UAE: City limits

While high oil prices have spurred on Abu Dhabi’s unprecedented recovery from the global crisis, they mean little to neighbouring Dubai, which still suffers the ill effects of its crash. Published in Emerging Markets, 11 October 2012

As some of the world’s largest economies continue to struggle with low or no growth, in at least one corner of the Middle East there has been a remarkable story of recovery.

This July, the government of Abu Dhabi emirate – one of the seven that make up the UAE – released economic data for the previous year, showing a 30% rise in GDP to AED806 billion ($219 billion). It was, according to the Statistics Centre of Abu Dhabi, a sign that the emirate had “fully recovered” from the impact of the global economic crisis, although it cautioned that the figures were preliminary.

High oil prices are the biggest single factor in that recovery. Abu Dhabi controls almost all of the oil in the UAE and, with the price averaging more than $111 a barrel last year, it meant that revenues were close to record levels.

However, while high oil prices might be welcome in Abu Dhabi, they don’t mean much for the UAE’s other major economic centre: an hour up the road in Dubai the crash of 2009 continues to reverberate. Many parts of that economy have recovered, but the financial services sector remains in the doldrums, and credit is scarce.

Even as the UAE’s second emirate slowly gets back on its feet, there is a risk that the problems in some global markets will mean that a full recovery in Dubai could take even longer.

This contrast between the UAE’s two most important cities is not a new one. Abu Dhabi, with the good fortune to have plentiful hydrocarbons under its desert sands, has always done well when oil prices have been high. Dubai, however, relies on export services and so tends to be more exposed to downturns in other countries.

In essence, the two cities represent the two parts of the UAE’s overall economy – hydrocarbons and everything else. The other five emirates that make up the federation trail far behind in terms of economic activity and, in many respects, rely on Abu Dhabi to provide for them.

“If you look at the two sides of the economy, on the hydrocarbons side it is still very strong,” says Said Hirsh, Middle East economist at Capital Economics, a London-based research firm. “The UAE is producing very close to capacity, at around 2.6 million barrels of oil a day, so the strength of the economy at the moment is due to the hydrocarbons sector and investment plans to increase capacity.

“But the non-hydrocarbons side is still very mixed. It is slowly recovering, but it is facing some problems from the external environment. It is clearly starting to feel the impact of the troubles in the rest of the world. Dubai is benefitting from its status as a safe haven in the region, but the financial services sector is still quite weak and not getting any stronger.”

Although Abu Dhabi may be boasting about its recovery and enjoying its oil windfall, the emirate seems to have learnt one clear lesson from the financial crisis: the value of prudence. Official, up-to-date data is hard to come by, but economists in the country say there has been a clear change of pace in the government’s spending habits in recent years.

“In Abu Dhabi revenues are high, but the rate of spending growth has remained quite subdued [this year], much as it was in 2010 and 2011,” says Simon Williams, chief economist at HSBC Middle East. “There has been a marked rethinking of some aspects of Abu Dhabi’s development programme, the Economic Vision 2030, and of just how Abu Dhabi’s wealth should best be deployed.

“So while there is expansion in Abu Dhabi, it’s not the rate of growth we saw before the crisis or that we see right now in Saudi Arabia or Qatar. I don’t sense a rush to spend that I see elsewhere. That more conservative, more prudent approach is likely to continue.”

PROJECT PLANS

Some major projects are still going ahead. In late June, for example, Abu Dhabi Airports Company signed an AED10.8 billion contract for the construction of a new terminal at Abu Dhabi International Airport. The 700,000 square metre Midfield Terminal will be built by a consortium led by Turkey’s TAV and should open in 2017. During the summer the finishing touches were also made to Khalifa Port, which officially opened on September 1, with a capacity of 2.5 million containers a year and a further 12 million tons of general cargo.

Such large infrastructure projects are a key part of the 2030 programme and the government’s efforts to diversify the economy.

They will also mean that Abu Dhabi will be competing more fiercely with Dubai in the transport and logistics sectors, which have long been among the mainstays of the latter’s economy. There is little that Dubai can do, however, as its ability to influence its richer neighbour has been weakened ever since it was forced to turn to Abu Dhabi for help when its economy contracted by 4% in 2009.

In the meantime, Dubai is still suffering from the consequences of its spending and construction boom, which came to a sudden halt in 2009 and much of which was focused around residential real estate. A lot of the debt built up by government-related entities has now been dealt with, including a $25 billion restructuring by Dubai World in June last year, but there are still substantial amounts left to restructure.

Credit ratings agency Moody’s Investors Service estimates that $16.6 billion of corporate debt is still in the process of being restructured in the UAE, including substantial amounts owed by Dubai Group, Amlak, Drydocks World, Al Jaber Group, Zabeel Investments and Limitless.

“Borrowers’ and lenders’ initial optimism about a quick recovery in asset prices and associated cash flows meant that many of the early restructurings were ultimately unsuccessful in resolving the problem once valuations did not recover,” says Khalid Howladar, a Dubai-based senior credit officer at the ratings agency.

This year most of the remaining debts should be accounted for. For example, Limitless, which is part of the Dubai World conglomerate, is expected to restructure its $1.2 billion debt before the end of September. Howladar says he expects this year to “mark the conclusion of a second round of more sustainable restructurings or final defaults, before some mild asset-quality improvement by mid 2013”.

For now, however, these debts continue to weigh down Dubai’s economic prospects and its banking sector in particular. It is hard for institutions to make new loans when the fate of so much existing debt is still unclear.

“The debt owed by the government-related entities is a very large part of the banks’ portfolios,” says Hirsh. “The banks need to increase provisions and lend less to counteract any kind of default. They have to keep on provisioning for it until it is all dealt with, which means there is less money for credit.”

But other parts of the Dubai economy do appear to have recovered. Many critical areas, such as transport, logistics and tourism, are showing healthy signs of life.

In the first half of this year Dubai International airport recorded the busiest six months in its history, with 27.9 million passengers passing through the airport – a rise of almost 14% compared to the same period last year. Cargo traffic at the Dubai World Central airport, meanwhile, was up 153% to 56,271 tonnes in the second quarter of 2012 compared to the same period in 2011.

Many of the people flying in are simply connecting with another flight, but the number staying in Dubai has also increased, with hotel occupancy levels rising to 83% for the first half of this year, compared to 79% in the first six months of 2011.

Dubai’s real estate market is also showing signs of recovery. According to international property consultants Jones Lang LaSalle, rental prices in the emirate are rising for both residential property and retail outlets, although the cost of office space remains weak. Sale prices are also picking up, most notably for villas.

Prices in that segment of the market have been rising since late 2011 and in the first half of this year were up 21% year-on-year.

The real estate market in Abu Dhabi is far weaker – a consequence of so much building activity in the past few years. According to Jones Lang LaSalle, the vacancy rate for office space is running at 32%, although it estimates that rents are now bottoming out for residential and office units.

THE BIGGER PICTURE

What all this adds up to is a more sluggish economy than in some other markets in the region, but also perhaps a more sustainable one for the UAE. Economists are predicting a rise in the country’s GDP of between 2% and 4% this year. Given the global climate, that is relatively healthy, although there are some nearby economies growing far more rapidly. Qatar and Saudi Arabia, for example, are both expected to expand by 6% this year, according to the IMF.

“I’m much more comfortable with the UAE’s economic story now than I was two or three years ago,” says Williams. “The economy is expanding, the currency is solid and public finances are very stable. But the domestic story is certainly much more muted than it was pre-crisis and lags behind the kind of expansion that is happening in other parts of the region.”

Even if Abu Dhabi’s claim that its economy has recovered is true, the same cannot be said for the country as a whole.

Indeed no one can afford to be complacent. The UAE Purchasing Managers Index compiled by HSBC, which measures activity in the non-oil economy, showed a sharp drop in new export orders in July. The figures recovered in August, but it nonetheless highlighted the exposure the UAE has to the fortunes of the wider global economy. These days the UAE economy is more exposed to Asia than to Europe or the US, but any sustained slowdown in Asia could have damaging consequences and could yet send Dubai’s recovery off-course.