Thursday, February 12, 2009

Dubai: Is the Miracle Over?

Dubai has marketed itself as the investor's future dream economy. The city-state built itself on the back of oil revenue but in recent years it has banked on a mass economic diversification campaign to maintain the economic growth long after the oil runs out.

However, hard economic times are quickly eroding the reputation it has worked so hard to build and putting in peril its future plans to establish itself as the hub of Middle Eastern finance, tourism and knowledge industries. As a sign of the worsening economic outlook, the Dubai government has canceled 86% more residence visas in January 2009 than a year earlier. The government has hinted that it may go into the red for the first time ever in this year's budget spending.

Although Dubai does not possess the vast energy resources of Abu Dhabi or Qatar, it did benefit significantly from the high oil prices of the past few years, reaching $150 dollars a barrel at their peak. Large swaths of the windfall from oil revenues was invested overseas through its Sovereign Wealth Fund. Private investment was also pouring into the country at head-spinning speed, especially in the construction and infrastructure industries. Real estate and massive development projects attracted cheap foreign labour from South Asia, and developers saw the opportunity for a quick buck.

However, the real estate bubble is quickly unraveling. Developers have seen their cashflows dry up. Their two primary sources of financing, banks and pre-payments for yet to be completed projects, have both dried up. Clients are not buying and banks have stopped lending. The government has lost billions of its investments due to the American financial collapse.

Of course this was all predictable. As Dubai decided to connect itself to the global economic switchboard by wholeheartedly adopting liberal economic policies it has benefited immensely in terms of growth and wealth development. This cannot be denied. However, I have always had my doubts about Dubai's shake-and-bake economy. Let's remember that the city-state has dwindling natural resources, a small population and little substantial industrial capacity.

I am closely watching the government's reaction to the economic woes. It has important alternative energy plans and has put all its eggs in one basket in trying to develop into a modern 21st century knowledge economy. This of course is the plan, whether it will be possible is an entirely different story.

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