Dubai's Disaster... And Ours

There are two important documents to which I would like to draw my reader’s attention to today: first, a Mises Institute article on the Austrian perspective to the collapse of the real estate bubble in Dubai; and second, some Deutsche Bank reports on the deficit, growth and inflation in India. There are many important ideas contained in these two, and these are related.

First, Dubai: The article by Fernando Ulrich tells the story very well, beginning with the peculiar economic conditions of the “boom,” when there are more and more buyers in line for everything on sale, from houses, to cars, to even jobs. Read this portion carefully, for it reveals the key Austrian insight: that whereas businessmen may occasionally err, easy money, credit and artificially low interest rates make ALL businessmen err. All the signs are wrong, and they are all read wrong. On the monetary policies followed in Dubai, the following is telling:

With a currency pegged to the dollar, the United Arab Emirates' Central Bank pursued the same harmful monetary policies as its American counterpart, the Federal Reserve.

Interest rates in the United Arab Emirates were kept artificially low for too long, following the Fed in every move. Reckless lending standards obviously helped to give a boost to the damaging credit expansion.

In addition to the aggressive lending by international institutions to Dubai's enterprises, the UAE Central Bank and the banks operating in the country also played a crucial role in fueling the construction bubble.

The Central Bank balance sheet spiked in 2007, reaching a staggering 177% increase over the previous year.

Although the monetary authority trimmed down the money pumping in 2008, decreasing its balance sheet 32% at the end of that year (still double its size in December 2006), the damage had already been done.

Money supply measured by M3 had an annual growth rate of 29.4% in the period from 2006 to 2008.

So there we have it. The same old story. Central banking is to blame. For steady economic growth, credit must be based on real savings.

Let us now move to India – and the Deutsche Bank reports and forecasts that I was privileged to read. The first thing to note is that this major bank is extremely worried about Chacha’s fiscal deficit. The key worry is that if the deficit increases further, and there is inflation, which leads to higher interest rates, growth will suffer. And if growth suffers, the government will not obtain the revenues necessary to fix the deficit. Things could spin out of control, into a nosedive.

The Lesson: The same as from Dubai – we need to fix our fundamentals. The deficit must be eliminated and the Chacha State returned to sound finances. The huge amount of State consumption expenditure (mainly salaries) must be trimmed, and more capital investments undertaken (mainly roads). Privatization must be carried out in full swing, so that the accounts of our The Chacha State are finally in balance. No “stimulus” is required for pumping up of the economy through deficits and artificially low interest rates. Such measures are contra-indicated.

Of course, the only ultimate solution is sound money. It is governments printing paper and creating credit out of thin air that must be done away with.

If India wants to avoid what happened in the US, what happened then in Dubai, the key lies in sound money and legitimate free banking. We have a lot of potential. But foolish policies (like the ballooning deficit) are holding us back. Chacha Manmohan S Gandhi has truly messed up State finances. It is this State that we need to fix.