(James Saft is a Reuters columnist. The opinions expressed
are his own)
By Jim Saft
HUNTSVILLE, Alabama, December 1 Taken all in
all, Dubai's debt crisis is the most significant financial
development of 2007. Here in late 2009 it amounts to far less.
Back in the day it would have been a newsflash that
apartments ultimately require occupants, that investment needs
to be ratified by cash flows, and that debt, Sharia-compliant
or garden variety, someday must be repaid.
Dubai's difficulties are being sold as the commercial real
estate debacle somehow morphing into a sovereign debt crisis
and it is true that the effective borrowing rates of the more
raddled national borrowers such as Ireland have been driven up
in recent days.
Dubai's government said on Monday that it is not
responsible for the borrowings of Dubai World, a
state-controlled development conglomerate saddled with huge
debts amid a property market where the going rate has halved.
Dubai last week applied for, or imposed depending on your
point of view, a six-month repayment freeze for Dubai World and
its property developer Nakheel.
"Creditors need to take part of the responsibility for
their decision to lend to the companies. They think Dubai World
is part of the government, which is not correct," said
Abdulrahman Saleh, director general of Dubai's department of
Quite, and hopes that credit extended to Dubai World would
be made good by the state of Dubai or by the richer emirate of
Abu Dhabi seem to be foundering. This is bad news for those
creditors, with the worst potential losses traceable to banks
in Britain and Europe, but its probably just not that big of a
For one thing, the amount potentially at issue, even if you
allow for an extra 50 percent off balance sheet taking it to
circa $125 billion, is simply not big enough in the scale of
things to tip significant players over the edge.
And it tells us very little about the state of the world or
the likely outlook for real estate. It is very hard to call
something a canary in the coal mine when you are already
cleaning up after a mining disaster.
For a time the magical thinking behind Dubai, "build it and
they will come", worked and despite it being remote, having an
inhospitable climate and little inherent commercial reason for
existing, the city boomed. It's a bit like having a feast so
the harvest will be good rather than when it actually is, but
it was effective for a time as prices rose and investment was
DUBAI WORLD MEETS MORAL HAZARD WORLD
The nub of the meme in financial markets is that this is
about sovereign exposure and that creditors will be shocked if
the state support they thought they had coming never arises.
But is it terribly bad news for the rest of us? Probably
not. Investors should have seen it coming - there have been
quite a few headlines recently about the real estate crash-
and should not have conflated "implicit" with "explicit".
Dubai has made clear in its own bond prospectuses that it
might lend support but that it was under no obligation to do
so. Teaching investors the difference between "quasi-state" and
"state" is a good thing.
So why then did the cost of borrowing for Greece and
Ireland, as expressed in insurance contracts against default,
Nothing about Dubai's predicament will have much of an
impact on Irish or Greek tax revenues clearly, and the banks
and the pool of lendable capital has not been diminished by
Nor is it easy to draw a new connection between Dubai and
the emerging European countries which represent a much more
substantial and potentially grave threat to banks in Europe.
Perhaps this is ultimately about moral hazard - risk taking
under the belief that you are "insured" - as are all stories
involving the words "quasi," "government," and "debt."
Fannie Mae and Freddie Mac's quasi-government status fed
moral-hazard driven risk taking, as did Dubai World's, as is
most certainly the case where government insurance allows for
Markets went down on Dubai because they have become
addicted to moral hazard and anything that doesn't conform with
the idea that all shall be bailed out is scary.
It is apparently terrifying that a government should say
"hard luck" to anyone anywhere, no matter how difficult the
government's situation is or how ill-founded the investors
claim to relief.
None of this is to say that the commercial real estate
crash isn't terrifying, or that countries like Ireland and
Greece don't face difficult times and huge risks, but only that
Dubai tells us little new about those things.
There is definitely a moral hazard trade out there, but
Dubai is not the event which will cause it to unwind.
(At the time of publication James Saft did not own any
direct investments in securities mentioned in this article. He
may be an owner indirectly as an investor in a fund. For
previous columns by James Saft, click on [SAFT/])
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