Banking

Freddy Baz : Chief strategic advisor, Banque AUDI

by Executive Staff
written by Executive Staff

In a broad ranging interview, Banque Audi’s chief strategic advisor, Dr. Freddie Baz, discusses the economy, regional ambitions and why he is fed up with Audi being referred to as the No. 2 Lebanese bank.

E In the latest Banque Audi report, you state that Lebanon was a “no growth environment in 2005,” but that it was able to “avoid a recessionary trap.” How were we able to do this and what if any role did the banks play?

What we wanted to highlight is that we are not in a bad situation but we are witnessing a coincidental stagnation after the high growth of 2004, in which we saw 6% real growth as reported by the IMF and the central bank among others. But after the dramatic events we witnessed in February, it was normal that the real sectors would take a hit in terms of overall confidence and its impact on aggregate demand for investment and consumption. So no surprises there, but paradoxically, while there was this stagnation, the financial sector witnessed a very interesting improvement. Sure, the impact of the assassination hit all areas of the financial sector: stocks, bonds currencies, especially currencies, when we saw great pressure on the lira, but after the demonstrations and the flag waving and the demands for Syrian withdrawal and the UN resolutions, most markets adjusted, showing a high appetite for Lebanese paper. Stocks and bonds have improved significantly and banks’ stocks have increased by 100%. Solidere shares hit $5 but bounced back to $13.5; spreads on Eurobonds decreased after some initial widenings, and the FX markets recovered by May, allowing the central bank to recoup one third of the dollars it used to defend the lira. So we are witnessing a disconnection between the real sector and the financial sector of the economy in which the investors and consumers are in a wait-and-see mode; which is normal. It would have been worrying if the financial sector had been equally stagnant. We are in a two-speed economy. There is a traditional time lag of 18 months in these scenarios. We can look forward to a better 2006, and definitely a better 2007, in terms of real growth and GDP.

E The share of T-bills and Lebanese sovereign debt in the portfolios of Lebanese banks remained high in 2005. Will Lebanese banks ever break out of their lending cycle to the government and embark on a fully-fledged retail and corporate banking culture?

You ask the question as if the banks only lend to the public sector and not the private sector. Let me tell you that the consolidated lending portfolio to the private sector is almost equal to the GDP. This is the highest exposure in the emerging markets. The South East Asian Banks in the late 1990s were never exposed like us. They were at 65% to 80% of GDP. We are at 100% of GDP in terms of consolidated private sector loans. We are not under-lending. This is a misconception. Because of our funding which is three times GDP we are obliged to use it for alternative uses, we just can’t lend it all to the private sector. That would make our private sector be lending three-times the GDP, which is unacceptable by any standards. For us to increase our private sector loan exposure the economy should grow. We believe the actual size of the economy, which is measured by GDP, is not a reflection of its potential size which we believe to be higher by a minimum of 40%. If we assume the actual GDP to be around $20 billion, the potential GDP would be close to $30 billion, probably $28 billion. If the environment is there to narrow the gap between actual and potential GDP, then, while our level of exposure will remain the same, that is “1 x GDP,” there will be room for an additional $8 billion of lending to the private sector.

E But surely we have a chicken and the egg scenario. What comes first, the funding or the growth?

I see your point, but in Lebanon auto financing ratios are very high, so we have to start seeing investors putting their own money first and then we will lend. Together we will trigger GDP growth rates. So it is up to the investors to show their own commitment by putting their own funds on the table and we will support them. However, I want to stress that Banque Audi has been active in its corporate lending in 2005.

E Are there any sectors with potential that you are watching with interest?

We are not a development bank. We are a private bank. We do not look at sectors of activity with a high leverage on growth, but we lend our money where we believe there is wealth, where risk is limited in the nature of the business and more importantly where there is a contribution of the company to the generation of wealth in Lebanon and the GDP. When we lend to the private sector, we lend to medium to big enterprises which in the case of Lebanon, the top 100 companies probably generate 75% of GDP. This lending is more secured than to smaller companies and while they should not be neglected, they will not get a higher share of lending than their contribution to the generation of wealth in the country.

E Banque Audi is still ranked No. 2 in terms of assets and deposits. Is the bank satisfied with its performance this year?

You say No. 2. Yes it is true in terms of absolute figures, but what does a differential of $200 million on a basis of $11 billion [of assets]? It’s not even 2% and this is the difference between the top two banks, which is how I like to refer to us.

E Well you are ranked first in other areas.

Of course, we are first in terms of lending to the private sector. We have to highlight it and show our commitment to the domestic economy. Our job is not just to collect deposits and buy securities. We are first in terms of footings. We are first in loans. We are first in Tier One capital and this is as important as total capital. Rating agencies base their calculations on Tier One capital.

E Then what are the areas you would want to address in 2006? What are the plans for revenue diversification and regional expansion? Which areas of banking appear most promising?

I believe we have the best revenue diversification, not only among our direct peers but in the whole industry and this did not happen overnight. It is the result of a huge restructuring launched in 1995, diversifying our business lines to diversify our assets and sources of income to improve our immunity against any reversal trends. We launched retail banking and private banking capital market activities. To do so, we triggered the consolidation process in the Lebanese banking sector. We closed five acquisitions. We improved our human capital. Today 52% of our staff are university graduates, 15% are MBAs and we have 15 PhDs. We launched the first GDR in the region, the first five-year private euro bonds in the region in 1995, and 1997; a ten-year subordinated note issue, a ten-year euro CD issue and four preferred share issues. In the last four years, we have witnessed an average growth rate in our assets and earnings of 30% per year. So our restructuring allowed us to consolidate our market positioning and to ensure a higher asset and profit growth rate than our direct peers. More importantly, if you look to the breakdown of our income, over different businesses we have a much better balanced breakdown today than any of our peers whereby non-interest income is 45% of total income. This is our immunity against reversal trends and it comes from private banking, bancassurance, and capital market activities. In the last four years, our trading floor has seen a turnover of $4.5 billion. We are the most important market maker on Lebanese stocks and bonds.

E Moving onto regional expansion, how were Banque Audi’s plans for a Syrian banking operation developing in the last quarter of 2005? What is the outlook for 2006, given the uncertain political situation in that country? And what are Banque Audi’s ambitions for the Egyptian market?

Firstly, I would like to give a brief preamble because our activities are not just restricted to those two markets. Our internal restructuring, which translated into high asset growth rates, led Banque Audi to a size today of $11 billion in terms of assets. This is $880 million in equity, $15 billion of footings and we represent 55% of Lebanon’s GDP and when you reach such an important size in the local market you have to go beyond boundaries because you have become too big for your country. We wanted to continue this growth by developing new markets rather than new business lines. First, we went into Jordan where we were granted a license for ten branches. Seven are operational and in 2006, they will all be operational. It doesn’t mean we can’t open more in future. What is of interest is that after 14 months in Jordan, we could build $300 million of assets, which is higher than the size of many operating banks in Jordan who have been there years longer than us, in some cases ten years. We had a good business plan that we will duplicate for all the other markets in which we want to expand.

E Including Syria?

In Syria we launched our operation in September [2004], but there was some delay because we were the first to apply … [and] we decided within the course of the application to double our capital and it took us back to the beginning of the process. We have four branches that are almost ready and we want to build a substantial network in Syria with 30 branches within a short period. It’s too early to give you figures but all I can say is that we are very optimistic. Now, given the [political] concern you expressed, we have not felt it on the ground. It is as if the business community is disconnected from politics. It does not mean that they are not part of the country but life does not stop. Sanctions we believe will not target the Syrians as a whole. We believe there is an immunity concerning business but any unforeseen dramatic developments will have a limited impact on the overall turnover and not diminish overall opportunities. Anyway, the stories of substantial Syrian withdrawals from Lebanese banks are not very accurate and we certainly did not witness this phenomenon at Banque Audi.

E Moving to Egypt, Banque Audi is understood to be one of six potential buyers for the Cairo and Far East Bank. The Egyptian central bank has given the go-ahead for Audi to conduct due diligence on this bank. What are Audi’s ambitions for the Egyptian market?

Before [answering] that I would like to add that three months ago we have been granted a fully-fledged license for Iraq, among the eight licenses that have been granted so far and we have a plan to open in Iraq in the north.

E How soon?

Definitely in 2006. Now in Egypt it is true that so far, we have not succeeded with an acquisition, but I would like to remind you that Audi put in a bid on the Egyptian American Bank in 2003, but it didn’t materialize because there was a new law that made medium-sized banks very expensive in Egypt and consequently they have not become very interesting for us. Today we are looking for platforms to grow organically in Egypt and Cairo and Far East Bank is one that we are looking at but there are three or four others too. We will try to close what is the best deal for Audi, not necessarily Cairo and Far East Bank but that is the bank that is in the news.

E Are there other areas Audi is looking at?

We are looking at certain North African countries as well as niche roles we can play in the Gulf markets, especially in corporate finance and private banking where [Lebanese bankers] have strengths. We have limitations and this is the only area where we can compete. To try to be competitive in retail or commercial banking [within the GCC] is impossible.

E How important is trust in the sector for international confidence in Lebanon as a receiver of financial aid especially with a donor conference looming?

It is an important asset but whenever the donors meet it has nothing to do with the private companies in this country. But as long as you have strong and well-established financial institutions, it will improve the overall perception of the country. A country with a solid financial sector has more of a reason to ask for assistance but it is not directly related; we are talking about public versus private. We have a banking sector that endured two decades of war and a time when we had two governments but one central bank – the central bank was never divided.

E How important is any national reform program to the banking sector?

Anything, which will improve the overall efficiency of the economy, is welcomed by the banking sector because at the end of the day we are organically linked to the economy. Reform – economic, financial, and political – by definition improves the overall efficiency of the economy. Privatization will improve efficiency. Look at how deteriorated the service [of cellphones] is nowadays. Such a weak level of quality although [the cellphone sector] is managed by two private companies. They are not motivated.

E With Basel II looming can we see an eventual consolidation of the banking sector?

Not at the level of big banks because we are over capitalized. But it will affect a certain number of middle sized or small banks but this is a positive trend because we need to further consolidate. As far as I am concerned, we have not yet really witnessed real consolidation in Lebanon although the number of banks has dropped by around 25 or thereabouts. Real consolidation is not lobsters eating shrimps; it is lobsters eating lobsters, more mega mergers between the big banks to be able to compete with big international banks in a post [peace] settlement era. I think within the top 10 banks there is a potential for three mega mergers.

E To be more robust regionally?

Of course! You have banks like NTB, Arab Bank or NBK from Kuwait with equity amounting to the consolidated equity of the Lebanese banking sector.

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Economy

Time is ripe for tough reform

by Nicolas Photiades
written by Nicolas Photiades

The assassination of former prime minister Rafik Hariri on Valentine’s Day 2005, highlighted Lebanon’s economic vulnerability to sudden political and security events, as reflected in the significant slow down in economic activity; the massive decrease in GDP growth; and the rise of the proportion of public debt to government revenues. In the last quarter of 2005, after Syria’s withdrawal of its troops, relatively successful legislative elections and the naming of a “national unity” government – the country’s economy was still characterized by an extremely high level of public debt, wide fiscal and external current account deficits, a narrow economic base, and a fragile, arguably explosive, political environment.

At the end of 2004, the international community, as well as all the Lebanese were hopeful that a steady increase in government revenues and a substantial growth in the GDP would gradually reduce the debt burden and help the country outgrow its debt problem with new- found tourism revenues and foreign investment mainly from the Gulf. However, and perhaps with a degree of hindsight, those reading the runes should have predicted the unfolding of a different scenario, one based on the fallout of UN Resolution 1559, the extension of President Emile Lahoud’s mandate and a tightening of Syrian authority in the country.

Growth figures disappoint

Real GDP growth fell from a very positive 5% in 2004, a level unseen since the early 1990s, to an expected 1% at best for 2005 as the country’s GDP of the last few years (an average of 2% to 3% for 2001, 2002 and 2003, and 5% in 2004), was almost wiped out. This yo-yoing of growth figures should constitute a message to the Lebanese government that it is now time to genuinely tackle the debt and the economy. For the moment, the debt burden is still one of the largest among rated countries, with the debt to GDP ratio being estimated to exceed 170% by the end of 2005, and interest payments consuming around 55% of fiscal revenues (in both 2004 and 2005). The country’s overall fiscal deficit has remained very high at almost 10% at the end of 2004, and 11.7% estimated at the end of 2005, despite significant efforts to improve the primary fiscal balance of the last decade.

Moreover, the country’s economic base is still narrow and government revenues undiversified. The country still lacks primary resources and its export base is limited, with economic activity concentrated in services, namely banking, trade and tourism. The activities in the service sector account for around 60% of GDP, reflecting a high level of concentration on a handful of economic activities. This concentration coupled with a high dollarization of the economy and bank deposits increase Lebanon’s vulnerability to political and regional shocks. The current account deficit (or the current account balance to GDP ratio), after a period of decline between 2001 and 2004 (especially after Paris II), moved up again to an estimated 19.7% for 2005, compared to 13.1% in 2002, 12.4% in 2003 and 15.0% in 2004, approaching 2001 levels of 20.4%, which were then considered disastrous and a first sign of a country collapse.

More pressure from politics

The political environment remains precarious, with tension with Syria growing as the days pass by. The encouraging “free” elections of June 2005 produced a government of national unity, which is still unproven as regards to urgent economic reforms, although the resilience of this government is proving solid so far, as disputes and tensions between pro and anti-Syrian political factions take place on a daily basis. The government is keen to carry out long-overdue economic and administrative reforms, including privatization, as well as start planning for a debt restructuring program, which will be based on a successful donor conference planned in Beirut towards the end of 2005. However, it is clear that the deterioration of Lebanese/Syrian relations, which have been further exacerbated by the recent UN resolutions forcing Syria to cooperate in the investigation of Hariri’s assassination, should hamper the government’s efforts to initiate such reforms for the time being.

There is also the more delicate internal problem of Hizbullah, which still refuses to give up its arsenal of weapons and integrate into the Lebanese domestic political set up, in line with both the Taif Accord and UN Resolution 1559. This multiplies Lebanon’s political problems and opens two fronts, one external with both Syria and Israel and one domestic with the Hizbollah-Amal coalition. Although it is clear that such problems emanate from decades of civil conflict and its consequences, the country is still facing significant political problems that have been affecting the economy substantially during 2005. It would therefore be worth noting that the longer these problems persist, the more likely economic recovery will become unreachable.

Tempering risk

All these risks remain more or less mitigated by a high level of external liquidity, a large and relatively sophisticated banking sector, and resilient confidence among the Lebanese, which has been reflected in a continuously strong and stable deposit base within the country’s banking sector. Another positive factor is the return of Gulf Arab tourism towards the end of the summer and the resumption of Gulf investment in the country, despite the turbulent political scene.

The high liquidity, estimated to stand at around $9 billion in terms of official foreign currency reserves and $11.4 billion in terms of commercial bank foreign assets reflected the country’s prudent approach within an unstable domestic and regional political context. The foreign currency reserves approached $15 billion prior to Hariri’s assassination, and were instrumental in restoring confidence among depositors of the banking sector and in preventing a devaluation of the Lebanese pound. The current official foreign currency reserves cover more that eight months of imports and exclude around $1.8 billion in Lebanese government eurobonds held by the central bank, which are not considered to be liquid. Although foreign currency reserves declined in the aftermath of Hariri’s death, they partially recovered due to the issuance of several government eurobonds, an easing in the dollarization rate due to regained confidence, and to a resurgence of non-resident deposits in Lebanese commercial banks.

Strong deposits

Another strong sign of liquidity is the strength and stability of commercial bank deposits, which amounted to a little less than $60 billion in October 2005. The country’s banking sector has been capable of solidly financing itself through customer deposits and has not had to rely on market funds, which are more costly. Such customer deposits have been mainly used in the past decade by the banks to subscribe to government debt securities (including Treasury Bills in Lebanese pounds) and have provided the government with a source of steady financing. These customer deposits have historically shown a high degree of resilience to external political shocks and have been supported by a committed Lebanese Diaspora. On that note, Lebanon is traditionally regarded as one of the most important countries in the world in terms of remittances, which is a mitigating factor against potential risks.

Although the economic situation appears to be at risk in the short term due to internal and external political problems, the economic upside in the long term could be significant. Indeed, were the government to succeed in sorting out the political mess and resuming an efficient economic reform program that would include serious privatization and a long-term debt restructuring program, then economic prosperity would be regarded as a real possibility. For the moment, the country’s rating is still one of the lowest in the world at B- (S&P) and B3 (Moody’s), with the government required to undertake a massive effort in reducing debt and improving government finances, as well as for the political environment to ease considerably, if this rating is to reach more acceptable levels.

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Money Matters

Spending by Jordanian Visitors on the increase

by Executive Staff
written by Executive Staff

Significant Increase of Tourists from Jordan

Statistics released by the Ministry of Tourism show a dramatic increase in the number of Jordanian visitors to Lebanon, due to the easing of the visa requirement that came into effect in June 2005. During the June-September period, the number of Jordanians tourists rose by 82% compared to the corresponding period in 2004.

Tax Free Spending by Jordanians on the increase 

The increase in inbound tourists corresponded with a significant rise in spending by Jordanian tourists during the June-September period. It peaked in July, when spending increased by 48% compared to July 2004. With regard to ranking of top spenders by nationality, in the June-September period Jordanians came in fifth place after Saudi Arabia, Kuwait, Egypt, and the United Arab Emirates. Jordan climbed one spot, up from sixth position for the corresponding period in 2004.

Once the number of Jordanian visitors started increasing in June 2005, a rise in the number of Tax Free shopping transactions was anticipated. In July 2005, the number of transactions exceeded last year’s figure by 14% and it steadily increased until September when it reached as high as 101%.     

The rise in Tax Free shopping transactions, however, did not always correspond with an increase in spending in monetary terms. For example, in July 2005 the number of transactions rose by 14% and spending increased by 48% compared to the same period in 2004. Then in September 2005, the number of transactions rose by a staggering 101% but spending rose by just 26% compared to the same period in 2004. It is therefore safe to conclude that the subsequent rise in transactions indicates a greater awareness about Tax Free shopping by Jordanian tourists.

Preferred products among Jordanians:

The preferred product category among Jordanian tourists was fashion and clothing, which accounted for 77% of their total spending in the June-September 2005 period. Home and garden items follow with a 10% share. Interestingly, watches accounted for just 2% of their total spending, down eight percentage points from the 10% share it constituted for the corresponding period in 2004. 

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Money Matters

International Markets

by David Rosenberg
written by David Rosenberg

• We are now convinced that the Federal Reserve is going to tighten through year-end and into 2006, and we have raised our funds forecast from 4% to a peak of 4.5%. We’ve done so even though we think that inflation worries are overdone. Moreover, because of that view, we are not turning bearish on long-term bonds.

• The recently released FOMC minutes were on the hawkish side, and we certainly did notice the plural in the comment “further rate increases probably would be required” to “contain inflationary pressures.” The Fed sees Katrina’s effect as temporary when it comes to growth, but longer-lasting when it comes to underlying inflation. The minutes were also sprinkled with concerns about fiscal policy and its inflationary implications. In addition, Fed staff economists raised their forecast of both growth and core inflation for 2006 (the former reflecting the rebuilding effort, the latter reflecting the spillover from higher energy prices).

• Almost a year ago, we published a report that acknowledged that we may be too light on our Fed funds forecast. We went back over the past three decades to see what the market and macro landscape looked like when the Fed was done tightening, and we came up with a checklist. So far, only two of the 10 indicators on that list are in areas that, in the past, pushed the Fed to the sidelines; the yield curve is very flat, and the VIX is 60% above its low. Three more indications are headed in that direction: retail sales need to be flat-to-down for two months (but the data have to be clean), industrial production has to be flat-to-negative for three months, and commodity prices need to have peaked or rolled over. The jury is still out on the other five indicators: non-farm payroll gains below 100,000 for three months, the ISM index at 50 or less, real GDP growth below 3% for two quarter or more, Baa credit spreads around 50 basis points, and the stock market down by about 15%.

• Any central bank that can hike rates – and hint at further increases – after an unprecedented two-month 20-point slide in consumer sentiment obviously has a long list of concerns. Among them are the excesses in the housing and mortgage market, investors’ complacency about risk, fiscal largesse, the pass-through of high energy costs to core inflation, rising unit labor costs, heightened inflation expectations, tightening labor markets, and the possibility that the output gap has closed.

• Perhaps the timing of Chairman Greenspan’s retirement is also playing a role in the Fed’s unwillingness to pause. That is pure conjecture, but it may be that Mr. Greenspan wants to defend his reputation as an inflation-slayer and eliminate the term “Greenspan put” from the investment lexicon. Another point: the impending change at the helm of the Fed may be adding to the prospect that more tightening lies ahead. How? The record shows that a new chairman follows his predecessor’s policy about 75% of the time. Or maybe—just maybe— the Fed wants to be out of the picture by the time Congress hits the campaign trail for the 2006 elections; if that is so, it would mean that the Fed would do more now rather than later.

• Our Taylor Rule model says that a funds rate of 3.5% is justified now in view of the size of the output gap, core inflation, and real interest-rate proxies. Even so, the Fed has already gone beyond that and is moving into the same “overshoot” territory that it reached in the past. In fact, the historical record shows that the Fed has typically overshot neutral by 200 basis points, based on the funds-rate peak benchmarked against our fair-value Taylor Rule estimate. We cannot see how the inflation or growth picture gives the Fed any reason to go that far.

• It may be that today’s potent combination of factors—the housing market’s “froth,” the bond market’s “conundrum,” fiscal concerns, the current-account deficit, Katrina-related stimulus, and the potential that high energy costs will feed through to general inflation—means that monetary policy has to look beyond the classic Taylor Rule. After all, the Taylor Rule relies heavily on the output gap estimate, which Fed Governor Kohn basically said was no longer a particularly reliable predictor of inflation. Overshoot? Inversion? Could Be.

• With that in mind, we may have to consider the possibility that a classic overshoot is in the cards. That is not to be taken lightly. In our view, it would necessarily entail an inversion of the yield curve. During the past three decades, the Fed has tightened on eight occasions, and when it did, the yield curve inverted five times. Each time there was an inversion, the economy fell into a recession. We would recommend watching the two-to-five-year part of the Treasury curve; in the past, it has shown an uncanny ability to lead the entire curve into an inversion. Right now, it is only a few basis points away.

• The risks that would spring from a policy mistake are not trivial. However, it almost sounds as if Mr. Greenspan is ready to accept those risks. Recall what he said in his closing remarks at Jackson Hole in August: “Surely difficult times lie ahead for the Fed, some undoubtedly of our own making, and others that will be thrust on us by market or other forces” [emphasis added]. By the time we see the “thrust,” most or all of the 10 conditions on our Fed checklist will probably have been met. The question is when. The answer, at least for now, is the first quarter of 2006.

David Rosenberg

North American Economist, MLPF&S

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Case StudyUncategorized

Taha Mikati

by Executive Staff
written by Executive Staff

Taha Mikati is the founder of Investcom. He began building businesses in 1979 after founding a successful construction business called ACC in Abu Dhabi. His knowledge of the construction industry was based on his experience as a civil engineer. According to his PR Company In London, Taha Mikati decided to sell his share in ACC in 1992 “to focus his energies elsewhere.” Then it goes onto say that Taha Mikati “identified the opportunity to develop a high quality telephone service provider in developing, under-penetrated high growth mobile telecom markets. He founded Investcom for this purpose and remains today closely involved in the company’s strategy and operational performance.” His PR agency admitted that they had “no photograph of Mr. Mikati.” And apologized profusely.

Najib Mikati – Vice Chairman

Najib. Mikati is the brother of Taha Mikati and a former Lebanese prime minister, an office he held in the interim period after the murder of Rafik Hariri and the downfall of the government of Omar Karami. He has also held ministerial posts and is a former member of parliament. He was a member of the executive committee of the National US-Arab Chamber of Commerce in Washington DC, and a member of the Board of Directors, and Chairman of the Economic committee at the chamber of Commerce Industry and Agriculture of Beirut and Mount Lebanon. He has close ties with Syria’s ruling Assad family

Najib Mikati holds a Masters Degree in Business Administration from the American University of Beirut and according to Investcom’s PR company, “has also attended several Executive programs which include the “Owner/President Management Program” at Harvard, Boston in 1990, “Avira Program” at INSEAD, Fontainebleau France in 1994, and “Innovations in Governance Executive Program” at Harvard, Boston in 2004.

Azmi Mikati – Chief Executive Officer

Azmi. Mikati is the son of Taha Mikati. He was appointed CEO of Investcom Holding in 1998. He is responsible for the global strategy of the Holding and its implementation. Prior to this role, he was Director of T-One Corporation (International Carrier) and a board member of FTML (France Telecom subsidiary and the previous operator of one of two mobile networks in Lebanon). Azmi. Mikati was educated in the United States, where he earned a Bachelor degree in Science from Columbia University.

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Feature

Barrels of Potential

by Michael Karam
written by Michael Karam

Last month, as prime minister Fuad Seniora approved the extension of beetroot subsidies for a further three years with funding totalling $6,000 per hectare, Lebanon’s wine makers, who receive no such public sector support, were cheerfully wrapping up their harvest, too busy to ponder on the importance of beetroot. Their new wines will eventually appear on the shelves of Lebanon’s supermarkets, on the pages of restaurant wine lists and in pallets stacked in containers ready for export to willing quaffers in France, the UK, Germany, Canada, the US, Scandinavia and beyond.

And unlike the beetroot industry, the wine sector is expanding. This year Akram Kassatly, whose Kassatly Chtaura is a leading producer of soft drinks and who, several years ago developed the homemade alco-pop Buzz, is returning to his first love of wine making and producing the first bottles of Chateau Makse. Elsewhere, the Saadeh Group is reportedly planting grapes in the West Bekaa with a view to eventually producing its own wine. Both are multi-million dollar investment projects and reflect the current optimism in wine’s potential.

Another, relatively more modest venture, is Chateau Khoury, located in the hills above Zahleh. Raymond Khoury, like Chateau Kefraya’s Michel de Bustros and Cave Kouroum’s Rahal family, is a former grape supplier who has turned his hand to wine production. He has 13 hectares (130,000 m2) planted with a wide range of grape varieties (including frustratingly difficult but potentially thrilling Pinot Noir) and will release his first wines into the market next year.

When we meet, Khoury is entertaining the regional sales agent for Seguin Moreau, the manufacturer of arguably the best oak barrels in the world. The family has gathered for lunch in an outhouse on the estate. Nearby the Chateau, which Khoury will use as a home, tasting center and hotel, is still being built. “Don’t ask me how much I have spent,” he laughs. “The winery itself cost $1 million. Then you must add the land and the buildings… let’s say over $3 million in all.”

His son, Jean-Pierre, has just finished his winemaking studies in France and will be responsible for production, while his daughter XXX, who gained valuable experience working in wineries in South Africa and California will be responsible for marketing. Khoury hopes to produce 30,000 bottles but is confident that within the next decade he will eventually increase production to 100,000.

Even by Lebanon’s microscopic – by global standards – production levels, Khoury’s output is small, but he is not alone. There is an increasing number of “micro-wineries”, who no doubt inspired by the achievements of similar garagistes in California and elsewhere in the wine producing New World, want to make limited quantities – usually 20,000-50,000 bottles per year – of premium wines. In the ultimate boutique nation their aim is to produce the ultimate boutique wines (typically wines made from low, carefully selected grape yields, matured in brand new oak barrels with minimal filtration).

Too small to make it onto the nation’s notoriously crowded (not to mention expensive) supermarket shelves, these producers are taking a leaf out of the small Californian producers and selling direct to loyal consumers through often nothing more than word of mouth.

“More than half of our 265 members produce less than 10,000 cases per year. Many are small family producers with several thousand case production, making them small and their wines can be hard to acquire if they are popular,” explains Tori Wilder, Communications Director for the Napa Valley Vintners in California. “These small wineries often sell the majority of their wines directly to consumers, through mailing lists and wine clubs.”

It is a strategy that at least one small Lebanese producer is beginning to wake up to. In Bhamdoun, once famous for its grapes, but never a hub of wine production, Naji Boutros and his American wife Jill, owners of Chateau Belle-Vue, have just completed their fourth third major harvest. “We got just over 22 tons this year,” says Jill who is responsible for marketing.

Compared to the steel of the Khoury winery, Belle Vue, with its plastic fermentation tanks is still very basic, but that is how Boutros likes it. For those who care to listen, he is an advocate of starting small and building gradually. But small is a relative term. He is insistent that only grapes picked in the Bhamdoun area are used in his wines and to achieve this he has been gradually buying up pockets of suitable land and planting them with wine grapes. “Let’s just say that I have invested several million dollars so far,” says Boutros

None of Belle-Vue’s four wines have been released on the market; that comes next year. In the meantime, they have been donated a two cellars, one of which Jill is developing into a cozy tasting room. “We are setting up a mailing list because we want a wine community to whom we can sell directly,” she explains.

The Belle-Vue initiative is entrenched the philosophy of reviving Bhamdoun’s once-proud vitiicultural heritage and much of the drive for his wine making initiative stemmed from a desire to rebuild. When the former Merrill Lynch executive returned to Bhamdoun in the mid-90s, the pain he felt at viewing the devastation, inspired him to plant vines – particularly on the site of his grandfather’s hotel Belle-Vue – and make great wine. His dream may just be realized. His second tier wine, the aptly-named Renaissance, has been listed with nine other Lebanese wines in the latest edition of The Sotheby’s Wine Encyclopedia.

On a similar trajectory – his flagship St John was listed in the award winning Wine Report – is Captain Habib Karam, a commercial airline pilot with Middle East Airlines (MEA). His day job gives him responsibility of hundreds of millions of dollars of aircraft and its passengers, but today, not far from Chateau Belle-Vue, on a rocky hillside in Ras el Harf, he has an altogether different challenge. A consignment of new, empty wine bottles destined for his modest Jezzine winery has slipped from their palette. The lorry driver and his assistant, stand around, scratching their heads as Karam wonders how is will transport 10,000 loose bottles. Such are the pitfalls of the small winery owner.

Karam’s initiative began about five years ago. Apart from a love of wine and a desire to produce small quantities of beautiful wines, he is a proud son of Jezzine and wants to encourage local farmers to plant wine grapes, a strategy that outside the Bekaa has met with mixed results. Karam says the locals have responded positively, planting both Merlot and Muscat but in Ras el Harf the scene of Karam’s fracassement de bouteilles, Clos de Qana owner Fadi Gerges admits that his initiative to convince local farmers to do the same, went off half-cocked. Boutros didn’t take the risk and bought his own. He has 12 hectares so far. He believes that this is the only way to achieve consistency and guarantee that his wines are always made from Bhamdouni grapes.

Karam has bought and harvested a total of 55 tons this year. His objective is straightforward. “I want to make low-cost expensive wine, reach a level of 60,000 bottles and maintain this production for the next ten years. Then we will see.” He admits he relishes the solidarity that wine making affords and that it is a useful antidote to his day job. “I am winemaker, accountant and administrator.” He is also passionate about Lebanon’s potential. “I have vinified in the US in France and in Lebanon. This is a paradise. We will soon have a real status in the wine world and we will sell our wines. I can’t see how we can fail when we make such small quantities. Out total production is the same as one French vineyard,”

Habib Karam, Naji Boutros and Raymond Khoury are not alone. Domaine des Tourelles, one of Lebanon’s oldest wineries and the maker of arak Le Brun, has upped its profile, hired a new winemaker and produced a premiere red, Marquis des Beys. Then there is the Nazih and May Metni, whose vineyard in Richmaya is the basis for Nabise Mont Liban, while in, near Batroun, retired General Joseph Bitar makes small quantities of Kfifane wine, for the American market. More will surely follow. The age of the small producer is upon us – and he is not farming beetroot.

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Feature

Can Syria go it alone

by Andrew Tabler
written by Andrew Tabler

The inclusion of President Bashar al Assad’s brother and brother in law in a confidential version of the Mehlis report leaked on October 21st has deep implications for the Syrian regime. The pressure game is now on, as the United States and France push for Security Council Resolution that demands Syrian compliance with the ongoing investigation into Rafik al Hariri’s death or face possible UN sanctions. What remains to be seen is how international pressure will function in the milieu of Syrian reform, as the globalised environment so many Syrians have been looking to for hope begins to turn against them. So far, the Syrian government has organized poorly attended popular protests against what Damascus calls an “unprofessional investigation”, and all the while the implications of the report are beginning to sink in among Syria’s business classes.

Since Hariri’s assassination in February, power in the Syrian regime has been centralized in the hands of the Assad family. The president’s brother, Maher, is commander of Syria’s Republican Guards – elite forces that have been used to, among other things, put down rioting of Kurds in the spring of 2004. On February 14, the day of Hariri’s murder, the president’s brother in law, Asef Shawkat, was appointed head of Syrian Military Intelligence (MI) – perhaps the country’s most powerful mukhabarat agency. His rise through the ranks was relatively swift: Shawkat was named second in command of MI on November 20, just as UN Security Council 1559 went into effect.  At the same time, a rival to Assad from within the ruling Alawite sect, Ghazi Kanan, was demoted from the head of a mukhabarat agency to the civilian administration as Minister of Interior.

Then in June, during the Ba’ath Party conference, most of the country’s “old guard” retired from the party, including Vice President Abdel Halim Khaddam – long rumored to be a power center in the country. Khaddam played a key role in negotiating the end of the Lebanon War through the implementation of the Ta’if Accord. With Ghazi Kanan’s death in October in what officially was determined a suicide, most if not all alternatives to an Assad family-led Syria had been eliminated.

With the Mehlis investigation now pointing its finger at members of the Assad family, and Damascus promising it will cooperate, two options seem plausible. The first, full compliance with the probe to the extent that Maher or Shawkat would be delivered to an international tribunal, would likely lead to the collapse of the Assad regime rather quickly, or at very least, the transformation of Bashar into a Juan Carlos who presides over a democratic transition. The other and most likely option is Syrian compliance falling short of delivering Assad family members for trial. As Mehlis has indicated his work is far from finished, the moment for full UN sanctions is still not at hand.

Most people in Syria are betting on the second option. Damascus will now be in full defensive mode, and will likely hunker down and hope the storm blows over. Even if it does not, many question remain over Damascus’ ability to survive a blocade similar to that inflicted in Saddam Hussein’s Iraq.

Since Syria’s currency crisis of the mid 1980s, Damascus has employed a strict foreign exchange regime designed to suck up as much hard currency into Syria and keep it there, what economists call a “safe” model. Hard currency deposited in banks in the form of cash is not allowed to leave the country. Dollars transferred into the country, however, both for personal use or investment, can be transferred back out. The result has been impressive. To date, the Central Bank of Syria and the state’s mammoth Commercial Bank of Syria hold around $18 billion in reserves, enough to finance current import levels for three years. The majority of Central Bank reserves are held in cash. Currently, some $13 billion in Central Bank deposits held by the Commercial Bank of Syria are deposited outside the country at very low interest rates.

Even under pressure, the Syrian private sector will most likely continue to finance its hard currency needs through the black market, which is partially run through Lebanon. Reigning in that system could be difficult, as its remains unclear if Banque du Liban would pursue lesser offenders as they have Lebanese and Syrian security chiefs.

Other questions remain about how Syria’s new joint-venture private banks – most of which have Lebanese involvement – will fair under increased pressure.

“Sanctions would pose a lot of challenges for the new banks,” says Bassel Hamwi, Deputy Chairman and General Manager of Bank Audi Syria. “But we still don’t know what shape sanctions might take. Regardless of what happens, having a Lebanese partner is a strength.”

The real worry among banking sector observers is that increased pressure will impact ongoing reforms to Syria’s restrictive foreign exchange laws. Over the past six months, the Central Bank and Commercial Bank have eased access to hard currency to facilitate trade and better compete with private banks that are taking in larger and larger deposits every month. Some analysts predict that Syria’s foreign exchange restrictions are likely to remain in place for the foreseeable future.

In terms of agriculture and energy, two key commodities that could keep the country running even under the harshest of measures, Syria remains self-sufficient. While oil production is in decline, the government’s recent conversion of power stations from oil to natural gas could help the regime squeeze out every last drop for domestic use. Vital foreign involvement to develop Syrian oil fields, however, could be restricted as it was in Libya following the Lockerbie bombing. Best estimates show Syria has about 10 years of oil reserves, with rapid dips in production after five.

If the UN decides to cut off oil exports, however, this could go a long way to bringing the Assad house down. Officially, oil proceeds account for about half of all state revenue. Other estimates put that percentage much higher. Over the last few years, the Ministry of Finance has reduced Syria’s tax rates in a bid to entice Syria’s business classes to forego double and triple bookkeeping. While the law was passed with the business community’s input, another law enacted the same day gave the Ministry of Finance broad powers to investigate tax evasion. Businessmen immediately protested the move, causing the ministry to back down. Just how far the state would push businesspeople to pay taxes as Syria is under the gun remains unknown.

Syria is also skillful at circumventing sanctions as well. Damascus has been under US sanctions since 1979, which were toughed up in 2004 with the implementation of the Syrian Accountability and Lebanese Sovereignty Restoration Act (SALSA). Despite both measures, US goods are still readily available in Syria. The Syrian government allows sanctioned items to be imported through third countries, with Lebanon and Dubai topping the list. As the US embassy in Damascus openly admits that it does not have the resources to enforce its sanctions in Syria, it could soon be up to US companies to acquire end-user certificates for every microchip, modem and wireless router in the Middle East.

There are concerns over the Mehlis investigation’s impact on foreign investment. Syria’s population growth rate of 2.85% per annum remains one of the highest in the Arab World. Over the last few years, the State Planning Commission has produced studies showing that hundreds of millions of dollars in foreign investment per year will be necessary to create the minimum 185,000 jobs per year to absorb new market entrants. As current capital and labor productivity rates are pitifully low (with one World Bank team reporting that Syria has the lowest Total Factor Productivity in the world), it seems certain that any dip in investment from the Arab Gulf would spell disaster for Syria. Following Hariri’s assassination, capital from Saudi Arabia – one of Syria’s main foreign investors – slowed considerably. While projects funded from Qatar, the UAE and Kuwait have filled the gap for now, it remains to be seen if the petrodollar tap will keep flowing if Mehlis finds top-level Syrian responsibility for the murder.

Interesting thus far have been popular reactions to the report. Rallies held throughout Syria on Monday were considerably smaller than those held in March. Private sector sponsors, who last time donned company t-shirts while carrying banners opposing outside intervention, were no where to be seen. Only one mobile phone company, Syriatel, which is owned by Assad’s cousin, Rami Makhlouf, sent out text messages ahead of the event calling on Syrians to come out in support for their government. Students made up the majority of protestors. Most of those carrying banners in English renouncing foreign intervention in Syria affairs openly admitted they had no idea what their placards said. And last but not least, while the rally lasted but a few hours, Syrian TV kept replaying tape of the rally’s peak the entire afternoon before iftar.

Thus far, the report has been somewhat of a wake up call for Syrians, whose nationalist sentiments seem to be growing.

“People are starting to understand that we are in big trouble,” said one accountant, who preferred to remain anonymous. “They are starting to understand that all of Syria will soon be under pressure. This will rally support around the president for sure.”

Or will it? Ahead of the Mehlis report’s release, American diplomats in Syria have openly asked Syrians how the US and UN could punish the Syrian regime without hurting the population at large. The limited impact of SALSA thus far, however, shows that Washington’s ability to come up with much promised “smart sanctions”, where a regime is pressured to change without hurting the population at large, remains to be seen.

“Worldwide experience with sanctions shows that they hit from the bottom up,” says Hamwi. “The government can wait it out, and the people with resources will survive. Twenty years ago it would have been different. The private sector is the engine of economic growth in Syria now.”

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Development

A long-due story of mismanagement

by Safa Jafari
written by Safa Jafari

This year marks the beginning of the International Water for Life Decade 2005-2015.  The United Nations, through the United Nations Environment Program (UNEP) and World Health Organization (WHO), have introduced ten critical years, which started on March 22, 2005, to focus global attention on what should be obvious: water for life and aims, not just to highlight the magnitude of the world’s water problem, but also to bring all “stakeholders” together to apply workable solutions.

Clean water is asserted by the UNICEF’s Executive Director Carol Bellamy as “an inviolable right, not a privilege.” It is the basis of all life and is recognized as a humanitarian issue and a human right, the misallocation of which becomes a breach of legal norms.  According to UNICEF, two buckets – 20 liters – of safe water a day is the bare minimum a child needs to live.  This is enough for drinking and eating, washing and basic sanitation. But around 4,000 children die every day due to lack of access to an adequate supply of clean water. 

If that were not enough, each year more than 1 billion of the world’s people have little choice but to resort to using potentially harmful sources of water. About four out of every 10 people in the world do not have access to even a simple pit latrine and nearly two in 10 have no source of safe drinking-water, thwarting progress towards achieving the Millennium Development Goals (MDGs) discussed in last month’s issue.  Within these MDGs there is a specific target: to cut by half, by 2015, the number of people without sustainable access to safe drinking-water and basic sanitation. However, the UN Millennium Project Task Force on Water and Sanitation, however, recently added that integrated development and management of water resources are crucial to the success or failure of all the MDGs, as water is central to the livelihood systems, particularly those of the world’s poor. 

Lebanon was the first Arab country to host celebrations marking the United Nations’ World Environment Day on June 5, 2003, the theme selected was the aptly titled ‘Water – Two Billion People are Dying for It!’.  The agenda sought, “to give a human face to environmental issues, empower people to become active agents of sustainable and equitable development, promote the understanding that communities are pivotal to changing attitudes toward environmental issues, and advocate partnership among nations to allow people to enjoy a safer and more prosperous future.”

But the promotion of sustainable development entails more than just the engagement of communities.  These cannot be ‘active agents’ so long as better awareness of the problems is not coupled by effective means to tackle them, i.e. a healthy interplay amongst: grass-root action, accountable policy, and effective infrastructure. 

To what extent are these three present in Lebanon?  Let’s put it another way: the story of water in Lebanon is that a culture of mismanagement that has led to shortage and contamination.

Ironically Lebanon has a wealth of water resources in its numerous rivers, its underground aquifers, and has generous winter rains. But the country faces a perennial water shortage. It could theoretically meet all its own needs as well as export hundreds of millions of cubic meters to its more arid neighbors.  Most households suffer regular water cuts and irregular access to fresh drinking water. 

About half of the 2,600 million cubic meters of accessible surface and groundwater is wasted every year as it is left to flow into the Mediterranean.  Estimates of Lebanon’s annual water demand vary from 1.1 (Parsons study) billion to 1.4 (ESCWA) billion cubic meters. A USAID funded study by Development Alternatives in 2001 estimated that Lebanon uses 75% of its annual water supply for irrigation.  Domestic use accounts for 165 mcm and industrial use 130 mcm, according to Parsons.  However, the Parsons study concluded that real domestic demand for water is over 300 mcm.  For many Beirutis, water is rationed – or is not available at all – during summer.  Many Lebanese have to fill water bottles at public fountains or buy water from trucks.  Demand for water is expected to rise to 2.5 billion cubic meters by 2015, and perhaps as much as 4.0 billion cubic meters by 2025, according to ESCWA.

Donors have spent over $600 million since the end of the civil war on renovating the antiquated water supply networks, but a USAID-funded study estimates that more than half of the distribution systems still need to be overhauled. Irrigation systems are in equally bad shape. They use mostly inefficient flood methods and reach less than half of the potential agricultural areas. USAID has funded almost $6 million in potable water and irrigation projects in the past decade, while Japanese, French and other governments have also funded different water projects calling for privatizing the water sector, renovating potable water networks and the conducting of better water pricing schemes. 

To make matters worse, there have been disputes with Israel over accessibility of the Lebanese government to the Wazzani tributary from the Hasbani River. However, talk of building dams are still under way and Arab donors have pledged over $150 million to fund the first phase of the Litani River Project in the south.  Long-due plans for water projects are hoped to provide drinking water, irrigation and electricity.

But all that shines is not fresh water. Estimates of pollution in Lebanon’s waters vary and statistics are minimal, out of date, or faulty.  One study estimated Lebanon’s deposit of raw sewage to equal 38,095 cubic meters per day.  Another study stated the figure was as high as 500,000 cubic meters of untreated sewage. Sadly, both studies agree on two facts: sewage is untreated and deposited into Lebanon’s waters. Out of Beirut alone, there are 15 discharge points of raw sewage and a further 23 points along the Lebanese coast we bathe in.  And raw sewage is only part of what is being deposited in our waters.  Research carried out by the Greenpeace Organization in October 1997 showed the presence of ‘a high rate of heavy metal and organic bacteria in Lebanese waters’.

A study published last September in the Daily Star newspaper and another published last July in the Environment and Development magazine – showed that the Litani River has a high average discharge rate of 770 million cubic meters (mcm). Domestic wastewater is the largest pollutant in the upper basin of the Litani. And although about 50 percent of the population is connected to a sewer system, there are no wastewater treatment plants there yet. The Litani’s Qaraoun Dam, completed in 1956, holds some 220 mcms and approximately 70 percent of the damn is polluted water.  The levels of pollution vary from season to season but there are no ongoing tests being conducted on the dam. The tests that have taken place indicate high pollution in certain areas and some conclude that the upstream Litani River is microbiologically unsuitable for domestic use or bathing.

Several of the Litani’s tributaries are highly polluted due to contaminated discharge, not excluding solid waste. Most industrial facilities within the Litani area do not treat their wastewater before directly discharging it into the Litani or its tributaries. Also, the overuse and misuse of agrochemicals by farmers and farm run-off is another source of contamination.

The World Health Organization (WHO) measures the level of Fecal Coliform bacteria found in water to determine the level of its pollution. It is not recommended to swim in an area containing more than one hundred colonies of Fecal Coliform bacteria per one hundred millimeters of water.  Prolonged contact with contaminated sea water can lead to several health problems, most notably various forms of skin disease, as well as diarrhea and vomiting.  Studies carried out by Environment and Development magazine on September 14 showed that the level of Fecal Coliform bacteria found at one of Beirut’s most luxurious resorts and private beaches was drastically above international standards at 620 colonies per 100 millimeters of water.  This brings no surprise when waste from slaughterhouses is freely allowed to be tossed or flooded into nearby rivers.  

Incidentally, November 19 is World Toilet Day, an event that has been celebrated annually since 2001 on the same day.  The goal of the World Toilet Day is to educate people on sanitation issues and promote better toilets around the world.  President of the World Toilet Organization Jack Sim was quoted by Reuters as stating that 2.6 billion people, or 40% of the human population, do not have access to proper sanitation.  Ironically, to celebrate this day, countries such as Japan and others in the EU went on to compete in the design of the most luxurious and exquisite toilets while our part of the world continues to search for ways to dispose of its daily waste without severely putting human lives at risk. 

What we must understand here is that we are all stakeholders in this as we eat and drink; swim and bathe; and allow our children to play on formerly flooded riversides whose odor provides an indication of the bacteria they hold.  In addition to health and hygiene, the nation’s economic development is at stake.  Tourism is at risk as beaches and running water are declared unsuitable for human use, and Lebanese employees are naturally less productive if they end up often taking leave due to some mysterious ‘stomach virus’.

During the war much of the information about Lebanon’s sewage system was misplaced, lost or destroyed.  Water losses exceed 50% in many areas. Much of the country’s irrigation system dates from before the civil war, and cracks in canals, evaporation, and illegal use of canal water account for irrigation efficiency of only 30 to 40%.  It is also estimated that about 40% of the population uses cesspools, which consist of porous pits that receive wastewater from the toilets, showers, wash basins or other sanitary fixtures, with no proper service for sludge removal, so they are subject to overflow or contamination of groundwater.  Naturally, contamination finds its way to our potable water system through leaks from damaged networks, clogged wells, or flooding rivers. 

Due to lack of regulation, the Beirut River, as one example, has become a dump for garbage and sewage and according to Greenpeace Lebanon, if nothing significant is done before the rainy season starts, the river and underground reservoirs will be entirely polluted. 

Numerous governmental decrees have established standards for the proper disposal of pollutants. There are guidelines and “environmental limit values” set by various ministries. And there are decrees for the management of healthcare and hospital waste.  The problem, however, lies in two facts:  there is no system of accountability for those who breach the law, and there is no centralized, regular and uninterrupted monitoring of pollution quantities and qualities in Lebanon to date.

The people of Lebanon know that their country suffers a shortage and contamination of its waters; the funds have come to Lebanon, particularly to help solve the water problem; and our policy makers are well aware of the situation that has haunted them since the civil war.  Where does the problem lie?  The problem lies in the management of those three ingredients:  the people, the funds and policy. The people need to change their environmentally harmful behavior.  New and healthy infrastructure must be created to support the widening water network in the country.  And an effective policy must be put to force whereby any misconduct is monitored and its doers are held accountable.  For some reason, we seem to think that the problem of water in Lebanon yet needs to be made known to the people who today smell and taste the water they use – whenever it is available.

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State department

Investing in people’s futures is good business

by Washington Correspondent
written by Washington Correspondent

The urgency in bringing rapid relief to survivors of Pakistan’s devastating earthquake might not pass as a major business decision, but ultimately it is. Call it long-term investment in terror prevention, and file it under “insurance claims.”

In the aftermath of the catastrophe – close to 50,000 dead, maybe twice that figure once the numbers are finally in; 15,000 villages affected by the disaster, and, according to reports from international relief agencies and Pakistani government officials in the field; possibly as many as 3 million, possibly 4 million, people homeless. The numbers are astounding by any standard; it would be the equivalent of almost the entire population of Lebanon living in the street. The earthquake has destroyed more than 80 percent of structures in parts of northern Pakistan and strong aftershocks threaten buildings already damaged by the initial quake. Winter in the Himalayas is just weeks away and unless aid arrives fast, tens of thousands of people will starve and freeze to death.  The U.N. coordinator, Undersecretary General for Emergency Relief Jan Egeland, who was touring the area around Muzaffarabad described the situation on the ground as “desperate.” “With wintry conditions arriving in the higher elevations, children are facing a potentially deadly combination of cold, malnutrition and disease,” said UNICEF Executive Director Ann Veneman in New York. “Most housing has been destroyed in the hardest hit areas, so the survival of thousands of young children is now at stake. Shelter, nutrition, and health care for children must be a priority.”

And all this is taking place in a region of the world where you need only scratch the surface to discover the deep-rooted sympathy for al-Qaida.

How is this an economic affair? Simple mathematics really. Unless relief from the West arrives in the affected areas post haste, there are excellent chances for the region to turn into a vast breeding ground for potential al-Qaida conscripts. Recruiters from radical organizations seeking to refill their ranks will not waste time in signing up a new crop of jihadi fighters from among the tens of thousands of men aged 15-45 who overnight find themselves alone, homeless, jobless, penniless and ripe for the recruiter from any of the militant politicized Islamist organization, of which there is no shortage in Pakistan, will gladly join the ranks of those organizations who are willing to give them food, shelter and an AK-47.

That’s assuming they have not already started doing so. Already, the day after the disaster, reports from the quake-affected areas made mention of mujahedin fighters arriving with blankets, food and medicine to assist survivors in one village where no other help arrived.

Little matter to the cost of the relief operation, it will turn out costing the international community far less in the long run.

Back to the math: working on the assumption that the lower of the estimates is correct, assuming that among the 2 million homeless only a small percentage — just half a percent — of males aged between 15 and 45 accept the offer from the Islamists. That is still a staggering 10,000 possible recruits.

Much closer to reality the numbers could well be in the tens of thousands, if not more. As a reminder, it took only 19 men to carry out the terrorist attacks on the World Trade Center and the Pentagon.

If the investment is not made today to save those left stranded on the cold, barren hills of Pakistani Kashmir, a far greater investment will have to be made to fight them later. Consider it a race between international relief organizations and Islamists groups for the hearts and minds (and bodies) of the refugees. The importance of providing for the victims cannot be stressed enough. If it means deploying NATO, U.S. and EU forces toward that end, then it should be done. Every hour wasted could mean a successful “close” for the recruiter; every recruit a potential future terrorist.

It will get far worse unless massive amounts of aid start to arrive without further delay. Many cities and villages in Pakistan-administered Kashmir and the North-West Frontier Province, the most affected areas, have been wiped out. NWFP abuts Afghanistan and is the area where Osama bin Laden is believed to be hiding. He could soon be offering many more people refuge in his cave. His fighters are believed to frequently trek back and forth across the Pakistan-Afghan frontier.

The scope of the disaster requires new thinking – thinking outside the box. Once these disaffected youths have been fed and clothed, there will be the need to keep them occupied. This is where a sort of Pakistani Peace Corps should be created and financed by the international community, so that in turn, they can help rebuild the devastated areas.  In the long run, it will prove to have been a relatively low price to pay for the dividends reaped.

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For your information

Daniel Kaufmann

by Executive Contributor
written by Executive Contributor

Daniel Kaufmann is the director of global programs at the World Bank Institute and a noted researcher on issues of governance. On the occasion of his visit to Lebanon, he talked to Executive about the World Bank’s work to enhance governance, reduce corruption and alleviate poverty.

Is your visit to Lebanon part of a regional tour, or was it purposely scheduled?

It was purposely scheduled because of excellent discussions we had with the minister of finance [Jihad Azour] during the annual meetings of the World Bank and IMF [in September]. My visit is a follow-up to that. I don’t believe in regional tours for tours’ sake, I go only to places where there is a possibility for concrete help and work.

The World Bank categorizes nations into four brackets in terms of governance indicators. Knowing that you said you are not an expert on Lebanon, which policy recommendations tend to be the most important for a country situated in the lower middle bracket of achieving good governance, as Lebanon is?

Lebanon has a set of viable institutions. This is not a failed state, of which there are some. Lebanon has institutions and human capital. The range of issues in this type of country is the following.

One, we discuss the whole regulatory framework. Are there too many excessive regulations? This is usually associated with a lack of governance, monopolistic power, capture of state, and more corruption. 

Second, procurement. What are the vulnerabilities in terms of procurement and what reforms are required in that area?

Third, and related, is transparency. In all kinds of different realms, including procurement, transparency is very important. But transparency also relates to full disclosure of assets of politicians, of judges, public officials and their dependents.

Fourth is public finance, the issue of the budget. Are all public expenditures transparent through the budget, or are a lot offline? Are there issues of governance in tax collection? These are the broad areas that apply almost everywhere in countries with this type of challenge. In terms of specific issues, more research is required.

One peculiarity that participants also were alluding to in yesterday’s discussion is that data collection in Lebanon seems very weak and that even some high-ranking decision makers treat data in a very liberal fashion.

Let me say three things about that, because it is very important. Point number one is that data needs to be treated very cautiously anywhere in the world. This is not only about governance but also about investment climate and many other issues, and applies in some cases particularly to official data. 

The second point is that precisely because we are aware of that [need to be careful about data] we use different techniques to gather data from many different organizations, including international organizations. We have reasonable confidence that this data can be used with the caveat.

The third point is that there is not always objective criticism. It is not uncommon that a minority has a vested interest in criticizing data. It is what we call shooting the messenger. Nobody complains about our numbers if one is doing okay. When we come out with our numbers on governance, we have never heard criticism from officials in a country where things are improving. It is a one-to-one correlation as to where the criticism comes from. Let me rest my case there.

You were also discussing myths to debunk when discussing anti-corruption strategies. Of the myths about fighting corruption, is there one that you consider the most important to unravel?

The most important one to get rid of at the generic level is a bullet message: one does not fight corruption by fighting corruption. Corruption is a symptom of significant weaknesses somewhere else and one has to understand the issues of governance. That is why I mentioned those policy points. The myth that one can fight corruption by fighting corruption can be unbundled into sub-myths, such as [that it is effective to] throw another institution at the problem. It is very easy to create another anti-corruption commission or adopt another decree against it, do another campaign.

Does that mean that more stringent laws and higher penalties would not be key measures?

Setting of higher penalties is fine. The problem is the incessant drafting of laws which may or may not get adopted. Obviously having tougher penalties within reasonable limits – we don’t believe in people being executed because of corruption – is important. It is the drafting and thinking that the law needs to be improved.

Most every country in the world has decent laws against corruption. The problem is that they are not implemented effectively. Getting away from a state that is monopolizing who can have the dealership of such and such company, or a radio or TV or newspaper and who cannot, those are the much more difficult issues than creating another commission.

Research into human behavior that you quoted yesterday seemed to indicate that people are more inclined to act in a moral way when they are watched then when they are not. Do you advocate monitoring as key measure for inducing governance and better behavior?

The expression is that sunshine is the best disinfectant. We are not talking about monitoring but we are talking about transparency. Transparency in my view is a much more effective tool of policy and sometimes a substitute to other regulations. Having all kinds of procedures and regulations sometimes can create even more corruption. Instead, let’s have sunshine – if for no other reason that first you start rating the cost of corruption through the reputational risk.

In some countries, where politicians and others don’t care, the question of reputation may not matter. But it increasingly matters internationally in the competitive world. It matters for investors; it matters for the electorate, and so on.

Is improvement of governance a realistic possibility or is it a dream? Is human nature per se corruptible, or do you believe that human beings could be different from the corrupted?

Of course I believe in that, otherwise I wouldn’t be doing what I do. There is no question that you will never get rid of corruption. The challenge is to move from a situation where there is a systemic, endemic or even pandemic – not here but in some other countries – corruption to another stage where corruption is still widespread but not endemic or pandemic, and then to where it becomes individual. In a country like Norway, there is corruption. But it is individualized and is the exception, and when it comes to the light, it is a real scandal and penalties may be applied.

So, although you said yesterday that improvements of governance on the whole have not been strong over the past ten years, you have seen progress.

We have seen how countries have managed to make progress. What better example than to show that some countries are doing very well, even among emerging economies? That is why I bring in my own country, Chile. Singapore and Hong Kong were extremely corrupt only 20, 25 years ago. They have contained it. England took longer. It was a very corrupt country years ago, now it is doing very well. In Eastern European countries, the evidence speaks [of governance improvements] in countries like Slovenia and even in Africa. Botswana has better ratings than some countries in southern Europe.

Between public sector corruption and petty corruption in the public sector, how important is corporate corruption on your map of problems?

It is very important. The crucial issue with corporate corruption is how corporate corruption affects public corruption. More important than fraud within a company or between two companies is the collusion between the private and the public sector. Bribery takes two to tender, a briber and a bribed. Very often we are finding out that it is not the public official who is always extorting from the private sector. Some very powerful private interests sometimes capture the politician or the public official; in that case they have an enormous responsibility.

The Middle East has many autocratic regimes. How well can autocratic methods function in defeating corruption and inducing change in governance?

On the Middle East, you are the expert. What we find on average and on balance worldwide is that a country that gives more voice and freedom of expression and has also more transparency, is better able to control corruption. Of course that is not the only thing that matters. Countries can make very significant efforts through other means, through rule of law, transparency of budget.

But there is no evidence in the data that autocratic governments do better in fighting corruption than democratic ones. On average, it is to the contrary. It has to be that the citizens become the auditors of their country. What is the probability in a place like Lebanon that big daddy can be watching everybody? The whole idea of the freedom of expression is creating millions of auditors.

In a definition of governance you described it as a set of traditions and institutions in a country. In this region, religion-based traditions and institutions play a strong role. Can you fit them into your model of governance?

We are mindful of the relevance and importance of the religious dimension. We do not enter it into the data exercise. In part, this is deliberate because we want to remain neutral vis-à-vis religious beliefs. Our approach to what constitutes good governance is a more universal approach. I must say, however, that the World Bank has made a very concerted effort over the past seven, eight years of reaching out to the faith community and to the interfaith community. In all interfaith activism, the commitment to poverty alleviation and the same objectives that we have is extremely strong.

When you presented your evaluation of Lebanon in terms of corruption control, the graph’s margin of error was very large. Why?

Because there are very few sources. The margin of error in a significant way is a function of how many surveys there are. That’s an issue, because a country like Lebanon, a financial center, is not being rated by the World Economic Forum. If a country is jumping aboard the train of globalization, the moment that the WEF, IMD and others cover them, the margins of error start coming down. The first order of business is to be on the radar of all these investment ratings agencies and other large entities. There is nothing worse than being ignored. It is much better to be rated not very well.

In assessing governance in Lebanon at the World Bank, do you find a lot of cooperation from the Lebanese side?

Lebanon is now very interested in these issues of measurement and thinking where one can go in the next stage. But one has to distinguish two things. One is a worldwide measure – the indices on governance. This is all from independent outside sources, that’s why we cover the world. The other is what is needed when a country wants to do something about the problems. There one needs an in-depth study and analysis, and I find that the Lebanese are very open.  

How important is it for you personally to believe in the improvability of governance?

I think that the theme of justice, of alleviating poverty in the world, particularly in emerging economies, and empowering people to take their destiny in their own hands and improve their own welfare, is crucially important. Just giving people the opportunity and the enabling environment of not enormous regulations to be entrepreneurs, to express their views and innovations, that is what motivates me and that is why I work on governance for poverty alleviation. I feel affinity to a place like Lebanon, because I am Chilean. Chile until only about 15 years ago was considered a very troubled place. It was a country that was not living to its potential and not doing all the reforms that were needed. I feel enormous affinity to those type of challenges of the emerging world. I think it is feasible within a realistic timeframe to make enormous progress but it is very hard work, it is political leadership for governance improvement.

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