Dubai Economic Crisis Hits The World

Is Dubai too big too fail? Earlier this week, officials in the Gulf state announced they needed more time to repay $60 billion in money borrowed to build lavish hotels, manmade islands and the world's tallest skyscraper. World markets slumped because of the news. Economist Simon Johnson, former chief economist for the International Monetary Fund, and Christopher Davidson, author of Dubai: The Vulnerability of Success, discuss the big impact made by the tiny emirate.

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ROBERT SMITH, host:

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The world stock market stumbled this week. The culprit: the tiny Gulf state of Dubai. The investment arm of the emirate announced this week that it needed more time to pay back $60 billion it borrowed to fund projects like these:

(Soundbite of commercial)

Unidentified Man #1: The world is an island paradise where unprecedented opportunity can be found.

Unidentified Man #2: Ski Dubai, which is the indoor ski resort, a full-size ski mountain constructed inside the mall.

Unidentified Man #1: Built in the shape of a sail from an Arabian dhow, the hotel is a symbol of success on an iconic scale. A city in the sky nearly half a kilometer tall, the Burj Dubai is the pinnacle of skyscraper engineering.

SMITH: More about the excesses of Dubai in a moment. But first, a look at why this single incident rippled across the world economy.

We're turning to Simon Johnson now. He's a former chief economist with the International Monetary Fund and a professor at MIT Sloan. And he's with me here in the studio.

Thanks for coming in.

Professor SIMON JOHNSON (Economics, MIT Sloan School of Management): Nice to be with you.

SMITH: So Dubai's announcement, we're talking about $60 billion in a tiny state halfway around the globe, why is it having this international impact?

Prof. JOHNSON: Well, first of all, it's probably not $60 billion. Sixty billion is what we know about. The market's already talking about close to $100 billion. And a 30 percent loss is also what people are expecting. So that's $30 billion of losses somewhere. That's enough to bring down a pretty big bank, if somebody is foolish enough to be holding most of those losses.

Where are they? Who's got them? What are the effects going to be? We don't yet know fully, so people are very concerned.

SMITH: So as always, it's the uncertainty.

Prof. JOHNSON: Absolutely, the uncertainty. This was announced right before the big holiday, Thanksgiving in the U.S., but also big holidays in that part of the world. So it's complete radio silence for four days. What is going on? Who is getting what kind of bailout on what terms? We don't know.

SMITH: So what effects have we seen from this announcement?

Prof. JOHNSON: Well, the impact announcements on Friday were quite widespread -on Thursday and Friday and other parts of the world. So Korean construction companies were down, the price of oil was down to some degree, there were worries in Russia, for example, those proved to be short lived. And, of course, the U.S. market considered it, went down, came back on Friday, but Friday was a very light day of trading in the United States.

So repercussions have been felt around the world. They're not first order. They're not serious. It's that another - that a big financial company or another country's been pushed over the edge as a result. But these are serious implications.

SMITH: Well, Simon Johnson, stay with us here in the studio while we turn to Christopher Davidson. He wrote the book "Dubai: The Vulnerability of Success."

Welcome to the show.

Mr. CHRISTOPHER DAVIDSON (Author, "Dubai: The Vulnerability of Success"): Thank you.

SMITH: So with a title like that, did you see this coming?

Mr. DAVIDSON: Yes, I did. Actually, I had to struggle with my publishers to have the word vulnerability in the title. They said that Dubai is just amazing success. You can't have that in the title. No one will buy it.

Ms. SMITH: Well, you know, when we've seen these giant malls, the indoor ski slopes in the desert, I always assumed that there was at least oil money backing those projects. What happened to the oil money?

Mr. DAVIDSON: Well, Dubai had limited oil and gas of its own, and I think their oil industry pretty much peaked in the early '90s and that was it. So Dubai was never really a petrodollar state, but it was in close proximity to many other petrodollar states. There's always been a lot of liquidity in the region. What Dubai was trying to do was trying to find a channel for this wealth.

SMITH: So it saw itself as Hong Kong, a Singapore.

Mr. DAVIDSON: Yes. Hong Kong and Singapore were often mentioned in the press releases in the '90s when this economy was beginning to take shape.

SMITH: For a tiny Middle Eastern state, Dubai has its fingers in a lot of pies around the world. What are some of the projects where we could find Dubai money and Dubai ownership control?

Mr. DAVIDSON: You'll find Dubai ownership in London predominately, including the Madame Tussauds waxworks gallery, the giant London Eye, this enormous Ferris wheel that overlooks the River Thames.

SMITH: And that's just in London. We also have Barneys department store, I know, in New York and�

Mr. DAVIDSON: Yes. Yeah.

SMITH: �a huge project in Vegas. Correct?

Mr. DAVIDSON: Yes. Dubai has been one of the biggest investors in MGM Mirage, 50 cents(ph) project in Las Vegas.

SMITH: So, what went wrong? I mean, what was the decision that led them down the wrong path?

Mr. DAVIDSON: They allowed an economy to be built, which was reliant on uninterrupted foreign direct investment and easy access to international credit.

SMITH: So there wasn't anything intrinsic there.

Mr. DAVIDSON: That's right. Very little. They were reliant on foreign money coming to Dubai, and Dubai acting as a sponge for that.

SMITH: Maybe it's surprising it took so long. The global financial collapse was more than a year ago.

Mr. DAVIDSON: Yes. That's been a year of denial from Dubai. So they managed to delay things as much as possible before the revelations came that the carpets were actually empty.

SMITH: And were they just hoping to grow fast enough that the debt would take care of itself?

Mr. DAVIDSON: Yes. There was a philosophy that build this and they would come. If you're building the most lavish buildings in the world, people will just get swept away and keep pouring their wealth into Dubai. And at some point, the debt will take care of themselves.

SMITH: Christopher Davidson is the author of "Dubai: The Vulnerability of Success."

Thanks for joining us.

Mr. DAVIDSON: Thank you.

SMITH: Back now with Simon Johnson, former chief economist for the IMF. This sounds a little familiar, doesn't it, over confidence, easy credit, no oversight?

Prof. JOHNSON: It's always the same pattern that that's - big crisis don't come out of stagnation. They come out of massive booms. They come out of people piling in, thinking that it's a one way bet. And this is just another example of what's gone wrong with investors and their perceptions over the past five years around the world.

SMITH: Now, how could this come as a surprise? People have watched this sort of overbuilding of Dubai. Certainly, investors might have checked before they lent the money that there was some sort of way to pay this money back.

Prof. JOHNSON: Well, people have known for quite some time that there's been, let's say, over exuberance in the desert. But Abu Dhabi, which is part of the same political entity, the United Arab Emirates, has a lot of money. They have above $800 billion in ready cash, liquid assets, probably around the world. So as long as Abu Dhabi's willing to support Dubai, bail them out, everything's going to be fine.

And as late as Wednesday, some Dubai bonds were bought by Abu Dhabi. And then Dubai said we're now going to pay back on our other debts. I think this was a shock to Abu Dhabi, as well as to investors elsewhere.

SMITH: And this weekend, Abu Dhabi's saying we may consider paying back some of the debts of our neighbor, but not all of them, which just adds to the uncertainty.

Prof. JOHNSON: Well, I think if your cousin got into financial trouble, a cousin with whom you have a good relationship, but he or she's been, you know, somewhat prone to overspending and really pushing the envelope, you would be reluctant to give them 100 percent bailout. You should be reluctant. You should - there should be some difficult conversations about who's going to have what kind of financial control going forward. And that's the kind of situation we're looking at here.

SMITH: Well, if a state like Dubai can hide its troubles for at least the last year and a half, does that mean there are other countries out there sitting on bad news?

Prof. JOHNSON: Well, again, this is one of the uncertainties. This is one of the big worries. People are worried about governments that have a lot of debt in Eastern Europe, for example. They're worried about companies that are sort of owned by governments but not really or not completely. And will the governments back them up? Again, questions in Eastern Europe, questions in Asia, even some questions in Latin America today.

SMITH: Simon Johnson is a professor of economics at MIT and a senior fellow at The Peterson Institute in D.C.

Thanks for coming by.

Prof. JOHNSON: My pleasure.

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