The Platform

Photo illustration by John Lyman

A unified effort from all vested parties is paramount to navigating Lebanon toward a sustainable and stable economic horizon.

Lebanon finds itself at a precarious crossroads, ensnared in profound financial despair and compounded by relentless political chaos, with elusive solutions amid a series of ongoing crises. The dual currency system, once a beacon of financial stability, has devolved into a source of economic peril, giving rise to a litany of challenges including severe currency devaluation and an oppressive debt load.

Despite being one of the most indebted countries globally, Lebanon contends with grim financial realities and political unrest, arriving at a crucial juncture where solutions are increasingly scarce. Nevertheless, a sliver of hope for resolution persists amid the prevailing crises.

The decision to adopt a dual currency system nearly three decades ago, initially perceived as beneficial, gradually became detrimental. In the nascent post-civil war period of the early 1990s, Lebanon adopted a two-tiered currency approach, extending beyond simple dollarization to establish a robust currency peg. This strategy was intended to mitigate investors’ risk perceptions, fostering a stable and secure economic environment. While initially successful in attracting investments and stabilizing the economy, the peg later presented significant challenges due to an accumulation of factors such as soaring public debt, persistent fiscal deficits, political instability, and economic mismanagement.

This fixed exchange rate led to an overvalued Lebanese pound, undermining the nation’s export competitiveness and deepening trade imbalances. Rising fiscal deficits propelled both the government and the private sector into increased reliance on dollar borrowing, rendering Lebanon susceptible to external economic shocks and raising alarm about its ability to service its debts. The crisis intensified in 2019-2020, manifesting in hyperinflation, liquidity shortages, and a stark scarcity of U.S. dollars within banks. Political instability and dwindling trust in the financial system led to a steep devaluation of the Lebanese pound against the U.S. dollar in unofficial markets, intensifying inflationary pressures and exacerbating the populace’s economic difficulties.

Confronting this crisis, experts and international financial entities like the International Monetary Fund (IMF) have put forth several strategic solutions: allowing the currency to float freely, transitioning to full dollarization, or establishing a currency board. These proposed measures are geared towards stabilizing the economy, reinstating confidence in the currency, and embarking on structural reforms to tackle issues of corruption, governance, and unsustainable fiscal practices. Lebanon’s complex economic crisis demands an all-encompassing strategy that incorporates stabilization protocols, structural reformations, and international aid to reconstruct the economy and reestablish faith in the financial system.

During Lebanon’s reconstruction after the war, banks served as the dynamos of economic expansion, creating favorable investment conditions and funding diverse sectors, even amidst a climate of excessive governmental spending. Their investments in cutting-edge technologies hastened Lebanon’s shift towards a less cash-reliant economy, promoting the adoption of electronic payment systems. As a result, households began to gauge their spending capacity based on the limits of their bank accounts and credit lines rather than cash in hand. However, the recent crisis has seen these advances crumble, with banks witnessing the dissolution of decades of progress amid the upheaval.

At the heart of these setbacks is Lebanon’s corruption-infested political landscape. The ramifications of this endemic corruption have wrought extensive damage, with the banking sector bearing the brunt. The crisis laid bare a deficit in the culture of crisis management, particularly within banking institutions, leaving them ill-prepared for the ensuing chaos.

The inaction of banks during the crisis has wrought greater havoc than any operational misjudgments during times of stability. An alternative, more conciliatory resolution might have been possible had the banks dedicated resources to inform and engage with their clients proactively during the crisis, mirroring their promotional zeal during periods of economic stability. The core issue lies in the banks’ failure to convey the stark reality of the situation to their clients transparently.

In the vacuum left by the absence of legislated capital controls, each bank was tasked with establishing and communicating its own set of measures to cope with the crisis. In Lebanon, where it is common for individuals, particularly those with higher incomes, to interact with multiple banking institutions, the lack of consistency became apparent as different banks implemented varying controls, leading to a troubling atmosphere of uncertainty and dread among clients.

Regrettably, the Association of Banks in Lebanon (ABL) found itself on the periphery during these trying times. Despite the organization’s reservoir of talent and diligent effort, it failed to make a tangible difference. The ABL could have assumed a critical role by advocating for the establishment of a uniform template that outlined the controls imposed by banks, acting as a de facto regulator. Such a template, adopted universally by all banks, would have alleviated clients’ fears.

It could have included a detailed framework covering: limitations on cash withdrawals in both domestic and foreign currencies; guidelines for the use of debit and credit cards across various platforms; protocols for managing existing debts, including the conversion of dollar-denominated loans to Lebanese pounds; criteria for foreign exchange transactions; conditions for international transfers; and stipulations for commercial lending arrangements. While not exhaustive, this list could form the basis for a comprehensive set of controls developed through a collaborative effort among banks to address the unresolved tensions between them and their clients.

Following this, there must be a concerted effort to establish a baseline for the inevitable imposition of capital controls. The ABL should actively campaign for the legislation of capital controls, ideally through a stand-alone law, sooner rather than later. The failure to take such steps exposes banks to severe criticism from both local clients and the international community, including credit rating agencies and corresponding banks.

In the face of an enduring crisis without foreseeable resolution, Lebanese banks find themselves in a quagmire due to the lack of formalized capital controls. This deficiency has prompted the banks to seek the assistance of the ABL to advocate for a moratorium on the enforcement of executory titles. This pivotal step is intended to validate the emergency measures banks have implemented to preserve customer deposits and slow their depletion. Legal challenges have already surfaced, with some clients winning court mandates that force banks to override their restrictions. The banks’ defiance of such orders has resulted in adverse legal judgments, signaling the critical nature of the situation. Neglecting this issue is not an option, as credit rating agencies, which have already issued Lebanon a “Restricted Default” rating, and correspondent banks, now wary, are closely monitoring the developments.

To clarify, “no enforcement of executory titles” means that if a depositor’s contractual rights (like withdrawal or transfer) are not honored, the depositor may seek a court’s intervention. A policy to disregard such court interventions would provide banks with the necessary breathing room to prioritize other essential operational concerns. Yet, this is not where the banks’ duties conclude. They are obligated to conduct a thorough review of their governance models, starting from the Board of Directors and its Committees, with a particular focus on those overseeing Credit, Risk, Audit, and Governance. They must confront the issue of their disproportionate exposure to sovereign risks and reassess their engagements with the Central Bank, which have not been thoroughly vetted for risk. They must investigate why mere regulatory compliance did not translate into robust risk management, especially when the crisis has starkly shown that compliance is not synonymous with security. Furthermore, an examination of their loan portfolios is crucial to accurately assess the magnitude of non-performing loans, especially as economic conditions worsen.

The ABL should spearhead a sector-wide evaluation of distressed assets, an essential measure in securing a government bailout. Additionally, banks must embark on strategic actions to fortify their institutions against the ongoing challenges.

On a separate note, the perceived scarcity of U.S. dollar notes, often mistakenly associated with impending bank failures, should not be conflated with the actual solvency of banks. The unregulated currency exchange sector has failed to fulfill its expected economic role, necessitating the immediate shutdown of unauthorized outlets. For those licensed, the law allows for a temporary cessation of activities. The inability of enforcement and regulatory bodies to control unlicensed exchange operations—dubbed “dollar scavenger hunters”—only worsens the economic predicament. Thus, the recommended suspension of these outlets is aligned with the broader initiative to eliminate illicit currency trading and enforce compliance with existing regulations.

Lebanon’s route to fiscal recuperation is laden with intricate obstacles, intensified by an enduring crisis. Critical issues like the dearth of physical dollar currency, the unchecked growth of unregulated currency exchanges, and the urgent requirement for established capital controls have markedly influenced the nation’s economic equilibrium. The ABL, alongside regulatory bodies, must promptly confront these multifaceted problems. Initiatives should not only aim to stabilize the currency but also to rekindle public confidence in the banking sector. Transparent communication, prudent policy reforms, and decisive regulatory actions are indispensable. The nation’s financial rebound is dependent on rapid, cohesive measures that meet international norms, thereby nurturing trust among investors, regulatory authorities, and the citizenry. A unified effort from all vested parties is paramount to navigating Lebanon toward a sustainable and stable economic horizon.

Mohammad Ibrahim Fheili is currently serving as an Executive in Residence with Suliman S. Olayan School of Business (OSB) at the American University of Beirut (AUB), a Risk Strategist, and Capacity Building Expert with focus on the financial sector. He has served in a number of financial institutions in the Levant region. He served as an advisor to the Union of Arab Banks, and the World Union of Arab Bankers on risk and capacity building. Mohammad taught economics, banking and risk management at Louisiana State University (LSU) - Baton Rouge, and the Lebanese American University (LAU) - Beirut. Mohammad received his university education at Louisiana State University, main campus in Baton Rouge, Louisiana.