Dr. Joseph Torbey Speech
President – Association of Banks in Lebanon
Lunch Debate
Bristol 4 June 2002
Excellencies,
Ladies and Gentlemen,
I would like to start by extending my gratitude to the International Chamber of Commerce for organizing this meeting today.
The prevailing economic situation in Lebanon raises many concerns, due to the growing public debt and the burden of its servicing, as well as to the on-going public budget deficit and the delays in adopting necessary corrective measures to remedy the situation.
With the economic situation increasingly becoming an arena for political conflicts, the issue of public debt and ways to ensure the government’s financing needs has become the daily media issue and conversation topic in major areas of life. What added oil on fire is the speculation perpetuated by some, claiming that the Lebanese economy is on the verge of a crisis similar to that undergone by the Turkish or the Argentinean economies, which negatively impacted the banking sectors in both countries.
The 11 September events in the United States brought a change to the strategic world scene, whereby chances of Lebanon getting international financial support dimmed, because of its listing on the American and international Claims List pertaining to some of its political components, such as the green line, the abolishment of the Resistance (in the South), the Army deployment in the liberated areas. Consequences of non-compliance of Lebanon to such claims were translated by the cancellation of the Sponsoring Countries meetings, which were supposed to ensure financing to the rehabilitation of liberated areas from the Israeli occupation. Moreover, the International Monetary Fund refrained from granting any aid to Lebanon aiming at the restructuring of its debt and the decreasing of relative interest rates. Difficulties in holding Paris II Summit, intended for the same purpose, remain numerous as well.
What the Lebanese citizens are worried about is the extent of the public financial crisis upon the banking situation, especially that banks have constituted for the past years a fundamental source of financing for the government, by subscribing to the Treasury Bills.
As a matter of fact, the Lebanese banking sector enjoys a leading role in the financial sector in the country, and has been, since the dawn of independence until our present day, the pride of the Lebanese: performance of this sector had propelled Lebanon, before the 1975 events, to the rank of the financial Centre of the whole region, and was called, by the same token, the Switzerland of the Orient. Then the war came and aimed, among a myriad of other things, to abolish Lebanon’s economic and financial role. This war reached some of its planned goals, since Lebanon still suffers its consequences on different levels, especially on the Public Finance front. In fact, the poor fiscal collection that lasted over a quarter of a century, as well as the sluggish economic growth due to the disruption of businesses, the destruction of institutions, the high cost of reconstruction and the limitation of some of the economic functions of Lebanon, all contributed to the huge accumulated public deficits, and the heavy load of debt servicing.
Yet on the other hand, and despite all the drawbacks afore-mentioned, as concerns the poor financial performance of the government and the economic slow-down, the Lebanese banking sector continued to move ahead and registered high and continuous growth rates in its major balance sheet items, detailed as follows:
- Deposits grew from approximately USD 6.6 billion in 1992 to an estimated USD 40 billion at the end of 2001.
- Loans to the private sector grew from an estimated USD 2.6 billion to USD 15.2 billion in the same period.
- Equities grew from USD 1.44 billion to USD 2.96 billion.
The consolidated balance sheet of banks reached an estimated USD 48 billion at the end of 2001, the equivalence of three times the GDP.
In front of such a contradicting performance between the banking sector and the Public Finance, the question of inter-influence between the two sectors remains a persistent one, especially when it comes to the issue of risks related to the Public Finance weaknesses and their potential effects on the banking sector?
In fact, there exist inter-dependant influences between the banking sector and the Public Finance because each of the sectors’ performance affects the other one’s. Most of the economic world crises were due to a weak banking sector, which reflected negatively on the Public Finance. In Lebanon, we are in fact witnessing the complete opposite case, since the strength of the banking sector has always been a major support to the Public Finance and the economic system as a whole. Banks have contributed to the financing of the public debt, the growth of the balance of payments and have ensured the financing needs of the private sector, while keeping all security and assurance measures pertaining to their capitals, their profitability and their liquidity. Banks continue to play their supporting role to the economic and social stability, while taking necessary precautionary measures to face the risks arising from the increasing public sector indebtedness on the general situation of the country.
The following positive elements have contributed to the development of the banking sector throughout the past 10 years:
- A controlled political and secure atmosphere
- Good levels of economic growth registered in the beginning, till they started declining in the past years.
- Modernization of banks operations, implementation of technological innovations and hiring of skilled staff.
- A successful bank reform that consisted of many mergers or self-liquidations or new investments, under the umbrella of a wise monetary authority.
- A fair tax system
Contrary to the banking sector, the economic and financial situation suffered during the past ten years from a downward slope, which accumulations led to the following negative issues:
- A decrease in GDP growth until it reached zero in the year 2000, to reemerge to around 1 in 2001.
- A continuous classical deficit of the balance of trade account (around USD 6.4 billion in 2001)
- A decline in the balance of payments that registered a deficit of 1.169 billion in the year 2001.
- An increase in the public debt to an estimated 28.3 billion, or the equivalent of 172% of the GDP
- A public budget continuously suffering from a yearly deficit: total deficit reached 47.63% in 2001, thereby achieving a progress from previous years, where deficit in 2000 totaled 55.28%.
- A continuous pressure on the Lebanese Pound that resulted in a high cost on the foreign exchange reserves of the Central Bank.
As a result of these negative factors, the banking sector recently underwent a wave of destructive rumors that aimed at weakening its strength and tarnishing its reputation, by ways of reflecting the risks incurred by the public sector on its performance, raising by such two questions:
First question: is Lebanon facing an economic structural crisis that will lead to its default in repaying, and did we miss the train of economic and financial reforms?
Second question: is the Lebanese banking sector threatened, if we suppose that such a crisis will inevitably take place?
Our answer to the first question is that surely Lebanon cannot lose the financial and economic reform battle unless it refrains or is late to engage in it, knowing that the present delay on this issue threatens the whole situation and makes the government borrowing more difficult and more expensive. For interest rates are determined according to market conditions that are based upon the economic indicators of a country, and therefore on its sovereign rating. Lebanon has recently been downgraded because of the decline in these indicators, the thing that will make any new borrowing not only more expensive, but also harder to find. Interest rates can only be reduced by improving the economic performance of the country and conducting the necessary reforms.
It goes without saying that many obstacles hinder the overall restructuring of the economy. However, the government is starting to take steps towards some partial reforms this year. The general guidelines of these reforms are:
- Increased cuts to the government spending
- Improved tax collection, not by means of imposing new taxes, but rather by activating the collection process, enhancing and computerizing its administration.
- The immediate launching of the privatization process.
- Revisiting electricity prices according to its economic cost and activating fees collection
- Settling State indemnities pertaining to public maritime properties
- Initiating growth by encouraging investments and increasing productivity.
- Mobilizing all Arab and International relations that Lebanon enjoys with these countries, in order to obtain the financial support needed.
Lebanon seems to be presently on the verge of executing these steps. It is believed that crises carry within their folds chances of development and change; it is also known that danger usually creates awakenings. This initiated the government to develop remedies: in fact, it was able during the past year to conduct the first real decrease in its budget, pass on the Value Added Tax Law, sign a number of economic agreements, and is today in the stage of executing privatization and securitization, innovating new mechanisms to manage the public debt and decrease it, prepare for the ratification of EU Association Agreement, to name but a few positive steps.
Moreover, international warnings are not to be ignored, since they are indicators for Lebanon to speed up the process of realizing the much needed reforms.
Despite the weak economic indicators in general, we are witnessing some positive trends in some, except for the public debt which requires an urgent treatment to stop its accumulation and to decrease the cost of its servicing, according to the fundamental economic principle which states that risks are not commensurate to high indebtedness, but rather to the cost of debt servicing. We have high hopes in the achievement of fundamental steps in this direction, within the following few months.
As for the public debt, one can say that the Lebanese government does not presently face the problem of defaulting. In fact, Lebanon’s external debts are either assumed by Lebanese banking institutions or by Arab investors as foreign investments in the form of subscription to Lebanese Eurobonds issues are no longer the practice. Some debts are even carried by the Central Bank itself, which makes risks of defaulting even dimmer, however, those risks are replaced by inflation risk and the increased pressure on the exchange rate.
Furthermore, measures taken by the government seem to start giving some results: in fact, we are witnessing for the first time a decrease of the budget deficit compared to last year, even if the decrease recorded - although important - remains not enough. Lebanon was also able to resist internal and regional pressures on the exchange market, and the Lebanese currency remained stable. Some financial indicators also recorded some obvious improvements. Lebanon introduced the Value Added Tax and has recently adopted the Law for privatizing the GSM phone industry, and the Law for creating a special purpose account for the management and decrease of the public debt. Such are measures needed in the frame of corrective financial plans.
The international rating agency “Fitch” stated in its report dated 11 April that “the public sector situation remains unacceptable, but Lebanon does not presently face any risk of default.”.
Add to that the credit rating agency “Moody’s” stated in a report published by Reuters last May that “Lebanon still has the chance to avoid getting to the default stage.”
Back to question number two: is the Lebanese banking sector at risk, if we assume that the economic crisis will definitely occur, because the necessary remedies were not implemented in the short time remaining, or were executed in small insufficient doses?
Justifications for such a question stem from two facts:
- The first being that the banking sector is a lender to the government in both the Lebanese pound and foreign currencies. The risk of default therefore incurs major losses on the sector, the consequences of which ought to be evaluated.
- The second being that the banking sector is also a lender to the private sector, and any economic crisis will affect in its first stages, the solvency of some banks borrowers who might not be able to honor their obligations.
Are banks protected against such risks?
The basic fundamentals of the banking profession lie in successful risk management, be it credit risk or macro-economic risk or any other type of risk. On this level, the banking sector in Lebanon seems to enjoy highest safety measures to face any difficulty or loss that might be incurred, due to negative economic developments. This is due to its large size compared to the size of the national income or public budget, or even its share of the public debt. The Lebanese banking sector enjoys high capitalization levels, solvency ratios that exceed those specified by the Basle Committee, good liquidity levels and good performance. All these are fundamental elements reflect the depositors’ trust in the banking sector and the international confidence in the banking sector’s ability to successfully manage its private and public risks.
Indeed, the banking sector maintains high safety margins relative to its loans granted to both public and private sectors, according to all internationally recognized principles.
The banks consolidated loans in foreign currency granted to the Lebanese government reached an estimated USD 5,566 billion at the end of March 2002, constituting 14% only of total deposits and 19% of deposits in foreign currencies. Therefore, doubting the strength of the banking sector because of this debt seems to be made-up due to the fact that debt is limited in size, compared to the size of the banking sector and its dollarization.
Worth noting that these debts, even if carried by banks operating in Lebanon, have an international dimension, because they are, first, issued and subscribed to on the international financial markets, and second, are listed on international exchanges and have all the aspects of international debt instruments, including the possibility to foreclose on any foreign or local assets of the indebted country. Furthermore, Lebanon has always enjoyed a long history of honoring its financial obligations, and as a previous regional financial center, and one that aims to regain its past position in the region, the country has definitely an interest in paying back the international dues on time, in order to remain attractive to investors. Otherwise, foreign transfers constituting its daily bread and butter will surely stop flowing in.
As for loans granted by the banking sector in Lebanese Pounds to the government, which amount to LBP 13 900 billion, those do not constitute any threat, since the government does not face any risk of default in the national currency.
In the process of discussing the public debt, it is noteworthy to mention the following issues:
- The conversion of deposits from LBP to foreign currencies during the last couple of years. The debt conversion occurring is therefore due to the market forces and not to the desire of foregoing the local currency, which enjoys high interest rates into debt in foreign currencies with lower interest rates.
- The increasing size of the public debt in foreign currencies constitutes another reason for the monetary authorities to pursue their primary policy in stabilizing the Lebanese Pound, because of the poor results of devaluation of the local currency on the public debt compared to the big repercussions it will leave on the political, economic and social levels. The solution therefore to the Lebanese economic problem cannot be summed-up by a devaluation of the currency, but rather on curbing the financial deficit, which requires major and numerous reforms. Therefore, the policy of stabilizing the local currency should last, as long as it is possible and feasible.
We shall tackle now the issue of loans in foreign currencies granted by banks to the private sector: those reached at the end of March 2002 an estimated USD 15 billion, 43.5% of deposits in foreign currencies. Loans in LBP reached some 3000 billion, or 19% of deposits in local currency. Provisions on total loans granted reached 8% of the portfolio, covering 75% of doubtful and litigious loans. This ratio is considered among the best safety rates, especially that the majority of loans are covered by collateral.
The banking sector maintained liquidity in foreign currency amounting to 44% of deposits, which is considered a very high rate. The sector also maintains foreign assets with correspondents, amounting to some USD 8.5 billion in foreign currencies, added to a liquidity in foreign currency deposited at the Central Bank as a reserve, amounting to 15% of the deposits in the mentioned currencies.
Banks in Lebanon, which constitute the backbone of the Lebanese economy, were able to maintain high levels of solvency, reserves, and liquidity. Such a fact keeps them away from any suspicion similar to the Turkish or Argentinean crises. Bad as they are, these crises seem beneficial however, as they are a warning signal against the risks incurred by any country that fails to apply necessary structural reforms.
Efforts deployed by banks were particularly considerable and assisted the government in overcoming a quarter of a century of security and economic events, during which the normal tax collection processes were disrupted; banks ensured financing to the public sector, as well as to the private sector. Banks succeeded in overcoming these events and achieving continuous growth rates, reflected by their consolidated balance sheet that amounts to some 3 times the GDP.
Credit ceilings adopted by banks in dealing with the government and with the private sector are governed by risk management procedures, and have always been in accordance with safety measures and Rules of Prudence characterizing sound banking operations. It has been previously mentioned that bank loans to the government in foreign currencies do not exceed USD 5.5 billion of the consolidated banks balance sheet that amounts to USD 48 billion, and this is a very reasonable figure.
This situation encouraged the credit rating agency, Moody’s last week to grant a rating to some Lebanese banks that is higher than the sovereign rating. By such, banks in Lebanon surpassed the sovereign rating ceiling, according to which no private institution was supposed to be granted a higher rating than the sovereign one. The international agency based its decision upon the solvency of these rated institutions, and the free foreign exchange system in Lebanon, a factor considered to be the sure guarantee of non-interference of the government as far as honoring their foreign liabilities.
I conclude by saying: banks are capable of overcoming any economic difficulty in the country, the same way they overcame previous difficulties during the Lebanese war. Moreover, banks today enjoy bigger capabilities and more modern technologies. We have a great banking sector enjoying the good reputation and the required skills, one that operates within the boundaries of international rules and regulations governing the banking industry. This sector constitutes a pillar to the Lebanese economy and to the future role of Lebanon, and we expect it to grow even bigger. The Lebanese government ought to prioritize the execution of the much-needed economic reforms, in order to maintain the appropriate investment climate so that Lebanon remains an investments-and-capital-attracting country, and does not become a-capital-repulsive- country.
As a matter of fact, what Lebanon really needs is a strong and urgent initiative to be taken by the government in terms of meeting its economic obligations. Waiting is a mere expression of the incapacity to take an initiative, and constitutes a delayed decision to surrender. The major challenges faced by the government regarding this issue do not consist of reinventing new ideas, but rather in the speedy implementation of solutions that are recognized by everyone.
