Street protests in Lebanon continued for a fifth day on Monday, in a prolonged outburst of anger over years of economic and political mismanagement. As evening fell, they got their response. Saad al-hariri, the prime minister, announced a package of sweeping fiscal measures including pay cuts for top officials and legislators, a charge on the affluent banking sector and handouts for the poor.
“Frankly speaking, your protest is what made us take these decisions,” he said. “What you did has broken all barriers.”
Lebanon’s fiscal troubles have been building for decades. The risk for investors is that they could yet escalate rapidly, making the country the latest emerging market to plunge into crisis.
There used to be a veneer of stability. The central bank has pegged the currency to the US dollar for two decades and ensured that the supply of dollars has been enough to pay for the imports on which the country depends. It has been able to do so thanks largely to dollar inflows from wealthy Lebanese and others overseas, who are attracted by high interest rates.
But beneath the surface, the government’s finances are strained. It runs a budget deficit equal to 10 per cent of gross domestic product, consisting entirely of debt service costs — the rest of government maintains a primary budget balance. Public debt is equal to more than 150 per cent of GDP.
The central bank may not be able to work its magic for much longer. Deposit inflows have slowed. Some importers have been unable to get the dollars they need.
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The government is preparing a eurobond issue of an expected $2.5bn to keep the show on the road. To ensure the deal’s success, Beirut will reportedly allow local banks to redeem dollar-denominated certificates of deposit (CDS) they hold at the central bank and use the proceeds to buy the new bond.
It is no surprise that the government expects local banks to back the deal; they already finance more than 80 per cent of Lebanon’s consolidated public sector debt. But another $1.5bn eurobond maturing on November 28 will return a lot of cash to potential buyers. So why allow the banks to cash in their CDS ahead of time?
The worry is that exposure of foreign investors to that $1.5bn bond is greater than many had supposed, and that fund managers cashing in will be reluctant to buy the new bond.
Signs of stress are growing. The cost of insuring Lebanon’s five-year debt against default, as judged by the credit derivatives market, has leapt by more than 60 per cent over the past six months.
The big question is whether Monday’s package, yet to be approved by parliament, will ease market fears. Lebanon’s thirst for funding has been profitable for many in its banking sector and beyond. If the protests are not met with viable reform, the good times may soon be over.
