SCENESETTER FOR DEPSEC WOLIN AND U/S HORMATS UAE VISIT

S E C R E T ABU DHABI 000055 NOFORN SIPDIS DEPARTMENT FOR E, NEA/FO, EEB/FO, EEB/IFD, AND NEA/ARP (MCGOVERN) TREASURY FOR THE DEPUTY SECRETARY'S OFFICE E.O. 12958: DECL: 2020/02/04 TAGS: EFIN ECON EINV ENRG PTER PGOV AE SUBJECT: SCENESETTER FOR DEPSEC WOLIN AND U/S HORMATS UAE VISIT CLASSIFIED BY: Richard G. Olson, Ambassador; REASON: 1.4(B),(D) ¶1. (SBU) Mission UAE looks forward to hosting Treasury Deputy Secretary Neil Wolin and Under Secretary of State for Economic, Energy and Business Affairs Robert Hormats in Abu Dhabi and Dubai from February 14-16. This is a joint message from Embassy Abu Dhabi and Consulate General Dubai ¶2. (S/NF) Summary: The UAE is a dynamic country that punches above its weight in regional and international fora. We enjoy a strong strategic partnership and shared views on many of the most important issues of the day, including Iran, Iraq, Afghanistan, the Israeli-Palestinian conflict, and terrorism, but also on energy, economic, and educational issues. Senior officials have expressed strong commitment to joint efforts to disrupt illicit financial flows touching the UAE, and our cooperation is continuing to gather momentum. The UAE's globalized economy, particularly highly leveraged Dubai, has been hard hit by the global financial downturn, and little growth is expected in 2010. However, the country remains dynamic and is investing heavily in education and economic diversification and citizens widely believe greater integration will benefit the UAE economy. End Summary. THE U.S., UAE AND THE WORLD -------------- ¶3. (C) In the past five years, the United Arab Emirates has emerged as one of the economic powerhouses of the region (our largest export market in the Middle East) and attained a commensurate level of political influence. No longer comfortable hiding behind the Arab League or Saudi Arabia, the UAE's dynamic young leadership stakes out independent positions on Afghanistan (where UAE troops have been deployed since 2003),Pakistan, and Iraq, and seeks a greater role on the world stage, as with its recent success in winning the headquarters for the new International Renewable Energy Agency (IRENA). Abu Dhabi is a must-go stop for regional leaders like Abu Mazen, Karzai, and increasingly for Western leaders as well. ¶4. (C) The Emirate of Abu Dhabi is run on a day-to-day basis by 49 year old Crown Prince Mohammed bin Zayed (MbZ),who assumed his position in 2004. MbZ's vision for Abu Dhabi is transformational: he wants to build a modern, knowledge based economy with a well educated population, while conserving the core values derived from its Bedouin heritage and its particularly moderate and tolerant version of Islam. His primary domestic concerns, therefore, relate to economic diversification (decreasing the importance of hydrocarbon revenues),education (reform of the K-12 curriculum, improving quality of schools, and removing lingering influence of the Muslim Brotherhood) and health care (to reach a point where the best advice for sick Emiratis is no longer to get on a plane). These initiatives have a strongly American flavor with major U.S. companies and institutions serving as consultants and implementers. ¶5. (S/NF) Internationally, the UAE is strategically aligned with the United States and broadly sees the challenges of this region the way we do. Abu Dhabi's primordial worry is Iran (this is especially so for MbZ),which is 46 seconds away as measured by the flight of ballistic missile. MbZ is convinced that a military confrontation with Iran is near, and is pressing us for rapid delivery of an integrated air defense system, including THAAD and Patriots to complement an extant wing of the most advanced F-16 Fighters ever built (the UAE was the largest cash customer in 2009 for the USG under the Foreign Military Sales program). Under Abu Dhabi's leadership, the UAE has taken quiet (very quiet) steps to reduce other ties with Iran, including scaling back visas and denying business permits to Iranians. We have an active and effective partnership with Dubai authorities to stop illicit cargo headed for Iran. Such policies can be controversial within the UAE as they pit Abu Dhabi against the other emirates (principally Dubai) that make their money by trade, not by pumping oil out of the ground. Publicly, the UAE's position on Iran is more nuanced, emphasizing non-interference and mutual respect. The gap between public rhetoric and private action creates challenges for our Iran policy, as does a tendency to overinterpret the U.S. Administration's approach to engaging Iran. It is important that you emphasize that our commitment to sanctions remains undiminished, and that the point of engagement remains to change Iranian behavior. Terrorism finance -------------- ¶6. (S/NF) In view of the UAE's military commitment in Afghanistan, and its deep enmity with Al-Qaeda and Hamas, the leadership is strongly committed to cooperate with us on curtailing any illicit finance that may originate in or flow through UAE territory. With our assistance, the UAE is taking steps to further scrutinize bulk cash movements into and out of its territory, but still lacks sufficient capacity to identify, investigate and prosecute offenders. We will hold a major bulk cash smuggling training and operational program in late February, which we will leverage to pave the way for even greater intelligence and law enforcement cooperation with the Emiratis. Your visit is an opportunity to reiterate the high-level USG interest in greater cooperation and exchange on illicit finance issues, which has been raised by Secretaries Clinton, Geithner and Napolitano, as well as Amb. Holbrooke and many other USG officials in the past six months. Economic Outlook - A Tale of Two Cities? -------------- ¶7. (C) The UAE economy (essentially Abu Dhabi and Dubai) continues to feel the effects of the global crisis. Dubai was hit very hard last fall when its property bubble popped, and it faces a substantial debt burden (well over 100 percent of Dubai's GDP) that will require careful management for years to come. Abu Dhabi initially thought itself less likely to be affected, but the pinch has become apparent here within the past nine months. Dubai style layoffs and project cancellations or delays have occurred in Abu Dhabi, even as the high profile projects will continue, albeit more slowly. The International Monetary Fund recently predicted zero percent growth in 2010, largely as a result of Dubai's significant drag on the national economy. However, despite relatively stable oil prices, Abu Dhabi entities are also more conservative. The lavish spending of recent years has been cut dramatically partly due to a more conservative approach, but also Abu Dhabi firms, especially parastatals, have been systematically ordering price cuts by contractors. Many fear there will be little growth unless additional fiscal stimulus materializes. Although lending rates have fallen due to strong Central Bank pressure, banks and private sector firms continue to report credit conditions remain tight and limit recovery. ¶8. (C) Dubai continues to attempt to deleverage and restructure a significant load of its outstanding debt obligations. The IMF's low growth rates are largely based on expected contraction in Dubai's real estate sector and a persistent liquidity crunch due to shell shocked and impaired Dubai banks. The overall struggles seen in Dubai's real estate and banking sectors have also been exacerbated by uncertainty about the progress and transparency of current restructuring efforts at Dubai World and other Dubai government related entities (GREs). Investors remain concerned about Dubai's credit worthiness and the cost of borrowing - if available - remains significantly high. Some Dubai entities - including Ruler Sheikh Mohammed Bin Rashid's wholly owned Dubai Holding conglomerate and Emirates NBD, the UAE's largest bank by assets - have cut ties with international ratings agencies like S&P following unfavorable downgrades. Observers predict it will take years for Dubai to recover from the debt burden and loss of confidence, even as in many ways the Emirate continues to serve as a regional logistics, tourism and financial hub. ¶9. (C) Despite appearing to be a modern economy on the surface, in many ways local regulations are outdated, inefficient and poorly enforced. When the economy was booming in the middle of the last decade, few cared that the regulatory framework was not keeping up. Today, although many recognize policies must be modernized, reform remains a slow and nontransparent process. Bankruptcy law, capital markets regulation and the real estate sector all require significant revisions, but, to date, there are few indications the rumors of change are accurate. ENERGY - THE PAST AND THE FUTURE -------------- ¶10. (C) Dubai's service based economic model is relatively new and unique, as most of the UAE's development, particularly in the Emirate of Abu Dhabi, was funded by oil revenues. The hydrocarbon sector was developed years before the UAE was established in 1971 and allows the government of this small country the wealth to provide its population with a high standard of living. Abu Dhabi exports about 2.2 million barrels a day of oil, primarily to Far Eastern markets (none to the U.S),and is investing heavily to raise production capacity from the current 2.8 mbd to 3.5 mbd by ¶2015. Although the UAE exports about 4 billion standard cubic feet a day (scfd) of gas, the UAE's gas deposits are largely associated and a significant portion of production is reinjected for enhanced oil recovery. The relative shortage of gas is problematic, as domestic production is insufficient to power the UAE's rapid economic development. In 2001, the UAE, through its Offsets Group, entered into a long term gas deal (Dolphin Energy) with neighboring Qatar and today imports 2 billion scfd via a pipeline designed to deliver 3.2 billion scfd. Dolphin Energy, partially owned by the government of Abu Dhabi, would import more gas if Qatar's current gas moratorium were lifted. ¶11. (C) In 2007, Abu Dhabi Emirate began a study of the UAE's long term electricity needs and determined that the UAE would be unable to produce enough gas or develop sufficient renewable capacity to meet growing demand. After dismissing oil and coal as environmentally unfriendly, Abu Dhabi determined that nuclear power would best serve the Emirate's long-term electricity needs. Recognizing that nuclear power in the Gulf region would be disconcerting to many, the UAE choose to publically renounce uranium enrichment and reprocessing (ENR). In addition to codifying this policy in the US-UAE 123 Agreement, which was brought into force on December 17, the UAE's October 2009 nuclear law also bans ENR. The program has moved quickly and, in December 2009, Abu Dhabi awarded a tender for the UAE's first four nuclear power plants to Korea's KEPCO, whose remarkably low price beat out GE/Hitachi and France's AREVA. ¶12. (C) Concurrently, Abu Dhabi is also investing heavily in renewable energy. The government set a target to produce 7 percent of total electricity demand from renewables by 2020, an effort led by Masdar, the Abu Dhabi Future Energy Company, which is owned by Mubadala. Masdar has four main divisions: Masdar Power, Masdar Carbon, Masdar Sustainable Cities and Masdar Institute. The first invests in renewable technologies, the second supports the reduction of carbon emissions, the third develops model zero-carbon, zero-waste cities, like Masdar City in Abu Dhabi, and the last promotes research, through a partnership with MIT. The selection of Abu Dhabi to host the new International Renewable Energy Agency (IRENA) in June 2009 is in part demonstrative of Masdar's success. While in many ways the company is pushing the limits of current renewable technology, the effort is noteworthy and is increasingly attracting regional and global interest in renewables. The similarity between UAE efforts and those under the Obama Administration has paved the way for greater US-UAE energy cooperation, including planned DOE-Masdar collaboration on renewable energy research, technologies and application. INVESTMENT AND SOVEREIGN WEALTH FUNDS -------------- ¶13. (SBU) Thanks to high oil prices and a miniscule population, UAE institutions are major foreign investors, with the Emirate of Abu Dhabi's leading sovereign wealth fund (SWF),the Abu Dhabi Investment Authority (ADIA),generally recognized as one of the world's largest SWFs by assets. Since its establishment in 1976, ADIA has followed a largely passive, diversified, long-term strategy. Since, constitutionally, natural resources belong to the individual emirates rather than the UAE as a whole, SWFs and other investment vehicles are emirate-level rather than federal-level organizations. Abu Dhabi officials have consistently assured us that the Abu Dhabi Government would never use its foreign investments as a foreign policy tool and provided details overviews of their investment principles and allocation strategies. ADIA and Government of Abu Dhabi officials worked closely with the Treasury Department and the Government of Singapore to develop the "Santiago Principles" for SWFs and for countries receiving SWF investment. ¶14. (C) Although ADIA is a largely passive, portfolio investor, other UAE investment organizations and State-owned enterprises take larger active stakes in overseas investments, particularly in global energy assets. Abu Dhabi's Mubadala has invested in aerospace technologies, manufacturing, health and energy assets and partnerships, both domestically and internationally. Government-owned International Petroleum Investment Corporation (IPIC) has made both domestic and international investments in refineries, pipelines, and other production facilities. These are just a few of the billions of dollars of UAE investments abroad, which include real estate, financial sector, and automotive assets, to name only a few. DP World's ultimately failed 2006 attempt to purchase P&O's U.S. assets is still a fading source of local resentment, although UAE-based government-owned investors have subsequently made several high-profile acquisitions in the U.S. In your conversations with UAE officials, you may still hear concerns about "political risk" premiums for foreign investment in the U.S. BILATERAL TRADE - STRONG BUT STATIC? -------------- ¶15. (C) Success of bilateral commercial relationship (always one of the strongest in the region) means there is little interest from the UAE in expanding ties through a Free Trade Agreement, or even the existing Trade and Investment Framework Agreement (TIFA). Our efforts to negotiate a Free Trade Agreement ended about 2 years ago, reflecting a lack of consensus on key issues (investment in UAE energy sector, local agent rules for US companies, and UAE compliance with international labor standards). The UAE's current approach is to seek bilateral liberalization in discrete sectors, as UAE private sector remains strongly opposed to greater liberalization that would benefit foreign firms, but have little upside for Emirati businesses. While some give lip service to an interest in greater trade and investment policy coordination and cooperation, there is no indication this is a high priority for federal or local governments. OLSON