Is this the trigger for the next round of the financial crisis?
Dubai has just announced that it will ask for a six months 'standstill' in debt repayments for stated-owned holding company Dubai World, "as a first step towards restructuring"
This included the building of the recently opened Burj Dubai, the tallest tower in the world, and three man-made palm-shaped islands off the emirate's coast. The latter was constructed by Nakheel which is owned by Dubai World, and which is at the center of the storm.
Nakheel has $3.52 billion in bonds that were due to be paid up on the 14 Dec 2009. That repayment will be put on hold, as will interest on all other debts. The leaders of Dubai World, Nakheel and other subsidiaries were sacked and replaced a week ago.
The Emirate is trying to shore up confidence by moving to signal support for profitable ports operator DP World. Although DP World is majority owend by Dubai World, it is also listed on NASDAQ. It has $3.25 billion in outstanding bonds, but Dubai World said DP World would not be involved in the restructuring.
RGE Monitor, the economics group started by Professor 'Dr.Doom' Roubini, says that the market views this technically as a default.
So far in 2009, all the maturing government-linked debt of Dubai has been paid off in full, with government funds making up any shortfall in private funds. Yet, given the vulnerabilities of the property sector and challenges of the economic model, Nakheel could be a different story given the government's desire to support only viable companies. Yet, the costs in raising future funds may thus be even more costly. The lack of transparency about corporate and national finances and which debt might be honored, is adding to uncertainty and credit risk.
It is seems that the Dubai Sheikhs are moving to pick and choose which government entities they support - indeed, with property prices having fallen a staggering 50% since their peak, they may have no choice. That means that Nakheel's debts may not be honoured.
The Financial Times Lex column said
The consequences of the standstill, and possible eventual default, are far-ranging. The repayment of Dubai World's US$4 billion Nakheel bond was seen as a litmus test for the emirate's ability to deal with the US$80 billion owed by the sovereign and its state-controlled companies. The emirate's willingness to do this is now in doubt, especially as only an hour earlier it raised $5bn from two state-controlled banks in Abu Dhabi. This was only half what had been expected, but followed $10bn of earlier support from the kingdom's richer neighbor. Foreign creditors are muttering darkly about taking legal action.
There are so many - to borrow a Lex word - darkly fascinating aspects to this story.
Creditors may mutter darkly about taking legal action, but in the UAE the word of the Sheikh's is the law, so if they say it will be re-structured then it will be.
The fact that $5 billion was raised from banks in Abu Dhabi moments before the announcement is instructive on many levels. Abu Dhabi, the vastly richer and less flashy brother Emirate, will provide support to Dubai, as will Saudi Arabia and other Gulf GCC states. However they too will limit their exposure. This $5bn was only half of the $10bn that was expected. The message might have been 'we willsupport the healthy core, but you must trim the toxic excess'.
Other Emirates and GCC members have become increasingly jealous of the attention that Dubai has garnered, but their economic health are intertwined. This support probably comes with strings, and is a may to cut Dubai back down to size while attempting to stop the spread of contagion.
The relative calm in the financial marketplaces during the last six months has been entirely dependent on the support of governments, who have been shoring up, bailing out and guaranteeing left right and center. Some governments are simply unable to continue doing that, as their own - sovereign - finances are being stretched to the limit. And somesupport will need to be wound down to reduce the size and riskiness of sovereign debts that have ballooned across the world.
That calm has been shattered, leading Francis Lun of Fulbright Securities to say "the panic button's been hit again".
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