The Dubai government has said it will not guarantee the debt of Dubai World, which caused global panic because it cannot pay back creditors immediately.The statement came after stock markets in Dubai and Abu Dhabi saw sharp falls.
"[Creditors] think Dubai World is part of the government, which is not correct," said finance minister Abdulrahman al-Saleh.
Abu Dhabi's main stock market lost a record 8.3%, while Dubai dropped 7.3% - the most in a year.
"Creditors need to take part of the responsibility for their decision to lend to the companies," Mr al-Saleh told Dubai Television.
The central bank of the United Arab Emirates (UAE) has said it is setting up a facility to provide banks with extra liquidity, as it seeks to battle perceptions that Dubai cannot support its own companies.
Mr al-Saleh's statement caused some surprise in Dubai as people who invested in Dubai World effectively did so on the assumption that the government would guarantee them, BBC Middle East business reporter Ben Thompson said.
There is a very grey area between business and government in Dubai, he added.
'West exaggerates'
On the Dubai bourse, construction and financial stocks slumped nearly 10%. The debt-ridden Dubai World fell 15%.
Dubai's property developer, Nakheel, asked for the trading of some of its Islamic bonds to be suspended.
"This was expected because markets have panicked over exaggerated reports in the Western media," Hamam al-Shamaa from Al-Fajr Securities said.
He added that many foreign investors were withdrawing from the market and that Tuesday would probably be a similar day.
European markets were all lower. The UK's FTSE 100 closed down 1.05%, Germany's Dax also fell 1.05% and France's Cac 40 slid 0.99%. US shares were similarly muted with the Dow Jones barely changed, opening down 0.1% to 10,298.81 points.
Banks fell more sharply in the UK. RBS was down 4.45% while Lloyds was even worse hit - falling by 5.89%.
While shares in the Middle East dropped sharply, Asian shares rebounded on Monday on hopes the Dubai debt crisis would not spread to other financial markets after the UAE's central bank said it would support banks when necessary.
Bank assistance
On Sunday, the UAE central bank said it was setting up a facility to provide banks with extra liquidity.
The liquidity will be available to all UAE banks as well as foreign banks operating in the Emirates.
The bank added that the banking system in the UAE was more sound and liquid than a year ago.
That came after Wednesday's announcement from Dubai World asking for a suspension on its debt repayments, which sent world stock markets tumbling.
Meanwhile, neighbouring Abu Dhabi has said it will "pick and choose" how to assist Dubai.
"We will look at Dubai's commitments and approach them on a case-by-case basis," an Abu Dhabi government official said on Saturday.
"It does not mean that Abu Dhabi will underwrite all of their debts," he added.
Paying the price
The BBC's economics editor Stephanie Flanders said the situation in Dubai had alerted investors to the idea that you can lose money on government bonds - even if they appear to have implicit guarantees.
The repercussions of Dubai's debt problems are already making it more expensive for countries with large deficits to sell their debt.
"There are lots of other governments out there who don't have rich neighbours with oil to bail them out, who may have trouble in the next few months or years," she commented.
"Greece and Latvia are paying more for their debt, thanks to Dubai."
Greece's finance minister George Papconstantinou told the BBC that he understood international concern about the country's credibility but said that was down to the actions of the previous government.
He said that the Socialist government, which was elected 50 days ago, has a plan in place to reduce the deficit and that by "2010 you will be seeing a reduction".
