Special ReportWine

Developments in Lebanon’s wine sector

by Nabila Rahhal
written by Nabila Rahhal

Late August and September were harvest months for Lebanon’s wineries, and the energy across vineyards, whether in Batroun or the Bekaa valley, was palatable. From grape picking at dawn to Fête des Vendanges brunches (post-harvest celebrations) that stretched until sunset; from gathering around a table de tri (sorting table) for destemming to tasting that first sip of young wine, the country’s wine regions were alive with the sounds of production. 

And the energy does not cease with the end of harvest season. So far in 2019, the wine sector has already seen developments for existing wineries, such as the release of a new wine variety, or plans to open a winery-side restaurant. There is also a new winery that has entered the market (see box below).

These are dynamic times for Lebanon’s wine industry. The significant increase in the number of wineries in the past decade—there are 54 wineries currently registered at the Ministry of Agriculture, up from around 20 in 2009—has brought with it young, mainly Lebanese, winemakers eager to experiment with different techniques or grape varieties in wine making. This has led to more debates as to what makes Lebanese wine unique and what differentiates it from the competition.

Dare to create

Indeed, 2019 has seen the release of several new wine varieties. B-Qa de Marsyas by Château Marsyas has marked its first venture into the rosé world on June 19, releasing a limited quantity of Rosé B-Qa de Marsyas. According to Karim Saade, co-owner of Château Marsyas, the winery had hesitated at first to produce a rosé, discouraged by the perception among some wine professionals that rosé wine lacks depth and complexity. However, they decided to go ahead and produce one that would stand out for its high quality.

The terrace in Château Baal where the new restaurant is planned to open. Photo by Greg Demarque | Executive

Because of the limited production this year, the Rosé B-Qa was largely pre-sold to Château Marsyas’s hospitality industry clients who had heard about the release. It is available in some restaurants, wine shops, and supermarkets’ wine sections, and retails at $14.

Inspired by the demand for indigenous grapes, in 2016 winemaker and owner of Sept Winery, Maher Harb, decided to produce a mono-varietal Merwah, a local variety grape that was mainly used for arak and in blends. Knowing that Merwah tends to grow in the Lebanese mountains, Harb searched for Merwah vineyards in the areas surrounding his winery in Nehla, Batroun.

What he found he calls his “secret vineyard,” as he refuses to disclose its location and has even used the wider kaza Zgharta on the bottle’s label instead of giving away the name of the specific village. Harb says he felt a connection with the 99-year-old man who owns the vineyard and tends to it with his son. Each of the seven vineyards Harb works with were chosen not only for the grapes, but also the story behind the vineyard, he says. The Merwah vineyard produces 4 tons of grapes, and while he produced 600 bottles of 2016’s vintage, this year Harb is producing 4,000 bottles of the Merwah. This is the first year Sept Winery’s Merwah is being sold directly to the public. Costing $30, it is available at the Sept Winery and two other locations (Ashrafieh-based wine bar Vinothèque, Tawlet on Commodore street, and 209 Lebanese wine). Harb plans to export it to the United States, Canada, and London.  

Photo by Greg Demarque | Executive

Meanwhile Château Qanafar has experimented with a German grape variety, Riesling, which originated in the Rhine region. Riesling is thought to need a cold climate to thrive, and so it is uncommon for this region. Aside from Château Qanafar, only Château Khoury and Batroun Mountains have Riesling vineyards, with the latter producing a mono-varietal wine from it. But Eva Naim, marketing director and co-owner of Château Qanafar, says that the limestone soil, the difference in daytime and nighttime temperature in Qanafar, and the position of their vineyard—the sun only directly shines on the grapes for a few hours in the morning—are all ideal conditions for Riesling growth. She says her brother, Eddy Naim, the winemaker at Château Qanafar, chose to work with Riesling as “it is a winemaker’s dream because of its complexity and depth.”  

Eleven years ago, Château Qanafar planted half of a hectare of their vineyards with Riesling, and, in 2017, produced 1,000 bottles of mono-varietal Riesling. Regarding the limited number of bottles, he explains that Riesling vines have a low yield. The wine was aged in stainless steel tanks for two years—Naim explains that although white wines are normally not aged, Riesling’s high acidity allows it to age well—and was released into the market earlier in 2019. It sells for $18 in their boutique in Sioufi and in a few select restaurants and wine shops. “I am not in a hurry to sell it because it can age very well, and so it is a pity to drink it now,” Naim says.

Food for thought

There is a perception among some Lebanese, usually older generations, that Lebanese wines are of lower quality when compared to foreign wines. However, according to those interviewed in the article, the increase in the number of wineries, and the parallel increase in enotourism, is slowly changing this perception. “I decided to have a restaurant [in my winery] because of the increase in demand for such projects,” says Sebastian Khoury, winemaker and owner of Château Baal. “When visitors call to book winery visits, they always ask me if there is a place they can eat in afterwards.” Along with a silent partner, Khoury will be investing $70,000 to turn the terrace next to his fermentation area into a 40-seat steakhouse and tapas restaurant.

Khoury says he was planning to have the restaurant year round, but because of the dismal economic situation the country is in, it will be a seasonal venue that operates from April/May to October. Down the line, especially if the economic situation improves, he is planning to have a few bungalows for overnight guests and to venture further into enotourism.

Khoury believes that having a restaurant on site has several advantages to the winery. “We will benefit from an increase in sales because of the wine we will be selling in the restaurant, and because people are more likely to buy wine from our winery store,” he says. “I can also make a small profit from the restaurant which is, at the end, a small business.” Château Baal’s restaurant will be operational by summer 2020.

Atibaia is another winery planning to have a restaurant by summer 2020. Its owner, Jean Massoud, explains that he wants more people to visit the winery in Batroun and thought of having a cozy restaurant overlooking the vineyards. The restaurant will be operational year long, albeit only on weekends in the winter.

Despite this dynamism and activity, there is still room to grow Lebanon’s wine industry, especially if there is more collaboration among winemakers, and if this spirit of experimentation continues to be fostered. The energy felt during harvest can carry the industry through to bigger successes.

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E-groceriesEntrepreneurship

Lebanese delivery apps eye growth in grocery e-commerce

by Lauren Holtmeier
written by Lauren Holtmeier

In 2019, it seems almost any consumer good can be delivered to your door in Lebanon through a quick phone call, WhatsApp, or click online. E-commerce has been available in Lebanon since at least 2000, when the Buy Lebanese website went live in November that year. In the MENA region, the e-commerce market reached $8.3 billion in 2017, with an average annual growth rate of 25 percent over the preceding three years. Yet, the vast majority—over 87 percent—of that market is accounted for by the GCC (the UAE and Saudi Arabia in particular) and Egypt, with the Lebanese market seemingly resistant to the move online. 

Quantifying the size of the e-commerce market in Lebanon is difficult. To Executive’s knowledge there have been no Lebanon-specific studies on the sector, and little done by way of research of e-commerce in the MENA region as a whole. One study “E-commerce in MENA: Opportunity Beyond the Hype,” a joint effort from Google and global management consultancy Bain and Company sought to address this gap in February this year; with a 2019 Wamda report “Online grocery retail in MENA,” following in March and relying heavily on the formers research (cited earlier). The takeaway from both reports is that e-commerce in MENA has a high growth potential—Bains and Company estimates a potential growth of 3.5 times by 2022, to reach a total market size of $28.5 billion—yet is still stymied by regional specifics. 

Most challenging for delivery app operators and the business of B2C e-commerce in the region has been the persistent desire of MENA consumers to pay with cash on delivery (COD) versus the use of cashless payment modes that are nowadays the standard in economies from China to the United States and many countries in between, thanks to providers from from Alipay to Amazon. Around 62 percent of MENA online shoppers favor COD compared to less than 5 percent in the UK and France. COD “leads to higher return rates and failed deliveries, and it adds pressure to working capital requirements while limiting delivery options to logistics companies that accept this form of payment,” according to the Bain and Company report. A second challenge is the slow move online of small- and medium-sized enterprises (SMEs), which account for 95 percent of companies in Lebanon, above the regional average of 90 percent—think the local dekeneh, whose delivery is reliant on explaining directions via phone or sharing a pin on WhatsApp. 

The shop at the corner

Of all the e-commerce segments, the e-groceries market is the most underpenetrated—accounting for less than 1 percent of the e-commerce space in the GCC and Egypt according to the Bain and Company report—and as such, the room for growth is significant. The Wamda report estimates that this segment could see growth rates above 100 percent year-on-year for at least the next couple of years, while Bain and Company is slightly more conservative at almost 90 percent. 

Entrepreneurs in this space are banking on that rapid growth. In Lebanon, new marketplace grocery and fast-moving consumer goods
(FMCGs) delivery apps have appeared in the past couple of years: Toters in 2017, MrGrocer in February 2018, Markit in April 2018, and InstaShop later that year (a regional expansion, it was launched in the UAE in 2015). Executive spoke with representatives of the latter three—Toters did not respond to requests for an interview—to gauge how successful these apps have been in convincing store owners and customers alike to embrace e-groceries via apps. 

Markit, InstaShop, and MrGrocer operate with similar business models. As their primary revenue stream all take a small percentage of the invoice from in-app purchases; this cost is on the owners or operators of the store, not the customer, who will pay the same price on the app as they would have dealing with the store directly. As a secondary revenue stream, some sell or are experimenting with selling space to FMCG brands to advertise on the app. None operate their own delivery fleets; they rely on those employed by the stores available on their apps and leave all logistical matters to them. MrGrocer and InstaShop also charge a delivery or service fee of around $1, while Omar Osman, co-founder of MrGrocer, tells Executive that they began to look into how to market customer data to supermarkets to create an additional revenue stream, but this idea is still in the pipeline. 

All three partner with chain supermarkets as well as the smaller local stores within their area of coverage. Apps’ pitch to stores centers on potential for increased traffic via the digital realm and an additional selling channel. Abi Nader says the difference between the informal system is that Markit allows a store to track things more easily, such as delivery times, monitoring, and geographical spread. Once partnered with a store, its products are scanned into a system by an employee of the app, which allows customers to add them into a digital basket. Markit currently partners with eight stores and is finalizing contracts with others. MrGrocer has around 20 stores on its app and is expanding to areas outside Beirut with an additional 20 to 30 contracts soon, and the more-established InstaShop has 60 to 70 partner stores in Lebanon. 

Those behind these apps that Executive spoke with have no illusions about replacing in-store shopping, dealing directly with local shops, or using bigger chains’ online portals for delivery any time soon. Their growth strategy is two-pronged: on the customer side it is to attract those who usually shop in-store, while on the business side it is to convince smaller local shops to digitize their inventory, opening up their access to more customers. “We’re not competing with them, we’re making use of them,” Osman says. “There’s a new channel of business.”

On competing with informal markets—like Mahfouz, a shop in Geitawi that can have wine and vegetables on the doorstep in 15 minutes and charges no delivery fee—and formalized systems—such as Spinneys and Carrefour’s online delivery services—those Executive spoke with cited several factors they believe give them the competitive edge. Having a digitized basket eliminates the back and forth between the customer and their local stores to determine what items are available, something which costs both time and—in Lebanon especially—valuable phone credit. 

For competition with larger supermarkets, these nascent companies all seem to agree that the variety of options on their apps; the lower minimum basket size—sometimes as low as LL5,000 ($3.33) compared to the LL100,000 ($66.66) required of Spinneys; and the 30-45 minute delivery period compared with longer wait times—Spinneys’ customers can only schedule deliveries within three hour increments, and Carrefour’s website shows a LL5,000 delivery charge and a two to five business day wait for non-perishable groceries—make their apps an attractive option for those looking to have a few items or a week’s worth of groceries delivered. 

Growing pains

Though refusing to share figures, those Executive spoke with all reported growth in the first year or two of operations. In its four years of operation, InstaShop has expanded to five other markets, including Lebanon. Instashop’s CEO John Tsioris says that home delivery culture, a similar language and product assortment, and a mature and diverse supermarket industry made Lebanon attractive to expand into. By his estimate, Lebanon is “on a strong growth trajectory that will allow it to achieve growth of three times, year on year.” Markit’s day-to-day orders expanded so rapidly that since operations began their orders have increased by 5,600 percent, bearing in mind the small market size. 

The entrepreneurs behind these apps are confident that they will see more growth in the future. Their average purchasers’ demographics are millennials between 25 to 40. Both Tsioris and Osman tell Executive that they believe use of grocery-delivery apps will increase in line with the collective purchasing power of this demographic. Osman adds that while millennials may be the early adopters, it is not impossible that other demographics will take to the idea in the future. “Look at Facebook,” he says. “No one would’ve guessed five years ago that our parents would be on it.” 

But this sought for growth is not without challenges. Grocery delivery entrepreneurs need to tackle customer awareness, technology adoption, logistics, and competition from other market segments. Markit’s Sara Abi Nader tells Executive that one of the issues they have faced is that when they introduced a tablet and online interface to some stores, the employees were reluctant to use them, preferring to take orders via pen and paper as usual. Malek Fatte, country director of InstaShop, noted logistical challenges in Lebanon compared to Dubai. Where in Dubai, roads are well-built and flat, the mountainous terrain and old roads in Lebanon make it difficult for delivery drivers on motorcycles to reach the customer. In mountainous areas, shops rely more heavily on vans for delivery that are more expensive because of the added fuel costs, especially when transporting products that must be kept cold. 

Competition from within

Given the small market size and the few players within it, those Executive spoke with do not see much scope for competing amongst themselves as of yet. Osman says he believes it is too early to consider the others as competition. He tells Executive that now is the time to raise awareness and having multiple apps in the market will help that goal. 

As demand increases, so will competition between these apps and any newcomers on the scene. Already, all three have identified ways that set them apart from their potential competitors. For example, Markit is looking to operate in underserved geographical areas and tries to offer a variety of products through their partners, rather than signing multiple stores that provide largely overlapping services, says Abi Nader. 

Given their recent entry to the market, it is too early to analyze these companies’ performance so far, though all reported continuously increasing daily sales since launch and high retention rates ranging from Markit’s 32 to InstaShop’s 80 percent; perhaps a reflection on the latter’s experience in the field. Increased awareness, followed by demand, seems to be what all of them need for their young businesses to survive—at least in a healthy business environment. Recent worries over a potential shortage of dollars in the country needed for physical payments may make these types of services less appealing in the short term to potential customers preoccupied with hoarding dollars. Despite these threatening factors, e-grocery has high potential for growth, and entrepreneurs are optimistic that it will carve its place within the growing e-commerce market.

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ElectricitySpecial Feature

Reforms to the Lebanese electricity sector beset by delays

by Lauren Holtmeier
written by Lauren Holtmeier

The September 15 attack on Saudi oil facilities that temporarily wiped out 5 percent of global supply did more than trigger a short-term oil trading frenzy with wild price jumps on international markets. It put into sharp relief the issue of Lebanon’s dependency on fossil fuel and—most important in the context of dismal fiscal health—its vulnerability to price increases in the market for refined oil. To question what effect a potential rise in oil prices would have on Lebanese access to energy is not just a potential problem of a 10 or 20 percent hike of gasoline prices for motorists (although such would be painful enough for many households in this car-infatuated country). The attack on the Aramco facilities in Saudi Arabia is a hint at how utterly urgent it is that Lebanon solves the problem of producing insufficient amounts of electricity at aging power plants in a fiscally costly, environmentally unsound, technically inefficient, and economically wasteful manner. 

It was simply of utmost expediency that the Lebanese government has committed itself to revamping the electricity sector, as documented in frequent announcements on the primacy of electricity production and distribution solutions in conjunction with the plans linked to CEDRE, the investment conference 18 months ago. These plans have since been developed in both discussions with private sector partners and public sector stakeholders. In her opening remarks at the Beirut Energy Forum (BEF) on  September 25, energy minister Nada Boustani said that she wanted to highlight the partnership with Banque du Liban (BDL), Lebanon’s central bank, that helps finance renewable energy projects, and added that this partnership along with those of donors such as the European Investment Bank and the European Bank for Redevelopment and Construction were an important cornerstone of these projects. According to the 2018 Capital Investment Plan (CIP), renewable energy projects are expected to total $1.3 to $1.4 billion of the total $3.5 billion planned for the sector.

Since the end of the civil war, the electricity sector has been plagued by mismanagement, non-technical and technical losses—the latter of which in some part stem from old infrastructure built in the late 1990s and early 2000s—theft, a fixed tariff set below the cost of generation, and a reliance on fuel and gas oil rather than making the switch to the cheaper, cleaner natural gas. 

Photo by Greg Demarque | Executive

These deficiencies have left the state-run utility company Electricité du Liban’s (EDL) financial situation in a dire state with the EDL deficit last year totaling $1.8 billion. Transfers from the treasury to EDL equaled LL1.35 trillion ($889.62 million) in January to September 2017, and LL1.86 trillion ($1.22 billion) in the same time period in 2018. EDL contributed just 0.3 percent to the total oil bill of LL1.84 trillion ($1.21 billion) of gas oil and fuel oil in the first nine months of 2018, with the central government footing the bill for the rest. 

Structures for new infrastructure

New structural mechanisms are needed after years of the electricity sector’s inability to right its own wrongs. Emphasis appears to be on awarding large-scale infrastructure projects on various contracts combining public and local or international private initiatives whether as build-operate-transfer (BOT) or independent power producer (IPP) contracts in an effort to shift some responsibility and assumption of risk to the private sector. In a BOT, a supplier provides and installs the infrastructure and is responsible for operations for a certain number of years before the facility and operations are transferred to the state. IPPs are private entities that own and operate a facility, but sell electricity to a utility or central government. Under BOTs and IPPs, a power purchase agreement (PPA) is required that sets terms for how much the offtaker will pay for electricity generated and under what conditions those prices may change. Unfortunately, such contracts and processes have become the source of seemingly endless delays, such as the PPA for the Akkar wind farms and other infrastructure projects. Permits were issued to three companies in July 2017 for wind farms, with PPAs supposed to be signed within the following three months. However, the PPAs were only signed in February 2018, and works on the ground are yet to begin—instilling little confidence in potential investors. 

New structural mechanisms are needed after years of the electricity sector’s inability to right its own wrongs.

Electricity infrastructure projects, such as the Deir Ammar II plant, two new power plants, and floating storage and regasification units (FSRUs) to be built or imported on these types of contracts have all faced delays. The Deir Ammar II project, granted in 2013 to Greek-Cyrpiot firm JP Avax under an engineering, procurement, and construction (EPC) contract, was controversially transferred to a BOT in 2018. Prior to this revised agreement, construction had been held up for years, with JP Avax filing an international arbitration suit—since dropped, following the revised agreement—against the Lebanese government due to a dispute between the Ministry of Energy and Water and the Ministry of Finance over whether VAT would be part of the contract. On the short term, the plant is supposed to provide 450 megawatts (MW), on the long term 550 MW. It was announced on September 9 by Martin Parker, a member of the project’s management team that engineering works would begin that week. However, in a late September interview (see box below), Boustani told Executive that construction would begin in December. 

Photo by Greg Demarque | Executive

Tender documents for two new 550 MW thermal power plants— which run on diesel oil, fuel oil, or natural gas—at Zahrani and Selaata, to be contracted through an IPP with a PPA, were completed on September 11 by engineering consultancy Fichtner. The tenders were supposed to be announced in September, but as of writing they had not been issued. Boustani told Executive that she was waiting on a final answer from the ministerial committee before these tenders could be moved on to the next stage. 

Both plants will be capable of operating on natural gas, which is cleaner and cheaper than fuel oil or gas oil, but currently the country lacks FSRUs—which take gas and turn it into liquefied natural gas (LNG) and back into gas again—that are needed to supply power plants with said natural gas. According to one 2018 Business News report that cites adviser to the MoEW Zaher Sleiman, an FSRU could cost up to $400 million. A May 20 deadline for selecting companies to import such infrastructure was extended 90 days. One hundred and twenty days later, no announcement has been made. Boustani says discussions on the results of the FSRU bids were currently happening. A statement released on September 27 by the Council of Ministers confirmed the ministerial committee in charge of studying the terms of the electricity tender met, saying a technical team will study the options, and a decision will be made as early as the first week of October.

Delays, delays, delays

Reforms in the sector seem to be plagued by delays. Currently behind schedule are the power plant projects and FSRUs, as well as the construction of three wind farms in Akkar, originally tendered in 2013 to generate 180 MW and vital to reaching the goal of 12 percent renewable energy by 2020. Ministerial Decision No. 43 (2017) said selected companies would be given 18 months to complete necessary preparations to begin Akkar project implementation. And in February 2018, contracts were awarded on what would be the country’s first issued PPA agreements. A June 21 news report in The Daily Star said work would begin in July or August, and the farms would be fully operational by summer 2020. Speaking at the Beirut Energy Forum September 25, Boustani said that construction on the wind farms would begin in 2020, but she did not say when they were to be completed. The terms for a further set of wind farms to generate 500 MW were also announced at the forum on September 27.

Boustani tells Executive that while her ministry was on schedule, decisions not under her control had delayed progress.

These delays, specifically those on generation projects, such as Zahrani and Deir Ammar II, which were supposed to boost short-term generation to 1150 MW, threaten to leave Lebanon with no increased generation capacity heading into 2020, the date for which the April 2019 updated policy paper, a follow-up to the one adopted in 2010, ambitiously predicted 24-hour power. When asked about the timetable set out in policy paper, Boustani tells Executive that while her ministry was on schedule, decisions not under her control had delayed progress, knocking them off the timetable. 

Increasing generation capacity, decreasing technical and non-technical losses, beginning the switch to natural gas, and reducing the sector’s deficit were of the main goals set forward in the updated policy plan. Reforms in the updated policy paper are designed to appeal to CEDRE donors, who pledged more than $11 billion in soft loans at the April 2018 conference. 

When Prime Minister Saad Hariri met French President Emmanuel Macron September 20, Hariri said he would speed up structural, economic, and fiscal reforms to meet international donors’ demands. The following day, Hariri and Saudi Finance Minister Mohammed al-Jadaan discussed Saudi private sector engagement in CEDRE projects, but funds are contingent on the international community seeing fiscal reform from the government. Without any tangible progress to reform made, money pledged to the electricity sector at the conference remains locked.  

While estimations on actual capacity and demand vary depending on report, the April policy paper puts EDL’s current installed generation capacity at 2,449 MW, peak demand at 3,669 MW, and actual capacity at 1,823 MW. This excludes two temporary power barges with a combined installed capacity of 374 MW, according to the CIP. By 2020, the updated policy paper predicts actual capacity will be 3,990 MW and peak demand will decrease to 3,476 MW. According to World Bank estimates, 24-hour supply and an increased tariff will lead to a decrease in demand by 8 percent. As Lebanese are already accustomed to paying two electricity bills, this rationale is questionable, says energy consultant Jessica Obeid. With three months left in 2020, and no work on the ground yet seen, achieving the 2020 generation capacity goal seems unlikely.

These delayed projects have implications on generation capacity, which is needed before the tariff can be raised, and on the confidence of the private sector looking to invest in infrastructure projects. 

A need for confidence

In her opening remarks at the BEF, Boustani addressed the need for creating an attractive environment for investors. Improving the current environment would require the government to keep projects running on schedule and avoid years-long contract negotiations delayed by the inefficient bureaucracy or internal politicking that keeps tenders and contracts from being awarded on time. Continual delays are a bad signal to other companies contemplating bidding for similar projects, especially foreign investors looking to make a bid for the new Zahrani and Selaata projects. 

Further, in an IPP contract with a PPA, risk is assumed by both the private and public entities. Private entities will want some guarantee from the state that power will be purchased at a certain price for the duration of the contract period, usually 20 to 25 years. Ramy Torbey, managing partner at Aziz Torbey law firm, which co-founded the Lebanese Association of Public Private Partnership, says that typically in such a contract, a price is agreed upon per kilowatt hour (kWh) between the public and private entity and includes an agreed upon adjustment system to take into consideration market fluctuations, operation and maintenance charges, inflation, etc. The recent attacks in Saudi saw oil prices fluctuate, and regional tensions are still high. Another attack would likely send prices up again, which under a PPA would constitute a higher risk for the private partner. How risk for price increase is distributed in these scenarios will be a determining factor in how attractive an IPP is to a bidder. For PPAs on solar and wind renewable energy, such as those on the Akkar wind farms, additional risks include the variability and the uncertainty of generation, given the sometimes fickle nature of, well, nature, according to a 2018 International Renewable Energy Agency publication.

With three months left in 2020, and no work on the ground yet seen, achieving the 2020 generation capacity goal seems unlikely.

While renewable energy sources have the ability to help reform the sector in the medium to long term, measures, such as increasing the tariff, need to happen in the short term to help alleviate EDL’s debt burden. Increasing the tariff from the current 9.5 US cents per kilowatt hour (USc/kWh) to 14.38 USc/kWh in 2020, was another important part of the updated policy plan, according to Obeid. “The tariff restructure is really important and should account for the socio-political context, but we don’t have information about it yet,” she tells Executive mid-September. On the sidelines of the BEF later that month, Boustani said talks were in progress with the World Bank (see box below). Obeid argues that tariffs cannot be increased unless EDL can provide at least 21 hours electricity all over Lebanon, given that currently citizens already pay a dual electricity bill—one to EDL and a diesel generator bill because of power cuts ranging from three hours in the capital to 18 hours in other areas. In 2008, the average household consolidated energy bill was approximately 180 percent higher than the average EDL bill at the time. In late 2018, the government mandated that generator operators install meters by October 1 to regulate the informal industry. This decree was met with protests from generator operators, with some demanding the government subsidize diesel as a result of lower set prices for hourly generator use. As of September, the Ministry of Economy and Trade said that almost 80 percent of generator owners had complied with the new regulation, which should lower household generator bills across the country helping alleviate additional expenditure.

Modest progress

Some visible progress has been made especially on the transmission networks since the transmission master plan was implemented in 2017, even though little has been done to address specific CEDRE donor-demanded reforms. In June, the final link located in Mansourieh of the 220 kilovolt (kv) loop went live after a 17-year delay, which alone reduced technical losses on the network by 1 percent, says Ramzi Dobeissy, the head of the high-voltage transmission lines department at EDL. The 66 kv Bikfaya-Faytroun-Halata line also went live July 30, reducing losses by less than a percent. The 66kv Hermel-Qobayat line, after facing some opposition from local residents, is expected to go live by the end of September or early October. Dobeissy says this line is on track, but could be delayed a week.

Whether the government will meet its stated target of reducing losses from 34 percent to 25 percent by the end of 2019 remains to be seen.

The final 66kv line in southern Wadi Jilo is still facing opposition from one resident, and progress has stalled, but EDL is in talks with the government and the opposed resident to resolve the issue. While transmission projects have been stalled in the past, a series of upgrades on the network this year are a positive sign that at least one aspect of the electricity plan and the transmission master plan launched in 2017 is moving forward mostly on schedule. Whether the government will meet its stated target of reducing losses from 34 percent to 25 percent by the end of 2019, however, remains to be seen.  

Since 2017, $16.5 million has been spent on transmission projects of a budgeted 690 million euros ($757 million, as of writing) to be spent by 2030, including substations, overhead lines, and underground cables, Dobeissy says. The updated policy plan sets aside LL405 billion ($268 million) for transmission projects in 2019. 

Even with progress on transmission networks, the 2019 updated policy plan requires generation projects to move along simultaneously with generation projects. With delays on the latter projects, which are, in part, a result of the inability to resolve contract issues, Lebanon risks being in the dark for days, months, and probably years to come. Furthermore, these delays along with current economic conditions might as well be a neon signal to foreign investors that reads “BEWARE OF HIGH RISK.” It is likely that local investors, such as the three companies awarded licenses for the Akkar wind farm projects (Hawa Akkar, Sustainable Akkar, and Lebanon Wind Power) will continue to bid for these contracts and adjust their reward expectations to include high-risk premiums; if the resulting contracts will be socially feasible for the Lebanese population, and especially the vast group of impoverished no-income, low-income, and lower middle-income earning households, will largely depend on how the numerous risks attached to the electricity plan are mitigated and distributed between local and public entities. With the country’s economy in a bad state and EDL’s financial situation already in ruin, the question beckons as to which players will be able to shoulder such high risk and at what price to the taxpayers, even with the local private entity partnering with various financing partners, such as local and international banks and multilateral development institutions. The other big and daunting unknown variable in this equation of power and risk is that the people will be the ones to be stuck with the bill if the plan does not come to reasonable fruition.

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CommentEconomics & Policy

UAE emerging as a global innovator in AI

by Nicole Purin
written by Nicole Purin

The past few decades have seen major advances in the field of artificial intelligence (AI). As a result, AI has become a transformative business force, specifically in the technology sector. Numerous organizations are significantly expanding their use of AI tools and services, with 2018 a landmark year for this trend. Supporting technologies, such as computational powers, digital storage, and adaptive algorithms have sufficiently matured to enable AI to enter into a new period of adoption and integration as part of the digital transformation of businesses. This changing landscape is obliging companies, organizations, and governments to take note—arguably their future success will depend on their ability to embrace AI. 

The future of AI remains a hotly debated topic. At the 2019 World Artificial Intelligence Conference in Shanghai, tech entrepreneur Elon Musk publicly voiced concerns that computers could outsmart their creators and end humanity, yet others hold more optimistic views. Jack Ma, the Chinese business magnate and co-founder of the Alibaba Group suggested at the same conference that AI would “enable humans to understand themselves better.” Irrespective of differing views on what AI signifies for humanity, it is becoming an integral part of daily life, technology, and business, and the United Arab Emirates (UAE) is a rising pioneer of this sector through concrete initiatives that will—very likely make it a beacon of innovation.

AI can be defined at its core as machines performing activities that require human-level intelligence, including the capacity to learn, reason, and self-correct. AI can be used to resolve complex issues, by, for example, making predictions through analyzing large data sets, or through linguistic processing and recognition of shapes, reasoning, and images. There are two classifications of AI: weak AI and strong AI. Weak AI is a machine intelligence that is limited to a particular area or focus; it can simulate human consciousness, but it is not in itself conscious. Strong AI is a form of machine intelligence equal to human intelligence; it is conscious and self-aware. Strong AI does not currently exist, and it is considered highly controversial because of the danger that it could outperform humans.

The weak AI model that is being developed internationally is focused on improving services and creating improved products. This can be seen in practical terms through the likes of Google and its AI tool that is used for searches, translation, and healthcare. Similarly, Amazon bases a lot of its business on machine-learning systems, such as the autonomous Prime Air delivery drones (due to start in selected countries at end 2019), the Amazon Go convenience store, and Alexa AI. At the 2017 Internet Annual Gala, Amazon CEO Jeff Bezos referred to AI as being in a “renaissance and golden age,” and as a “revenue driver.” AI can effectively improve communication, relationships with customers, service turn around, and overall business performance, according to the 2018 State of AI in the Enterprise report by Deloitte. 

UAE perspective 

The UAE has been at the forefront when it comes to AI and the potential it entails. The UAE government counts AI in its strategic vision for the future; in October 2017 they launched the “UAE strategy for Artificial Intelligence” in line with the UAE Centennial 2071 vision. The intention was to make the UAE a champion of AI in the public and private sectors, in turn creating new crucial markets with substantial economic value. The leadership of the UAE are of the view that AI will improve performance in the private and public sectors. Sheikh Mohammed Bin Rashid al-Maktoum, vice-president and prime minister of the UAE, notably stated at the 2017 launch of the UAE Artificial Intelligence Strategy: “The next phase requires Emiratis specialized in AI to serve our supreme national interests as the implementation of AI technologies will help develop new sectors and create various opportunities for our national economy.” The strategy covers the following sectors: transportation, healthcare, space, water, renewable energy, education, and the environment. The focus is reducing costs, increasing productivity, enhancing technology, and simplifying processes across these fields.

Regulating AI

Key initiatives that have been introduced have been a mixture of legislative and practical measures, and the UAE is currently ranked number one in the Arabic world on AI enterprises, according to the Artificial Intelligence Adoption in Enterprise 2018 report by Dubai Technology Entrepreneurship Campus (Dtec), prepared with the collaboration of ArabNet and startAD. One solid legislative initiative has been the creation of the UAE Council for Artificial Intelligence (CAI), chaired by Omar Bin Sultan al-Olama, minister of state for artificial intelligence; its first meeting was held in March 2018. The establishment of the CAI was aimed at developing a broad AI infrastructure, promoting international collaboration within the public and private sectors; liaising with international institutions to effectively integrate AI in key UAE societal sectors (transportation, environment, services, energy, and health); and promoting quality of life for Emiratis. A report by international consultancy firm Accenture estimated that by adopting AI, the UAE could increase economic input by $182 billion by 2035.

The CAI has implemented a dynamic action plan by launching programs and centers designed to enhance innovation and the skills of government officials, in addition to field visits to government bodies, and the organization of workshops. The development of the AI capabilities of future leaders and human capital of the UAE is paramount to the success of its overall AI strategy, according to the UAE government.

“The UAE has been at the forefront when it comes to AI and the potential it entails.”

 The UAE is also striving to implement AI services in the medical and military sectors, and investments are pouring in—a 2019 study by Microsoft and Ernst & Young states that the UAE’s investment in AI has been the second highest in the region over the past decade, reaching a total of $2.15 billion. Developing the UAE artificial intelligence infrastructure requires consideration on how to regulate the sector. Globally, governments have been cautious to regulate AI as it could stifle innovation in this upcoming market. Yet, there have been considerations as to what extent AI can be left unregulated when it comes to specific technologies, such as facial recognition due to potential discrimination and intrusion of privacy. Data protection is critical to AI, given that the value of data collection is immense for service providers who sell it. Accordingly, legislative measures have been passed that give individuals rights over their data and regulate how companies can acquire and sell data, such as the European Union’s Global Data Protection Regulation (GDPR), enacted in 2016 and the California Consumer Privacy Act of 2018 (CCPA). There could also be improper uses of AI in the field of surveillance, policing, and weaponization. As this sector in its current form is still relatively new, it is difficult to predict the long-term outcomes. The UAE needs to be prepared on how to balance AI’s uses and competing interests.

In order to facilitate the AI sector, a UAE federal law was enacted in 2018 by UAE President Sheikh Khalifa bin Zayed al-Nahyan, which granted authorization to the UAE cabinet to grant temporary licenses for testing and vetting innovations that utilize future technologies and their application of AI. This effectively launched the UAE’s governmental Regulations Lab, which aims to work closely with the private and public sectors and, according to a speech by Minister of Cabinet Affairs and the Future, Mohammad al-Gergawi, at the 2018 World Economic Forum’s Global Future Councils meeting in Dubai, aims to further “anticipate and develop future legislation and regulate products of the like of AI, self-driving vehicles in a solid and transparent manner.” This is an important development as it is laying the foundations of the AI infrastructure in support of the Vision 2021 initiative and consolidates the position of the UAE as a global player.

 The AI renaissance has taken the world by storm as businesses and governments become increasingly reliant on AI and launch platforms to integrate and share initiatives internationally. The advantages of AI include a reduction in the costs of services and products, greater quality, efficiency, and, most significantly, less human error. It is nonetheless a sector that requires vetting and regulation to ensure it is not misused due to its potential ramifications. The UAE is becoming a top leader in this field and understands the competitive advantage it will acquire by fostering AI futuristic technologies, but it will need to ensure that it is carefully balanced to maintain innovation not stifled through excessive regulation. 

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Economics & PolicyQ&A

Eugene Kaspersky on how to protect industry in the IoT age

by Thomas Schellen
written by Thomas Schellen

On his first visit to Lebanon, Russian cybersecurity magnate Eugene Kaspersky divided his time between discussions with ministries, long-time banking clients, and visits to the country’s famed archeological sites. In between, he took time to sit down with a few media entities. In an interview that was arranged as a joint meeting of Kaspersky with Arabic-language business magazine Al Iktissad Wal Amal(AIWA) and Executive, he answered Executive’s questions about the next big threats in cyberspace and the company’s interaction with the Lebanese market.

Responding to a question from AIWA at the onset of the interview, Kaspersky explains that he was pleased to meet ministry officials in Lebanon who understand the importance of cybersecurity, and agree on the need to advance cybersecurity and related education, not only in areas of traditional computer systems and smartphones, but also in the realms of industries, the internet of things (IoT), infrastructure, and physical systems. He notes that the industrial and transportation sectors and infrastructure such as seaports all face different cyber threats, and that security needs to be adapted to their differing needs.  

E   Is this area of infrastructure where you see the biggest threats playing out in the next few years?

Yes. There are many attacks against smartphones and traditional computer systems from different kinds of hackers and cyber criminals, and unfortunately some of them are very professional as to be able to rob banks and protected enterprises, but we have technologies and solutions which can recognize the attacks and investigate what is going on in your network. It is not just protection from massive attacks but also detection of sophisticated cyber hacking tools. But in the industrial sector, it is very hard to create cybersecurity. Industrial systems are in a situation where, in many cases, they cannot upgrade the software because it is [used in an uninterrupted industrial] process. The software then can only be updated when the machines in question, the generators or turbines, are stopped for technical maintenance. Many systems differ from each other and updating these systems takes time and resources. This is a problem. Also, we see that many of these unfortunately are vulnerable, so cybersecurity in the industrial sector, transportation, and critical infrastructure is now most important.

Answering AIWA’s next question, Kaspersky says he met ministers May Chidiac and Raya Hassan and confirms a high level of awareness of cybersecurity and technical knowledge at the ministries. He adds that he met with a leading bank and is engaged in discussing future technologies with his Lebanese contacts. He explains that his company is working on new products and technologies that will assist organizations in recognizing if processes are not performing as they should. “It is not just about cybersecurity. We have a machine learning anomaly detection system which is new,” he says. Elaborating that other providers offer such anomaly detection services for machine learning in big data environments, he adds that they do so as providers of mathematical instruments but not in cybersecurity context. Such tools work for the collection of big data, for example, in the operation of airplanes, where computers can be used to predict technical problems. “This is based on the fact that there is so much data and [anomaly indications] in little things which humans will never recognize but computers can see, so that we can build the algorithm to recognize the problem, and we can do this for non-cybersecurity [uses],” he says.   

“We have to protect a power plant [by raising the cost of hacking it to such a level] that it is less expensive to send a cruise missile to destroy it.”

E   Does the inverse case also apply that there are problems that the algorithm cannot detect but the human can?

It works in both ways. We highlight a possible problem that the computer can see but does not understand; so the human is there to understand the problem that is highlighted by the computer. We call it a ‘humachine,’ not a human machine and are working on a system that can recognize, for example, financial fraud, which is not cyber. We are also working on and investing a lot into an immunity platform. The definition of immunity [in cybersecurity] is that for the system to be immune, a hacker attack must be more expensive than the [cost incurred] by the possible damage. It is like in cryptology where the breaking of the code must be more expensive than the value of the information. Hackers try to estimate or calculate how much money it costs to hack a system. Hacking random individuals is of course very simple—one just runs an attack on a million targets, and if 1,000 of them [fall for the attack] you have these 1,000. It is easy. To hack particular individuals is more complicated and requires learning about the target individual. To hack an enterprise is possible but is even more complicated, and it is getting more and more expensive. We are therefore working on a technology where we can estimate the cost of an attack for hackers. This system is based on a new operating system that is not Linux, Unix, or Microsoft.

E   Proprietary?

Yes, it is entirely new, in-house, and made from scratch. The main difference [with this operating system] is that we split the system into micro-modules and each module has its permissions. In short, if you are a calculator [within this system], you do not have access to the internet. A calculator will have access only to the keyboard and the screen. If you are a turbine, you do not have access to the keyboard or the screen, or the internet. Permissions are very strict for the turbine. Thus, if the calculator is hacked, it cannot [be used to] manage the turbine. Unlike other systems where there is a lot of freedom, this system will have very limited permissions. If you don’t have permissions to do specific things, don’t ask. To hack this system can only be done in one way: hacking the developers and injecting something into the source code or adding something in their compilation. So you have to hack the enterprise that develops the software. So how to make it more expensive to hack [this system]? If it is an expensive turbine, then you take the [software] modules when they are tested and ready for deployment to a clean room and check the source code and machine code. There are tools for this task, so it is not too complicated. So the turbine, it becomes too expensive to hack, especially if you have something like five different clean rooms in the city used for the tasks. Then you can ask hackers how much it costs to hack six different locations at the same time and develop an attack that will inject their code into the compiling environment? [You can further ask them how much it will cost] to create stealth technology to make their code invisible in the clean rooms, also keeping in mind that these clean rooms will be very well protected, and thus there will be a very high risk [for the hackers] to be recognized, investigated, and arrested. In short, when I explain it to my people, I say we have to protect a power plant [by raising the cost of hacking it to such a level] that it is less expensive to send a cruise missile to destroy it.

E   Would it be possible to engineer vectors for an intrusion from another IoT connected machine into a power plant or connected machine?

With our system, no.

E   So you are saying IoT with Kaspersky will be safe?

Absolutely. Unhackable. Immune.

E   Relatively speaking?

Security and immunity are like a nightclub. In a nightclub, security is outside watching over the doors and seeing who is coming, and on the inside watching the behavior of the visitors. Immunity means that the nightclub is made from iron so that visitors can’t destroy it; no need for security. So we have this immunity [development project] for the Internet of Things and for industrial immunity. It is ready, and we are collaborating with our partners, since we don’t do hardware. Our partners have already developed the network equipment, [such as] switches, routers, security cameras, and other devices. They installed their prototypes in a smart district project in Moscow and collected big data from the district to do whatever they wanted. The sensors are also based on our operating system. It is ready for the Internet of Things, and we are working on this system to promote it for the physical infrastructure.

E   In a previous interview, you mentioned a dichotomy between developed and developing economies, whereby the prizes that hackers can take home from a developed economy are much more lucrative but also much better protected, whereas in a developing economy you have much lower protective barriers but also much less value of the hackers’ loot.

This is true, and I think that Lebanon is in a good situation. You can learn from the mistakes of others, see what is wrong there and build your [cybersecurity] systems in the right way. It is like with [large commercial] airports where the worst in the world are in the United States, and the best are in the Middle East and Asia. Why? Because the Americans were the first to build [these airports]. In Asia and the Middle East, Dubai and Abu Dhabi, they just learned and introduced new standards [for airport construction]. There are benefits for being first and there is profit from being first, but the others can learn from the mistakes [made by those who were first].

Kaspersky reconfirms in response to an AIWA question that the company is not starting to do business in Lebanon but has had contracts in the financial sector already for many years. He emphasizes that the company is thinking about improving its business in Lebanon and introducing its new technologies.

E   How many Middle Eastern countries are you engaged in business with the public or private sectors, and how does Lebanon rank in terms of contribution to your business when compared with the region’s bigger tech consumer countries?

We are present in all countries of the region. We have an office in Dubai, and for [distribution of] our traditional products we work with partners. So we have partners everywhere. For our services, which we provide, we don’t need [resale] partners, and we sometimes have direct contracts. In the region we are doing very well, we have double-digit growth—(laughs) less than 20 percent year-on-year. We have very good results in the region, in Lebanon less than in some other richer economies, but I would say that our market presence here is bigger than in some other countries. What I see is that we have very good opportunities in Lebanon, and we will do our best to prove that we are the right partner to work with, not only in cybersecurity products and business, but also in education. Education [of cybersecurity engineers] is very important. There is high demand for such people, and they are typically very well paid.

E   Are you intending to invest in cybersecurity education in Middle East markets? 

I don’t want to say this is an investment. It is not money. It is providing our knowledge. We are collaborating with startups and companies [for education]. We are not doing that in Lebanon at the moment, but can do so.

E   When we talk about a country like Lebanon, where the cybersecurity framework on a national level has not been very strong in the past and is not yet highly developed today, what in your experience is the better course of awareness creation and cybersecurity development: talking to the government, or talking to the totality of private sector enterprises about cybersecurity, noting that 70 or more percent of cybersecurity installations in this market appear to be located at banks?

Unfortunately, Homo sapiens are still the same. These creatures learn from their mistakes. Before they are affected by problems, even if they heard about them, they go, ‘Yeah, I know, but that is a different village.’ Why is the banking sector so aware? Because they have been under attack for decades. As the damage has been big enough, they learned a lot from this. Security and cybersecurity are a top priority for all banks, as banks are heading now into cyberspace. At the same time, [non-financial] industries, even if they heard about the problems, they only learn from real cases. (Citing his experience from the 2012 World Economic Forum, Kaspersky adds that at the time the oil and gas executives were much more aware of cybersecurity issues than transport sector leaders.) People learn from incidents, but I think in the past five years this has changed. The number of incidents was intense enough so that they understood that a cyber-attack can happen to everyone.

E   Are there any total blind spots where industries today are totally oblivious to cyber threats?

Not anymore. There are no exceptions. One minor exception: [corporations] understand the risks of computers, smartphones, SCADA [supervisory control and data acquisition], and critical infrastructure. What they do not realize is that all the systems are hyper-connected, and that sometimes the connections are unpredictable. There are so many different technologies in the cyber-network which connect critical infrastructure to the rest of the world. They don’t realize this [and] are still thinking cables and wifi, but there are now many technologies coming up that are different.

In response to AIWA’s question if the ban of Kaspersky products by the US affected the company’s business in the Middle East, the magnate explains that the ban did not affect business in Canada and Mexico and had limited impact in the US, with a 25 percent market loss, applied only to government sector entities because no allegation against his company was proven. “We still have consumer business in the US and digital online and partners in the US for [doing business with] SMEs. In November we will host a conference for North American partners in Cancun [Mexico],” he says.

E   Do people in the Middle East like you more because the US does not like you?

I do not really want to comment on that. (Winks) What do you say? We lost some of our partners and some of our customers, but it was compensated by new and larger attention from others—this even more so as we opened a transparency center and made our technologies available for inspection. So if you have any questions, please look.

“There are so many different technologies in the cyber-network which connect critical infrastructure to the rest of the world.”

E   Can you provide us with some annual result figures?

We publish all results in March. (A February 2019 press release by Kaspersky Lab says the company had stable growth in 2018 and achieved 4 percent year-on-year unaudited revenue growth to $726 million.)

E   So all the numbers for 2018 are out. Do the numbers for 2019 point in the same direction?

Yes. Unfortunately, we do not demonstrate double-digit growth in all regions. (According to the company’s website, the strongest growth in 2018 was realized in the Middle East, Turkey, and Africa region, at 27 percent.)

E   It seems that you are passionate about cybersecurity and about travel and visiting special geographies and historic places. Do you have another passion that ranks with these?

From time to time I do some of this. (Kaspersky gets up from his chair and fetches two Rubik cube derivatives of six and nine rows that feature smileys when solved). I like this. I don’t want to say this is my passion, but I can assemble it easily and [align] the pictures on the cube. I am passionate about my work, travel, [and] family when I am at home. What is my passion? My passion is to solve the problem of cybersecurity, [and] to build a safe world. To make the world immune, so that you don’t need anti-virus.

E   As you mentioned Homo sapiens still being the same, you are certainly very aware of the speculations about AI, the singularity, transhumanism, and the future development of mankind. So if you look today forward to 2030, first on a personal level, do you think you will be retiring at age 65?

I don’t know. Most probably not, because there will still be a lot of work to do with immunity. I will retire when I am convinced that the immunity systems [are on their way]. To make all infrastructure in the world immune will take long, long years. But when I see that the world is moving in the right direction—I don’t want to say with our technologies, I am pretty sure there will be competitors—I will retire.

E   And how do you see the world around you in 2030? Will we have cyborgs, will we have a singularity as some assume where the speed of computing intelligence will surpass human intelligence in ways that cannot be reversed? Will we see a total AI takeover?

It is very hard to predict what happens 10 years from now. For example, who could predict in 2009 that Bitcoins and Blockchain would develop in [such a volatile way]? As I am investing into cybersecurity and cyber-immunity, I have [set] targets for my guys for the next three years, such as a target that one gigawatt of electricity must be produced or transported with our technologies. I told my cyber immunity guys that we must have real working systems based on a cyber immunity platform, not just in the Internet of Things, but also in critical infrastructures.

E   The well-known science fiction writer and compatriot by Polish ancestry Stanislaw Lem wrote over 40 years ago about a computer AI that is so becoming so advanced in the 2030s that it does not share any common interest and base for communication with humanity. Do you think that could happen?

It is not our problem. Artificial Intelligence is [countless] years away. What they call artificial intelligence today is not intelligence at all. It is less intelligent than a mosquito. A mosquito has motivation. Algorithms don’t have motivation. It is just a technology. One example I use is those machine learning systems that can recognize human faces. But can they recognize the face of a horse? They are not working in unpredictable conditions. It is not intelligence. We are hundreds of years away from artificial intelligence. The speed of technology development is not good enough to create such a complicated system [like the human brain] in a reasonable size, like the size of a building. I think that we are still far away from real artificial intelligence.

“What they call artificial intelligence today is not intelligence at all. It is less intelligent than a mosquito.”

At the same time, I think that it is the end of the biological evolution of Homo sapiens. Evolution is different branches that lead to different places. Before Homo sapiens, there were other [archaic humans] like Homo erectus, Homo denisova, and Homo floresiensis in Indonesia. They were different. Then Homo sapiens came, killed everyone else and populated the earth. There are still different [ethnicities] like European and African. But now the world is global. My wife is Chinese. The world is becoming mixed and slowly will become the same nation with very close mixing of genes. So this is the end of Homo sapiens’ evolution. But I think the next step [in this evolution] is in using technologies as parts of us. How many people have an artificial heart? Many. And the technologies are getting better and better, so people use more and more. Perhaps there will be additions to the brain, perhaps to see more colors. We are now speaking about science fiction. However, Stanislaw Lem is always on my computer where I have the movie Solaris—but the Tarkovsky [version], not the new one.

E   Do you believe there could be a digital afterlife, people’s minds being uploaded to quantum computers?

There are many such [imaginations] like the Black Mirror series. I think that sooner or later, if we do not disappear like the dinosaurs, the technologies will be good enough for this kind of task. But I say once again, the modern technologies and the speed of technology development is not fast enough to see that in the next 100 years.

To a question by AIWA about the magnate’s expectation for risks, challenges, and solutions in cybersecurity in the next three or four years, Kaspersky answers that he is no expert in geopolitical issues but does not like what he sees happening in this realm because the world is getting less stable. “Speaking about cybersecurity, I am afraid that in the next three to five years we will see a rising number of attacks on infrastructure,” he adds.  

E   State-sponsored or criminal?

Both, because there are so many mercenary hackers available. Thus, I am afraid of non-state sponsored attacks. This is the worst-case scenario, and it scares me a lot.

E   And you say the immunity concept is to make the hacking attack more expensive than the hacking reward…

Exactly.

E   …but in attacks sponsored by non-state actors the financial reward might not be part of the equation when the aim of an attack might be total destruction for destruction’s sake, with a cost that is not financially computable in relation to the sought reward?

If for causing such damage they have to invest such a huge amount of money that the cost of causing the damage is greater than the cost of the damage, they will damage themselves. The attacks of top profile hackers cannot be [driven by emotions]. They cannot be emotional, because it takes time [to develop such attacks], so the emotions disappear. Highest-profile, damaging hacking attacks on immune infrastructure will take a long time, and a huge investment. 

“I am afraid of criminals, terrorists, and any kind of attack from people that have the motivation and the resources [to launch devastating cyber-attacks].”

(Upon an AIWA question about military cyber-attacks) I am afraid of military attacks with cyber weapons, but what I am really afraid of is non-state sponsored attacks because states do not just want to destroy others when they attack. They also want to protect their own infrastructures, which are vulnerable as well. Cyber weapons are a kind of boomerang. If it is proven that some nation sends a cyber weapon against someone else, [the attacked state] can employ hackers to send [the cyber attack weapon] back.  

E   So we would have the same balance of mutually assured destruction as existed between the Soviet Union and the West in the Cold War days?

And in cyberspace it is more complicated, because the old balance was based on traditional weapons. Cyber is different. In cyber, you can copy-paste. If a nation has enhanced cruise missiles, not every other nation can copy-paste these cruise missiles. In cyber? (Harrumphs) This is much less complicated [to reverse engineer a cyber weapon]. I am afraid of criminals, terrorists, and any kind of attack from people that have the motivation and the resources [to launch devastating cyber-attacks]. This is the worst-case scenario. I think states will keep the balance and find other ways [to have their conflicts], because cyber-attacks are very dangerous and cyber weapons are boomerangs and there could be collateral damage.

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CybersecurityEconomics & Policy

Lebanon is finally seeking to leapfrog into digitally empowered spheres

by Thomas Schellen
written by Thomas Schellen

It may be Lebanon’s best bet for a long-term economic future. This underused economic resource has been idling for over 20 years. It is not of fossil origin or other conventional finite resource. Built entirely on the strength of human ingenuity and collaboration, this resource now appears ready for another attempt at making it in the real world—rather than living exclusively on the extremely patient pages of government strategy plans and ministerial Power Point presentations.

It is the new “new economy,” or more precisely the geo-economic sphere shaped by the combined implementation of first-in-history digital transformation and cybersecurity cycles. This emerging community of transnational spheres, the best thing since the invention of the internet, could provide much more to Lebanon than the country would achieve by any national implementation of an e-government project or more perfect incarnation of e-commerce in domestic markets.

In 2019, governmental efforts to activate the digital economy potential of Lebanon have not been a secret so much as hidden in plain sight. Other issues on the government’s agenda—the budget and the task of reducing the deficit, the need to implement reforms and qualify for international finance under the CEDRE paradigms, the plans for plugging the country’s main fiscal hole by improving the electricity economy, and the hopes invested in the proposition of oil and gas revenues—as well as numerous funny money worries on the part of the Lebanese population have been so much at the forefront of everyone’s concerns that the digital transformation and cybersecurity issues that have been pushed forward by a taskforce at the Prime Minister’s office for the past six months without attracting the attention that they should.

A possible result of too much attention being directed to other burning public regards in Lebanon, the digital economy file thus produced curiously little news when, at the end of August, the cabinet adopted a new cybersecurity strategy that is scheduled for implementation from next month. But this news is worth pondering.

Something from nothing

“We have done something special by advancing from a state of zero strategy [at end of 2018] to having a [national cybersecurity] strategy after six months,” Lina Oueidat, the head of the ICT committee at the Presidency of the Council of Ministers, tells Executive in September on the sidelines of a cybersecurity conference.

As Prime Minister Saad Hariri expounded a few days earlier in a Q&A session at a conference on Lebanon’s digital needs and potentials, transforming Lebanon’s public sector and economy through a digital transition would be of huge importance for the country. Hariri emphasized the importance of collaboration among all involved, highlighting that broad consensus and a disbanding of bickering is needed for reforms in the country as well as progress toward digital Lebanon.  

Delving further into the new national cybersecurity strategy, Oueidat explains that it includes a cyber-risk assessment tool for critical infrastructure, and that a first trial run of this tool was undertaken with focus on civil aviation, which was the reason for holding a cybersecurity conference at the Middle East Airlines training center on Beirut airport’s grounds. “We [thought] why don’t we start by assessing this infrastructure [of Beirut Airport], studying it, and learn lessons from it on how to deal with other governmental institutions,” she says.

“We have done something special by advancing from a state of zero strategy [at end of 2018] to having a [national cybersecurity] strategy after six months.”

According to her, general application of the new national cybersecurity strategy for Lebanon will commence from October, “as an action plan that includes [target] dates” that had been kept out of the strategy draft until it had been approved. Moreover, she describes the implementation of Lebanon’s first national computer emergency response team (CERT)—a vital entity in national cybersecurity considerations—as “very close,” based on potentials for international cooperation with Oman and internally with usage of existing structures for disaster recovery and experts at the Ministry of Telecommunications and Lebanon’s Telecommunications Regulatory Authority (TRA).  

Cyber views from the global plane

The importance of well-coordinated cybersecurity in conjunction with the digital transition of public and private realms into e-government and online economy are certainly not lost on the global community of nations or on individual states. Just last month, 27 UN member states committed to a statement on “responsible state behavior in cyberspace” at the eve of the UN General Assembly.  

Based on the notion that information technology has been transforming modern life, driving innovation and productivity etc., the tech-aware signatory states (which did not include any countries from Africa and the Middle East) decried irresponsible cyber behavior by state and non-state actors. Stating, with somewhat cryptic implications, “There must be consequences for bad behavior in Cyberspace,” they pledged to hold states accountable and called for voluntary collaboration with other states to uphold an international rules-based order in cyberspace.

On a less ominous note, e-government giant (and up until now a global political lightweight) Estonia told the world, also last month, that it is about to establish a department of cyber diplomacy at its foreign ministry, in recognition of the importance of state behavior in cyberspace. “Countries are increasingly prioritizing cybersecurity and safety in their foreign policy aims,” Estonian Foreign Minister Urmas Reinsalu said, according to a press statement from September 12. He affirmed that Estonia wants to be a global leader in this new diplomacy realm.

Lebanon has proven not long ago that it is not a total stranger to the importance of cybersecurity and digital transition issues for nations’ emerging economic fortunes. At the end of last year, the Lebanese government was one of the first 51 countries to join an initiative of French President Emmanuel Macron, the “Paris Call for Trust and Security in Cyberspace.” Signatories affirmed their commitment to international legal frameworks and their applicability to digital environments, among other things, reaffirming their support of “an  open,  secure,  stable,  accessible  and peaceful  cyberspace,  which  has  become  an  integral  component of life in all its social, economic, cultural and political aspects.” They further condemned “malicious cyber actions in peace time” and, also among other things, vowed to “welcome  collaboration  among  governments,  the  private  sector and  civil  society  to  create  new  cybersecurity  standards  that  enable infrastructures and organizations to improve cyber protections.”  (Note: These sort of moral and legal appeals for a better digital interaction among states have become quite fashionable in the 21st century, and in the case of the Paris Call, the number of adherents had grown to 67 states along with hundreds of private sector and civil society entities by August 2019).

However, what could, until now, not be said with any confidence was that Lebanon was marching determinedly into its future on two legs of cybersecurity and digital readiness. According to the International Telecommunication Union’s (ITU) cybersecurity index of 2018, Lebanon was ranked 17th among 22 Arab member countries and 124th in global terms. This low ranking reflected the absence of a national CERT, Oueidat tells Executive.

Below potential

According to indexes for e-government readiness and online economy in recent years, such as the 2018 e-government readiness survey by the United Nations and the somewhat dated networked readiness index by the World Economic Forum, there was also no denying that Lebanon has been punching below its potential. It was ranked an unimpressive 99th in the UN E-Government Development Index (EDGI) with a score that was a few notches above the average global EDGI score, but below the average score for upper middle income countries, the group to which Lebanon is categorized as belonging in the nomenclature of UN research papers. (The index covers 193 UN member countries, just as the ITU cybersecurity index entails information on 193 ITU member states.)  

In the World Economic Forum’s most recent Networked Readiness Index (2016 edition), which purports to gauge countries’ propensity to benefit from the opportunities availed by information and communications technology (ICT), Lebanon reached 88th place out of 139 economies, which was an improvement on previous years—Lebanon moved up 11 spots in the index when compared to 2015. However, Lebanon showed enormous lags in regulatory and political readiness as well as government usage of ICT, ranking 126 and 124 out of 139 countries in the index, a fact testifying to the existence of so much room for improvement that it could fill whole virtual universes. 

“Lebanon showed enormous lags in regulatory and political readiness as well as government usage of ICT.”

Not that it would have been necessary for any diligent Lebanese observer of their country’s national affairs to consult international index figures to see the state of the digital readiness, e-government implementation, or cyber threat awareness and cybersecurity implementation in Lebanon. Anyone who was unaware of the sordid stories of corruption, clumsiness, criminal cyber breaches, and selfishly motivated abuse in public and private cybersecurity, could remind themselves of the country’s low level of preparedness for defense against internal and external cyber-attacks with just a glance at the website of the TRA. On the site, when accessed by Executive at the end of last month (September 25), the authority, which describes itself as an “integral part and at the core of ongoing efforts” in addressing cybersecurity in Lebanon, was leaving no doubt on the effectiveness of such efforts in recent years. “Current Lebanese efforts fall too short of what is required to deal with the high levels of cyberspace risks and threats,” it assessed laconically, followed by a list of four shortcomings, beginning with the absence of a vision and strategy for cybersecurity.

Reading diverse signals

Regardless of all painful and embarrassing memories of Lebanon’s dismal cybersecurity past, the topic of real significance is the future of the digital economy and cybersecurity in this country, and this is where the reading of signals matters. Contemporary human groups, irrespective of how algorithmic and primitive they might act in moments of extreme pressure such as a financial panic, habitually can decipher and correlate seemingly unconnected signals in ways that surpass algorithmic recognition capacities of machine learning.

“Current Lebanese efforts fall too short of what is required to deal with the high levels of cyberspace risks and threats.”

In this sense, the signals of 2019 are positive. Signals from the cabinet and the Prime Minister’s office, such as the adoption of a national cybersecurity strategy and its prequel of having designated an ICT committee at the end of last year, fit together with other signals originating from the private sector. One surprising recent sign in this sense was the visit by one of the most familiar names in the cybersecurity industry the world over. Kaspersky Lab co-founder Eugene Kaspersky was partly drawn to Lebanon by his interest in collecting impressions from Baalbeck, one of the world’s outstanding historic sites, meaning he did not just come for business or because Lebanon is such a fantastic growth market with new high demand for cybersecurity services, but his visit and interactions with ministries and banks still can be read as positive signal on the readiness to engage into cyber issues.

Investments by private industry players always are positive signals and in this direction, it is noteworthy that Lebanese companies with stakes in cybersecurity and related IT services are exhibiting new vigor at a time when the tales from many other industries seem to only compete over which company or sector story is the most depressing.

Admittedly, using Lebanon, with its combination of highly qualified and relatively inexpensive tech labor, as a kitchen for regional business is an entrenched pattern in software and tech companies since the new economy days at the turn of the century. Nonetheless, it is encouraging to see some larger and smaller established IT services firms, such as conglomerate Resource Group or authentication specialist CIEL Lebanon grow, innovate, and drum for their offerings.

As a new addition to this sector, cybersecurity services company AXON, established last year, has recently put a very notable foot down in Lebanon’s tallest building. As Rani Haddad, managing director and founding partner of the company tells Executive, AXON is capitalizing on a combination of fresh local brains and experienced cybersecurity experts that it brought back from the Lebanese diaspora as it ventures to do regional and global business from the country but looking outward for its business development. “Our vision is regional or even global, not only focused on Lebanon. We are working on multiple fronts,” Haddad says.

According to him, the company is not a startup, but rather a venture funded by a family office. As such, its business is based on two pillars: the first providing cybersecurity services to client organizations, helping them develop and implement cybersecurity strategies, and the second on helping with the development of cybersecurity skills in the digitally native generation of university students and recent graduates in Lebanon.

“I am optimistic [about digital Lebanon], but I want to see something realized.”

Geographically, AXON is pursuing expansion into Gulf markets like many tech companies do from Lebanon, but also endeavors to design and market a threat intelligence platform for global markets. “By mid of 2020, we should have presence in a Gulf country, either Saudi Arabia or Kuwait, with offices open there. As for development of the threat intelligence platform, by mid of next year or earlier there should be a functional platform that we can go to market with,” Haddad says. He adds the project of a cyber academy, which will aim to alleviate the immense shortage of cybersecurity experts that exists in Lebanon as all over the world, is envisioned through collaboration with academic institutions and planned to be operational after around two years.

Hope on the horizon

While the market for cybersecurity in Lebanese corporations is, according to Haddad, inching forward with growing awareness, he confirms that currently most of the commercial action in these specialized services is playing out in the banking and financial sector, where AXON and competitors vie for the business of highly security aware banks.

This still narrow market notwithstanding, the productive interplay of national cybersecurity strategy, public sector efforts for better securing critical infrastructures, gradually increasing private sector sensitivity to the importance of cybersecurity and digital transformation, along with the awareness building pursued by vendors that are eager for Lebanese business, conflate into an array of hopes for digital Lebanon. 

Humans, as individuals and groups, are, however, also prone to misread signals, usually affixing too much positive information value to them because they feed their wishful thinking. Or they can perceive deceitful signals exactly as their devious emitters intend such memes and micro-narratives to be read—and thus fall for misinformation. This is why in the experience of skeptics it is good to look for many signals and counter signals when evaluating an important narrative such as the proposition of Lebanon’s progress toward cybersecurity and digital transformation.  

One attentive participant and professional receptor of digital transformation stories at the digital Lebanon conference was Raymond Khoury, partner in charge of Middle East technology and innovation management at international management consultancy Arthur D. Little, and a long-time consultant dealing with digital transition advisory in the Middle East. His efforts include Lebanon, where he was strongly engaged with the first UNDP-led e-government and digitization efforts at the Office of the Minister of State for Administrative Reform (OMSAR) around the turn of the century.

When asked by Executive if he left the conference with more optimistic feelings about Lebanon’s digital transition efforts than would have been normal in the roughly two decades during which Murphy’s Law seemed to have developed a special bond with any e-government or digital capacity building attempts in the Lebanese public administration, he notes that the problem of digitization in this country does not lie in developing plans for the process. “The plans have been there for many years. We don’t need [to devise] plans,” he says. “We just need consensus on doing the same thing consistently and coherently. The proof is in the detail, and the detail [of digitizing Lebanon] is implementation.

“We cannot talk about digital government without a connected government infrastructure. It is foundational to me that the ministers agree without any quarrels to have a secure government network, with a secure and redundant data center. If [all ministries] follow common norms and standards, each [ministry] can then deploy their own applications. But the data infrastructure needs to be standardized, the technology infrastructure needs to be standardized, and the human skills infrastructure needs to be standardized.” 

He elaborates on the need for harmonized actions in public entities before advocating that private sector companies should participate in the buildup of digital Lebanon not with minds seeking to profiteer from interactions with the government, but as public-goods servants. “If they want to do services for the government, they can take percentages of the fees,” Khoury says. “There are multi-million dollar revenue companies in the US that do this. I am optimistic [about digital Lebanon], but I want to see something realized.” 

In the sum of many recent signals, the chances that Lebanon will march into new economic realities on the strength of two legs of cybersecurity and digital transition efforts in public entities appears stronger from this time on. Figuratively speaking, working to pull the country up by its own digital bootstraps would be quite impossible, but with some international assistance, focusing more energy on the country’s digital transition could be less costly and relatively better suited to the talent pool of Lebanon than some other very costly approaches with high financing, operational, and obsolescence risks in seeking to engineer the country’s economic rescue.  

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CommentEconomics & Policy

The budget outlook for 2019

by Mounir Rached
written by Mounir Rached

It took more than seven months to complete the 2019 budget law, despite the pressing need to have completed it by the maximum constitutional deadline of end January 2019. Had Lebanon managed to produce the 2019 budget within the mandated time frame, it would have gone a long way toward restoring confidence in the ability of the state to complete its financial functions, which, in turn, would have had positive effects on local financial markets, and on the countries and donors that pledged loans and grants to Lebanon on the condition of fiscal reforms at the April 2018 investment conference, known as CEDRE. 

Based on figures released for the 2019 budget, the assumption of reducing the fiscal deficit to 7.6 percent from 11.5 percent the previous year is far-fetched; international financial institutions are in agreement on this. In terms of revenues, it is very difficult to achieve an increase of 8 percent to reach LL19.02 trillion ($12.7 billion) due to the passage of time, the continuing economic recession, and the fact that half the fiscal year had already passed before the 2019 budget was approved. Revenues alone are projected to reach a maximum of LL18.2 trillion ($12.1 billion), and estimates have been adjusted to reflect only the time factor—actual revenues for the first half of 2019 amounted to just LL8.67 billion ($5.8 billion).

The expenditures in the budget—estimated at LL25.8 trillion ($17.2 billion)—exclude several important budget items: the budget of the Council of Development and Reconstruction, estimated at LL500 billion ($333.3 million) annually, as well as the treasury account with a deficit of approximately LL700 billion ($466.7 million), in addition to the government obligations toward the National Social Security Fund (NSSF), that exceed LL360 billion ($240 million), and service of government arrears to the NSSF. Including these expenditure items within the budget is necessary to respect the principle of full inclusion in public accounting. With the addition of such items, total state expenditure is close to LL27.4 trillion ($18.3 billion)—perhaps even more—and the deficit increases to LL9.2 trillion ($6.1 billion) compared to LL9.1 trillion ($6.07 billion) in 2018.

But another important question to consider is Lebanon’s GDP. The deficit ratio estimated in the official 2019 budget assumed that nominal output will rise by about 6.5 percent annually in both 2018 and 2019, to reach LL90.2 trillion ($60.1 billion) this year. The actual figure issued by the Central Administration of Statistics indicates an output of LL80.5 trillion ($53.7 billion) in 2017, and official estimates are not available after that year. It is difficult to achieve a nominal growth of 6.5 percent in 2019 in the recessionary environment we are in, and income (GDP), will not exceed 3.5 percent  annually at the most. Output is not expected to exceed LL85 billion in 2019. Therefore, the deficit is very likely to be closer to 11 percent. A reasonable estimate would be to reduce the actual deficit by only 0.6 percent in 2019. 

However, deficit reductions can be achieved through default and accrual of arrears shown in the financial statements, as they are calculated on a cash-only basis, but such an approach has serious  negative implications on the economy. 

One of the important proposed tax measures in the 2019 budget is to increase the interest income  tax to 10 percent for a three-year period only. However, this tax may have a negative impact on financial markets and economic activity, as it will lead to higher nominal interest rates and discourage economic growth, especially in the real estate sector. It may also be a negative factor on financial flows to Lebanon due to the decrease in the effective interest on deposits after tax, not to mention the impact on low-income Lebanese, especially retirees. In addition, the cost of servicing the public debt may rise with the higher nominal interest rate.

Another important proposed tax measure is to increase import duties with some exceptions. Consideration should be given to its impact on trade agreements, and keeping in mind protection is not beneficial to economic growth; it may have a negative impact. Raising the tax on high salaries to 25 percent will have a limited impact as it is a narrow category. Instead, it would be more feasible to raise the corporate income tax rate to 20 percent, and apply two VAT rates: 10 percent on non-luxury goods, 15 percent on luxury goods.

In the case of expenditure, the most important item of waste has been deferred: the electricity sector. The rapid completion of the purchase of energy through a transparent power-purchase agreement (PPA) tender for the equivalent of 1000 MW, and raising the tariff rate to 15 cents per kilowatt hour; would save the treasury close to $2 billion and save the consumer $1 billion annually. It would take a few months to implement and result in annual savings of $3 billion. It must be given top priority.

Looking forward to the 2020 budget, it would be preferable that those budget figures be based on reality, rather than on an overly optimistic scenario.

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CommentEconomics & Policy

Regional turmoil threatens to engulf Lebanon

by Mohanad Hage Ali
written by Mohanad Hage Ali

Three sets of regional conflicts and turmoil are impacting Lebanon. The country, yet again, finds itself in the most volatile of all regions, with a weak state and a corrupt set of politicians. You would not wish this storm on your worst enemies.

The first is the ongoing turmoil emanating from the growing wealth gap, soaring unemployment, large youth demographic, and the ailing arrangements or social contracts in rentier states. The Arab region, according to a report by Carnegie Middle East Center fellow, Lydia Assouad, is by far the most unequal region in the world today, even when compared to Latin America and South Asia. This dim reality was only sustainable when governments, either oil producing or backed by an oil-producing state, grew the public sector enormously to provide employment to the widest strata of Arab societies. In Jordan, for instance, the government employs a third of the working population. Given the structural changes in oil prices and the global economic slowdown, this is no longer sustainable. Governments are now coming to terms with the need to shrink the public sector, decrease or even lift subsidies on energy and bread, and float their national currencies. This occurred in Egypt, and is being considered even in wealthier Arab states, such as Saudi Arabia. These painful changes cannot go without a serious reshuffle of the social contracts between states and their citizens. Previously, the government provided subsidies and ample public sector employment; in return, the public gave away their political rights and freedoms. Today, this is no longer sustainable. Marwan Muasher, the former Jordanian foreign minister and vice president of studies at Carnegie, rightly calls this the death of the rentier state.

At the heart of the above change lies the first and second waves of protests in the Arab region. Following eight years of conflict in Syria, another deeper economic change is taking place that will once again affect Lebanon’s stability (after causing a refugee crisis in the first instance). The European and US sanctions and the return of state cronyism have further depreciated the Syrian lira, triggering local protests, and widening the regime’s circle of troubles. (Dozens of new Rami Makhloufs—Assad’s cousin, and Syria’s “wealthiest businessmen,” at least until his rumored arrest last month—or Makhlouf-likes have emerged with major deals and contracts as the conflict has waned.) This has, and most definitely will, impact Lebanon, where politicians are now blaming the recent appreciation of the Lebanese lira on the ongoing Syrian crisis and rising demands for US dollars. 

Regional reverberations

In Sudan and Algeria, we saw protests resulting in political change; though it is too early to tell if this will change will be sustainable in the long term. Egypt now is seeing a new wave of bolder protests, which are continuing in spite of the state’s severe repression. There is an underlying domino effect, and a persistence that highlights the failure of authoritarianism’s cosmetic remedies. In 2011, following the first wave of protests in the Arab region, Lebanon witnessed some reverberations, though in a weaker and disorganized form. To be fair to the protesters, the Lebanese political class’s response was very successful in exploiting the protests, subsuming them under the country’s sectarian politics. Today, Lebanon shares with the troubled Arab nations a set of negative economic indicators and a political class that has rotted in the public imagination. One can assume that wide Lebanese protests are on the horizon.

The second regional trend is the ill-thought-out and unplanned US maximum pressure campaign on Iran. The Trump administration, which has the highest turnover of senior officials in a president’s first term in US history, has no plan. The only seemingly visible goal is maximizing the financial pain of Iran and its Lebanese ally Hezbollah. Evident is the lack of any planning for what follows. This was clear in the aftermath of the attacks on parked tankers off the port of Fujairah in the United Arab Emirates, the uptick in attacks on southern Saudi Arabia, and the destructive raids on Aramco. This is a trend that is detrimental to Lebanon. The sanctions on Iran have triggered a military escalation in the Gulf, but this is not inclusive and could spillover into Lebanon. This nearly happened in September, when one Israeli drone exploded and another fell in southern Beirut, leading to a controlled Hezbollah response. Many now think the question of a military escalation in Lebanon is one of “when” and not “if.”

Difficult choices ahead

By the same token, regional strife will impact Lebanon’s economy. The impacts of the attacks on Saudi Arabia, and the region, will affect the Lebanese diaspora and their remittances to Lebanon—a fifth of which come from Saudi Arabia. The US sanctions on Hezbollah have accelerated the already deteriorating financial situation in Lebanon. The element of surprise, with numerous announcements on sanctions and the escalating threats to individuals and institutions—in spite of the central bank’s full cooperation with the US treasury department—had its impact on trust in the financial system. Sanctioning the subsequently liquidated Jammal Trust Bank also shocked the system. The threatening and uncautious rhetoric against Hezbollah and its allies (presumably a majority of the Parliament) by visiting US officials has created a tense atmosphere, increasing the country’s fragility and exposure to danger. Lebanese politicians had thought that many months separated them from economic collapse, and one can assume the US sanctions and escalation pulled the date closer, taking the Lebanese by surprise and contributing toward today’s chaos.

A third, though less visible trend, is the regional and international struggle over gas production in the Eastern Medditerranean. The most visible roles are those of the Egyptians, Russians, and Turks. As it embarks toward exploration steps in Block 4 this December, Lebanon has to make difficult choices, and appeasing all sides might not be sufficient. Recent political tensions with Turks, and closer ties to Egypt, signal that Lebanese politicians are already realigning themselves. These choices might bring about some troublesome reactions.

In all cases, Lebanon seems to be entering a perfect storm, albeit with the worst possible crew in charge.

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CommentEconomics & Policy

Dissecting recent Lebanese economic developments

by Marwan Mikhael
written by Marwan Mikhael

A lot of rumors have been circulating lately regarding the economic situation in Lebanon. Every citizen, whether an economic expert or not, is worried about the liquidity in the system and is trying to analyze the different scenarios and probabilities of occurrence of an economic and/or financial crisis.

On the economic front, growth in the Lebanese economy was capped between 0 percent and 0.5 percent in the first nine months of 2019, as indicated by the BLOM Purchasing Managers’ Index (PMI) level, and inflation remained subdued (see table below). The PMI shows private sector activity stalled at an average of 46.8 by September 2019, capped below the 50-mark separating contraction from growth. Meanwhile, inflation eased to 2.77 percent by August 2019, down from last year’s 6.29 percent, mainly owing to a 10.7 percent annual downtick in oil prices to $64.8/barrel.

Within an environment of high interest rates and persistent slowdowns, markedly in real estate and the housing market, tourism was the only sector pulling up growth. Tourism was a bright spot in 2019 as it grew by an annual 8.3 percent to 923,820 tourists in the first half of 2019, close to 2010’s highs. However, the number of real estate transactions, which may include one or more realties, dropped by a yearly 18.30 percent to stand at 31,131 transactions by August 2019. In turn, average interest rates on loans in lira and in US dollars that reached highs of 11.13 percent and 9.9 percent by July 2019, compared to 9.97 percent and 8.57 percent, respectively, in December 2018, contributed to the crowding out of the private sector. These high rates make many projects unprofitable, discouraging companies from taking loans. Banks would prefer to place their money at the central bank as it would be less risky than in the private sector. 

Understanding patterns

A historical perspective on the Lebanese economy may help understand the current economic and financial situation. Since the 1960s, the partial dollarization of deposits has always existed in Lebanon, fluctuating between 25 percent and 30 percent before the 1975 war. The dollarization rate reached 86.2 percent in 1987, following a period of hyperinflation and a deterioration of the exchange rate, and stayed above 70 percent until 1993.

The successive governments following the civil war were never able to restore investors’ confidence to pre-war levels. Dollarization rates never went below 50 percent and, most of the time, interest rates were much higher than their US counterpart. During episodes of shocks, like in 1995, interest rates went up to 38 percent, while in 2005, 2006, 2008, and more recently, credit default swaps (CDS) crossed the 1,000 basis points. (CDS are an insurance against the risk of default of the Lebanese government. When their price increases, it means that the risk of default is going up. Theoretically, the five-year CDS should be equal to the difference between five-year Lebanese Eurobonds and five-year US bonds.) 

The reason why stress is increasing in the financial markets is related to the length of the current shock—which began with the onset of the Syrian war—when compared to the previous ones. The previous shocks had a limited time span of around three months on average, while the current one has been ongoing since 2011. Many shocks have hit the system since 1993. First, the 1996 Israeli aggression called Operation Grapes of Wrath remained for several weeks. Second, the assassination of prime minister Rafik Hariri in 2005 led to an outflow of capital for several months. Third, the 2006 Israeli war paralyzed the economy for more than three months. Finally, the 2008 global financial crisis had a very short impact on Lebanon as the Lebanese banks were not exposed to the subprime market of the US. The economy’s shock absorption capacity  was never tested for more than a few months. 

The balance of payments (BOP) surplus accumulated from 2006 to 2010 has been wiped out in the last eight years (see table above). Lebanon recorded a surplus of $19.5 billion from 2006 to 2010, while the BOP (the difference in total value between payments into and out of a country) turned into negative grounds from 2011 onward, recording a cumulative deficit of $18.5 billion by end July 2019. 

An aggregation of shocks

What took place since 2011 is a combination of multiple shocks that led to a progressive drying up of capital inflows and investments in Lebanon. The Syrian war cut the land routes of exports, pushed ISIS into the Lebanese territory, and instigated an unstable political and security environment. Then, the economic slowdown in the GCC countries following the large decline in oil prices since 2014 and the war in Yemen exhausted the resources of countries involved, and tensions in the region increased to levels not seen in the last decade. In addition, the two-year long presidential vacancy and the crisis of the sudden (and since rescinded) resignation of Prime Minister Saad Hariri in November 2017 weighed heavily on investors’ confidence.      

The result was a deficit in the BOP and an increase in the financial stress. The BOP deficit has increased drastically since 2018 when it registered $4.8 billion; in the first seven months of 2019 it reached $5.3 billion. Other financial stress indicators such as credit default swaps and spreads with international interest rates have also deteriorated substantially, particularly following the downgrades of the sovereign by two ratings agencies. 

In order to preserve the peg, Banque du Liban (BDL), Lebanon’s central bank, intervened repeatedly in the market and increased interest rates to continue attracting capital. BDL used financial engineering schemes to boost the returns for commercial banks placements and allow them to provide higher interest rates to their customers at a time of low international interest rates. 

The central bank adopted a tightening of monetary policy in order to halt the increase in money supply. The latter declined by 0.67 percent in the first seven months of 2019, compared to an average increase of 5.8 percent from 2013 to 2017. BDL tried and succeeded in sucking most of the liquidity from the market through its financial engineering schemes, starting in 2016 and implemented repeatedly since then. In order to reduce money creation, BDL terminated the subsidies program for housing loans and offering high returns to banks that place their excess reserves with it. Banks were no longer interested in lending to the private sector or even to the government. Loans to the resident private sector declined by 9.5 percent or by more than $5 billion between end 2017 and July 2019.

Since banks’ liquidity was placed at the central bank for medium to long term, maturity mismatch between their assets and liabilities increased. Although banks were able to increase the average maturity of deposits from 45 days in the past 20 years to six months by the end of 2018, it remains far lower than the average maturity of their placements at BDL. As the economic situation deteriorated and demand for dollars outstripped the offer because of the negative balance of payments and the erosion of confidence, banks reduced their foreign assets, particularly over the past two years, to face the demand for dollars.  

As both the central bank and commercial banks are keen to keep their foreign assets at levels that preserve confidence, some shortage in dollars appeared on the markets, which led, in the past two months, to the creation of a very thin parallel foreign exchange market. Some of the restrictive measures adopted by some banks were to counter the abuse of the system exercised by some customers that began to exploit the arbitrage opportunities presented between the official and the parallel market. The latter constitutes less than 2 percent, in size, of the official market, and the exchange rate used in this parallel market is less than 5 percent higher than the rate used in the official market. 

Misplaced fears

The problem is summarized into a vicious cycle of self-fulfilling expectations whereby the lost confidence is the starting point, and people are aggravating the situation by acting, all of them, in the same direction. Individuals are afraid to lose their deposits, thus some of them are withdrawing their money from banks and keeping it at home and others are opening accounts abroad and transferring part or the total of their deposits to Europe.

However the cushion that the banking system holds is more than sufficient in the foreseeable future. The central bank foreign assets, excluding gold, cover 75 percent of lira deposits, and the banking system foreign assets cover more than 40 percent of dollar deposit. Therefore, the situation is not as bad as portrayed in the media.

The banking sector has the ammunition to defend the peg, which has served the economy well, and opinions about de-pegging the currency are misplaced. In a region full of uncertainties and shocks, any policy that ensures some stability and a clearer vision for consumers and investors may have a positive effect on growth. The importance of the peg is in its ability to provide a stable business environment when it comes to anchoring inflation expectations.

Moreover, evidence from economic research indicates that “floating exchange rates are far from a panacea for emerging markets and that this policy advice misses a number of important real world considerations that are crucial for developing countries” (see Guillermo A. Calvo and Carmen M. Reinhart 2000 paper at the National Bureau of Economic Research). As stated in my own research paper, co-authored with Andy Khalil last year: “Large exchange rate volatility in emerging and developing countries, such as large depreciation has a recessionary impact. When investors’ confidence is lost, domestic interest rates volatility will become chronic and exchange rate swings seem to be more damaging to trade with the pass-through to inflation far higher in emerging and developing economies than in developed countries.” 

Hence, whatever the cost of pegging the exchange rate, it will remain more advantageous for emerging economies when compared to a pure floating regime. In fact, as noted in the 2018 paper,  “currency crises become credit crises as sovereign credit ratings often collapse following the currency collapse and access to international credit is blocked.” Studies agree that if trade consists of a large fraction of a country’s GDP, i.e. the country is small and open, the costs that come with currency instability are substantially higher in the aggregate.

To restore investors’ confidence, the government has to set a clear timetable for reforms, as opposed to simply mentioning a list of projects and a 1 percent decline in fiscal deficit per year. Until now, the situation is blurry for investors about the necessary reforms that, if implemented, will unlock CEDRE funds pledged by international donors in April 2018, but contingent on fiscal reforms.

To turn the cycle

In this context, the government has taken some important measures that unfortunately have passed unnoticed by investors. The Parliament has approved a law that updates and modernizes the code of commerce. The government has also passed a decision to stop hiring in the public sector for the next three years. It has started to tackle state pensions by imposing a tax on highly paid pensioners. The authorities increased some taxes like VAT and the tax on interest income in the 2019 budget and reduced some expenditure. Moreover, cabinet approved an updated electricity plan to tackle the sector’s deficit, on which some progress has been made. Aside from the CEDRE funds, the government has approved several infrastructure projects to reduce traffic congestion in Beirut. The government has also filled vacancies in the judiciary sector to accelerate the work related to fighting corruption in the public sector.

If these measures had been outlined in a clear work program, within a clear time frame, their impact on investors’ confidence would have been tremendous. The reforms should have been prioritized and spelled out in a program that would show, on a quarterly basis, which reforms are to be implemented. This would keep the government to a set schedule that can be monitored by investors on a regular basis, and if kept will result in donors distributing funds.

Setting and monitoring such reform programs is the bread and butter of the International Monetary Fund (IMF). The IMF would tick a box whenever the government implemented a reform and inform donors and investors, on a quarterly basis, about the progress achieved. When the government is on the right track and is respecting its commitments, the IMF will give a green light for donors to disburse money.

An important game changer will remain the drilling for oil and gas that will start before the year’s end, especially if oil and gas are discovered from the first drill. In this case, consumers’ and investors’ expectations will change drastically with a likely positive impact on the economy but, more importantly, it will be able to turn the vicious cycle into a virtuous one.  

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LeadersOpinion

Come together to further one of Lebanon’s favorite exports

by Executive Editors
written by Executive Editors

In a country where it feels there is often little to be proud of, the Lebanese wine industry has offered us quite a few reasons to hold our head high—and could offer us even more if the industry learns to collaborate on a wider scale. 

The wine industry has seen a lot of growth over the past decade—there are currently 54 wineries registered with the Ministry of Agriculture (MoA), up from around 20 in 2009. This growth of more than 150 percent is only in terms of operator numbers, however. Many of the new wineries are on the boutique side, meaning total national production volume has not increased significantly from the 9 million bottles quoted by the Union Vinicole du Liban (UVL). The owners of wineries Executive spoke with say consumers’ curiosity has been piqued through new Lebanese wineries entering the market, and this has translated into an increase in enotourism and general awareness of Lebanese wine. The negative perception of Lebanese wine among some local consumers (that it is headache inducing and expensive) is also changing.

Wineries that export all have their individual strategies targeting international markets, but most of them have recognized the value of collective marketing, and as such work together to spread the name of Lebanese wines in these markets. For example, UVL member wineries, and some individual wineries, regularly exhibit in international wine fairs together under one pavilion named “Wines of Lebanon.” Their lobbying, and the undeniable growth and efforts of the sector, have encouraged the public sector to support the industry despite their limited funds. The MoA organizes an annual day of Lebanese wine in a different city every year (it will be held in Copenhagen, Denmark, on November 4 this year) while the Ministry of Foriegn Affairs and Emigrants promotes Lebanese wine through the Lebanese embassies.

But the wine industry has developed in a way that this sporadic cooperation is no longer enough. Lebanon’s winery owners need to carry their commendable collaborations beyond attending a few international fairs as one group, only to return to Lebanon and work as individual wineries. If they don’t, then the industry will likely stagnate at this level of “almost there but not quite.”  Those in the wine industry need to come together and ask the tough questions that global consumers will certainly be asking, such as: What is Lebanese wine? What distinguishes it from any other wine?

Here again, efforts that we can be proud of have already been made. Answering to global consumer demands for a story and identity behind the products they buy, Lebanese wineries have been experimenting with and producing wine out of local grape varieties, reviving ancient techniques of winemaking, and trying to prove that Lebanon is one of the oldest wine producing countries—and that, in fact, wine was first traded from Lebanon at the time of the Phoenicians.

But the problem is that, for the most part, this is being done at the level of individual wineries and not at a collective level, significantly slowing down results. Developing a grape-based identity for wine takes decades, as harvest and experimentation can occur only once a year, and so wineries need to come together and share findings regarding their research on different grape varieties and techniques—they can take a page from Napa Valley,  the US’s playbook to see how fast a wine industry can grow through teamwork.

Once an identity is forged, it is time to build a compelling narrative or story around it. The increase in the number of wineries has brought with it new owners and winemakers who are eager to see the sector grow. Some of these players come from a business background, or have creative minds that can be put to use in forming a narrative that sells. They can bring their expertise to the table and work together with representatives of other wineries, especially the new crop of young Lebanese winemakers, to develop a narrative for Lebanese wines that would allow it to seriously compete at an international level. Whether they decide to build that narrative on our indigenous grapes or on Lebanon’s history with wine, or even come up with a narrative as to how winemaking is more of a family business in Lebanon is up to them to decide—the bottom line is that a unique identity and captivating narrative are needed to answer consumer demand and give Lebanese wine its competitive edge. And it needs to be done together.

Those in the wine industry should stop calling for state support and using its absence as an excuse for why the industry is not growing. It is no secret that the government’s budget is restricted, but the wine sector has shown us what happens when industry players work together to advance their sector instead of seeing each other as competitors. The UVL and wineries need to carry this collaboration out of the international fairs into Lebanon, and together develop a common identity and narrative to grow the sector to its full potential. While it would not be logical to expect Lebanon to compete with other wine producing countries in quantity, nothing should prevent it from developing a collective narrative that would significantly grow its sales figures both locally and internationally, and to then compete on the quality versus price ratio side. Now that would be another reason to be proud.

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