Summary: with a US$1.2bn Eurobond payment coming due 9 March, Lebanon faces stark choices and little room to manoeuvre.
We are again grateful to Alastair Newton for the article below. He worked as a professional political analyst in the City of London from 2005 to 2015.
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Excellent commentary – as always – from Alastair.
I’d like to add a couple of comments.
One of the main issues with Lebanon’s debt is that default/restructuring will require a recapitalization of the banks, since they are the main holders of sovereign bonds. This is not uncommon in sovereign debt situations, because the buildup of debt is often absorbed by local banks.
The problem in this case is the source of funding the banks use to purchase those sovereign bonds. The Lebanese banking system was historically highly trusted by Lebanese expats, and they were happy to repatriate their saved money abroad in dollars (for which Lebanese banks paid much higher rates than foreign banks) or in the pound (which is pegged to the dollar, as Alastair mentions, and hence seen as nearly safe as dollars).
Therein lies the problem for Lebanese banks and the government. If they relax capital controls on banks, Lebanese depositors – expats and residents alike – will probably pull their dollars out of the country. On the other hand, continuing capital controls will only prevent more dollars from flowing into the country via savings from non-resident Lebanese.
The usual IMF prescription of depreciating the currency to boost competitiveness is unlikely to help much in Lebanon’s case. Lebanon hardly produces anything (except perhaps certain food products), so a cheaper currency isn’t going to boost their exports in the same way it would in an industrial economy.
Alastair rightly points out that structural reform in government spending is a necessary step for authorities to take, but that these reforms are fraught with political complications (especially in a country where stretching compromises are repeatedly reached to maintain a tenuous balance of power among factions). In addition, Lebanon needs a way to attract dollars (or, equivalently, any form of foreign investment).
In short, there are no easy economic solutions to the problem, and much of the traditional thinking on resolution of debt crises is unsuitable to Lebanon’s problems.