Marwan Barakat is head of research at Bank Audi. He sat down with Executive to discuss the issues currently facing Lebanon’s banking sector and possible solutions to the country’s fiscal woes.
- What is the sector most lent to in the Lebanese economy?
The Lebanese economy is primarily a trade and service economy. These are the sectors that have the most important value-added. These are the sectors that are the most important drivers of growth. If you want to get technical, these are the sectors that have the lowest investment to value-added ratios. The breakdown of the bank lending over economic sectors is a mirror-image of the breakdown of GDP, by economic sectors. Banks lend to sectors that have [a high level of] economic value-added, so lending to the trade and service sector has grown significantly over the past few years.
Lending over the first quarter of this year has been very high. $2.3 billion in additional loans to the private sector in one quarter is unprecedented. Those loans were directed to residents inside Lebanon, resident companies or retail loans, or to a number of [corporations] in the region.
Because Lebanese banks have [a high level of] flexibility, they can go beyond borders and they can lend. They have very high liquidity in a period where liquidity has been relatively squeezed since the onset of the crisis in the region. So accordingly, banks have played the role of financing private sectors across the region, not only in Lebanon.
- We still have expensive deposits on the books. With the surge in lending, do you expect that excess liquidity will no longer be an issue?
I don’t like to put it that way. Excess liquidity has played an important role for the resilience of the Lebanese banks throughout the financial crisis. Cash pays in tough times. In these tough times we had a lot of capital inflows targeting Lebanese banks and accordingly generating earnings and balance sheet growth. Earnings grow systematically and value-added to shareholders grows systematically, so accordingly, liquidity has paid off in these tough times.
I don’t look at it as excess liquidity. Do we have excess deposits when compared to the size of the Lebanese economy? That’s true — the capacity absorption of the Lebanese economy of these extensive deposits when compared to GDP [is] a ratio of 300 percent deposits-to-GDP. But for us this is an opportunity: an opportunity for regional expansion and for international expansion.
- So have we exhausted the viable borrowers in Lebanon?
This is something we discuss internally on a regular basis. Our belief is that there is room for lending within Lebanon as the domestic economy is growing at a fast pace.
If the economy grows by 5 or 6 percent or more over the next few years then this definitely creates opportunities for the banks to lend to the domestic private sector, but not to the extent of absorbing all of the growth on the funding side. Accordingly, we are continually searching for opportunities within the region. Our corporate banking people are always on planes or on the road.
- But GDP growth is expected to slow. Are banks expecting the GDP growth of 2009 to reoccur and is this a realistic expectation?
My official standpoint is that there is room for the GDP to grow at a high pace for a number of years to come because of the high cyclical output gap. The economy is operating at 70 percent of its potential output. This is our estimate.
The developing economies operate at an output gap. The output gap is the difference between actual output and potential output. Potential output is the output when all resources — labor resources, capital resources — are fully utilized. The developing economies in general are operating quite below potential output at varying degrees.
[Lebanon’s] economy has important capacities when compared to the actual output, which is still quite below the potential output. Why? Because we passed through difficult years: years of no growth.
- Has there been any progress in making the Lebanese lira a standard of deferred payment?
There has been some progress but not enough. The efforts of the central bank led to an improvement in private sector lending in Lebanese pounds. If we look at the latest figures, the figures that were issued for March, we see over the past year we had close to $1.4 billion of additional loans in lira out of $5 billion of additional loans: close to 30 percent. Overall, Lebanese pounds represent only 15 percent of total lending, which means that somewhere, the new measures of the central bank have helped.
Does this mean that we have reestablished the borrowing function of the currency?
Definitely not; loans are still dollarized to the extent of 83 percent.
This effort, or joint effort between the central bank and Lebanese banks has to be reinforced and intensified so as to take advantage of our liquidity in Lebanese pounds.
- Do banks want to stop relying on T-bills to soak up Lebanese lira liquidity?
Lebanese banks have, in relative terms, reduced their exposure to the treasury over the past few years. If you look at these exposures as a percentage of their deposits, or as a percentage of their shareholders’ equity, there has been a relative improvement in banks’ exposure to the government.
This is something that banks would like to continue to decrease, which would positively affect their financial standing, positively affect their risk profile, and ultimately the international credit ratings of those banks that are rated. But definitely, this depends on the ability of the government to find other sources of funding. But in case they do not, we are not going to shoot ourselves in the foot. We will continue subscribing to forthcoming issues in Lebanese pounds and foreign currencies.
The Ministry of Finance should consider issuing in Lebanese pounds and not in foreign currencies for a period of time. We have maturities in foreign currencies. If, for a two-year period, these maturities are not issued in foreign currencies but are instead issued in Lebanese pounds, then this would improve the risk profile of Lebanon and ultimately of the banking sector, and there is room to do that.
Because we have operating surpluses in Lebanese pounds, we are interested in investing those operating surpluses in Lebanese pound treasury bills. They don’t need to issue in foreign currencies. If they don’t, and give back the maturing bonds’ cash to the banks, then this would reduce the foreign currency debt, which is the main vulnerability indicator of debt, because of the fact that the Lebanese government can issue debt in Lebanese pounds and can print currency in Lebanese pounds and ultimately redeem the debt in Lebanese pounds. There is no default risk in Lebanese pounds.
The default risk is always in a currency that the country does not have a full mastery over. There should be a distinction between the two risks. We have $21 billion of foreign currency debt and our GDP is $33.6 billion, so we have a foreign debt-to-GDP ratio of close to 60 percent.
Imagine if in two years we don’t renew our foreign currency debts and they issue debt in Lebanese funds rather than foreign currencies. You have $3 billion in annual maturities, so [after two years] $6 billion. You have $21 billion of foreign currency debt today, so you will reach $15 billion in two years time while GDP will be above $40 billion. This is a 38 percent foreign currency debt to GDP ratio. Imagine how much this would improve the risk profile of the sovereign and of the banks.
- Why hasn’t this been done?
I think that [the authorities] are increasingly more open to that. I think that the main reason is that when you don’t renew those maturities, you have to pay them in foreign currencies. Where do you get these foreign currencies? From the reserves. They don’t want to see the reserves declining [because confidence in local currency is derived from high foreign currency reserves at the Central Bank].
I believe that we can allow ourselves, rather than having $30 billion in foreign assets, to have $25 billion in foreign assets. The reserve level is very high so [$5 billion less] is not going to jeopardize confidence.
