Lebanon's economic trajectory heading on path of a 'failed state', IIF says

Failure to form a government is stacking the odds higher as Lebanon's government debt is expected to surpass 221% of GDP in 2020

Anti-government demonstrators with a metal sculpture in Beirut spelling out the word "revolution" during a protest as Lebanese mark the anniversary of nationwide protests against deteriorating economy and corruption. ReutersShow less

Lack of political will to implement real reforms in Lebanon is pushing the country’s economic trajectory toward that of a “failed state”, according to the Institute of International Finance.

Lebanon’s inability to form a government, a drop in foreign currency reserves, defaulting on external debt and rising public debt is stacking the odds against the country, according to Garbis Iradian, IIF chief economist for Middle East and North Africa.

“Lebanon must pursue significant reforms to avoid heading in the same direction as failed states like Venezuela,” Mr Iradian said in a new report.

"Unemployment and poverty rates have more than doubled, spurring a mass exodus of the well-educated and professionals."

Given international donors and lenders, including the International Monetary Fund and the World Bank, are unlikely to bail out the country without economic reforms, the IIF in a “pessimistic scenario” expects inflation to remain above 100 per cent, official reserves to be depleted significantly and the parallel currency exchange rate to worsen.

Inflation in the country has already soared to 137 per cent and the currency has lost about 80 per cent of its value against the dollar in the black market.

Banque du Liban, Lebanon’s central bank, will not be able to continue subsidising the import of fuel, medicine and wheat at the official rate. As of the end of November, foreign exchange reserves stood at $17.8 billion, of which only $800 million may be used for subsidising the imports for six weeks. The remaining $17bn are obligatory reserve requirements of banks on foreign currency deposits, the IIF said.

“Most of the obligatory reserve requirements on the bank’s foreign currency deposits will be used in [the pessimistic] scenario,” Mr Iradian said.

The IIF assumes a change in status quo in an “optimistic scenario”, where a new cabinet of independent experts start implementing reforms and reach an agreement with the IMF to unlock external financial aid soon.

It then expects the economy to start recovering and additional inflationary pressures from cuts of subsidies on essential goods to be mitigated by a significant appreciation of the parallel exchange rate.

Lebanon is facing its worst political and economic crisis in more than three decades and desperately needs fiscal support to turn its economy around. However, talks for a potential $10bn IMF bailout package have been in limbo since May due to political bickering.

Restructuring of the country's financial sector, a traditional bedrock of the economy, as well as a forensic audit of the central bank, coupled with legislation to formalise capital controls, are among the more urgent reforms needed in the country, the IIF said. Reducing corruption, improving accountability and unifying the multiple currency exchange rates are also required to get the the economy back on track.

The IIF expects Lebanon’s government debt to top 221 per cent of the country's gross domestic product. The IMF expects debt-to-GDP to exceed 172 per cent this year. Lebanon's economy is forecast to shrink 26.5 per cent this year, according to the IIF, slightly above the IMF’s 25 per cent estimate.

The World Bank expects half of Lebanon’s population to fall into poverty by 2021 unless it institutes reforms, improves social protection measures and widens the pension system, the bank said earlier this month.

Poverty reached 45 per cent of Lebanon's population in 2019, compared with a third in 2018 and 27.4 per cent in 2011-2012, while extreme poverty reached 22 per cent in 2019, according to the bank.