Thursday, 20 December 2007

To Buy or not Dubai...

Everyone talks about Dubai as this amazing city that grew into a mega-metropolis overnight. This is true, but it is a bit like saying a women with tummy-tucks, butt-sucks, false breasts, botox and collagen infested lips is beautiful. She may be pretty, but is it real and what psychological issues does she bring with this?

My view of Dubai is that it is a plastic city, born not out of the fractious Invisible Hand of Adam Smith, but from the false economy of Petro-Dollars. The only thing capitalist about this dynamic is the scarcity of the black stuff relative to global economy’s insatiable demand.

From talking to the locals, almost all the projects and capital spend are "state" sponsored. It is relevant to define the Emirate state as this point: A family owned monopoly of the black sludge pumped from beneath the desert.

Fortunately for the Emirates, the West has provided a good trading mate - both with Western technology pulling the black gold out of the dirt and then its insatiable demand for the stuff. Lucky for us, our dependency is decreasing - in the 1970's, almost half the economy was dependent on it in some fashion - today, according to the Economist there is only around a 20% dependence (Interestingly, this is why Oil has been able to push to the $100 level without causing the shock it did in the
1970s... but with the Sub-Prime crisis and credit drying up like spent Arabian oil field, the Global Economy may yet see the recession the doomsayers have been predicting since the bubble of the late nineties).

But I digress... so Dubai is amazing, yes. And the Maktoums (Dubai family that is The State) did have the foresight to “open” their economy (open relative to other Arab nations). They are building the tallest building in the world (Burj Dubai) and I personally counted almost 50 super cranes in the sky, each building a separate high rise. You can also buy anything you ever wanted in Dubai. It truly is the shopping capital of the world. Oh, and they also have a land reclamation project where they are building islands that represent the countries of the world – yep, an archipelago of the globe! Things are happening in Dubai and there is no doubt a lot of money in the city. But from an economist’s point of view, you have to ask yourself how this occurred and is it sustainable?... And to me, it doesn’t really add up.

In summary, the "capitalist" framework of Dubai can be put forward as follows:
Pull black sludge out of the sand -> as a member of OPEC, limit demand -> price of oil increases (magnified on the back of the global resource and commodity boom – read: Chindia) -> countries pay stupid amount for the stuff (current cost of pulling it out of ground is around $23 - Economist) -> make gazillions of dollars -> take that cash, and spend absurd amounts building a city that has the history of Vegas and the style of the shotgun wedding venues in the said city . This creates the artificial demand, draws people and resources hoping to cash in… All in the hope that the increasingly dry oil wells of Dubai are supplanted by a real economy one day.

So then next logical step is to sit back and think about whether this artificial stimulus has worked anywhere else in the world. My first point of call is Keynes’ theory of Aggregate Demand and Government spending, proselytised post WWII - the West loved it. Well, it failed. Being generous, I guess you can say it did succeed in pushing up price levels (read: inflation) while simultaneously creating no jobs... which lead to the stagflation days and an economy so brittle it buckled under the pressure of the two oil shocks in the 70's. Right, so that didn’t work... where next? Well, the extreme and most obvious example of this kind of fiscal depravity was the "Commanding Heights" of the Soviet Union - clearly that didn’t work either, and with the added bonus of costing some 20 million lives... In the pursuit of objectivity, I then find myself floating around all the countries of the world and can’t think of one where artificial demand created a sustainable economy. Perhaps there is someone out there that can tell me otherwise.

The last curveball for Dubai is the illegality of any foreign company or person owning a majority stake in a company in Dubai, nor own land for that matter. Foreign nationals are given demarcated areas they can live, and even then, the land is given to them on leasehold. As for companies, you need to have a Dubai national owning at least 51% even if they add nothing to the business (and this is often the case). This sounds like economic apartheid to me.

So my bet is that Dubai will become an economic ghost town within two decades. My logic: oil money is basically finished in Dubai. General prices are not cheap (just chatting to the cab drivers and guy who served me in the suit shop attest to this - all are moving back to their native countries in the next year they say) and prices are rising - inflation is a serious problem as the bulk of the population are foreign nationals barely able to afford to live - apparently rents at the lower end have gone up “100% in two years” - and unable to send any money home to their families, which is (was) the attraction to Dubai in the first place.

I may be wrong and several macro forces may play out in Dubai's favour. If so, these will emanate from two strengths: a relatively open and functioning society (I say relatively, because laws are arbitrary and subjective based on the whims of the royal family - but out of the whole Middle East, Dubai is like Woodstock Hippies) and the fact that it really is a "central trading hub" between Europe and the Far East.

One thing for my mind is certain, expect a massive price bubble implosion, making the asset price deflation of Japan in the 90's look like the Roaring Twenties early 20th century.

[Ed - 26Dec09 - and so the prediction appears to be coming true.  The latest on the asset price implosion from Wall Street Journal: Dubai: A High Rise, Then a Steep Fall]

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