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The Institute of International Finance assumes that soon forming a government of independent experts and begin implementing reforms and reaching an agreement with the International Monetary Fund and unleashing foreign financial aid will lead to a gradual recovery of the economy, and an increase in the rate of change in the parallel market at 5,500 pounds per dollar. This will offset the additional inflationary pressures caused by the removal of the subsidy.
The International Finance Institute’s 2020 forecast for Lebanon differs from the IMF’s expectations, according to the latest report by Gharbis Iradian, chief economist for the Middle East and North Africa at the Institute of International Finance, who believed Lebanon should implement important reforms to avoid the fate of failed states, such as Venezuela, as expected. That the Lebanese economy contracts 26.5 percent in 2020, accompanied by a sharp drop in the exchange rate in the parallel market, which will cut GDP in half in US dollars.
He noted that the value of wages and salaries is falling drastically after the collapse of the exchange rate on the black market and in banks the inflation rate accelerated, reaching 137 percent per year until last October, while the volume of cash circulating in the market increased more than 3 times since then. The beginning of the year until November, and the unemployment and poverty rates more than doubled, spurring the massive emigration of intellectuals and professionals.
In detail, the projections of the Institute of International Finance for 2020 show that the value of nominal GDP (in dollars) will be much higher than the expectations of the International Monetary Fund, and its fiscal deficit projections are lower than the expectations of the Fund, by two main reasons:
The Institute of International Finance estimates the average exchange rate that will likely be used to convert the projected nominal GDP value in Lebanese pounds to US dollars, at an exchange rate lower than that weighted by the International Monetary Fund.
The IIF’s fiscal deficit projections are consistent with the actual figures for the first eight months of this year, which show a lower deficit than in the same period last year. The expected sharp drop in the public spending / GDP ratio is expected to offset the collapse in public revenues. Consequently, the Institute of International Finance estimates a fiscal deficit of 9 percent of GDP and a primary deficit of around 4 percent of GDP by 2020.
The current account deficit will decrease from $ 11 billion in 2019 to $ 3 billion in 2020 due to a 50 percent drop in imports, but the decrease in capital flows will negatively offset the improvement in the account item current, which will lead to a depletion of foreign exchange reserves.
What are the main reforms expected by the IMF?
Iradian indicated, in his report, that the International Monetary Fund, the World Bank and other official donors have suspended financial support to Lebanon mainly due to the repeated failure of the political class to implement the main reforms expected by the International Monetary Fund and the community. international, namely:
Conducting a full audit of the central bank accounts (forensic audit) to activate transparency and accountability.
Approval of the law that establishes capital controls (Capital Control).
Guarantee the independence of the judiciary to reduce corruption and activate accountability.
Unify multiple exchange rates with the arrival of the first batch of external financial support.
Rehabilitation of the Lebanon Electricity Corporation and end of its losses.
Achieve a large primary fiscal surplus, starting in 2022, to guide public debt towards a sustainable downward trajectory.
Restructuring of the financial system, which will include recapitalization and bank consolidation.
Create an expanded social safety net to provide maximum protection to those most in need.
Iradian pointed out that the available reserves of the Central Bank of Lebanon are being depleted and the Central Bank will no longer be able to continue bearing the cost of importing basic products, including fuels, medicines and wheat, and noted that at the end of last November, the foreign exchange reserves they reached 17.8 billion dollars. It means that there is only $ 800 million that can be used to support the import of commodities, which is enough for just 6 weeks, pointing out that the remaining $ 17 billion is the banks’ mandatory reserve.
And he considered that imports of subsidized goods do not provide effective support to the poor, and in return deplete the reserves of the Central Bank of Lebanon, explaining, for example, that fuel subsidies benefit those with high incomes and encourage smuggling to Syria, where gasoline prices exceed twice the price in Lebanon.
Therefore, Iradian, who has worked for the International Monetary Fund for 17 years, argued that a complete or gradual elimination of subsidies, combined with the provision of a well-designed social safety net (that directly ensures cash transfers to the poor), could result in a significant improvement in the well-being of low-income people. On the other hand, he warned that eliminating subsidies in the next period would lead to higher prices and negatively affect real income.
Iradian claimed in his report that the International Monetary Fund program could put Lebanese public debt, which is expected to peak at 221 percent of GDP this year, on a steady downward trajectory by implementing the measures. mentioned in the government plan. Given that Lebanon is defaulting on its external debt, the process of restructuring its public debt is likely to be carried out in parallel with the IMF program. In the event that certain public debt restructuring scenarios are implemented, in addition to financial reforms, and the possibility of a parallel exchange rate increase to around 5,500 Lebanese pounds against the dollar by the end of 2021, the debt ratio public / GDP could decrease from 221% in 2020 to 127.% in 2021.
Given the unconfirmed outlook for the year after 2020, Iradian has prepared two possible scenarios:
The optimistic scenario assumes that a new government of independent experts will soon be formed, reforms will begin, an agreement will be reached with the International Monetary Fund, and urgent foreign financial assistance will be triggered. In this case, the economy will begin to recover, while the additional inflationary pressures derived from the lifting of subsidies to basic products will be mitigated by the significant rise in the parallel exchange rate to 5,500 pounds against the dollar.
As for the pessimistic scenario, it assumes the continuation of the status quo, including the ongoing political paralysis, in the absence of real reforms and external financing. In this scenario, the Lebanese economy will contract further, the parallel exchange rate will decline further, the inflation rate will remain above 100%, official reserves will be depleted and most of the banks’ mandatory reserves will be used. at the Banque du Liban.
Can banks restore confidence and bounce back?
Iradian said that confidence in the banking system has been seriously affected and that it may take time to recover, considering that following a comprehensive financial strategy will make the banking sector viable and ensure Lebanon’s integration into the international financial system, emphasizing the need to restructure. the banking system, including recapitalizing and unifying the banking system.
In the optimistic scenario, it is possible to begin to lift capital controls gradually in 2022, according to what the evolution of the balance of payments allows and when the situation in the Malaysian sector stabilizes. Iradian pointed out that the central bank could resort to borrowing against part of the gold reserves (its value is currently estimated at $ 17 billion) in order to provide adequate liquidity in foreign currency to the banking system.
