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Dubai. Not a disaster zone, just normal

By IAFM Research

19 September, 2009

  There has been much lament in the press recently about the global economic crisis, and some particular focus on Dubai as an economy. Dubai was the superstar of economic development in the last decade, where from the late 90s Dubai was hailed as the premier example of growth, entrepreneurism and capitalism. From a sleepy airline hub ‘somewhere in the Middle-East’ to arguably the most important financial and trading centre in the Gulf region, Dubai came from almost total obscurity to a global economic sensation overnight.

Dubai was first to break many of the ‘rules’ of Arabia that continue to strangle many of the Arabian countries in respect to growth and open trade. The creation of economic free zones allowing 100% ownership of foreign owned companies, freehold title on land for non-Arabs, easier access to visas and the ability to open bank accounts and so forth without restriction, created an unheard of freedom to do business in the Gulf. Many of Dubai’s contemporaries, most notably Abu Dhabi (the capital of the United Arab Emirates), the “Kingdom” of Saudi Arabia, and other neighbouring states, bristled at the rate of progress. Criticisms came fast and furiously from traditionalists, Islamists, and more claiming Dubai would generate into a cesspool and hot-bed of foreign chaotic lawlessness.

Amongst all this criticism, however, Dubai thrived. Billions of dollars of investments came flooding to Dubai from neighbouring markets like Kuwait, Iran and Saudi Arabia. With 9/11 making investment in the United States and the west both less attractive and more difficult, due to the Patriot Act and tougher Anti-Money Laundering rules, Dubai was seen as a ‘safe’, local option where Arabs could invest in Arab-friendly investments. Wealthy businessmen from Russia, China, India and other states flocked to Dubai as a gateway for access to new markets, and for investment in the booming property and capital markets sector of Dubai. For foreigners, this was the very first time that they were allowed to invest in the Middle-East property markets, and stock markets. Indeed, in most Gulf States non-Arabs still are not allowed to own property, run a business or invest in a local company.

Dubai became on veritable oasis of business activity. Luxury vehicles and goods flooded in, businesses boomed, private equity funds abounded and the real-estate boom went from great to superheated. Then one day in 2009 it all came crashing down…

Some would point the finger and blame the Global Economic Crisis, and to some extent this was a factor in Dubai’s downfall. Many of the doubters and critics of Dubai would point and say “see we told you so…”. The fact is that in many ways Dubai is a victim of its own success. The first truly free real-estate investment market in the Gulf was attractive to investors all around the world, but with limited supply and so many investment dollars coming in, it is not surprising that the market became overheated. With some property prices increasing 200% in value just within months, the growth was ridiculously unsustainable. Landlords who bought in early were able to increase rents by 400-600% in just the space of 3-4 years. Emiratis who had preferential purchase options for freehold developments, and early adopters who came in prior to 2005, found their property investments of just US$100,000 in value, suddenly return US$1-2m in margin on the property. It was crazy stuff. Speculators reigned supreme and the market kept telling us that it was ok, because Dubai was ‘different’.

Massive injection of petro-dollar profits from Dubai’s neighbours (Dubai has almost no GDP from oil related product) and massive speculation on the property market then flowed on to almost every area of the economy. Inflation rose to 15-16% (some might say it was much higher than the official figures) and everything else followed, including salaries, housing costs, school fees, and credit card debt. Thus, when the GEC hit, the property bubble collapsed, the economic engine that was Dubai was completely unsustainable.

Major Dubai brands like Nakheel Properties (part of Dubai World) the creator of the “world” and other massive developments, were suddenly hit with massive financial troubles. While the PR machine went into overdrive in Dubai claiming everything was normal, development and project management companies in partnership with Nakheel, Limitless and other major names, suddenly started to collapse due to the Dubai World subsidiaries not making payments on time. Billions of dollars worth of contracts started to fall apart.  All the while being denied by the locals.

As a result of such a dramatic turn around, large swathes of expatriate specialists started to abandon Dubai. Thousands of cars were being left at the Dubai airport by expats who could not afford to keep the lease payments going after losing their job. Others who wanted perhaps to stay in Dubai, were ejected because local visa rules only allowed them 1 month of continued residency after they lost their job. With expats being forced out of town, banks were left with auto loans, mortgages and credit card debt that could not possibly be repaid in the 4-weeks these same expats had to leave town. With property values plummeting by 40-70%, many of these expats who had believed in the Dubai legend saw their life savings disappear overnight.

With inadequate bankruptcy laws in the country, directors of companies who now found themselves with no revenue (sometimes because government owned companies simply would not pay their bills) and very high relative operation costs, were now in fear of being jailed for bouncing a cheque or not paying back a loan. Thus individuals like Matthew Joyce and Marcus Lee, executives from the colossal Dubai Waterfront project run by their company Sunland, ended up in jail for ‘fraud’. When initial prosecution evidence failed to produce the desired result, the two were held in prison until such time that authorities could amass appropriate evidence. In the United Kingdom, the USA, Australia, and other such markets, the results would have been very different. The two expats would have certainly faced personal bankruptcy, the inability to act as directors for at least 7 years, and broad civil action – but they would have been spared jail time. The very public cases of people like Joyce and Lee caused those who were struggling with their businesses to take the ‘safe option’ of exiting the country before things got worse, further hastening Dubai’s economic and talent decline.

After all of this chaos, Dubai now is reaching a sort of equilibrium. Sure there are still landlords out there expecting to get 2008 peak market rental rates on their properties, when they should be cutting their rents by at least half, and there are still the authorities stopping individuals at the airports who have not paid back their loans. However, it is unlikely to get much worse. The papers are already talking about recovery, but is that likely?

The facts are that with a population of roughly 1.6m persons, Dubai is less than half the size of Singapore, and less than a quarter of the size of Hong Kong. Today, without the hype of the overheated property market and the massive infrastructure developments that Dubai is famous for, it is just a small economy in the Middle-East. While the Gulf still shows some sign of positive growth due to the steady flow of petro-dollars, the fact is that Dubai is now acting more like a market of its size, rather than a market 5-10 times it size.

Dubai is unlikely to recover to the frenetic growth levels of 2006-2008 period for perhaps a decade. With the flow of foreign direct investment greatly hampered, and so much uncertainty within its borders, Dubai should take the opportunity to rethink its options. Allowing more 100% ownership of businesses without freezone requirements would be a start, as would allowing foreigners to stay for 6 months after losing their job, both initiatives which have been talked about but are yet to come to fruition. Because of Dubai’s excellent access as a travel hub through Emirates airlines, it will continue to act as a conduit for regional trade and deal making between other regions. But the good times are over, for a long time to come.

In the end Dubai was a victim of very normal economic factors, most notably massive speculation by those seeking to ‘cash-in’ on the Dubai phenomenon. Just like the dot-com bubble, like the sub-prime crisis, and even the wall street crash of 29 – Dubai was not immune to unrealistic prices for property assets that simply were not worth what was being paid in a overheated market. With supply and demand starting to reach an equilibrium, and with trade starting to correlate with the size of the market, the options for growth go back to realistic terms. A GDP growth of perhaps 5-6% annually would be an attractive target. Which means, that in fairly typical terms, it will take at least 7 years for the Dubai property market to recover.

What Dubai needs to work on now, is making it easier for foreigners to stay and keep their money and assets in the country. The archaic laws on bouncing cheques and default on loans resulting in jail time need to be immediately withdrawn, and immigration laws on sponsored individuals needs to relax. Business and residency needs to be made easier, and the apparent spirit of punishing ‘expats’ for the collapse of the property and markets bubbles needs to stop – this is just the facts of life in a capitalist economy. Yes, Dubai just simply needs to grow up and accept that it is no longer exceptional, it is just normal.