Lebanon special report 2015: Building Lebanon's future

A strong banking sector and growing knowledge economy hold the key to Lebanon’s future growth, central bank governor Riad Salamé tells Euromoney.

Lebanon 2015 cover
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At first glance, the immediate prospects for Lebanon’s economy look less than stellar. Four years of civil war in neighbouring Syria have cast a long shadow, curbing growth and polarizing politics, as well as burdening its already creaking infrastructure with more than one million refugees.

GDP growth, which was running at an average of more than 7% a year before the start of the Syrian crisis, has since slumped to around 2% as trade and tourism links with the rich Gulf states have been cut. Most external analysts are forecasting expansion of that order again this year but Riad Salamé, Lebanon’s long-standing central bank governor, says this may be optimistic.

"Lebanon may have zero growth in 2015," he says. "We have seen a reduction in demand on the consumer side as well as a decline in investments. The pace of growth of bank lending to the private sector has also slowed."

He notes that growth in Lebanon is usually concentrated in the summer season, when the country is traditionally a popular destination for both tourists and Lebanese ex-pats.

Low growth is a particular concern for Lebanon given its very high public debt levels. General government debt stood at 134% of GDP at end-2014, a figure that has been exacerbated in recent years by persistent budget deficits that have regularly topped 8% of overall output. for both tourists and Lebanese ex-pats. A modest recovery in arrival numbers this year has not, however, translated into an increase in consumption. Meanwhile, a reduction in deliveries of cement and the issuance of building permits suggests that the construction sector – another major driver of the economy – is also slowing.

Monetary strength

Fortunately, as Salamé points out, Lebanon’s fiscal weakness is mitigated by strong monetary conditions. Thanks largely to substantial inflows from the Lebanese diaspora, bank deposits continue to increase at an annual rate of 6-7%. In turn, the banking sector supports the wider economy through its willingness to absorb the bulk of Lebanese government debt.

"Despite the negative environment, investor confidence has been maintained and Lebanon has been able to be self-sufficient in funding terms in the public and private sector," says Salamé. "What is more, interest rates have remained stable and even declined this year, improving funding conditions."

He notes that, in this respect, the recent global market turmoil prompted by concerns about economic slowdown in China may also work to Lebanon’s advantage. "The slump in emerging markets may lead to the postponement of interest rate rises worldwide. This would mean that Lebanon will not be forced to raise rates in order to attract inflows, which could be harmful for the economy."

Meanwhile, tumbling oil prices – although negatively impacting some of Lebanon’s key trading partners in the Gulf – have helped to drive inflation down to close to zero and boosted the purchasing power of Lebanese households.

Significant increases in foreign exchange reserves in recent years have also enhanced stability by boosting confidence in the central bank’s ability to maintain the currency’s long-standing dollar peg. By the end of April, FX reserves stood at a record high of $33.8 billion, more than three times the level recorded in 2007.

This impressive increase has been partly due to dollar inflows from the diaspora – which equate to around 20% of Lebanon’s GDP – and partly to the central bank’s ability to issue financial instruments in hard currency, says Salamé. "The fact that we are able to issue instruments in longer maturities also contributes to stability, as it means we are not reliant on short-term funding," he adds.

Economic drivers

Salamé is also sanguine about the outlook for future growth, singling out three industries as the likely main drivers of economic

Riad Salamé,
Banque du Liban

 recovery. The first is the financial sector, traditionally the bedrock of the economy and still a beacon of stability, thanks in large part to the careful stewardship of the central bank.

In his 23 years as governor, Salamé has taken a highly conservative approach to bank regulation, maintaining a strict separation between commercial and investment banking, imposing high capital and liquidity requirements, and restricting local lenders’ involvement in high-risk products such as derivatives and structured finance.

He recently took action again, this time to prevent the development of a bubble in Lebanon’s fast-growing consumer lending segment. In late 2014, a minimum downpayment of 25% was introduced for car loans and mortgages, while monthly repayments were capped at a percentage of household income. Provisioning requirements for overdue loans were also increased.

"These measures were not taken in response to any problems in the banking sector but in order to protect families in Lebanon and prevent asset quality deterioration in future," says Salamé.

Further progress has also been made in the implementation of new international regulatory standards in Lebanon. The country’s banks have been tasked with achieving a minimum core tier one capital ratio of 12% by the end of this year, well above the level required by the Basel III framework.