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Country Report Lebanon

Country Report

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The largest country risks in Lebanon lie in the political sphere, as conflicts between the coalition party and main opposition party are fierce and hinder any progress on economic reforms. The fiscal position remains weak. While the current account posts substantial deficits due to high imports, these deficits are sufficiently covered by high capital inflows. Furthermore, these capital inflows have resulted in a high level of FX-reserves, which covers 12 months of imports, a sound level. The economy is estimated to grow by only 2% in 2013. The economic outlook is bleak as the regional unrest, particularly in Syria, will weigh on economic activity. 

National facts of Lebanon
National facts of LebanonSource: EIU, CIA World Factbook, UN, Heritage Foundation, Transparency International, Reporters Without Borders, World Bank.

Economic structure and growth

Lebanon’s nominal GDP per capita of USD 10,454 is moderately high, but pales in comparison to that of its oil exporting neighbours. However, adding the sizeable extra-territorial economy (remittances from Lebanese abroad amount to 20% of GDP) to domestic economic activity and correcting for different price levels leads to a Gross National Income per capita of around USD 25,000. This equals that of Turkey and is more than double that of Egypt, Jordan and Syria, but is still only half of the Israel’s GNI per capita (in PPP terms). Economic activity is concentrated in the Greater Beirut area, which accounts for three-quarters of GDP.

The real economy has by far not recuperated the losses incurred since the beginning of the 15 years of civil war that started in 1975, when living standards were similar to those in Greece, Cyprus and Ireland. The long-term prospects of the non-services sectors suffer severely from infrastructural decay, non-maintenance and political stalemates. The energy, water and telecom sectors need substantial investments that the government is barely delivering or facilitating.

The incoming remittances of the often highly educated émigrés form de facto the country’s main export category. In a regional perspective educational levels are high. Lebanon’s universities are reputed for their quality and Beirut is the ‘hospital’ for the wealthy of the Middle East.

Figure 1: Growth performance
Figure 1: Growth performanceSource: EIU
Figure 2: Social indicators
Figure 2: Social indicatorsSource: CIA World Factbook, UN, Heritage Foundation, Transparency International, Reporters Without Borders

The economy is led by the services sector with 76% of GDP (2012), of which banking is most noticeable and dominant in the centre of Beirut. Tourism, especially from the Gulf States and Europe, is another driving sector of the services-based economy. Agricultural output amounts to 5% of GDP, with a mixture of cash crops and food for local consumption, although a fair share of Lebanon’s up-market quality wines are exported.

The industrial sector accounts for 20% of GDP. Unlike large-scale construction projects in the Gulf States initiated by the government, the Lebanese building sector is catering for a broad array of users in the private sector as well, such as wealthy Diaspora Lebanese and rich Gulf state nationals. The risk of a real estate bust bringing down banks is small, since bank supervision  has been sound and no excessive real estate financing has occurred. Lebanese banks benefit from an exceptionally strong expatriate and Gulf State depositor base. Over the past 15 years the net inflow of bank deposits continued despite on-going political instability. There has been no bank failure since the early 1970s. Stringent oversight, robust capital adequacy, and ample liquidity all provide local investors with the assurance necessary to conduct business in a politically fragile state like Lebanon. Additionally, banks have ample room on their balance sheets to support the government's massive financing needs. Overall, the sector is highly capable of enduring domestic political shocks and foreign-born financial contagion. It is expected to remain liquid and robust in the forecast period.

The economic growth estimate for 2013 is weak; around 2% yoy. In 2012,GDP growth was also weak, estimated at 1.8%, since tourist arrivals had slowed in light of the regional political turmoil and the real estate sector also appeared to be cooling, due to lower expatriate demand for housing. Furthermore, the continued unrest in Syria does not bode well for the economic prospects in 2013. Not only is Lebanon’s direct exposure to Syria significant (25% of Lebanon’s exports and 11% of its imports), a lot of goods exports are transported through its neighbour. Given this high level of uncertainty, the economy will continue to suffer from low consumer and investor sentiment and we expect growth to remain weak as long the turmoil in Syria continues. 

Political and social situation

Lebanon has developed into a multi-religious country over the centuries. Since 1860, each of the leading (sub-)denominations of Muslims and Christians are guaranteed a representation in executive, legislative and administrative power. The civil war ended in 1990 by agreeing that, Christian (seven groups; 40% of population) and Muslim (four groups with 60% of population) members each occupy half of the seats in parliament. The president, the prime minister and the speaker of the parliament have since been a Maronite Christian, a Sunnite and a Shi’ite respectively. Power blocs are often temporary coalitions of clan leaders, more based on confessional and local interests or on personal/family relations than on political or ideological views. In this extraordinary political complexity, coalitions are rarely lasting, which causes slow - or deadlocked - decision making on critical issues. Political consensus is also needed for the full release of international donor funding, which should help to strengthen the economy. 

Currently, the Lebanese political situation is unstable and is dominated by the split between the two main political blocs, “March 8” and “March 14”. The key issue of the divide is the orientation towards the west and towards Syria. The March 8 block is dominated by the Shi’a Hezbollah and is pro-Syria. Its policy orientation is predominantly conservative, as the Shi’a generally are in the Middle East, even though its leader, Prime Minister Najib Mikati, belongs to the generally liberal Sunni. March 14 supporters are more pro-Western and also have a Sunni leader. The March 8 block came to power in June 2011. The pro-Western March 14 alliance, led by Sunni Saad Hariri, refused to join the government and remains opposed to its policies. These historic divides have been increasingly deepened by the crisis in Syria. Prime Minister Mikati has sought to establish himself as a neutral arbiter able to mediate between Lebanon's disparate factions and sectarian groups. But in reality he is struggling to balance the political arena and faces considerable opposition from the March 14 bloc. As long as the conflict in Syria continues, it further reduces the prospects of any collaboration.

Violence spilled over from Syria into Lebanon last year, further escalating fears that the government may be unable to insulate the country from the violence across the border. The October assassination of Brigadier General Wissam al-Hassan in a car bomb attack is the clearest indication of the threat posed by the conflict in Syria. Many within Lebanon have blamed the assassination on the Syrian regime or Syrian-backed groups in the country and it threatens to increase Lebanon's simmering sectarian divisions, causing further outbreaks of violence. Lebanon now stands on the brink of the most serious security situation it has faced since the end of the civil war in 1990 and the most pressing priority must be to ease the escalating tensions and prevent a further deterioration in the security situation. Exacerbating the difficulty of this task is the apparent loss of faith in the aptitude, impartiality and capability of the government.

Economic policy

Lebanon’s public finances are weak, since public debt is high and the government runs large and continuous budget deficits. With public debt at 127% of GDP Lebanon is the one of the most highly indebted sovereigns in the world. This means interest service is high and consumes around 40% of government revenues on a structural basis. However, other public spending has been contained, because of the absence of an approved budget since 2005. Years of political wrangling have obstructed the passage of the budget, and most capital expenditure can only be increased by legislation. This requirement can be skirted for spending to keep the administration functioning but prevents large investments in infrastructure. This has stalled reforms in the water, road, telecommunications and energy sectors, leading to severe infrastructure shortages that hinder growth. Donors have withheld budget support in the form of grants since 2010, due to the failure to make progress on reforms (although donors have funded projects, which are the much greater part of aid). This year we expect that again no significant structural reforms will be made and the budget deficit is estimated at 9% of GDP in 2013. An upside risk to this estimate is a fall in global oil prices if the global economy slows and results in markedly lower demand for oil. That these high levels of debt are sustainable in Lebanon can be attributed for a large part to the large size, depth and sophistication of the banking sector and local capital markets. Domestic banks hold 61% of the government’s foreign currency debt (end-2012). Also, despite the high debt levels and interest service, the government has never missed a coupon or principal repayment, giving it an unblemished debt-service record.

Figure 3: Public finances
Figure 3: Public financesSource: EIU
Figure 4: Interest rates and inflation
Figure 4: Interest rates and inflationSource: EIU

Inflation is estimated to average of 5% in 2013, down from 6.4% in 2012. However, as Lebanon is a large net importer of food and oil, a rise in global commodities prices could spur inflation again. Monetary policy is jointly set by the Central Bank and the Ministry of Finance. It focuses more on the quantity of liquidity than on its price. In general, the authorities are very reluctant to raise rates as this would signal a slide in confidence and dampen growth at a time when output is already facing headwinds. Higher policy rates would also worsen debt dynamics by increasing interest costs. However, the accumulation of a large stock of Foreign Exchange (FX)-reserves over 2008‐2010 renders this policy approach feasible.

Balance of payments

The large and structural deficits on the trade balance are offset by the services and transfer balances. The services balance showed a surplus of 14% of GDP in 2012, which, with weak prospects for incoming tourism revenues, could decrease. The inflowing remittances amount to 15% to 20% of GDP, but netted for outflows they are reduced to 4% of GDP. However, many deposit inflows on Lebanese bank accounts are statistically registered as a capital account item, but may in fact by their nature be better seen as remittances. Expatriates will continue to wire money back home either as remittances (current account) to their families or as a deposit inflow (capital account). Whatever the registration, the net impact of these inflows is an improvement of the balance of payments. These remittances will continue as long as the economies of the Gulf region, where many Lebanese work, are growing. 

Overall, the current account has seen continuous deficits in the past years and will again post a large deficit of 18% of GDP in 2013. The financing of this deficit has been done via continuous large inflows of non-debt creating foreign direct investment, which are estimated at 15% of GDP for several years to come. In addition, expatriates and non-Lebanese are willing to entrust their capital to Lebanese banks to benefit from professional services and higher interest rates with low exchange rate risk. The capital inflows more than compensate for the current account deficit. This has resulted in the accumulation of FX reserves by the central bank, which is of critical importance to defend the pegged exchange rate. The FX reserves are estimated to increase from USD 36bn at end-2012 to USD 38bn at end-2013. 

Figure 5: Current account balance
Figure 5: Current account balanceSource: EIU
Figure 6: Liquidity indicators
Figure 6: Liquidity indicatorsSource: EIU

External position

Total foreign debt has been increasing only slowly from around USD 29bn in 2007 to an estimated USD 30bn or 67% of GDP at the end of 2012, despite high current account deficits. Banks’ liabilities to foreign depositors (individual non-Lebanese nationals residing abroad) are estimated at around USD 25bn and are mostly of a short term nature, but are excluded in the debt total of USD 30bn, since the Lebanese statistics office doesn’t include these liabilities in its foreign debt definition. The banks’ external liabilities are more than covered by commercial banks’ foreign assets of over USD 40bn. Only 13% of the total debt is of short term nature, the bulk (60%) is from private creditors.

FX-reserves have risen steeply over the past years and have overtaken the gross external debt (excluding deposits from non-nationals abroad). The FX reserves stood at USD 36bn end-2012 and represent a very comfortable 12 months of imports of goods and services. Also, the other short-term liquidity ratios are at comfortable levels as figure 6 shows. In addition, Lebanon maintains the largest amount of gold reserves among the central banks in the Middle East region, excluding Saudi Arabia. If its gold market value of USD 12bn at the end-2011 is included, official reserves stand at over 100% of GDP, over 15 months of imports and also the other liquidity ratios would be at more comfortable levels.

Economic indicators of Lebanon
Economic indicators of LebanonSource: EIU
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