Lebanon's debt grows with political stalemate

A report by Merrill Lynch has downgraded Lebanon's financial standing because of its external debt and political paralysis.

al-monitor Zaytouna Bay is pictured in Beirut, May 21, 2014.  Photo by REUTERS/Hasan Shaban.
Sami Nader

Sami Nader

@saminader

Topics covered

syrian crisis, lebanon, government reform, financial crisis, elections, economy

Jun 5, 2014

The Lebanese political establishments, especially those who blocked the holding of parliamentary sessions to elect a president, are making a mistake by thinking that a presidential vacuum is a minor matter whose implications can be easily dealt with. A power vacuum generates more vacuums, and hits to constitutional procedures will eventually impose economic costs that we could have done without, to say the least.

The effects of the constitutional vacuum have started to appear in the reports of global financial and banking institutions, which have reclassified Lebanon’s financial standing given the high risks, the low growth expectations and the low probability for reform. The first of these indicators was the report by the global institution Merrill Lynch issued a few days ago. The report called for reclassifying Lebanon’s external debt from “market weight” to “under weight” because the macroeconomic fundamentals are weakening and because of the deteriorating political situation.

The matter is not just related to the presidential vacuum, but also to the circumstances surrounding it and the lack of a solution on the horizon in the near future. It is not the first time that Lebanon witnesses a presidential or cabinet vacuum. There was a presidential vacuum in 2008 when the internal political crisis kept the presidential post empty for months. Despite that, the Lebanese economy grew at a rate of 8%. At the time, Lebanon managed to overcome its crisis thanks to international help, especially since the regional situation was not as tense as today. Back then, there was no war in Syria that was affecting Lebanon, nor had the “war on terror” taken this new formula with new alliances, nor had the Iranian-US dialogue reached the point of overturning existing power balances in Lebanon and in the Middle East.

The conditions of the power vacuum are quite different from six years ago. The presidential vacuum, according to the Merrill Lynch report, reflects a chronic problem of political paralysis at Lebanon’s institutions. The report warned of the possibility and severity of the vacuum expanding, especially since it is linked to the course of the Syrian crisis.

The inability of the Lebanese parliament to elect a president has raised the risks to the Lebanese economy and is considered a factor that has weakened macroeconomic fundamentals. These factors, in addition to the absence of reforms, which the report did not forget to mention, have caused a continuous structural crisis that prompted Merrill Lynch to reclassify Lebanon’s foreign debt as riskier than the debt of emerging economies.

Merrill Lynch set the total financial needs of the Lebanese government at $14 billion for 2014, or about 30% of the gross domestic product. Those needs are as follows: $9.8 billion in debt amortization, and usually that is done by reissuing debt for the same amount by a swap or other process; $3.9 billion in debt servicing; and $300 million to finance the primary deficit in the budget. It must be noted that, in the period before 2012, Lebanon had a primary surplus, but then the budget deficit increased because of institutional paralysis, lack of oversight and lack of reform.

Yet, despite the growing deficit, Lebanon managed to contain the deterioration of public finances thanks to the prudent policy of the Bank of Lebanon and low global interest rates. That reduced the value of debt service and extended the average maturity of treasury bonds from 1.6 to 3.5 years; and there was a stable average maturity rate for euro bonds, a rate that ranges between 5.6 and 5.9 years. It should be noted that the ownership structure of Lebanon’s public debt also contributed to dispelling the risk that the debt might be extended: Lebanese banks hold 52% of the public debt (as of the end of March), the Central Bank holds 30% and foreigners hold no more than 2% of Lebanon’s internal debt. Moreover, 80% of the Eurobonds, which represent 84% of the debt denominated in foreign currencies, is held domestically. Finally, the report by Merrill Lynch pointed out that the proportion of dollars in Lebanese banks is stable at 65.4%, and that the frequency of transfers to Lebanese banks averaged 7%.

The bottom line is that the strength of the banking sector today and the steadfastness of the monetary situation in Lebanon have enabled the country to absorb the continual political shocks. But what were considered temporary shocks or tensions have come to be seen by international institutions as a structural crisis that has started to affect the fundamentals, particularly as they seem highly linked to regional disputes that are becoming harder to resolve.

In the Lebanese interior, nothing on the horizon suggests that the steady slide will soon be rectified, especially since the political class has failed to avoid the simplest of things: a presidential vacuum.

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