Khalil Gebara | Friday, December 20, 2019
The Governor of the Banque du Liban (BDL), Riad Salameh, issued a circular on Wednesday December 4 which introduced an interest-rate cap on bank depositors denominated in both US dollars and LBP. News also surfaced that the BDL might be considering issuing another circular with the aim of formalizing the unofficial financial restrictions (withdrawal and transfer) that are currently being implemented by the commercial banks under the leadership of the Association of Banks in Lebanon (ABL).
The Lebanese Constitution preamble, added after the Taef Agreement in 1990, stated that the Lebanese economic system is based on the free market model, which ensures the right to private property and initiatives. As such, significant controversy followed after the introduction of such informal measures by commercial banks in regard to their legality. The ABL, founded in 1959, four years after the passing of the Law of Money and Credit which established the BDL, is registered according to the Law of Associations of 1909, which does not grant it the prerogative to introduce these measures. Although some might argue that capital controls are unconstitutional, formalizing them would still require new legislation by the parliament rather than the dissemination of a circular by BDL.
The Lebanese economic model has so far survived on free flow of capital, remittances, and foreign direct investment, as well as strong dependence on the tourism and services sector, where commercial banks play a pivotal role in the economy. In this market, banks are responsible for financing the structural budget deficit, covering trade deficit, compensating private sector employees for stagnant salaries by offering personal loans, and providing different lines of credit for contractors, hospitals, and other government suppliers who usually wait for long periods of time to receive compensation for services provided. In simple terms, the commercial banks have been serving as the engine of a shaky dollarized economy addicted to foreign currency and dependent on the continuous growth of bank deposits.
Furthermore, the pre-civil war economic model benefited greatly from wars and political upheavals that were going on in the region. On the one hand, commerce shifted to Beirut’s Port from Haifa after the 1948 war and the occupation of Palestine, while the different coups d’état in Syria and the nationalization policies led to the migration of Syrian capital to Lebanon. In this context, the Lebanese parliament introduced the Bank Secrecy Law in 1956 to attract Arab capital.
The postwar economic model required a stable fixed exchange rate, free flow of capital, and substantial high interest rates that provide incentives to attract new money and ensure continuous growth in bank deposits. Yet, this model proved to be unsustainable, as the deficit in the balance of payments was one of its main characteristics. Instead of dealing with the main fiscal and monetary shortcomings that had led to a twin deficit (budget and balance of payments), interest rates were increased to attract new sources of money, and BDL conducted several financial engineering operations in order to increase foreign reserves. These measures increased liabilities in foreign currency, crowded out private investment, reduced commercial banks’ liquidity in foreign currency, and increased their reliance on Eurobonds.
Along these lines, the recent circular issued by BDL, indicates the end of the postwar economic model. Lebanon can no longer rely on a continuous flow of capital to help finance the trade and budget deficits. Today, trust has been breached between commercial banks and their clients, as both investors and expatriates do not believe their money to be safe in Lebanese banks anymore, and it will require at least a generation time for the banks to recover and regain this trust.
In fact, this trust was broken in the past, when the collapse of Intra Bank in 1966 stabilized the political system and increased mistrust between different political parties. Different theories were proposed to explain the collapse of Intra Bank, which was founded in 1951 by Yousef Beidas and accounted for 15% for total bank deposits.
What is important, however, is that in the wake of the collapse of Intra, the BDL and the Lebanese government restructured Intra Bank into Intra Investment Company and granted ownership to the BDL and other former Intra shareholders such as Middle East Airlines and Casino du Liban, among others. More importantly, new regulations and oversight committees were introduced in 1967 to avoid similar situations: the Banking Control Commission, the Higher Banking Committee, and the National Deposits Guarantee Scheme. Ironically, the Higher Banking Committee is unable to meet today because of the failure of previous governments to appoint vice-governors due to a disagreement between the different political parties over names of candidates.
Today, there is a pressing need to design and implement a new economic model. Yet, one cannot help but wonder whether the political elite and the financial authorities have the will and ability to lead such a complicated process.
Finally, this model would also require new regulations to avoid falling into the pitfalls of the previous model. Some of these legislations would be: putting a ceiling to the BDL’s financing of the government fiscal obligations, imposing measures to minimize conflict of interests between commercial banks and financial authorities, and ensuring both better disclosure mechanisms and regular publishing of the BDL annual budget.
Khalil Gebara, Professor and expert in governance, political economy, local development, and public policy, and a Senior Policy Fellow at the AUB Issam Fares Institute.
In line with its commitment to furthering knowledge production, the Issam Fares Institute for Public Policy and International Affairs publishes a series of weekly opinion editorials relevant to public policies. These articles seek to examine current affairs and build upon the analysis by way of introducing a set of pragmatic recommendations to the year 2019. They also seek to encourage policy and decision makers as well as those concerned, to find solutions to prevalent issues and advance research in a myriad of fields.
Opinions expressed in these articles are those of the author and do not necessarily reflect the views of the Issam Fares Institute for Public Policy and International Affairs at the American University of Beirut.