Investors are braced for more losses on Lebanese bonds as Beirut faces urgent calls to restructure its towering debt pile.
The value of Lebanon’s sovereign debt has plummeted since rating agencies pushed the dollar bonds even deeper into junk territory earlier this month. The country’s two-year bond has lost a quarter of its value over the past 30 days and now trades at 64 cents on the dollar.
Meanwhile, hundreds of thousands of Lebanese have taken to the streets to protest at government mismanagement and the deteriorating economic situation — demonstrations which forced the prime minister’s resignation at the end of last month.
Beirut has one of the world’s biggest debt burdens, projected at 155 per cent of gross domestic product by the end of 2019, but has always met payments to creditors. The debt has piled up as Lebanon’s government spends more than it brings in. Last year the deficit was about 11 per cent of GDP, prompting the IMF to call for greater fiscal restraint.
Although Lebanon’s finance ministry says it can pay off a $1.5bn bond maturing this month, economists are urging Beirut to draw up a debt restructuring plan as the default risk worsens. “The chances of a combined debt, currency and banking crisis are rising,” wrote Jason Tuvey of Capital Economics this week.
Lebanon’s local currency has weakened against the dollar by about a fifth on the black market, amid a worsening shortage of the greenback.
Outflows of foreign currency deposits this year, reversing a trend which had supported the economy for years, have triggered the liquidity squeeze and raised concerns that central bank reserves are being rapidly eroded. Lebanon is increasingly reliant on these reserves for debt servicing.
Riad Salame, governor of Lebanon’s central bank, Banque du Liban, has said he will not impose capital controls or force losses on depositors. However, commercial banks have instituted de facto controls by limiting withdrawals and overseas transfers.
Most Lebanese sovereign debt is held by these local banks, which reduces the risk of a sharp sell-off instigated by overseas hedge funds. But the local banks’ high exposures mean their balance sheets are hit hard as bond prices fall.
A restructuring could crystallise losses for these investors. A person working at a hedge fund which has bet against Lebanese bonds suggested that investors’ recovery rates could be as low as 20 per cent in the event of default.
Nasser Saidi, a former BdL vice-governor and former economy and trade minister, said different approaches were needed to ease the debt servicing burden of Lebanon’s foreign currency and local currency debts.
Mr Saidi said that maturities on local debt could be extended and interest rates lowered, if BdL, local banks and pension funds were to agree with the measures. He added that multilateral development banks and foreign donors could offer guarantees on Lebanon’s foreign currency debt, lessening the pain for investors taking forced losses.
But he said that politicians need to act fast and appoint a government with technical skills to see through this difficult process. “The longer you take to . . . undertake a painful adjustment, the worse the problem becomes,” Mr Saidi said.
Two western diplomats warned that foreign help was unlikely to be forthcoming without guarantees of a credible plan. Lebanon has been unable to tap a $11bn package of soft loans that its international backers pledged for infrastructure projects last year, as that money was contingent on reforms.
In addition, western donors are wary of funding a government that includes Hizbollah, a paramilitary and political group designated as a terrorist organisation by Washington. Hizbollah controls key government posts including the health ministry.
Alia Moubayed, economist at Jefferies, said that Lebanon had to embrace some fundamental reforms, such as shrinking its vast public sector and reforming the tax system, if it wanted to manage its debt burden.
“Liability management will need to be anchored in a medium-term fiscal plan setting a clear path for credible deficit reduction targets as part of a comprehensive package of revenue and expenditures reform measures,” Ms Moubayed said.