It is not every day that a world-renowned economist touches down on Lebanese soil, but it should not surprise that such a formidable economist could deliver a presentation less than 24 hours after arriving in Beirut for the first time in his life. It might be expected that he would start with an exercise in affinity, by saying nice things about this country’s welcoming people and surprising allure. But, it was refreshing to meet an acclaimed economist who not only confesses to being no specialist on the local economy (only a fool would claim to understand the jungle that passes as Lebanon’s economy), but who has real expertise on the issues that matter in developing countries. Executive sat down with Peruvian economist Hernando de Soto Polar on the sidelines of an event organized by Banque BEMO at the Ecole Supérieure des Affaires.

E   What brings you to Beirut?

What brought me to Beirut was the invitation by Mr. [Riad] Obegi, and the fact that he told me, ‘Based on your kind of thinking, I’ve got a product that you’ve probably never heard of before, and that is my invention [see box page 56]. Why don’t you come and learn more about it, and at the same time, expose yourself [to the situation in Lebanon]?’ I said fine, and that’s what brought me here.

E  Lebanon is a very small country and there’s often a dichotomy between the local reality and the data and perspectives put forward by popular international economists, who only come for one or two short visits. I understand that you have done more than precursory research on Middle Eastern economies. Have you done any work on Lebanon?

Nothing.

E   So it’s virgin territory for you?

That’s one way of putting it. Total ignorance territory.

E   Knowing what one doesn’t know is a fortunate state of being. You have conducted extensive research  on the informal economy in developing countries, such as your native Peru. The informal economy in Lebanon is a very important part of the national equilibrium. How would it help to integrate into the formal economy a sector that’s barely recorded or taxed?

The advantage could be that you could do many things with your resources. You could work within a large-scale economy. Large-scale is [what was] behind the industrial revolution, and the advantage of this comes if you want to specialize and make combinations [such as products with multiple inputs or components]. Everything around us is the result of a combination, and if you’re in an economy where it’s clear what transactions can be made — because they are governed by laws — you can make much more complex products and fetch more surplus value. [People in the informal economy] aren’t taxed [on their incomes], but in my experience — in a measure that is confirmed in each country — they pay much more than the people who pay taxes.

E   How?

Many taxes are consumption taxes and not on income. Then, you have to pay direct bribes, and this is an irregular [cost] as opposed to a tax, which is set by law. The second thing is, of course, the humbling effect of a father telling his son, ‘We’ll go out and pay some little bribes. That’s the way life is, son.’ This is a very corrupting atmosphere. The other part is bribes that don’t look like bribes, like the amount of untruthful friendships that you keep up just to make sure that you are in touch with everybody. There are many ways of measuring this. For example, in a country like Peru, you have provincial industries, but 90 percent of the managers live in Lima, and not next to their factories, where they could help by supervising. This is true in practically every country that we have been to because it’s much more important to be close to [the] people in power, and make sure the law provides an advantage for you, than to actually supervise your factory. The idea about the formal economy is that it brings you all the advantages that you receive from the ability to have proof of your assets — to guarantee your credit or to pledge them against investments.

E    Financial inclusion and inequality are buzzwords of our time. What could banks contribute to achieving inclusion and overcoming inequality in a country with a very potent banking industry, like Lebanon?

They could do all sorts of things. The question is how many of them have the initiative of someone like Mr. Obegi and try to do something. In places like the United States, the banks haven’t done innovation. It’s been other forms of financing. I’m not sure that banks are in a position [to be innovative] because they tend to be conservative. If they do [participate in the financing of projects], they are in business, and if they don’t, they can be replaced, which is happening in many parts of the world.

E   In Lebanon, there is currently a debate over the validity of juxtaposing capital markets versus debt markets, because most of financing of the public sector and private sector economy is still done via banks and debt markets. Could an increase in capital market activity in a country be beneficial to the economy or would it make no difference?

What you mean by debt and capital markets is investments or loans that don’t come through banking. First of all, I believe in competition. I believe that taking initiatives [in new forms of finance] like Mr. Obegi’s is good, but if they don’t come from banking, they have to come from someplace else. If [this competition to banks] is not there, you have a huge black market with interest rates that go through the ceiling under the fictitious motive of getting to micro credit, which is extremely exploitative. I don’t believe in monopolies of any sort.

E   In one of your works, The Mystery Of Capital, you wrote that ‘The bell jar makes capitalism a private club open only to a privileged few and enrages the billions standing on the outside and looking in.’ Has your assessment changed in any way since you made this statement at the end of the last century?

Unfortunately, I don’t think so. The countries I’ve worked in may be a little more democratic, but [the development] has been too slow to stop terrorism and to stop feelings of inequality, frustration, learned helplessness, whatever you want to call it. My calculation is that people who are outside the bell jar make up 5 billion of the world’s 7.5 billion. When I talk of the 5 billion, I’m not talking about people like me, who can take whatever they want and combine it. The people who can combine things [into economic products] are only 2.5 billion. The other 5 billion are looking in from the outside and are angry like hell. To me, that was part of the [catalyst for] Arab Spring and all terrorist wars.

E   Proponents of contemporary capitalism say that to have 2.5 out of 7.5 billion included in the capitalist model is better than 1,500 or even 150 years ago, when only one out of every 100 people was included. As British economist Joan Robinson famously said in the 1960s, ‘The only thing worse than being exploited by capitalism is not being exploited by capitalism.’

I agree. I absolutely agree. Everything seems to indicate that between the time of Jesus Christ and just after the end of WWII we grew less than between the 1950s and today. The question is what’s politically viable, and we suddenly find that people voted in the United States either for Donald Trump or Bernie Sanders, who both said they want to stop globalization. I’m not criticizing the 2.5 billion. What I’m saying is that maybe we’ve arrived at a moment where the system might not hold unless you give some kind of outlook to the 5 billion who aren’t seeing the light. They’re starting to act up all over the place and go to the right or left [extreme] to topple the system. If that can be done is another story; the fact is that people are genuinely unhappy. The fact is that there is a rising mood on the left and the right against globalization. Let’s call it de-globalization. [In facing this trend], I think it’s a good idea to make the system much more inclusive.

E   We’ve just seen the renewed assertion of an alliance during President Trump’s visit to Saudi Arabia, which resulted in very large bilateral agreements. Do such collaborations between a key country in the Islamic realm and the United States, under a president considered by many to be anti-Islamic, mean that globalization is back on track, and we don’t need to worry anymore about anti-globalization politics in the US? 

I don’t have a view on what the significance of Mr. Trump’s visit is, among other things because we still have yet to find out if it will be a consistent [policy] over time. He seems to be a man who’s finding out that the world isn’t exactly the way he thought, as a result of which he’s improvising solutions at the moment. Some people would say what a practical politician he is, but I don’t think that we can actually see what’s really going to be the outcome of the new proposal because there is nothing in the background of Mr. Trump that you could’ve said would lead to this trip to Saudi Arabia. Obviously his government, or he himself, is still in the learning process, and we don’t have enough evidence to say whether this will look consistent and good. What is obvious is that he’s changing the game, and if his [previous] idea was to isolate the United States, he’s now getting the United States involved in a new war.

E   Are we heading into dangerous times in the global economic and political situation, or are we still proceeding in moderately risky scenarios as we have over the past few years?

In terms of dangers, I think the dangers started way before. I think that we’ve been in dangerous times since the West decided to intervene in Afghanistan [in 2001] in the way it did, since we went into Iraq [in 2003], and since [the financial crisis in] 2008.

E   This recalls sentiments voiced by other economists, who have been warning for some years now that we aren’t in a stable situation.

Yes, we’re off the charts now. That’s quite clear.

E    Do you see yourself in any specific school as an economist, such as behavioral economics, development economics, post-Keynesianism, or what have been called the saltwater (coastal) and freshwater (Chicago) schools in the United States? Do you identify with any of those?

No. At a certain moment of course in Peru, when I saw that people were working in the market, and the law was against the market, my position became very pro-market [with regards to] the countries I worked in. But, if I were a European or an American citizen, I wouldn’t necessarily take that view. [On the other hand], I can’t subscribe to the views of those who classify themselves as liberal in the European sense, or libertarian in the American sense. They assume in everything they talk about — on how to do markets, how you deal with bilateral trade, etc. — that the institutional revolution which occurred in Europe and in North America has also taken place in my part of the world. That’s a wrong perception. If they were [proposing] a system that is built on law and good contracts, copyrights and respect etc., why do they not think of those measures when it comes to a developing country? I don’t agree. I understand the compassion that the left has very strongly, but I don’t like their idea that the solution isn’t the market but the government. I think this is completely off-track. I find it difficult to fall into any specific classification.

E   Would you agree then to be called an undogmatic economist? You’re being hailed as a global influencer in economic thinking, so would that be an undogmatic version of economics? 

I like the word and am flattered. I’m flattered because I just haven’t found one place where to find the whole thing. If you look at The Mystery of Capital, my last chapter is called ‘The Ghost of Marx’ because I don’t think he’s exhausted.

E   In the philosophical or the economic sense?

In the philosophical sense, first of all because he has something over libertarians. By tendency, libertarians ignore the class phenomenon, and I don’t think you can see the big picture without classes. And the classes vary. The philosophical thinking of a great philosopher is helpful, but you have to avoid being captured by the last book you read. And you have to do what happens in revolutionary moments, which was said by the man who invented modern medicine in Britain, Thomas Sydenham, that ‘there is a moment when you have to close your books and open your eyes.’

Pushing loans onto consumers has become the fashion among financial service providers — a fashion hardly more concerned with reason and logic than proposing the existence of prefabricated tears and holes around the knees of a new pair of jeans. But, while the latter insanity is only a serious detriment if you want to use your jeans for actual work, like laying bricks on a patio, the former can be ruinous for consumers, as banks push products that carry added risk by catering to advertising-induced, exaggerated, or otherwise non-existential needs. These products are nonetheless well embedded in the profit-seeking culture of contemporary consumerism, in Lebanon as elsewhere. But one Lebanese bank ­— specifically one that can claim to be rooted most deeply in the territory’s history, even before the founding of the Republic — is pursuing a path less trodden.

BSL Bank, which in various earlier phases of its history carried names from Ottoman Imperial Bank to Banque de Syrie et du Liban, has made waves in the market since the beginning of this year. It began by offering the unthinkable: a housing loan with an annual interest burden of practically zero percent. In spring, it followed with a personal loan that proposes an annual percentage rate (APR) of 10.62 percent. APR — which reflects real interest charges and other costs of a loan and is mandated by the central bank to appear in loan advertisements — is not an intuitive concept that lends itself to back-of-the-napkin computation by consumers, but it is easy to compare APRs under the simple rule that lower is better.

By this comparison, most personal loans in Lebanon have, in recent years, been priced at four or more percentage points above BSL’s new offering. According to BSL General Manager Elias Alouf, customers are not eligible for the loan if they are a foreigner (as per every bank in the country) or have too few zeros on their monthly paycheck (the floor for loan qualification is a monthly income equivalent to $2000 or $2,500 for the self-employed). Neither will the loan be approved if the cash is to be blown on a cruise, lavish celebration, high-priced image-boosting car, or some other conspicuous consumption extravaganza. 

At first, this array of lending conditions brings to mind a quote by 20th century American comedian Bob Hope, who famously said that “a bank was a place that will lend you money if you can prove that you don’t need it.” But, Alouf describes the BSL’s approach as a matter of practical prudence — the risks of a low earner defaulting on a loan are exponential when compared with mid-income families, he says. He portrays BSL as balanced between “agile and disciplined,” claiming that this is the bank’s strength. “Being simultaneously agile and disciplined makes a bank flexible and enables it to promote its products and services rapidly, but at the same time we will never forget the basics of banking,” he elaborates. This identity matrix appears to be topped off by classical societal principles, and perhaps, a dose of some patronizing behavior. “We really are orientating the bank toward helping the Lebanese to stay in Lebanon, buy their houses, and create their own business,” he explains.

Next, he lowers his voice to a conspiratorial whisper and apologizes in advance for uttering the “e” word. “Excuse me, this is ethical,” he says when explaining how BSL will not push its customers into borrowing for purposes of conspicuous consumption, leisure, or even the financing of big family events such as weddings and christenings. “These are things that should not be financed by banks. Bank financing is for necessities. For us, everything that is leisure, travel, etc., is not a necessity,” he says.

In his view, people should save if they want to go on a vacation, rather than overburden themselves with debt that can turn a two-week holiday into a years long commitment to loan installments. According to BSL, self-financing such enjoyments is the correct path and it will therefore always inquire of loan applicants their objectives for borrowing before deciding whether to approve the loan.

To entertain such a strategy, a lender has to be selective as well as self-restrictive, and operate on principles that at times are likely to get in the way of maximizing profit. “We don’t want to only be a profit-oriented bank,” Alouf says. “We want to contribute and help people as much as we can. When you look at the basic needs of the population, they need to buy a home, they may need a personal loan to renovate their apartment, they need to educate [their] children, insure retirement and that’s it. I will not finance a lifestyle.”

He acknowledges that this can be viewed as an attempt to change the mentality of Lebanon’s loan-happy consumers, but emphasizes that BSL does not aspire to move behavioral mountains in an instant. “We are a mid-sized bank, not one of the top banks, and we are not going to tell you that we are going to change the mentality of consumers. [But] people will always make comparisons, and they will see a bank that is not [goading] them to take loans, but instead is advising them in certain cases not to take a loan. It will have impact on the consumers, trust me. But not to a very large extent. It is a snowball effect,” he says.

[pullquote] Bank financing is for necessities. For us, everything that is leisure, travel, etc., is not a necessity [/pullquote]

Besides seeking to distinguish their lending through new retail products, Alouf and Youmna el-Khoury, business manager and head of marketing at BSL, tell Executive that the bank is preparing to roll out new digital strategies and new card services by the end of this year. “Consumers are overloaded with products and promises from everywhere. At the end of the day, if you don’t want to fight [over customers] with other banks, you need to find an innovative product for it to be accepted. By year end, BSL wants to be on par with all major banks in its product offerings,” Alouf says.

Khoury, who has banking in her blood as a member of BSL’s main shareholding family, joined the bank’s management team, at the same time as Alouf in June 2016. According to her, BSL is devoting new efforts into building both customer and employee relationships, in a process she estimates will take around three years. “We are starting today, in 2017, to acquire new clients, and we are also building on our relationships with our existing clients. We are also doing a lot of internal work to communicate with our employees and create this relationship because the best advocates of our brand are our client base and our employees,” she says.

As part of the bank’s digitization strategy, last year BSL began to invest substantially in its e-banking systems and online presence, commissioning an international provider for the development of a website that is scheduled to go live soon. Khoury envisions BSL as an interactive bank where physical branches function as digital banking nodes in which electronic knowledge of the consumer is stored. “I see it as the future where people would go into the branch — I’m not talking about eliminating the branch — and it would be a smart branch, [though] not in the sense of an automated branch as you see it today in some banks in Lebanon. When a customer steps in, the employees at the smart branch would know exactly who this customer is, if they have a loan and a need for a new car,” she explains.

Alouf admits that customers will not migrate to BSL if the bank only provides the same offerings as its many competitors in the Lebanese market. Besides rolling out a digital banking strategy and preparing new products on both the lending and savings side, he therefore aims to emphasize BSL’s historical competitive advantage: it was the first banking provider to arrive in some regions of Lebanon 70 years ago. This rootedness shows in BSL’s emphasis on what Alouf calls, “basic banking.” This stands in contrast to the recent growth strategies of some other expansionary banking franchises in the Lebanese market, which have more of a background in wealth and asset management or investment banking. Alouf concedes that BSL might consider adding asset management to its offerings later on, but plans today are to grow into the retail area on the asset and liability side. Relying on his more than 20 years of experience working with strategy, compliance, and international expansion projects at two large groups, Byblos Bank and Bank of Beirut, Alouf says that BSL is planning to pursue its growth domestically and organically, at least for the time being.

[pullquote] When a customer steps in, the employees at the smart branch would know exactly who this customer is, if they have a loan and a need for a new car [/pullquote]

In its approach to the business segment, BSL is targeting the commercial middle market of established traders and manufacturers with financing needs of up to $1 million. It aims to serve these clients within its fundamental philosophy of prioritizing the client’s best interest as understood by the bank, even if this means advising a client engrossed with the good performance of his or her business against taking a loan for expansion. “In some cases, expansion carries a danger of reducing profit instead of increasing it, and a banker who notices that a commercial client is heading in such direction has to advise a customer against taking a loan to expand,” notes Alouf.

For the branch network, BSL applies a similar approach of deliberate moderation. Arguing that the current network of 18 branches is sufficient for a proximity banking approach in Lebanon, Alouf wants to expand the bank’s workforce from a current staff of 298 to about 325. He says he will make additional hires in the medium-term only if necessitated by employee departures or substantial increases in client numbers, but is not looking to increase the network by adding new branches in the next one to two years.

According to Alouf, the bank’s performance has advanced in terms of profitability, which before 2016 was below targets and trailed behind sector averages, but has seen notable growth beginning last year and a full-year profit growth of 7 percent in 2016. However, he adds that it was only at this level because exceptional gains had been recorded in 2015. “If you remove this exceptional component from profits and compare 2015 and 2016, we had more than 60 percent increase in operating income but on the bottom line it was a 7 percent increase,” he says.

The bank seeks to expand operational profitability and has had good responses to its new housing finance and personal loan offerings, he says, and expects growth this year to be “in the high double digits,” and to achieve core profitability ratios that are on par with Lebanese Alpha banks. While BSL has a high share of independents on its board (seven out of nine board members), the bank, according to Alouf, does not currently plan to go public.

Finding yourself immersed among a gaggle of high-profile Lebanese bankers at a conference or social get-together can be a mildly frightening experience. When almost everyone in your vision is a banker or economist, what do you say to soften this phalanx of professionals? Which is the best buzzword to break the ice? The answer, personally tested in a meeting last month, is “corporate governance.” 

Dropping the term on the sidelines of a non-governance-related event at the Institute for Finance and Governance at the Ecole Superieure des Affaires (ESA) sparked an immediate conversation with a local banking consultant, who shared his experiences working in the provision of corporate governance (CG).

In the words of the World Bank Group’s International Finance Corporation, CG is “the structures and processes by which companies are directed and controlled.” Good corporate governance is important because it helps companies to operate more efficiently, mitigate risk, improve access to capital, be more accountable, and have the tools to respond to stakeholder concerns.

“Exchanges get involved in good governance work via the listing requirements they specify in order for companies to issue shares on their markets. The general idea is to protect shareholders against the information disadvantage they suffer, to be sure that management is always mindful of their best interests,” said Thomas Krantz, an activist and former chief executive of the World Federation of Exchanges. He offered this perspective on the importance of corporate governance in the context of securities exchange during a speech in late April at the American University of Beirut. The event was sponsored by the Beirut-based specialized consulting firm Capital Concept — a company chaired by Yasser Akkaoui, who is also general manager of Newsmedia, the publisher of Executive.

At the same event, five Lebanese banks signed on to a document called the Investors for Governance and Integrity (IGI) declaration. Per the declaration, they acknowledged their duty to act in the best long-term interest of their beneficiaries, stating, “We believe that corporate governance issues can affect the performance of investment portfolios,” and declaring good CG to be an essential factor “in mitigating financial risks and protecting shareholders’ rights.” With the signatures of the five new banks, the number of IGI signatories has doubled to ten, comprising seven local banks, two investment funds/firms and one regional association that represents 27 private equity firms. 

Rising standards 

Discussion of corporate governance has been on the rise in Lebanon. For several years before the April event, improved CG was trail blazed by some of the few banks listed on the Beirut Stock Exchange, along with eager consultants and the central bank. Adding to the sense that this is a timely and important issue for Lebanese banks was the arrival of corporate governance training for bank board members instigated last year by the central bank and accolades for a Lebanese bank’s CG in a London-based magazine. 

Moreover, recent ratings of Beirut Stock Exchange-listed companies show marked improvement in CG scores. The Governance and Integrity Ratings (GIR), issued by Capital Concept, saw ratings for six of ten listed stocks improve compared with a ratings exercise done two years ago. Except for marginal improvement by cement manufacturer Holcim, all the listed companies with an improved rating were banks. Three advanced by leaps and bounds (though the prior scores of all three were in the insufficient or outright failed range) and two others improved within their grade or by one notch. Of the four listed companies which did not, or barely, improved in the ratings, one is a bank, one a real estate developer ,and two are categorized as manufacturers or traders. 

Banks BLC, BEMO, and Bank of Beirut (BoB) saw the strongest improvement. As the top gainers, BoB and BEMO each jumped 50 points. BoB moved from a grade of F to a B-, and BEMO from a D- to B+ on the grade scale, which entails a total of five grades and 12 sub-grades. The third best improvement belonged to BLC, which added 31 points to its score and moved from an F to a C grade. Small gains from higher bases were achieved by Byblos Bank (three points, unchanged C+ grade) and BLOM Bank, which had an 11 point improvement and rose from a B+ to an A- grade, the highest of all listed companies. Two other listed companies of importance, Solidere and Bank Audi, seem not to have sought any improvement in their GIR scores. Bank Audi, given a B- grade under Capital Concept’s GIR methodology in 2015, received a minimally improved score and unchaged grade in 2017, and Solidere’s ranking, a D+, was likewise unchanged.

While the short history of the GIR ratings exercise does not constitute sufficient material to talk about trends or confirm sustainable increases in the corporate governance of Lebanese banks, it is notable that the average scores of banks shot up from less than 40 to 63 points, an increase of over 60 percent, to qualify for a B- grade.

Committing to better CG

The IGI signatories include publicly traded as well as unlisted banks. In the latter group are, in order of their signing, First National Bank, Jammal Trust Bank, BBAC Bank, Al-Mawarid Bank and FFA Private Bank. The listed signatories are BLOM and BEMO, the former having been the first bank to sign the IGI declaration and the latter a signatory from April 2017.

BLOM Bank issued a written statement about its CG commitments to Executive last month, just prior to the announcement of the 2017 GIR ratings by Capital Concept’s Akkaoui. In it, the bank said that it “continues to build on its strong corporate governance foundations.” CG measures mentioned in its statement included an update of its Corporate Governance Code in 2016 and several independent board members attending a training session on “Board Level Corporate Governance in Banks,” conducted in fall 2016 at ESA by Nestor Associates, a London-based CG consultancy. The training was held at the initiative of Banque du Liban, Lebanon’s central bank. BLOM added that more executive and independent board members are scheduled to attend similar training in 2017.

In a further note of interest for Lebanese CG practices, a London-based online publication and magazine called Ethical Boardroom declared its 2017 corporate governance winners for the Middle East in eight industry categories last month. Besides seven companies based in the Gulf region — the likes of SABIC, ZAIN, DP World and ALBA were among the winners — the awards contest declared one Lebanese bank to be the regional corporate governance champ in the financial services category: Bank Audi.

Independent and partisan sources both tell Executive that the process of organizing CG training for the board members of Lebanese banks was, and possibly still is, not without its opaque moments. At the same time it seems undeniable that CG standards at Lebanese banks — and, hopefully at other privately held or listed companies — are moving forward.

As CG advocate Krantz emphasized at the close of his Beirut speech, even regulated public markets are human endeavors, and as such are vulnerable to poor or improper behavior. “We simple humans need guidance in the form of regulation,” he said — which in a moderately better world is exactly what corporate governance is all about.