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Abu Dhabi will give neighboring emirate Dubai US $10 billion in loans to help it pay back some of its debt and imminently maturing bonds. Little details have been made about the lending, except that it will be given entirely by the Abu Dhabi government with terms “similar to those of the first US $10 billion” tranche provided by Abu Dhabi to Dubai earlier in the year. This means Dubai will have to pay back the loan before 2014 at 4 percent interest.

December 15, 2009

 

 

Analysis and Forecast: decreasing risk

 

The Abu Dhabi move is not a move to bail out Dubai but is a temporary lifeline, without which Dubai and Abu Dhabi would have suffered considerably.

 

The move carries with it a number of implications.

  • First, it confirms that Abu Dhabi does not wish to see Dubai collapse, as this would result in direct and indirect damages to Abu Dhabi and the UAE as a whole. The extent of the exposure of Abu Dhabi banks and entities to Dubai are large, although not accurately quantifiable.
  • Second, it amply demonstrates that Abu Dhabi will not offer help to Dubai except at a considerable price. Leaving the help to the very last day before the maturity day for the Nakheel Islamic Bonds – sukuk – was an act of brinkmanship that has in fact further shaken the confidence in the decision-making in Dubai.
  • Third, the fact that Dubai was not able to resolve its financial issues without Abu Dhabi’s intervention firmly relegates Dubai to being the junior partner in the UAE federation. Dubai has tried in the past several years to surpass Abu Dhabi by diversifying its economy, but its failure to do so confirms that without Abu Dhabi, Dubai will find it difficult to survive. Current development efforts in Abu Dhabi may see it diversify its economy further than Dubai.

The overall implications of the move is that it has avoided an even more catastrophic financial crisis. Although much of the potential damage a default on the Nakheel sukuk was largely factored-in by the markets, the fact that Abu Dhabi has stepped in to help avoid such an event provides a slight relief to investors. This does not mean, however, that confidence has returned as the crisis have demonstrated that a default by Dubai is possible, especially if it goes against Abu Dhabi’s interests, or even not in line with Abu Dhabi’s priorities.

 

The top figure below shows the make-up of Dubai economy before the crisis, whilst the middle one shows the make-up of the UAE economy. The bottom figure shows the Abu Dhabi plans to diversify its economy away from reliance on oil. With Dubai’s position severely damaged, Abu Dhabi is better positioned to realize its plans to gradually diversify its economy and become both the economic as well as the political capital of the UAE.