The biblical portents for houses built on sand were never good. Nor are they out of date, if Dubai is any guide. Last week, as the major economies shed jobs and marked down growth forecasts, a South African billionaire hosted the “party of the decade” to open a vast, pink hotel on the palm-shaped island constructed from poured sand and concrete a short helicopter ride from Dubai's new international airport. Robert De Niro came, as promised, and the lobster was pronounced exquisite.

But elsewhere on the island, villa owners were being told that their properties had lost 40 per cent of their value in two months. Construction of another colossal artificial island was quietly being shelved, and speculation grew that Dubai as a whole, for nearly a decade the world's most exuberant symbol of the fruits of globalisation, might have to sell off assets to service its debts.

Yesterday the Government of the United Arab Emirates was forced to confront that speculation. The chairman of a committee set up to lead the UAE's response to the global downturn said that Dubai's debts were dwarfed by its assets and that “the Government will step in to assist if needed”. Only that implicit guarantee held fears of a default at bay. The stock market was unimpressed. Having lost nearly two thirds of its value this year it promptly lost another 5 per cent.

A year ago the UAE was fondly regarded by Western governments and bankers as a potential saviour of capitalism. Like Singapore and China, it had accumulated prodigious reserves in sovereign wealth funds whose search for a steady return appeared to complement the banking system's urgent need for capital. The Gulf Co-operation Council, with the UAE at its heart, looked better placed than anywhere to weather the coming financial storm.

A month ago, Dubai still boasted property prices and returns high even by Central London standards. The Dubai bubble has not quite burst since then, but it has shrivelled dramatically: a property boom fuelled by loans for speculative off-plan purchases has shuddered to a halt as a direct result of frozen international credit markets.

As Dubai's skyscrapers add yet more storeys, prices for their penthouses plunge. As landlords fail to refinance, their brokers send mass text messages to advertise distressed sales at swingeing discounts. One result, engineered by the Finance Ministry in 24 hours over the weekend, was the merger of two of Dubai's biggest mortgage lenders. The Government has called it a milestone; others, a takeover.

Dubai's rise has been a spectacle of unmatched enterprise - and hubris. But its troubles should give no one satisfaction. With no significant oil reserves of its own, this is the emirate that diversified in order to compete. It borrowed heavily to do so, leaving itself vulnerable to the global credit crunch while its financial safety net - neighbouring Abu Dhabi's oil wealth - was simultaneously weakened by the oil price plunge.

The party in the Gulf's most vibrant market economy is over. But it remains the region's best hope as a laboratory of political as well as economic pluralism, and there are signs that the downturn is forcing Dubai's rulers to take seriously investors' demands for greater trans-parency. That would be a significant silver lining in a city long since too fond of smoke and mirrors.