Israel-Gaza war to drag Lebanon's economy back into recession, World Bank says

Previous growth projection of 0.2% has been reversed to a contraction of as much as 0.9%

An Israeli artillery shell explodes over a house in Al Bustan, Lebanon. An increase in border violence would hit the country's economy. AP

Live updates: Follow the latest news on Israel-Gaza

Lebanon's economy, which had been on a recovery path after years of turmoil, is projected to be dragged back into a recession as a result of the Israel-Gaza war, the World Bank said.

The country was previously projected to post 0.2 per cent growth in its gross domestic product in 2023, after five years of being in the red, but that is now expected to turn into a contraction of between 0.6 per cent and 0.9 per cent, the Washington-based lender said in its latest Economic Monitor.

Lebanon shares a border with Israel in the south and is at risk of being dragged into the conflict.

"While the country remains mired in a political and institutional vacuum, and a crippling socio-economic crisis for over four years, it has now been hit by another large shock: fear that the current conflict centred in Gaza could escalate further into Lebanon," the World Bank said.

It said its contraction estimates would hold up if there were no major escalations in border violence between Israel and Hezbollah through the end of 2023.

"A significant escalation of the conflict would also permanently scar Lebanon’s growth potential and carry grave economic implications," the World Bank said.

Lebanon's fragile economy last posted expansion in 2017 when GDP rose 0.9 per cent. Since then, it has faced what the World Bank has called one of the worst global financial crises since the middle of the 19th century.

The country had its worst showing in 2020 – during the Covid-19 pandemic – when the economy dropped by an estimated 21.4 per cent, according to World Bank data.

But Lebanon improved markedly in the past two years, reducing its economic contraction to 7 per cent and 0.6 per cent in 2021 and 2022, respectively, underpinned by the key tourism sector and remittances from Lebanese working abroad.

Tourist arrivals in 2022 surged nearly 50.6 per cent, which supported a growth in consumption, and activity in the private sector also showed signs of stabilisation – both of which are highly sensitive to external shocks, the World Bank said.

“While tourism has recently been a positive contributor to economic growth, the tourism sector alone cannot substitute for more comprehensive, sustainable and diverse growth drivers that are better placed to withstand shocks and help put the economy back on a solid recovery path," said Jean-Christophe Carret, the World Bank's Middle East country director.

The Gaza war, now in its third month, has had dire consequences for the some of the region's economies – and these are set to worsen if the conflict continues and escalates.

Palestine's GDP has been the worst hit by the conflict due to the bombing in Gaza and is now projected to shrink 3.7 per cent from a previous growth forecast of 3.2 per cent, with its economy at a "near-complete standstill", the World Bank said this month.

Israel's economy, meanwhile, is expected to contract by 5 per cent annually in the fourth quarter of 2023, bringing full-year growth down to 1.5 per cent. Growth next year is projected at 0.5 per cent, S&P Global Ratings said last month.

The economic effects of the war have already hit the economies of some neighbouring countries, the International Monetary Fund's head for the Middle East and North Africa, Jihad Azour, told The National this month.

"Economically, of course, there are several levels that you need to look at ... the immediate impact on the epicentre, but also there are ripple effects on the outside the main adjacent countries – Lebanon, Jordan, Egypt," he said.

Lebanon is already struggling with a highly polarised political landscape, a presidential vacuum, a caretaker government with restricted executive powers, an interim central bank governor and limited legislative action by Parliament, the World Bank said.

The country's "impaired macroeconomic framework is not only impoverishing a large share of the population and driving up inequality, but also preventing a sustainable development model from emerging", it said.

"Without a crisis resolution plan, no long-term investment is feasible, which is eroding the country’s physical, human, social and natural capital stock as depreciation far exceeds investment."

Inflation – a long-time sticking point in Lebanon's economy – is projected to accelerate to 231.3 per cent in 2023, mainly a reflection of the continued deterioration of the underlying macroeconomic environment, the report said.

The acceleration of inflation is being primarily driven by the depreciation in the exchange rate, specifically during the first half of 2023, and the rapid dollarisation of economic transactions and, in particular, the components of the consumer price index basket.

Lebanon's banking sector, meanwhile, remains insolvent, with a severely impaired balance sheet and losses at $72 billion, the report said.

The banking sector’s losses as a share of GDP are "among the largest, if not the largest, in the world", it said.

"The inability of the banking sector to intermediate funds and perform its delegated monitoring and maturity transformation functions will prove to be an obstacle to the much-needed domestic and foreign direct investment, large-sized and long-term capital and financial inflows, which will obfuscate an economic recovery," the World Bank said.