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Lebanon's twin deficits prove to be achilles heel

Dec 05

Lebanon's twin deficits prove to be achilles heel

In the long run, Lebanon's twin deficits are ''likely to be unsustainable and the risk of a financial crisis (and default) within the forecast horizon'' becomes high.

BEIRUT: Lebanon is currently trodding an unsustainable path with its economic outlook looking grim unless a swift Cabinet formation succeeds in implementing reforms from across the board, according to an elaborate analysis from Goldman Sachs.

The report highlights the importance of a new government easing financing pressures while enacting reforms to release the funds committed during the CEDRE IV donor conference.

Lebanon's economic woes were at the center of the conference held in Paris last April, where Lebanese officials managed to secure over $11 billion in soft loans and grants conditional on carrying out sectoral reforms to put a lid on corruption.

Between 2001 and 2017, Lebanon’s average debt/GDP ratio was 154 percent, its fiscal deficit averaged 10 percent and its current account deficit averaged 17 percent, with many analysts questioning how long the small Mediterranean country can stay afloat.

Reforms, coupled with a consistent deposit growth rate of 3 percent and the already existing Foreign Currency liquidity, will help keep the economy on the current path for two to three years before an adjustment is forced, the report argues.

However, in the long run, Lebanon's twin deficits are 'likely to be unsustainable and the risk of a financial crisis (and default) within the forecast horizon' becomes high.

Lebanon's debt/GDP is expected to rise to over 170 percent of GDP by 2022, a staggering increase liekely to way heavy on the state's coffers.

Despite Lebanon's committed and large banking industry, with around 60 percent of the total sovereign debt being held by the banking sector, the recent slowdown in remittance/deposit inflows has put the overall economy under the spotlight.

Remittances, which have traditionally funded a large part (if not all) of Lebanon’s financing requirement, have dropped to $2.4bn (4.2 percent of GDP) in September 2018, down from $7.3bn (13.7 percent of GDP) a year earlier.

This trend is expected to carry into 2019, the report notes, arguing that deposit inflows covered a mere third of the country's external funding needs this past year.

'In absolute terms, this translates into a gross external financing gap of $6.2bn (21 percent of GDP) in 2017 and $8.8bn (13 percent of GDP) in 2018,' it said.

The World Bank revised its projection for 2018 real GDP growth downwards to 1 percent in October, warning that Banque Du Liban's financial engineering tools can only do so much to delay a financial crisis.

The Central Bank has continuously attempted to counter this trend, with the latest being a swap of Treasury bills held by BDL with newly MoF-issued Eurobonds in the amount of $5.5 billion, around $3 billion of which were subsequently sold (along with enticements) to banks.

This was done to raise BDL's foreign exchange reserves, which reached around $44 billion by the end of June.

The Goldman Sachs report maintains that BDL can continue this trend of borrowing from banks as long as they are able to lend them, with their calculations putting a time frame of two to three years.

To consolidate its standing in the long run, if Lebanon's economy manages to avoid defaulting on its debt in the medium term, lawmakers must curb government spending, improve tax collection, reduce transfers to Electricite Du Liban, among other recourses.