Beirut: Lebanon plans to shift to a flexible exchange rate once it secures external funding for an economic overhaul and will need $28 billion in the next five years to overcome its worst financial crisis in decades. Lebanese Eurobonds rose.
The central bank will maintain the fixed exchange rate for now, Finance Minister Ghazi Wazni said in a presentation to lawmakers at the presidential palace.
“Floating the currency before regaining confidence, bolstering the economic and financial environment and getting funding from the International Monetary Fund and donor countries will lead to complete chaos in prices of goods and a sharp deterioration in the exchange rate,” he said.
Lebanon defaulted on its debt for the first time in its history earlier this year and has initiated talks with the IMF with the aim of securing a loan worth at least $10 billion to support its plan to overhaul the economy. The government’s economic reform program, which was unveiled last week, includes spending cuts, better tax collection and a restructuring of the loss-making electricity sector as well as the banking sector.
Lebanon Turns to IMF
Markets reacted positively to the news, which was seen as a sign that the government was more serious about taking the tough decisions required to restore confidence. Lebanon’s Eurobonds rallied, with the security that matured on March 9 jumping 2.24 cents to 18.10 cents on the dollar at 10:14 a.m. in London. The debt due in 2037 climbed 0.34 cent to 17.71 cents on the dollar.
The country’s crisis has been years in the making, but financial conditions deteriorated rapidly in 2019 as foreign currency reserves began to run low, forcing businesses to turn to money changers for dollars they need to pay for imports. The central bank is supporting the import of essential goods by supplying dollars at the official rate for fuel, wheat and pharmaceuticals.
But on the black market, the pound has been sliding for months, reaching 4,000 to the dollar compared to the official peg of 1,507.5 per dollar. The currency crash prompted the central bank to introduce a series of different rates to manage demand and purchasing power as inflation soars in a country that has long been dependent on imports of everything from food to luxury cars.
Authorities will only turn to a flexible regime once the country has a solid program with a funding component in place, otherwise, the central bank would lose its ability to finance imports of wheat, fuel and medicine, according to a person familiar with the government’s plan.
The currency crisis has reignited protests that abated earlier this year due to a nationwide lockdown imposed to contain the spread of coronavirus. Riots in the northern city of Tripoli, home to some of the country’s poorest neighborhoods, led to the death of one person as protesters angry over rising prices, joblessness and caps imposed on the withdrawal of dollars led to a spate of attacks on bank branches.
“Policy making in Lebanon continues to be impaired and largely unsuccessful in restoring confidence, internally and externally. The Lebanese pound is not pegged because the government and central bank cannot maintain a peg, let alone six different rates currently in place,” Mohieddine Kronfol, the chief investment officer for Middle Eastern and North African fixed income at Franklin Templeton, said. “None of the policy measures taken since Oct. 17 have been successful. They are continuously behind the curve and reacting to the realities of unfolding crises.”
The new government, led by Hassan Diab, initiated talks with the country’s bondholders two weeks ago to restructure its $30 billion in foreign-denominated debt, Wazni said.
The government also seeks to restructure its local debt, which is mostly held by the central bank, as well as its financial sector. It estimates that the central bank and local banks have incurred billions of dollars worth of losses. Wazni said the government will work on protecting depositors’ money and explore its options to re-capitalize local lenders including an optional bail-in.
“The benefit of having the International Monetary Fund gives confidence, support for the treasury of $9 billion to $10 billion and opens the door to donor conferences, credit facilities from funds and facilitate negotiations with creditors,” the finance minister said.
Bank of America said in a research note on Wednesday that it understood the reform plan would include a nominal face-value cut of 75% on Eurobonds and 40% on domestic debt, reducing the losses to be incurred by the domestic banking sector but keeping the government debt level higher.
Lebanon is in the thick of its worst economic crisis since the 1975-1990 civil war, compounded by the coronavirus epidemic.
Forty-five percent of Lebanon's population now lives below the poverty line, and tens of thousands of people have lost their jobs or seen their salaries slashed as a result of the downturn.
Aoun on Wednesday met with most heads of the country's main parliamentary blocs to discuss the broad outlines of an economic reform plan that the government adopted last week but parts of which still require parliamentary support.
The economic roadmap comes with a government request for IMF assistance, which Aoun called "a mandatory path for recovery if we negotiate well and we are all fully committed to... reform".
Parliament speaker Nabih Berri and Samir Geagea, head of the Lebanese Forces, a Christian political party, were among the attendees.
But political heavyweights such as former prime minister Saad Hariri boycotted the session over objections to the current government's approach to the economic crisis.
Aoun said the rescue plan was not the responsibility of a single group or party.
"Getting out of the dark tunnel that we are crossing is everybody's responsibility," he said.
This reform plan, the president said, "aims at correcting the structural imbalances" of a free falling economy, but its success requires "sacrifices".
The roadmap - long seen as a prerequisite for external financial aid - aims to reduce Lebanon's enormous public debt burden from 170 percent of GDP to less than 100 percent.
It calls for a restructuring of the banking sector and the country's enormous debt pile, as a well as tax hikes and a freeze in state hiring, among a raft of other reforms.
It comes against the backdrop of a series of economic woes, which include a dollar liquidity crunch, soaring inflation, the country's first sovereign debt default and a devaluation of the Lebanese pound.
The pound has been selling for more than 4,000 to the dollar on the black market in recent weeks in a record low.
Although the official exchange rate remains fixed at 1,500 to the dollar, the government's reform plan is based on an exchange rate of 3,500 to the greenback.
"What we are offering is not a sacred text, it can be developed" further, Prime Minister Hassan Diab said at the meeting.
"We are presenting this plan to you because it is not the property of the government," he said. "It is a work programme for the state."