Lebanon’s lucky streak runs out as it gets busy tackling world’s third highest public debt and quarrelling policymakers

Lebanon was one of the few markets that emerged unscathed from the 2008 financial crisis, thanks to a prudent regulatory environment, enticing interest rates and a lucky streak. The dynamics have changed over the past 10 years, painting a bleak outlook for a country saddled with the third highest debt to gross domestic product ratio in the world.

A decade ago, Lebanon lured billions of dollars worth of deposits as local banks set high interest rates that led to deposit growth reaching 15.6 per cent in December of 2008. In tandem, record oil prices which reached $147 a barrel were a boon to the economy as the Lebanese diaspora sent more money back home. Remittances boosted to 12 per cent of GDP that year. Against this backdrop, the central bank, under its long standing governor Riad Salameh, banned investment in speculative trading and derivatives. This shielded the country from the US subprime mortgage crisis which reverberated globally with the collapse of Lehman Brothers.

Successive years of strong economic growth, which reached 8 per cent in 2008, also helped lower the country’s indebtedness and provided a sense of security that all was manageable so long as the pace of economic expansion outpaced the growth in country’s public debt.

“In 2008, Lebanon was not on the verge of a crisis in order to avert one,” said Nassib Ghobil, chief economist at Byblos bank. “The growth rates were exceptional during this period. Lebanon benefited from the global financial crisis through a high level of capital inflows.”

Now in 2018, the situation is significantly different.

The central bank is engaging in complex financial engineering mechanisms to help keep the country afloat. Public debt is forecast to reach 157 per cent of GDP this year, the highest ratio since the onset of the financial crisis, according to estimates from the International Monetary Fund. Private sector deposit growth reached only 3.8 per cent in 2017.

The economy, a victim of the country’s internal political paralysis and a seven-year war in neighbouring Syria, is projected to grow only 1.5 per cent this year.

Lebanon’s private sector business activity recovered slightly in August from the 21-month low reached in July, but was still at the second-lowest level since October 2016, according to the Blom Purchasing Managers’ Index.

Slower economic growth will increase the pace of public debt expansion at a time when the country cannot afford it. Lebanon hosts over a million Syrian refugees and is plagued by the bickering of its politicians that has left the country without a president for 29 months until the election of Michel Aoun.

Prime Minister designate Saad Hariri has struggled to form a government nearly three months after the country held its first parliamentary elections since 2009.

“Lebanon has had the misfortune to find itself among the few countries which have seen the most significant widening in their risk premia this year (more than 200 basis point as measured by the JP Morgan’s Emerging Market Bond Index), which will exacerbate the already challenging fiscal trajectory,” said Maya Senussi, a senior Middle East economist at Oxford Economics.

“Debt service is already absorbing about 43 per cent of government revenue (though this is still slightly lower than the outcome of the past

decade).” The country’s debt has grown as a result of heavy state borrowing at high interest rates to finance reconstruction projects in the aftermath of the 1975-1990 civil war. Anaemic revenue growth, partly due to poor tax collection and the public sector crowding out the private sector in terms of borrowing, is in addition to heavy expenditure on wages and transfers to the loss-making electricity utility.

All of these factors have worsened Lebanon’s public finances.