The Coup in the Kremlin
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“Shiraz or Chardonnay?” the stewardess asked, brandishing a bottle of each. Our London-bound Emirates Airline flight had recently left Dubai. I glanced out the window and noted a sprawling city amid the jagged landscape below. The seat back map told me we were flying over Shiraz, Iran.
“Shiraz, please,” I responded, in sympathy for those inhabiting the city below, not many of whom were being offered a similar choice.
The socially conservative Persian Gulf is not a region generally associated with free-flowing wine or, at least until recently, the finer side of air travel. The relentless rise of its state-owned airlines thus comes as a surprise, especially given the region’s tendency toward political unrest. Indeed, one might have been forgiven for thinking that a rise in air piracy was a more likely outcome. But for the executives of legacy carriers across the developed world -- think British Airways, Lufthansa, and Qantas -- the competition from airlines flying out of the Persian Gulf is already causing a good deal of indigestion, and probably ulcers. Gulf airlines have steadily added routes, grabbed passengers, and poached crews, while leveraging their buying power to successfully demand discounts and impose design preferences on the latest Boeing and Airbus planes.
In the United Arab Emirates, homeland of two of the September 11 hijackers, two state-owned airlines are amassing huge fleets unabashedly adorned with Arabic calligraphy. Next month, they will fly tens of thousands of pilgrims in their white ihram robes to Saudi Arabia for the annual pilgrimage -- hajj -- to Mecca, steering around Syrian airspace along the way. But they will also carry on with hundreds of flights outside the region, on schedule as usual. These carriers, the so-called Big Three -- Abu Dhabi’s Etihad Airways, Dubai’s Emirates Airline, and neighboring Qatar Airways -- have already become major global brands associated with hospitality, convenience, and safety. Their arrival has been to the airline business what the dreadnought battleship was to naval supremacy: a game changer.
The Gulf carriers owe their recent success to a host of factors, including geography, state involvement, new aircraft technology, and economic forces that are tilting the market their way.
The story starts nearly two decades ago, in 1985, with Dubai’s frustrated crown prince, Sheikh Mohammed bin Rashid al-Maktoum. Unable to attract enough international traffic to Dubai’s modest airport, he decided to launch his own airline. Sheikh Mohammed, now Dubai’s ruler, leased a plane from Pakistan International Airlines, and donated a Boeing 727 from his own family’s private fleet. He tasked his chain-smoking uncle, Sheikh Ahmed bin Saeed al-Maktoum, with running the operation and hired Maurice Flanagan, a retired British airline executive, to advise him. He gave the two men $10 million in seed capital, and they succeeded beyond anyone’s wildest expectations.
Emirates’ maiden flight linked Dubai to Karachi. By 1990, the airline was flying to 21 cities, including Frankfurt, London, and Singapore. A year later, Sheikh Ahmed made the first of what would become a series of dramatic gestures, slapping down $64.5 million for seven Boeing 777s. In 2001, he capitalized on the panic following September 11 to secure big discounts on 58 aircraft, including Airbus’ double-decker A380, the world’s largest passenger jet.
Now Emirates is the world’s fourth-biggest international airline. It has 227 planes flying 143 routes, most of them of the lucrative long-haul variety. In terms of passengers flown it ranks ahead of British Airways, but behind Lufthansa and budget carriers Ryanair and EasyJet. Last year, Emirates was the top-ranked airline in terms of passenger-kilometers flown.
How could an upstart in what is portrayed as a low-margin business take such a commanding position?
The region’s geographical advantage is undeniable, an analogue to the providential geology that allowed an underdeveloped backwater in the 1950s to quickly became the crucible of global energy. The Big Three Gulf carriers are located in a sweet spot for air traffic, astride the most direct pathway connecting the major population centers of Europe and Asia. Two-thirds of the world’s population lives within an eight-hour flight, and nearly 90 percent of humanity resides within the range of an A380 or 777 departing from the Gulf. By this measure, the skyscrapers of Doha and Dubai stand at the center of the world.
Studies show that flights of around seven hours are the most profitable for large carriers. Much shorter and the market favors budget airlines with stripped-down services. Much longer and the weight of additional fuel impinges on efficiency. As it happens, all of Europe and much of Asia lies within that ideal five-to-nine-hour range from the Gulf.
A route map comparison underscores the Gulf’s competitive advantage. Frankfurt and London are to the north, at the far end of the prevailing southeast–northwest traffic flow. Hong Kong and Singapore sit at the far southeastern end of that flow. The U.S. hubs are simply on the wrong side of the globe.
For Americans flying to Asia, it makes more sense to layover in Abu Dhabi, Doha, or Dubai than to make a northerly detour to Europe. Given the increasing numbers of U.S. cities served by Gulf carriers, analysts such as London-based Chris Tarry expect North America–Asia routes to shift from layovers in Europe to those in the Gulf. For similar reasons, Gulf carriers are capturing passengers flying from Europe to Australia and Southeast Asia. They are also poised to vacuum up traffic on the “commodity” routes from Northeast Asia to Africa and South America. The hubs of legacy carriers are simply in the wrong spots. “It’s tough to siphon away others’ traffic when you’re at the far end of everybody’s route map,” says Richard Aboulafia, an industry analyst with the Teal Group in Washington.
What’s more, the parts of the world the Gulf airlines serve best, such as Africa, northeast Asia, and India, also happen to be those experiencing the world’s fastest economic growth. It’s not just air traffic, but trade, investment, and political attention that are shifting toward emerging markets. By comparison, developed countries and their carriers look stagnant, with aging infrastructure built for a previous era, and high legacy costs in the form of health benefits and pensions.
IN IT FOR THE LONG HAUL
Geography and demographics don’t tell the entire story. Other countries with the same locational advantage, such as Iran and Yemen, are not vying for the rich world’s air traffic. And some of the Gulf airlines, such as those in Bahrain, Kuwait, Saudi Arabia, and probably Oman, are unlikely to make the same leap. Given the proliferation of competing carriers, some may not even survive. Money-losing Gulf Air, once owned by a consortium of regional governments, has been left to cash-strapped Bahrain.
Part of what has distinguished the Big Three has been well-timed infrastructure investments. A few decades ago, Dubai’s airport was a flyblown strip next to an open shed where sweaty officials hand-stamped passports. The airport now processes 66 million passengers a year, vying with London’s Heathrow as the busiest international hub. Dubai bet big on the double-decker A380, designing an entire terminal around the lumbering plane that causes traffic tie-ups at older airports. Dubai handles nearly 300 A380 departures per week, far more than anywhere else.
Doha, meanwhile, has attempted to woo elite travelers by building separate infrastructure for business class and economy passengers -- including separate terminals and shops -- so that the two groups need not mingle at all. Abu Dhabi has ingratiated itself to U.S.-bound passengers by offering pre-clearance through U.S. immigration, while Etihad is training 500 of its personnel as “flying nannies” to entertain children.
Bosses of competing airlines allege that Gulf carriers’ advantage is built on unfair subsidies on fuel or other perks. In the case of Emirates, it’s probably safe to conclude that the airline gets no state subsidy beyond the cash, planes, and facilities Sheikh Mohammed handed over in its early days. In fact, money more often flows the other way: Emirates makes periodic contributions to the government budget. Other Gulf carriers, however, have sometimes counted on state financial support to cover losses; this past May, reports surfaced that Etihad had received an interest-free $3 billion loan from the Abu Dhabi ruling family.
The state provides more crucial support in other ways, however. The Gulf airlines benefit from favorable labor migration policies, which cut costs in ways unavailable to their competitors. Since there is no minimum wage in the Gulf, the airlines recruit cabin and ground crew from such countries as Ethiopia and India, paying wages based on prevailing rates in their home countries. Gulf airlines also benefit from the lack of taxation in their home countries.
High oil prices help Gulf carriers in two ways: they increase cash flow into the region, which, in turn, allows the state to invest in airport infrastructure; and they translate into higher fuel costs, which intensifies the efficiency advantages of the well-placed Gulf carriers over their rivals.
Another factor driving the airlines’ 15–20 percent yearly growth has been the ability to gain coveted landing rights in some of the world’s busiest airports, which Aboulafia credits to their huge purchases of Boeing and Airbus jets. The Gulf carriers have taken full advantage of favorable financing from the U.S. Export-Import Bank, which provided $8.3 billion in loan guarantees last year that Boeing used to ease its sales to overseas customers. If congressional Republicans succeed in their effort to block the bank’s reauthorization, Gulf airlines and other Boeing customers will have to turn elsewhere for their financing. In Europe, Emirates’ purchases of Airbus A380s in particular are said to be keeping production of that money-losing aircraft afloat, and authorities there have rewarded Gulf carriers with landing slots. Aboulafia argues that these benefits have enabled Emirates to siphon away passengers from the likes of Air France/KLM, Lufthansa, and British Airways. The seamlessness of the process carries an air of inevitability.
“Europe is subsidizing the aeronautical rope that Emirates is using to hang European airlines,” he writes.
At the same time, Gulf states, and especially Dubai -- the only post-oil state in the Mideast -- have more at stake than their counterparts elsewhere. The aviation sector is a key piece of their economic strategies. Dubai’s tourism- and investment-driven economy would collapse without its air hub. That is why Emirates is managed directly by Sheikh Ahmed, a member of the ruling family who also controls Dubai’s civil aviation authority. He makes sure both get what they need.
Can the airlines keep up the pace? Two factors could dampen the trend. A drop in world oil prices could undercut their cost advantage. This factor is compounded by the arrival of long-range planes like the Boeing 787 that link far-flung markets -- such as London and Sydney -- without a stopover. However, most signs point to the Gulf carriers' continued and improbable rise.
FASTEN YOUR SEATBELTS
There are, of course, broader issues behind what looks like a synchronized launch of Arab business competition with the West. Aside from less tangible gains in prestige and influence, strong air links to the world are crucial to the Gulf states’ development strategies. As post-oil Dubai has demonstrated, airlines are the bedrock elements of the monarchies’ larger plans to diversify their economies and reduce their dependence on fossil fuel rents.
Without its shiny new fleets, the UAE would be unable to host real estate conferences, fill its beach resorts, or attract players in its growing financial services sector. Abu Dhabi would struggle to host its Formula 1 races or bring visitors to its Ferrari World theme park. Qatar would have trouble hosting its diplomatic summits involving Hamas and the Taliban, while crews from Doha-based Al Jazeera might find it more difficult to gather news in regional conflict zones.
Further, air travel is a greater necessity in the Gulf than elsewhere. The same geography that provides an advantage for long-haul flights is hostile to overland travel. The Gulf monarchies lie on a long peninsula, hemmed in by sea and sand. Travel is made more difficult by tetchy borders, civil strife, and a lack of rail networks and other land-based options.
Travelers bring their wallets with them, and Dubai, especially, has leveraged its airline to create lucrative side businesses that are anathema to certain Arab sensibilities. It dabbles in the diamond trade, which inevitably links it to Israel. It engages in sea-and-sand tourism, which forces it to host drunken and promiscuous Europeans. And it maintains friendly and extremely profitable trade relations with Iran, despite attracting the umbrage of neighbors and allies. Nearly 10,000 Iranian companies are registered in Dubai, and more than 300 flights a week flow between Dubai and Iran, many of them on Emirates. Outside Tehran, Dubai is arguably the most important city to the Islamic Republic. The U.S. State Department has placed its so-called Iran Regional Presence Office, a mission focused exclusively on the Islamic Republic, in Dubai to capitalize on its role as a regional hub.
Imagine, for a moment, that the state-owned airlines of the Gulf allowed foreign investors to buy shares. One of the first questions a potential investor might ask would relate to the business effects of regional unrest. Does civil war in Iraq and Syria, revolution in Egypt and Libya, or Arab Spring disorder in Bahrain impinge on business? From outside the region, such events certainly appear threatening. But from within the region, they take on a different hue. Nearby unrest has long been a boon to the more stable political economies of the Gulf. When tourism in Egypt is off limits, hotels in the UAE and Oman are overbooked. When Iran falls prey to revolution or sanctions, its businessmen move their operations across the Gulf. Saddam Hussein’s misadventures in Iran and Kuwait made millionaires in Dubai, exiling educated refugees and their businesses. And when the Pentagon sends not just one but two carrier battle groups to the Gulf, the U.S. Navy makes twice as many resupply calls at Dubai’s Jebel Ali port. In other words, political stability in the Gulf monarchies has created safe havens for foreign investment.
A few years ago, I asked Essa Kazim, the chair of Dubai’s stock exchange, how the country’s business climate might be affected by a terrorist attack. It wasn’t one of his top worries. “We’ve never had sustainable periods of peace and tranquility in the region. But Dubai is still here and we’re growing. So what’s the worst that can happen?” he said.
A Dubaian looks at regional unrest in the same way that a Floridian looks at an alligator in his yard. What might be alarming in one context is part of the landscape in another. But things could get more complicated as travelers grow more dependent on the Gulf’s carriers and airports. Conflicts that affect their performance or viability could drag down the global economy.
For now, the Gulf carriers are enhancing the efficiency of international travel, thereby providing an increase in global productivity. At the same time, the world economy is growing even more exposed to the Middle East, relying on not only energy commodities, but also travel and logistics services. In the long run, it is probably a good thing for everyone if the Middle East becomes more integrated with the global economy. Over the short term, however, there could be hiccups. After all, the Gulf monarchies have not always been responsible stewards of oil. But if the inevitable patches of turbulence subside, there’s all the more reason to hope for a complimentary upgrade.