times of London, Nov. 27.) Oil dropped $1.80 a barrel and the dollar strengthened against the euro.

Bloomberg News reported that “Most U.S. stocks fell this week as speculation Dubai will default on its debt spurred concern that the recovery in the global financial system will stall.” (Nov. 28) U.S. bank stocks, just as in Europe and Asia, fell the most.

Bankers weren’t sure about what kind of exposure they had to a default by Dubai. Other interests were afraid that this uncertainty might lead to a freeze in bank lending, which would stop nearly all normal economic activity.

Gretchen Morgenson, the leading business columnist for the New York Times, summed up the situation: “The news out of Dubai late last week ... reminds us that we are far from finished with a ferocious deleveraging process that began last year.” (Nov. 29)

Even though Dubai carefully avoided mentioning going into default, since Dubai World is owned by a sovereign nation it would be hard for banks and other investors to seize its assets. And there are other highly-leveraged sovereign debtors; in Europe, Lithuania and Greece are the worst off, but Spain and Ireland are not far behind.

This palpable nervousness about defaults of sovereign debtors, which would pose a more intractable challenge to the world’s financial system than the failure of Lehman Brothers, a private institution, seems to lie behind the UAE central bank’s announcement that it would guarantee Dubai World’s debt. (Wall Street Journal, Nov. 29)

While cost-cutting—mainly by increasing the exploitation of workers under the lash of unemployment and underemployment—has improved the profits of the biggest companies, smaller companies still can’t get the credit they need to function, and their customers are buying less because their income has dropped.

Capitalism needs to expand to survive. When expansion stops and the bubble bursts, it becomes more and more unstable. The Dubai crisis is just another stumble that exposes this instability.