This isn’t my article, but it’s an insightful analysis of the state of sovereign debt – including the seismic shift of high debt ratios from emerging to developed nations.

Many metrics speak to the generalised nature of the disruption to public finances. My favourite comes from Willem Buiter, Citi’s chief economist. More than 40 per cent of global GDP now resides in jurisdictions (overwhelmingly in the advanced economies) running fiscal deficits of 10 per cent of GDP or more. For much of the past 30 years, this fluctuated in the 0-5 per cent range and was dominated by emerging economies.

Second, the shock to public finances is undermining the analytical relevance of conventional classifications. Consider the old notion of a big divide between advanced and emerging economies. A growing number of the former now have significantly poorer economic and financial prospects, and greater vulnerabilities, than a growing number of the latter.

It’s now nations in the developed world that have surging deficits and total debt closing in on 100% of GDP, while emerging markets like Brazil are cleaning up their balance sheets thanks to competitive manufacturing businesses, commodity exports, and hawkish central banks.

While there are a lot of factors el-Erian leaves out, it’s a good overview of the future of sovereign debt.

Two weeks ago, I wrote about the debt crisis in Dubai. The markets convulsed on news that Dubai World, the huge state-owned corporation which runs many of Dubai’s buildings and investments, might delay or default on its debt payments.

This week creditors, and markets, were relieved to hear that Abu Dhabi, the richest emirate and heart of the federal government of the United Arab Emirates, would bail out Dubai World to the tune of $10 bn and enable Nakheel PJSC, the real estate subsidiary, to pay back a $4 bn sukuk or Islamic bond.

Just as I predicted, Dubai World was too big to fail. The fallout from a default would have poisoned markets across the region and probably irreparably damaged the U.A.E.’s already tainted reputation. Authorities described the Nakheel sukuk as a linchpin of the ongoing debt negotiations, saying ““The whole capital structure was a web of cross-defaults – the only way to calm this was to pay off the sukuk.”

Anyone who bought the sukuk maturing on December 14 when it hit rock bottom at about 48 cents on the dollar made a tidy sum today as it jumped as high as 109.5 on the dollar. Nakheel was widely expected to enter into bankruptcy.

Dubai has always been the public face of the emirate while Abu Dhabi has always held an outsize portion of the oil revenues and thus, the emirates’ wealth. No doubt there will be a degree of control re-asserted over Dubai, although it’s difficult to say what that will entail – more conservative fiscal, religious, and social policies and priorities seem likely.

The city-state also pledged to push for “transparency, good governance and market principles” and passed a new bankruptcy proceedings law.

For now, it looks like Dubai World’s fat has been pulled from the fire. We’ll see how things develop as more of the debts come due.

Dubai did its best to drop the bad news into the Bermuda Triangle of reporting – just hours before markets closed for Thanksgiving and the day before the beginning of the Islamic holiday Eid al-Adha. Dubai World, the investment vehicle and holding company owned by the government of Dubai, asked all of its creditors for an extension on debt issued by Dubai World and Nakheel, its real estate subsidiary.

Dubai World is inextricably tied to the government of Dubai; everything from ports to investment to real estate in Dubai falls under the umbrella of DW and its 90 subsidiaries. Sheikh Mohammed al-Maktoum established the company by decree in 2006 and remains the majority stakeholder in the privately-owned company. Obviously, the corporation falls under the category of “too big to fail,” notwithstanding bureaucratic protestations of the company’s independence from the government.

I’ve seen too big to fail before – I thought the same of Russia in 1998, and I paid the price accordingly. More recently, the United States government declared everything from AIG to General Motors too big to fail. If the US can’t let an ailing automaker sink in a recession, it’s difficult to believe that Dubai would let its flagship enterprise implode. Almost exactly a month ago, I wrote about Dubai’s excessive leverage and the foundation of debt on which it was built. Once again, secrecy is a major problem here. The government sends mixed signals on the degree of backing it will provide for DW – one day lending the Dubai banking system money, the next eschewing responsibility. There are many in Abu Dhabi, whose money comes mostly from petroleum and its derivatives, who would not mind seeing Dubai’s speculative excesses humbled. But the prosperity and reputation of the Emirates is inextricable from that of its most famous member.

Dubai’s biggest problem is simple – it is standing at the edge of a long, unsteady beam overlooking a precipice, and there is an increasingly small amount of real money at the other end holding it steady. There is nothing in Dubai that does not require a constant inflow of liquidity to maintain it; the ventilation systems of its high-rises regularly clog with sand, the city needs armies of underpaid laborers to keep it running, and many of the most ambitious developments, like “The World” and the Palm Jumeirah, are finding that building on artificial islands of sand was perhaps less secure than they had imagined. In many ways, Dubai’s physical reality reflects its fiscal condition – supported with more ambition than common sense.

The consequences of DW’s financial woes will echo into many corners of the world, from subcontinental slums to the marbled halls of European and British banks. India alone estimates that almost 340,000 migrant workers received employment in Dubai and all Indian workers in the city-state sent back $43.5 billion in remittances last year. Conditions are infamously atrocious in Emirate construction companies; many workers have had their passports confiscated, been forced to live in squalid compounds and received far less pay than promised. The article above details how one crew was fired by text message while travelling home for the Eid al-Adha holiday.

On the other side of the scale, Credit Suisse estimates that perhaps half of Dubai’s $80 billion in debt is held by European banks, with Standard Chartered and HSBC the most exposed. These holdings probably won’t be wiped out – Abu Dhabi may let its neighbor take a few hits around the face, but they won’t tolerate a knockout blow. Witness the government’s statement that it would bail out Dubai’s commitments  ”on a case-by-case basis.”

Dubai World’s website still sports the fate-tempting slogan “The Sun Never Sets on Dubai World.” Unfortunately, as history teaches, the sun did set on the British Empire.

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aVD2G_.A8UEc

Saleh and Turan are mentioned here based on our involvement with Russian debt in the past:

“A lot of debtors in 1998 said they’d never touch Russia again, but memory in the bond market is short, so they are all lining up,” said Saleh Daher, the managing director of Boston- based Turan Corp., which owns Russian debt dating back to the Soviet era. “There is a wall of cash looking for investment, in particular in the emerging-market bond world.”

We learned an expensive and painful lesson in 1998 about “too big to fail.” It’s interesting to see how quickly the ocean of liquidity can make people forget.

Is it time to write the dollar’s obituary?