The Global Financial Crisis and the Impact on the Dubai Abu Dhabi Relationship

Contents

2. Introduction. 3
3. Literature Review. 4
4. Methodology. 8

3.1 The PESTEL Framework. 8

3.2  Porter’s Five Force. 9

3.3. Porter’s Diamond. 10

3.4. OLI (Ownership, Location, Internalization) 10

5. Data Presentation, Analysis and Discussion. 10

4.1 Presentation and Analysis. 10

4.1.1 Overview of Dubai’s Real Estate and Construction Sector. 10

4.1.2 Overview of Abu Dhabi’s Oil Sector. 13

4.2. Discussion. 14

6. Conclusions and Recommendations. 17

1.    Introduction

The global financial crisis began in the United States in mid-2007 following a sharp decline in house prices which landed banks and other financial institutions into a difficult situation as the values of the loans granted by these financial institutions became substantially higher than the values of the securities that backed these loans. Given that the global economy has become increasingly integrated in recent years, the crisis quickly spread to other parts of the world and virtually every country has witnessed a negative impact on its economy as a result of the crisis. Emerging market economies for example depend on the U.S for a lot of things including inward foreign direct investment and supply of raw materials. The United Arab Emirates (UAE) is a principal supplier of oil and gas products to the rest of the world and to the U.S in particular. This region may have suffered a pinch of the crisis as it is expected that foreign direct investment from the U.S and other major countries such as the UK which have also suffered from the crisis is expected to have witnessed a decline. Moreover, the supply of oil and gas products to the U.S, the Euro Area and the UK is expected to have witnessed a decline. Both Dubai and Abu Dhabi are members of the UAE. Dubai is classified as one of the most popular cities of the seven emirates. Located along the Southern Gulf of the Arabian Peninsula, Dubai is often referred to as Dubai City as a means of differentiating it from the emirates. Real estate, trade and financial services remain a principal source of revenue to the emirates with oil and gas revenues contributing less than 6% of Dubai’s $37billion economy in 2005. (ArabianBusiness.com, 2009). Construction and real estate contributed 22.6% to the economy in 2005 prior to the construction boom. Oil revenue in Dubai contributed only 5.1% to its GDP in 2006 representing a 5.5% decline from the 2005 figure of 5.4%. The entire region’s non-oil GDP grew by 21% in 2006 with Dubai contributing 43% of the country’s entire non-oil GDP and 28% of its entire GDP. (AME Info FZ LLC, 2009).

Dubai’s oil reserves are said to have witnessed a declined over the last decade and it is estimated that its reserves will be exhausted over the next two decades. Main oil fields in Dubai are offshore and they include Fateh, Southwest Fateh and two smaller fields, Falah and Rashid. (http://www.uae.gov.ae/Government/oil_gas.htm#Dubai). The only onshore oil deposit in Dubai is the Margham field and the main operator is the Dubai Petroleum Company (DPC). Dubai accounts for 2 percent of the region’s oil and gas reserves.

On the other hand, Abu Dhabi is the region’s largest oil producer. (http://www.uae.gov.ae/Government/oil_gas.htm#Dubai). The city controls more than 85 percent of the region’s total oil output capacity, as well as more than 90 percent of its crude reserves. Abu Dhabi is also characterised by a number of offshore oil fields including Umm Shaif, Lower Zakum, Upper Zakum, Al Bunduq and Abu al-Bukhoosh. In addition, it has also got a significant number of onshore fields such as Asab, Bab, Bu Hasa, Sahil and Shah. (http://www.uae.gov.ae/Government/oil_gas.htm#Dubai)

In addition to the oil reserves, Abu Dhabi accounts for more than 92 percent of the Emirates’ gas reserves. (http://www.uae.gov.ae/Government/oil_gas.htm#Dubai).

One can observe that given Abu Dhabi and Dubai’s contribution to the Emirates’ economic standing, it is important for these two regions to work in partnership to ensure the strength of the economic position of the UAE.

The objective of this paper is to provide an analysis of how the relationship between the two cities Abu Dhabi may change as a result of the recent global financial crisis. To achieve this objective, the paper is going to employ a number of analytical tools including the PESTEL Framework, Porter’s five forces, Porter’s Diamond, and OLI (Ownership, Location Internationalisation). The remainder of the paper is organised as follows: Section 2 provides a literature review; section 3 provides a discussion of the methodology as well as the parameters that will be employed in the analysis; section 4 presents the data and analysis; and section 5 presents some conclusions and recommendations.

2.    Literature Review.

The literature will focus more on the global financial crisis, the causes, consequences and remedies. A financial crisis is said to exist when a group of financial indicators start deteriorating. These include indicators like short-term interest rates, asset prices such as stock prices, property prices, as well as bond prices. (Black 2002). A financial crisis is often accompanied by failures of financial institutions. (Black 2002).  Financial crises have now become a long subject of interest in economics and finance and a lot of research is now being done to see how they can be better understood and resolved. (Black 2002). A distinction can be made between a financial crisis and a financial boom or bubble. (Black 2002). On the one hand, a bubble or boom involves a shift of wealth out of money holdings into real and long-term financial assets such as stocks, bonds, convertible debt, warrants and sustained on the basis of expectations of capital gains. (Black 2002). On the contrary, a financial crisis is characterised by the liquidation of such assets into money, based on expectations of a decline in their prices. (Black 2002). These two events often experience a period of “distress” in which the investors begin to understand that capital gains can no longer be possible but during which the anticipation of the imminent capital losses is yet to be formed. (Black 2002). Financial distress occurs when promises to creditors are broken or honoured with difficulty. (Myers and Brealey, 2002). The likelihood that financial distress will lead to a financial crisis is determined by a number of factors including the speed of the reversal or expectations, the erosion of confidence produced by spectacular financial failures, and whether the financial community believes that in extreme conditions, the domestic lender of last resort (the Central Bank) will play a rescuing role. For example, President George Bush announced a $150billion financial package to help mitigate the sub-prime mortgage crisis, while the Bank of England and the European Central Bank carried out similar measures in Europe to bail out major banks from the deteriorating effects of the sub-prime crisis. According to Myers and Brealey (2002: p. 497) financial distress may sometimes lead to bankruptcy while in some cases it may only reflect a “skating on thin ice”. In addition to financial crises are the international financial crises which occur when foreign investors dump assets denominated in a country’s domestic currency in exchange for assets denominated in other currencies believed to be stronger. Such cases lead to high risk of contagion (the possibility of spreading the crisis from one country to another) as investors become risk-averse and pull money out of economies that may be economically sound.

Demyanyk and Hemert (2008) using loan level data analysed the quality of subprime mortgage loans by adjusting their performance for differences in borrower characteristics, loan characteristics, and house price appreciation since origination. They provide evidence that the quality of loans deteriorated for six consecutive years before the crisis and that securitizers were, to some extent, aware of it. In addition, Demyanyk and Hemert (2008) show that the rise and fall of the subprime mortgage market follows a classic lending boom-burst scenario, in which unsustainable growth leads to the collapse of the market. They conclude that the problem could have been detected long before the crisis but they were masked by high house price appreciation. Owing to the onset of the mortgage crises, bank regulators have suggested that the old definition of bank may be too narrow. (Dew, 2008). Dew (2008) developed this proposition through the identification of a measure of differences among global financial institutions that drives a bank-specific risk priced by bank shareholders. Dew (2008) provides evidence that the most profitable banks are also the least regulated. However, Dew (2008) also find that the least profitable regulated banks were the most exposed to the hazards related to the first sub-prime mortgage crisis. As a result, Dew (2007) concludes that the risk based by the sub-prime mortgage crises was different from the rent-generating risk associated with profitable banking. Davidson (2008) sought to determine whether Minsky’s theory could explain the recent market instability[1]. Given that that the specific preconditions for a financial crisis had not occurred prior to the subprime crises, Davidson (2008) argues that the recent financial market instability is not a “Minsky moment”. Rather the recent financial crises is an insolvency problem of large underwriters caused by their attempt to securitize (make liquid) mortgages (where the latter are normally illiquid assets). (Davidson, 2008). Davidson (2008) suggests that this problem could be resolved by direct infusions of new capital into these institutions and/or the phasing out of nonperforming loans from their books, that is, an easy monetary policy is the solution. Taylor (2007) studies the crises from a monetary policy perspective. Taking a look at the past century in the United States, Taylor (2007) identifies a secular change in the housing cycle. In particular, Taylor notes that the volatility or average size of the fluctuations in residential construction declined. Taylor (2007) attributes this decline in volatility to an improved monetary policy, especially the Great Moderation of the volatility of real GDP and inflation which many researchers have attributed to monetary policy.  An article “The Global Financial Crisis of 2007–20??” written by Jones (2009) provides a macroeconomic analysis of the recent global financial crisis. The article provides a discussion of the causes of the crisis, the status of the crisis, as well as future prospects. The article employs a number of methods to achieve its objective include an examination of the balance sheets of banks, the Federal Reserve, and households. The article also provides a review of house price data over the period 1990 to 2009 as well as other economic indicators in the United States of America. In addition some macroeconomic models are employed in the analysis. Jones (2009) concludes that the global financial crisis will make a mark in history as being one of the largest recessions in the U.S and the world as a whole since the Great Depression. Jones (2009) further suggests that macroeconomic performance over the next five years is bleak. Another article by Lloyds TSB (2009) titled “Economic Research Analysis” examines a number of economic indicators including the CPI, the interest rates, growth and inflation rates. The article suggests that the global financial crisis can be mitigated through quantitative easing. That is the Bank of England needs to reduce interest rates so as to increase the supply of money. Moreover, the article suggests that The Bank of England and the Government need to do something the get banks to start lending again so as to boost aggregate demand. By so doing, Lloyds TSB (2009) anticipates that there will be a multiplier effect on the economy which will in turn lead to a reversal of the downturn to an upturn. The article also notes that more bad news lies ahead. (Lloyds TSB, 2009). Wieting (2009) in another paper titled “Outlook 2009: Deep Recession, Stabilisation” provides an outlook for 2009. The article provides an overview of the crisis in the U.S and the progress made in 2009. The article observes that the economy is still witnessing a downturn. Looking at indicators such as real GDP, unemployment the article observes that real GDP is still very low and unemployment is at its highest levels since the 1970s. The article also suggests that people will have a lot to learn from the crisis. For example, people will avoid trusting their funds to managers who act as their own “custodians”. (Wieting, 2009). Companies have witnessed an increase in the cost of raising funds. Even businesses that are profitable are likely not to get funding. The overall impact is a decline in aggregate demand which translates into a decrease in output and an increase in the unemployment rate. (Wieting, 2009). Wieting (2009) notes that the year 2009 is going to be a very challenging one. However, Wieting (2009) is confident that the recession will be over like other recessions did. Another paper titled “The Aftermath of Financial Crises” by Reinhart and Rogoff (2008) begins by comparing the crisis to the earlier big five crisis in the developed world including Spain 1992, Norway 1987, Sweden 1991 and Japan 1992. Reinhart and Rogoff (2008) argue that the recent global crisis are far more precarious than the aforementioned crisis. Reinhart and Rogoff (2008) note three interesting features during an economic crisis which are common across most of the earlier crises as well as the recent global financial crisis. Firstly, asset prices witness deep and prolonged drops, secondly, the aftermath of the crisis are usually associated with declines in real output and employment and thirdly, government debt witnesses an increase in value. (Reinhart and Rogoff, 2008)  Reinhart and Rogoff (2008) conclude that because the recent crisis is of a global nature, it will be difficult for countries to buy their way out through conventional means such as improving exports and borrowing from abroad. This is because every body is suffering from the same illness. DBS Research (2008) suggests that the Fed has come to the end of the road. With interest rates at baselines the only option now is quantitative easing which refers to the “outright purchase of large quantities of assets”. (DBS Research, 2008). The article reviews the Fed’s decision to purchase troubled assets and then sell risk-free treasury bonds as a means of mitigating the crisis. There is one question as to whether this strategy is going to work. The Fed also intends to employ qualitative easing aimed at reducing the spread between various interest rates and the risk-free rate. In effect, the Fed intends to clean up the balance sheets of banks by buying toxic assets and selling them risk-free securities. By so doing their credit rating will increase. Whether this policy will work depends on whether the default risk of the companies concerned will actually reduce. (DBS Research, 2008). Another article titled “Fiscal Policy for the Crisis” by Spilimbergo et al. (2009) which expresses the IMF’s position looks at how fiscal policy can be used to reduce the effects of the crises. The article suggests the need for two main sets of measures: the first measure aimed at repairing the financial system and the second measure aimed at restoring full employment. (Spilimbergo et al., 2009). More attention is focused on restoring confidence and improving full employment through an increase in aggregate demand. Spilimbergo et al. (2009) suggest that monetary policy has limited room for the current crisis. The crisis rather requires a large fiscal package which must be timely, lasting, diversified, contingent collective and sustainable. The article recommends an increase in spending combined with targeted tax cuts and transfers as these are likely to have the highest multipliers. This is as opposed to general tax cuts and subsidies, either for consumers or for firms, which are likely to have lower multipliers. (Spilimbergo et al., 2009). Berner and Fels (2008) suggest that the crisis will continue in 2009 with serious negative effects on global growth and inflation prognosis and deflation is expected to be a bigger issue than inflation. (Berner and Fels, 2008). In reaching their conclusion Berner and Fels (2008) conducted a global forecast of economic trends across the different regions and countries of the world. Different levels of risks were reviewed across different parts of the world including the USA, the UK, Africa, Europe and Asia. Berner and Fels (2008) note that the crisis may be difficult to mitigate but given the commitment of policy makers to do what ever it takes to end the crisis, recovery is likely. The main problem is when the crisis will actually come to an end. They suggest that credit markets are gaining some improvement but at a low rate. Thus recovery is also going to be very slow. The best forecast according to Bener and Fels (2008) is 2010. Since the crisis began much attention has been focused on studying its effects on Western European countries such the U.S.A, the U.K and the Euro area with little or no attention paid to emerging markets and to the UAE in particular. This paper is one of the first papers to examine the effects of the crisis in the UAE and the effects of the crisis on the relationship between Dubai and Abu Dhabi.

3.    Methodology

Quantitative and qualitative methods are two common approaches to research. The qualitative approach implies an emphasis on the qualities of entities and the processes that are not experimentally examined or measured in terms of quantities, amounts, intensity or frequency. (Saunders et al., 2000). Quantitative methods on the other hand emphasise the measurement and analysis of causal and effect relationships between variables, not processes. (Saunders et al., 2000). This study adopts both approaches. The study employs a number of frameworks including the PESTEL framework, Porter’s Five Force Analysis,  Porter’s Diamond, and the OLI to study how the crisis have affected Dubai and how the crisis may affect the relationship between Dubai and Abu Dhabi. In conducting the analysis, attention will be focused on Dubai’s real estate sector and on Abu Dhabi’s oil and gas sector. Before moving on with the discussion, it is important to provide an overview of each of the frameworks for analysis.

3.1 The PESTEL Framework.

The PESTEL framework is used in analysing the factors that affect an organisation’s macroeconomic environment. (Gillespie, 2007). It is used in analysing factors that will affect the decisions made by the managers of an organisation. (Gillespie, 2007). According to the framework, the firm’s decisions are influenced by a number of external factors including Political factors, which include for example government policies; economic factors such as changes in interest rates, exchange rates, inflation rates, fluctuations in aggregate demand etc; social factors that can affect the organisation’s demand trends, as well as the availability and willingness of individuals to work; technological factors such as the creation of new technologies that in turn create the need for new product development and the adoption of new manufacturing processes; environmental factors such as climate and weather changes; and legal factors such a new legislation governing the organisation’s operations. (Gillespie, 2007). The above factors continually reshape the decisions that management makes on a day-to-day basis. Employing the PESTEL framework enables an organisation to anticipate changes in its macroeconomic environment and make decisions that adapt the organisation to these changes.

3.2  Porter’s Five Forces.

Porter’s five forces is a competitive model that describes the different competitive forces that influence an organisation. These include industry rivalry, threat of substitute products/services, buyer power, supplier power and barriers to entry. (Porter, 1985). The model is as shown in figure 1 below:

Figure 1: Diagram of Porter’s 5 Forces

Source: http://www.quickmba.com/strategy/porter.shtml; Porter (1985)

3.3. Porter’s Diamond

Porter’s diamond describes the four attributes of national competitive advantage. These include : (i) Factor conditions including natural resources, labour, capital, and infrastructure; (ii) demand conditions, which according to Porter firms tend to produce sophisticated products to satisfy the demand for high quality products when the market is sophisticated as this tends to increase competitiveness; (iii) Related and supportive industries, which according to Porter, the more related and supportive the industries, the higher is the degree of competitiveness and the more sophisticated and higher is the quality of the products produced; and (iv) Firm strategy, structure and rivalry. (http://pacific.commerce.ubc.ca/ruckman/competitiveadvofnations.htm)

3.4. OLI (Ownership, Location, Internalization)

According to the OLI Framework, firms select their entry mode by taking into consideration three main factors: (i) ownership advantages (including control, as well as the “costs and benefits of inter-firm relationships and transactions”); (ii) location advantages (“resource commitments and requirements, and the availability and cost of resources”); and (iii) internalisation advantages (“the ability to reduce transaction and coordination costs and prevent opportunistic exploitation of tacit knowledge”). (Tallman, 2007: 124-125).

4.    Data Presentation, Analysis and Discussion

4.1 Presentation and Analysis

4.1.1 Overview of Dubai’s Real Estate and Construction Sector.

The construction sector in the Arab Gulf Cooperation Council (GCC) countries has been witnessing a boom. The region has approximately $800 billion active projects growing at a rate of $10billion a week. The construction market was estimated at approximately $1trillion as at 2007. (Abdelsalam and Gad, 2008). According to the Middle East Economic Digest (MEED) the centre of the Gulf region is expected to invest approximately $200billion mainly in residential, tourism, transport and utility projects by 2025. (Glenigan, 2007 cited in Abdelsalam and Gad, 2008). The GCC is currently witnessing the construction of five million residential units which includes more that 1,400 new high-profile developments collectively valued at above $.66 trillion. (Abdelsalam and Gad, 2008). The Emirate of Dubai in the UAE has one of the leading construction sectors in the GCC. The construction sector for example contributed approximately 10% to the growth of the UAE’s GDP in 2005. (Abdelsalam and Gad, 2008). It has also been labelled “the biggest and fastest growing construction markets in the world” . The sector is sector is the principal driver of the UAE’s growth and it contributes 8% of the country’s gross domestic product and represents 11% of non-oil-related GDP in 2005. (Abdelsalam and Gad, 2008). According to the Dubai government, the Dubai construction sector is very instrumental in driving growth in the country. The sector witnessed an increase of 23% during the period 2000 – 2004 representing a year on year growth rate of 5% per annum. The sector employed 304,983 workers in 2005 in construction projects in Dubai. (Abdelsalam and Gad, 2008). A distinguishing feature of Dubai’s construction sector is its ability to construct large-scale projects at very high standards, including the Emaar Marina Complex and Burj Dubai which is the tallest tower in the world. (Abdelsalam and Gad, 2008). Despite this growth and development of the construction sector, the sector is beginning to witness a decline in productivity as a result of the recent global financial crisis. According to Global Property Guide (2009) more than half of construction projects worth about AED 1.1 trillion have either been halted or cancelled as a result of falling demand and market conditions. Global Property Guide (2009) reports that out of 59 projects, 8 projects have been cancelled and the remaining 51 have been placed on hold. Table 1 below is a list of a number of prominent projects that have either been cancelled or placed on hold as a result of the economic downturn. (Global Property Guide, 2009).

Table 1: Major UAE construction Projects cancelled or placed on hold.

Source: Global Property Guide (2009). UAE’s housing market crash

http://www.globalpropertyguide.com/Middle-East/United-Arab-Emirates/Price-History

The Real Estate Sector is also witnessing significant declines as a result of the global financial crisis. Following a six-year boom, the housing market is reported to have crashed. (Global Property Guide, 2009). According to the property price index of Morgan Stanley, property prices dropped by 25% in the fourth quarter of 2004. The types of properties that were hard hit by the crisis include high-end apartments and villas which have witnessed a drop in prices of about 35 percent in the fourth quarter of 2008 as compared to the second quarter of 2008. (Global Property Guide, 2009 citing Morgan Stanley Property Index). Downtown Burj Dubai witnessed a decline in apartment prices by 28% quarter on quarter to AED2,700 (US$736) per square feet in the fourth quarter of 2008. (Global Investment House, cited in Global Property Guide, 2008). Dubai Marina witnessed a decline of 18% in the fourth quarter of 2008 to AED1,800 (US$490) per square feet whereas Palm Jumeirah has witnessed a decline in the value of villas and apartments by as much as 60% within a handful of months. (Global Property Guide, 2009). Despite these issues, all hope is not lost for low-end properties, which have demonstrated some resilience to the ravages of the global financial crisis. These properties located mainly in Dubailand, Dubai Sports City and Jumeirah Village are reported to have witnessed an increase in prices since January 2008. (Colliers International cited in Global Property Guide, 2009). The poor performance of the Real Estate Sector has been attributed to the attitude of home buyers who have embarked on a “wait-and-see” approach. This approach is said to have culminated to a decline in the demand for properties and several developers have either delayed or cancelled construction projects as a result. (Global Property Guide, 2009). Increasing interest rates imposed by banks and other mortgaged providers have led to a decline in loan to value (LTV) ratios which have also led to a deteriorating real estate and construction sector. Figure 2 below shows the house price changes for the different types of houses. It can be observed that the most significantly affected houses include Apartments and Villas while Townhouses have maintained a somewhat stable price change over the period under study. (quarter 1 of 2007 to quarter 4 of 2008). The figure also shows that the overall price change witnessed a slight decline over the first 2 quarters of 2008 and then an increase from the 2^nd quarter. The highest growth was in the 3^rd quarter of 2007 when the graph to a downward trend right up to the last quarter of 2008.

Figure 2. Quarter House Price Change

Source: Source: Global Property Guide (2009). UAE’s housing market crash

http://www.globalpropertyguide.com/Middle-East/United-Arab-Emirates/Price-History

Figure 3 below shows the house price index over the period 2007 and 2008, as well as the growth in the index over the period 2007 to 2008. It can be observed that the index witnessed an upward trend over the period 2007 to the third quarter of 2008 with the trend increasing at a higher rate during the 3^rd quarter of 2007 and the 2^nd quarter of 2008.

Figure 3: Dubai House price changes and House Price Index.

Source: Source: Global Property Guide (2009). UAE’s housing market crash

http://www.globalpropertyguide.com/Middle-East/United-Arab-Emirates/Price-History

4.1.2 Overview of Abu Dhabi’s Oil Sector.

As earlier mentioned in the introduction, Abu Dhabi controls more than 85% of the UAE’s oil and gas reserves. (Butt, Undated; http://www.uae.gov.ae/Government/oil_gas.htm). Oil exports in Abu Dhabi began in the late 1950s and early 1960s. (Butt, Undated). Abu Dhabi produced approximately 14,200 barrels of oil per day during the first year of production. Oil production in Abu Dhabi was initiated by the Petroleum Development Company a subsidiary of the Iraq Petroleum Company (IPC) which was itself a joint venture of several major oil giants including British Petroleum (BP), Shell, Total and Exxon Mobil. (Butt, Undated). The Petroleum Development Company was awarded a 75-year concession for all onshore oil in Abu Dhabi. (Butt, Undated). The D’Arcy Oil Company acquired Abu Dhabi’s offshore concession. Two years later, the concession was passed over to Abu Dhabi Marine Areas (ADMA) a subsidiary of BP and Compagnie Française des Petrole (CFP) – the present day TOTAL. (Butt, Undated). Petroleum Development Company discovered the onshore Bab oilfield in 1958, as well as the Bu Hasa field in 1962. (Butt, Undated).  In 1962, the company’s name was changed to Abu Dhabi Petroleum Company (ADPC). ADMA also achieved success in the discovery of offshore oil fields as well as the production of oil itself. (Butt, Undated). In 1965, the company discovered the Zakum offshore oilfield and began exports two years later. ADMA owned only a portion (lower Zadkum) of the later oil field. The Zakum Development Company (ZADCO) a subsidiary of the Abu Dhabi National Oil Company (ADNOC) owned 88% of the field while the Japanese Oil Development Company (JADOC) owned the remaining 12 percent of the upper part of the Zadkum oilfield. (Butt, Undated). A series of other oil companies and subsidiaries were formed and were granted a number of concessions in the on- and offshore oilfields of Abu Dhabi.

In 1971, following the end of the “Trucial States” treaties with Britain, as well as the formation of the UAE management and operation of the oil and gas industry was transferred to the ADNOC. (Butt, Undated). Following the later development, ADNOC acquired a 25 per cent stake in both ADPC and ADMA. (Butt, Undated).  BP also sold a 45 per cent stake in ADMA to JODCO and ADNOC’s stake in ADPC and ADMA was increased to 60 per cent. (Butt, Undated).

Oil policy in Abu Dhabi today is under the supervision of ADNOC, which receives guidance from the Supreme Petroleum Council. (http://www.uae.gov.ae/Government/oil_gas.htm). The Supreme Petroleum Council was created in 1988 and is Headed by Crown Prince of Abu Dhabi and Deputy Supreme Commander of the UAE Armed Forces Sheikh Khalifa bin Zayed Al Nahyan. (Butt, Undated). The Supreme Petroleum Council is responsible for managing and controlling ADNOC. ADNOC owns a series of subsidiaries across the UAE and abroad. The subsidiaries specialise in upstream and downstream oil and gas operations, and in the distribution, shipping and all other aspects of the hydrocarbon industry. (Butt, Undated). ADNOC has a majority stake in a series of other companies including ADNOC for Distribution (ADNOC-FOD), Abu Dhabi Drilling Chemicals and Products (ADDCAP), Abu Dhabi Gas Industries Company (GASCO), Abu Dhabi Gas Liquefaction Company (ADGAS), Abu Dhabi National Tanker Company (ADNATCO), Abu Dhabi Petroleum Ports Operating Company (ADPPOC), the Liquefied Gas Shipping Company Ltd (LGSC), the National Drilling Company (NDC), the National Marine Services Company (NMS), Natural Gas Shipping Company (NGSCO), National Petroleum Construction Company Ltd (NPCC), the Ruwais Fertilizers Industries Ltd (FERTIL), the Abu Dhabi Polymers Company Ltd (Borouge), the Abu Dhabi Oil Refining Company (TAKREER) and the Abu Dhabi Gas Company (ATHEER). (Butt, Undated). Abu Dhabi produces approximately 2million barrels of oil a day. (http://www.uae.gov.ae/Government/oil_gas.htm).

4.2. Discussion

It can be observed from the foregoing analysis and earlier discussions that oil and gas production remain the principal economic activity of Abu Dhabi whereas the principal activities in Dubai include real estate, construction and financial services. An interesting finding from above is that there are significant differences in the ownership of assets in the two emirates. Dubai is characterised by a high degree of foreign ownership as opposed to Abu Dhabi were the government has direct control over its oil and gas reserves as well as the production of oil in the region. Dubai depended so much on foreign direct investment from the U.S.A, the U.K and the Euro Area. Moreover, investments in the real estate sector were done mainly by foreign investors from Russia and other major European countries. This high dependence on FDI as well as the ownership structure is the reason behind Dubai’s susceptibility to the global financial crisis. As liquidity dried up in the U.S, Euro Area and the U.K, the emirate witnessed a decline in FDI as well as a decline in the demand for real estate properties and construction projects.

We can apply the PESTEL framework to analyse the situation of Dubai. The main macroeconomic factors that has impacted Dubai are economic factors such as fluctuations in aggregate demand and changes in interest rates. The emirate failed to anticipate that property prices may be subject to declines one day and as such did not make decisions to incorporate these changes. Forecasting these type of changes was important because it could have helped the emirate to devise strategies to hedge against falling prices. On the contrary, Abu Dhabi remains very strong because of its less reliance on FDI. Abu Dhabi is rather a huge exporter of oil and gas products and Abu Dhabi’s oil and gas reserves are anticipated to last for about 150 years. With sound fiscal management applied to oil revenue, Abu Dhabi is likely to continue at a very high pace of growth. There is a common theory that oil rich countries tend to suffer from underdevelopment as a result of a phenomenon referred to as the “Dutch Disease”. The Dutch disease is a phenomenon whereby the discovery of a natural resource leads to a decline in output growth. (Lam and Wantchekon, 2002). The UAE including Dubai and Abu Dhabi Appear to have managed their oil revenues properly and have not suffered from the resource curse. Looking at Dubai’s situation from the perspective of Porter’s five forces, we can see that the industry was too open to rivalry from competitors. There were no significant barriers to entry into its industries. Given that most of the investments were from abroad, the emirate suddenly suffered a decline as the economic situation deteriorated substantially in its source countries.

From the Porter’s diamond perspective, Dubai seems to be suffering from a lack of sufficient resources such as labour and capital. For example, a study suggests that the deficient educational system and the large share of unskilled foreign workers in the Gulf countries are serious impediments to a successful implementation of the strategies of these countries to reduce their dependence on foreign technologies and to restructure their economies in order to make them less dependent on oil exports. Dubai, like many of the countries in the Gulf Corporation, is characterised by a significant chunk of unskilled foreign labour. The educational system is deficient as well as the educational facilities, which leads to a poor provision of training, low skill levels, serious skills mismatch and deficient transfer of knowledge. These inadequate facilities and the lack of incentives to improve them also lead to low R&D efforts to promote local technologies and hamper a restructuring of the economy. From the OLI perspective, the emirate does not have control over most of its strategic industries as it depends a lot on foreign ownership and control.

The above issues, and especially the global financial crisis, are expected to have an impact on the relationship between Dubai and Abu Dhabi.

According to STRATFOR (2009) Dubai is the one of the Middle Eastern economies that has witnessed significant problems from the global financial crisis. It is anticipated that Dubai is likely going to need help from the more powerful, oil-rich Abu Dhabi. The implication here is that Dubai will become more of a dependent on Abu Dhabi than a partner. (STRATFOR, 2009). Dubai use to contribute a significant portion of GDP from its small percentage of oil revenue as well as its revenues from non-oil sources such as the real estate and construction sectors. Abu Dhabi also contributes significantly to the growth of the UAE through its oil revenues. Given the present condition, it is evident that Dubai will be unable to meet up with it growth prospects considering declines in FDI as opposed to Abu Dhabi, which still enjoys a booming oil sector. Abu Dhabi is more likely going to assume a more dominant position above Dubai among the seven emirates.

Abu Dhabi has a massive oil wealth and the largest sovereign wealth fund (SWF). Before we continue with the discussion, it is important to provide a brief description of what SWFs are. These are funds that hold and manage foreign assets and are placed under the direct control of sovereign governments. Sovereign wealth funds currently have assets under management of approximately $1.5trillion to $2.5trillion. (FRBSF ECONOMIC LETTER, 2007).  It is estimated that over the next decade sovereign wealth funds’ asset under management will be approximately $15trillion which is higher than the current global stock of foreign exchange reserves of approximately $5trillion. (Jen, 2007). There is an increase debate as to whether sovereign wealth funds help in stabilising financial markets or whether they destabilise these markets. Moreover, there are questions as to whether the policies of sovereign wealth funds are politically or economically motivated. (FRBSF ECONOMIC LETTER, 2007). The presence of the massive oil wealth and the largest SWF explains the reason behind Abu Dhabi’s powerful position among the Emirates. Dubai’s second place is due to its status as the financial centre of the Persian Gulf. Abu Dhabi and Dubai are therefore, the first and second major powers in the UAE. If Dubai has to accept support from Abu Dhabi, then Abu Dhabi may gain even greater control over the UAE. The current president of the UAE is from Abu Dhabi. The UAE has maintained domestic stability as well as a major international financial player as a result of the power sharing arrangement between the al-Nahyans and the al-Maktoums. (STRATFOR, 2009).

This position has been maintained right up to the period of the recent global financial crisis. Although Abu Dhabi has not been completely immune to the crisis, it has not been hard hit like the case of Dubai. Dubai has been hard hit as a result of its exposure to the international markets and in particular as a result of its real estate bubble which crashed when the global credit that has been the source of funding for its financial system became exhausted. (STRATFOR, 2009). The impact of the financial crisis on Dubai became clearer when Moody’s – International Credit Rating agency announced that it would be downgrading the ratings of six of Dubai’s largest state-owned firms, including global port operator Dubai Ports World and Emaar Properties, the developer responsible for the partly-constructed world’s tallest building, located in the city’s centre; Utility operator Dubai Electricity and Water Authority, conglomerate Dubai Holding Commercial Operations Group, industrial park and trade zone operator Jebel Ali Free Zone and Dubai International Financial Center Investments, a branch of Dubai’s 4-year-old international financial centre, also are in line for downgrades. (STRATFOR, 2009).

Although Dubai is said to currently own $90billion in assets, it is difficult to determine whether these assets can easily be converted into hard cash. Firms’ liquidity positions in Dubai are therefore doubtful. Despite these issues Dubai is not willing to accept assistance from Abu Dhabi as a result of the larger political challenges associated with accepting cash from Abu Dhabi. Dubai seems to be willing to accept assistance from Abu Dhabi, but its main concern is to ensure that the financial assistance will not jeopardise its position among the UAE. (STRATFOR, 2009). Dubai rather prefers the decision for a bailout package to come from the State and not from Abu Dhabi as a package coming directly from Abu Dhabi would be greater control over Dubai by Abu Dhabi. (STRATFOR, 2009). Financial management by banks in Dubai would be greatly influenced by Abu Dhabi and this might also jeopardise Dubai’s position as the financial centre of the Persian Gulf.

Even so, Dubai may be forced to accept a financial package from Abu Dhabi because it appears Abu Dhabi is the only member in the UAE that can come to its rescue. This means that if the central government fails to arrange a plan, the only option for Dubai would be to accept direct assistance from Abu Dhabi irrespective of the negative covenants that may be incorporated into the agreement. (STRATFOR, 2009). Moreover, each emirate in the UAE has greater autonomy over its activities and thus, it may be difficult for the national government to arrange a deal between Abu Dhabi and Dubai. (STRATFOR, 2009). Abu Dhabi is therefore likely to end up having a major control over Abu Dhabi depending on the agreement. On the other hand, Abu Dhabi too may be willing to maintain a balance in the federation and thus decide to provide Dubai with a more generous package.

5.    Conclusions and Recommendations.

This paper has analysed the impact of the financial crisis on Dubai as well as how the financial crisis may affect the relationship between Abu Dhabi and Dubai. The main findings that can be drawn from the study are that Abu Dhabi is the oil giant in the UAE. It also has one of the largest sovereign funds in the world. Dubai, on the other hand, is dependent on real estate, construction and financial services as its main source of GDP. The two emirates are the main contributors to GDP growth in the UAE. Abu Dhabi was not significantly affected by the financial crisis but Dubai is said to have been affected because of its exposure to the West. A situation has now been created where Dubai is likely to seek financial assistance from Abu Dhabi. However, Dubai is interested in maintaining its sovereignty in the emirates and thus feels threatened that accepting financial assistance from Abu Dhabi may increase Abu Dhabi’s influence in the UAE. Despite this prevalent feeling, it is also possible that Abu Dhabi may not be willing to take over control of the region. Abu Dhabi may be as well interested in defending the common interest of the UAE, and thus may not include negative covenants in a financial package to Dubai. Another interesting finding is that Dubai has a lot of unskilled immigrant workers. It is necessary therefore for Dubai to improve on its educational system, ensure that people train for skills that are required, and ensure that people are matched to jobs according to their skills if it is to thrive economically in future.

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[1] Minsky’s theory argues that some preconditions are necessary for financial crises to occur. (Davidson, 2008). A theory was developed by Hyman Minsky (1986, 1992) which argued that in the normal course of a business cycle upswing, financing of new investments followed specific path from a conservative financing operation (hedge financing) towards more fragile financing (speculative and ponzi financing) of new projects. Therefore “over the course of any expansion, the economy moves from hedge to speculative to ponzi financing”. According to Minsky (1986, 1992) cited by Davidson (2008) this is a necessary precondition for an unstable financial system.