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Deal or no deal?

An unequivocal response to the drawn-out IMF quandary

by Mounir Rached

Today, one-and-a-half years after the April 2022 staff-level agreement between the International Monetary Fund (IMF) and the Lebanese government, the challenges to implementing the proposed $3 billion deal have become increasingly evident.  A final agreement hinges on a fundamental demand from the IMF: the sustainable and serviceable restructuring of public debt in foreign currencies. In the current IMF scenario, the burden would indisputably fall on the depositors, while the state would be relieved of the $73 billion it claims in estimated losses. A deal under these conditions would indubitably do more harm than good.

This massive unburdening of the state would happen through the write-off of bank deposits in dollars at the central bank, Banque du Liban (BDL) which is offset by the write-off of bank deposits from both citizens and foreigners, and, finally, the write-off of the government’s obligations to the central bank. As a result, the state would only have market debts in foreign currency–including from eurobonds (banking and non-banking)–and bilateral and multilateral debt. Half of these eurobonds are held by international financial institutions, and most have been acquired at high discount. Although this strategy would enable the rescheduling of eurobonds after reevaluation, it is not possible to write them off. Major financial institutions have too much dominance in financial markets, and the local and international courts where eurobond debts have been registered would be too severely impacted.

The crux of the impasse

In the IMF’s view, writing off deposits would transform the state’s dollar debt into an amount less than 100% of the gross domestic product (GDP), making its solvency level acceptable. The state would then be able to service its debt with a reform program supervised and financed by the IMF.

The most important question is: why does the IMF require the cancellation of dollar deposits and the debt owed by the BDL to banks? In short, the IMF is obligated to protect the quotas of its member countries. From these reserves, the IMF members obtain interest equivalent to the interest of Special Drawing Rights. The IMF must ensure that the quotas of its member countries are not exposed to any risks, as it is responsible for lending to countries facing liquidity shortages and providing global liquidity.

For this reason, the IMF first demands that Lebanon, as a member state, avoid high sovereign risks by writing off the BDL’s—and the state’s—obligations to banks. An agreement will not be reached without cancelling most of the deposits and banks’ capital against their assets in the BDL. It seems the government’s leadership is moving in this direction to obtain a certificate of good behavior from the IMF.

A bankruptcy crisis?

The IMF justifies its position by stating that the current situation is one of bankruptcy and not default, and, consequently, writing off most of the banks’ liabilities and corresponding assets would ensure Lebanon’s ability to service its debt to the IMF without default. This scheme was developed by the technical team comprising government and IMF representatives, based on the 2020 Lazard rescue plan initially presented to the Diab  government at the beginning of the crisis. The aforementioned plan, which never reached implementation, proposed a massive bail-in scheme by depositors and equity holders. What is surprising is that the IMF, through its consultations with the Lebanese state, did not give enough attention to stopping waste and only focused on the role of reform.

Can the state realistically implement the IMF’s demands and gain its assistance? That is, can the state write off $73 billion in exchange for a loan from the IMF of only $3 billion? If the government wants to pursue this option, it must convince the banks to write off their capital, and depositors to write off most of their deposits in the banks. It is very difficult for society and the parliament, which represents the Lebanese people, to accept this option.

The government acknowledges the difficulty of achieving the IMF scenario, and is trying to convince the citizens that it will preserve their dollar funds by maintaining deposits of up to $100,000, which represent only 15% of the total deposits, to be paid over several years. According to the government’s assertion, the remainder would be transferred to a fictitious deposit recovery fund, where the nominal deposits would only be replaced after 70 years.  

The reality of the matter is that the BDL and the state are not bankrupt. Bankruptcy requires liquidation, and the state and the central bank have enough assets to cover their liabilities. The crisis is a liquidity crisis. In 2019, the central bank had $50 billion in reserves, exceeding the dollar debt and equivalent to what would be considered the loss for the central bank.

An alternative path

The government’s alternative solution is to secure confidence and liquidity first (and not by writing off deposits or returning them). This is possible by taking these immediate steps:

• Completely liberalize the exchange rate and abolish both the ‘Sayrafa’ platform and the multiple routes for the exchange of the Lebanese pound issued by the BDL, which set various rates. Liberalizing the exchange rate restores confidence and liquidity, equalizes the role of the dollar and the Lebanese pound for internal transactions, and puts an end to the ‘lollar’ phenomenon. In addition, the liberalization of the exchange rate eliminates the need for holding dollar deposits in the central bank, providing banks with additional liquidity equivalent to at least $10 billion and ensuring the return of billions of dollars from the local cash market (the dollarization) to banks. It also restores check and credit card payment methods.

• Reschedule all financial obligations, bank assets, and public debt for a period not exceeding five years for deposits.

• Achieve a fiscal balance within a short period through an increase in revenues after liberalizing the exchange rate. This will improve the revenues of public sector institutions by relying on the private sector to manage them, curb useless spending, and take advantage of the rescheduling of the state debt and its interest.

• Establish an integrated program whose cornerstone is to preserve all deposits. Citizens have lost billions of their own deposits through restrictions on exchange rates and withdrawals. It is enough.

The new government should take into consideration that the IMF looks at the solution from one perspective, which is preserving the rights of the member countries and recovering their loaned-out funds without risk. Its primary concern is not preserving the deposits of the Lebanese and foreigners using Lebanese banks. Is a consensus with the IMF achievable? This seems impossible, given that the requirements of such a deal place an insurmountable burden on the Lebanese people.

A  version of this article was originally published in Arabic in Aljoumhouria. 

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Mounir Rached

PhD, is the president of the Lebanese Economic Association (LEA) and a former IMF Senior Economist (1983-2007).

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