Dubai – built on cheap credit that is now disappearing fast

When Dubai developer Nakheel unveiled the world's tallest tower in a blaze of publicity and flashing lights at Cityscape on Monday October 6th everything looked great for the future of the emirate's property sector.But Wall Street was crashing, five US banks were failing, Iceland was going bankrupt and stock markets around the world were haemorrhaging.On the face of it Dubai was the one bright place, the real estate market that was immune to the economic crisis snaking its way around the

Although not known for their transparency and with a media that tends to tow the official line rather than ask probing questions, Dubai's rulers were anxious. It was important that Cityscape went ahead with the usual glitz and glamour, it was important that the world looked in and marvelled at Dubai's ability to rise above the turmoil.

But even the great and the good could not ignore what was happening. For several months property sector consultants and analysts had been warning that the property bubble in Dubai was about to burst.

Alarms rang when Morgan Stanley issued a report in August saying that residential property prices would fall by 10% by 2010 and that oversupply would hit the market in 2009. It added that the worst case scenario would be 15% falls in 2009 and prices could fall by 65% in 2010.

But this couldn't be allowed to overshadow Cityscape; it mustn't detract from the good news messages. Government owned Nakheel spent £3.2 million on its cityscape stand.

The attempt to gloss over world economic worries were at first successful. But in the last few weeks it has become painfully apparent that the Gulf, and Dubai in particular, was going to suffer just as much as the rest of the world.

But it is the way that Dubai was built up and talked up that means its downfall could be far more dramatic that it needed to be.

'The problem Dubai is facing is that is has relied on cheap, easy credit and direct foreign investment all of these are now disappearing rapidly. It is the ultimate peripheral economy that needs a continuous flow of global finance so it is not set up to weather a boom and bust type cycle,' said Dr Christopher Davidson, a fellow of the Institute for Middle Eastern Studies at Durham University. He has studied the growth of Dubai since its inception and his book, Dubai: The Vulnerability of Success, has not gone down well in official circles and was almost banned.

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But officially all was well. Chief executives of state owned developers and banks were liberally quoted in the media, much of it state owned too, as saying that Dubai was immune, that Dubai was well placed to continue its spectacular rise. Nakheel even announced that it was expanding its operations and hiring more sales people to cope with queues at its sales centres.

But behind the scenes desperate plans were being drawn up to cut jobs, to re-evaluate the glitzy developments announced at Cityscape and to talk to about bailouts. But it couldn't be kept secret for long. Despite well placed positive quotes in the media, word was getting out that Dubai was heading for bust.

'I suddenly noticed that passengers, although still texting like mad, had a more haggard look on their faces. I realised that they were desperately trying to sell rather than buy,' one taxi driver told Property Wire.

Speculators, those who had bought off-plan, were now finding that they couldn't get the finance for their next staged payment. 'Panic set in for those who has speculated on opportunities in the market hoping they could sell on at a profit,' said Duane Keighran, deputy head of real estate for the Middle East at law firm Simmons & Simmons.

The big players like Nakheel and Emaar were happy to still tout the boom line but the smaller developers and other real estate companies were not happy. They knew the credit was drying up and they wanted help. 'The public line was that the economy in Dubai was disconnected from the rest of the world, that it wouldn't be affected by the credit crisis,' points out Davidson. 'But the banks were actually too deeply connected to the West to be de-coupled.'

Still officialdom tried to play down the crisis. But suddenly the headlines started to change. Suddenly the smaller players were speaking out. They revealed job losses, they announced projects were being put on hold or cancelled. They talked publicly about how banks had cut their finance. It was in sharp contrast to the official line that Dubai was disconnected from the global turmoil.

'What we saw was resentment from the smaller developers who were running out of money. They had bought into the euphoria and had believed the royal family when it said that everything would be okay. Suddenly they were in need of help and they wanted someone to acknowledge that the government would step in and bail them out,' argues Davidson.

Sama Dubai revealed it was reviewing $55.2 billion worth of projects it had announced only a few weeks earlier at Cityscape and it hadn't ruled out job cuts. Damac announced 200 job cuts and Omniyat Properties went public on 60 job cuts. Speculation mounted that government-linked companies like Nakheel and Emaar were struggling to re-finance their high level of borrowings.

Dubai does not publish official figures on its debt but Fitch Ratings said at the beginning of November that government-owned entities owed about $70 billion in foreign currency bonds and debt. Moody's said it owed $47 billion in debt, more than its gross domestic product.

Six weeks ago a special Advisory Council was set up with the aim of working out how to bail out Dubai. His Highness Sheikh Mohammed Bin Rashid Al Maktoum, ruler of Dubai, personally oversaw its formation such was the alarm at falling property prices, banks tightening credit and developers scaling back projects. But its formation was kept quiet. This is usual for a place where politics is done behind closed doors, where two men shake hands in a closed room and no word gets out.

It became clear that Dubai needed to be bailed out and the only option was help from oil rich Abu Dhabi which has around 9% of the world's oil reserves. 'Dubai was a patch of worthless sand that's been transformed into multi million dollar real estate. Its small number of oil wells is expected to run dry by 2020. In needs Abu Dhabi to step in and rescue its developers and banks. It will do so because it relies on foreign investment and confidence in the brand is everything,' says Davidson.

The first sign of intervention was low key. After weeks of speculation it was finally announced last weekend that Dubai's two largest mortgage lenders, Amlak and Tamweel, would merge and effectively be taken over by Abu Dhabi's state owned Real Estate Bank.

The media was also hinting that a high level committee had been created to deal with the crisis. And the international spotlight was revealing the depth of the crisis. On November 18 US bank Citigroup, itself struggling, stated that Dubai could be the most vulnerable place in the Gulf to lowering crude prices as real estate and debt financing posed significant risks. Moody's Investors Service said Dubai may need help to cope with its debt and future borrowing.

It was only a matter of time before the official line changed. It happened on Monday of this week. The Advisory Council was officially made public on the opening day of the Dubai International Finance Centre Forum  Mohamed Ali Alabbar chairman of Nakheel, and also chairman of the new council, said it would meet regularly to review the state of key sectors like finance and real estate.

He confirmed that the council had been involved in the merger of Amlak and Tamweel and he even addressed the issue of debt. In an extraordinary move he announced official debt figures. The Dubai Government's sovereign debt obligations currently stand at $10 billion he said, with key sovereign assets estimated at over $90 billion (AED 330 billion), excluding airports, bridges and the Metro.

'The total debt obligations of affiliated companies stand at $70 billion (AED 256 billion), compared with assets valued at $260 billion (AED 950 billion) so the total value of the assets of the government and affiliate companies in Dubai is well over AED 1.3 trillion,' he told the forum.

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'Let me state categorically: the Government can and will meet all its obligations going forward. Dubai's borrowing is not used to cover state expenditures or fuel consumption. It is funding our long-term, risk-free infrastructure development. Our debt serves Government institutions and state-owned entities that have positive cash flows and that have extremely strong long-term value,' he said, adding that the Government will step in and help associated and affiliate companies if and when the need arises.

He revealed that intervention has already taken place at the Federal level to ensure the stability of the country's financial system and the Central Bank will continue to act appropriately whenever necessary.

So what happens now for Dubai? 'I do not believe there will be a complete collapse but people will have to start thinking about how to get income out of these buildings. The amount of development going on in Dubai does not make economic or social sense,' said Mark Prior, regional managing director of property consultants EC Harris.

Dubai-based research firm Proleads reports that 150 projects worth £30 billion are either on hold or have been cancelled in the Gulf, and most of them are in Dubai. Colliers International says that less than half of office development in Dubai will be completed on schedule. Some of those who attended Cityscape predict that 90% of the projects unveiled will never see the light of day.

The global credit crisis will also hit the tourism sector and have a subsequent effect on the property sector. As Davidson says; 'In the West people are tightening their belts and the first thing that goes is a foreign holiday and a second home.'

Dubai hopes to attract 10 million visitors annually by 2010. But that now seems unlikely. Even before the global turmoil Morgan Stanley said the projected visitor figures were overhyped.

Dubai is also dependent on foreign businesses to fill its office buildings and the global economic downturn will impact on that as firms take decisions not to move and not to open new offices. 'Companies that are looking to take space in the office market for the first time or to expand their existing space have put their plans on hold. We have clients who are postponing making a decision until next year,' said Nicholas Maclean, managing director of CB Richard Ellis in Dubai.

The glitz of Cityscape now feels like a dream. The hard bargaining for the future of Dubai will continue behind closed doors but most will no longer believe the official line.