The markets today were in a bit of a tizzy because the Dubai World Group, a holding company owned 100 percent by Dubai’s government, and Nakheel, a wholly owned subsidiary of Dubai World, imposed a debt restructuring and debt service standstill - failed to perform on their debt or, in ordinary if not legal language, defaulted on their debt. The combination of the Islamic holiday of Eid and the Thanksgiving holiday in the US boosted the magnitude of the financial market kerfuffle.
I don’t see what the big deal is. Dubai has experienced for most of this decade the craziest construction boom seen in the Middle East since the construction of the Great Pyramids. That boom turned to bust - as booms invariably do. Property developers tend to be highly geared and very procyclical in their revenue flows and access to the capital markets. During construction slumps they drop like flies. Because the property sector is risky (ask Donald Trump), its creditors tend to get better interest rates than the sovereign rate. Dubai is no exception to this rule. If you earn a risk premium during good times, you should not moan when the borrower defaults from time to time when the going gets tough.
The debt of the Dubai World Group and of Nakheel was not Dubai sovereign debt or sovereign-guaranteed debt. The sole shareholder may be the state of Dubai (indistinguishable from its ruling family), but limited liability applies to governments as well as to private entities. The government of Dubai is under no legal or moral obligation to provide an ex-post guarantee of the debts of the Dubai World Group and Nakheel. The creditors will have to manage this contingency the way God meant them to: hoping for the best, but living with the restructuring and taking their losses. Requiring the debt holders to live with their losses will not damage the reputation of the Dubai sovereign. The only way a bail out by the Dubai sovereign of the debt holders of Dubai World and Nakheel would enhance the sovereign’s reputation would be by enhancing its reputation as a sucker.
Iteresting view from the
FT