Comment: Lebanon's long recovery will need to factor in ESG concerns

The recent deadly blast at the port in Beirut came at a time when Lebanon's economy and sovereign bonds were already extremely bleak, following years of mismanagement, economic decline and neglect of ESG risks, including generations of socio-political instability. Bernhard Obenhuber reports

Financial pledges from a number of nations will bring economic aid to the country. But these will be a sticking plaster solution unless the nation can right its path and put macroeconomic stability and ESG factors front and centre in its recovery plan.

Unique social structure
Lebanon's economy has long been weighed down by a number of complex social factors. A small nation of 6.8 million, it is a temporary home to more than 1.5 million refugees, the vast majority of whom are from neighbouring Syria. No country in the world hosts more refugees per capita.

As can be expected, this has created severe economic, security and social impacts on the nation. The governor of Lebanon's central bank said that, based on a study by the World Bank, Syrian refugees impose a direct cost of about $1bn a year and an indirect cost of $3.5bn on Lebanon.

At the 2018 CEDRE conference in Paris, several countries pledged more than $10bn in loans and grants. A significant amount of money, but it was already back then tied to fiscal consolidation and reforms.

Given the lack of progress, the money has not been unlocked. Another missed opportunity to put Lebanon on a better trajectory.

Today, foreign donors have stepped up to support Lebanon, but aid has been curtailed by the fact that Hezbollah had ministers in the cabinet.

The Netherlands, the UK, Canada and the US, among others, consider Hezbollah to be a terrorist organisation. And earlier this year, the Iranian-funded group accused the US of trying to influence the appointment of top Lebanese banking officials, further complicating an already fragile relationship.

Lebanon's access to remittances has always been cited as a stabilising factor and positive driver for its credit rating.

Last year, remittance payments were estimated at $7.3bn (12.5% of Lebanon's GDP). The country's large and widespread diaspora typically sends more money home during times of crisis, but the impact of Covid-19 has cut the inflows upon which the nation has often relied to finance its large external deficits.

Ali Awdeh, head of research at the Union of Arab Bankers in Beirut, predicts Lebanon will be among the top 10 countries most hit by the decline in remittances, based on their percentage contribution to GDP. The once supportive factor has greatly diminished in the current crisis.

Corruption, cronyism and a catastrophe
As Lebanon endures economic crisis, much of the blame falls at the feet of its politicians. Simmering tensions led to the October Revolution last autumn where citizens rallied against sectarian rule, a stagnant economy, high unemployment, endemic corruption in the public sector, and legislation (such as that relating to banking secrecy) perceived to shield the ruling class from accountability.

Some 300 days have passed since the protests erupted, and the myriad problems facing the nation continue to grow. The Lebanese pound has lost about 80% of its value on the black market against the dollar since October. As a nation dependent on imports, inflation has correspondingly skyrocketed.

The government defaulted on its debt payments and halted a bond payment of $1.2bn in March, and a two-month lockdown to contain coronavirus further handcuffed the economy. Informal capital controls have also prevented transfers and restricted withdrawals in dollars, weakening trust in the banks and leaving citizens unable to access their savings.

The demise is well illustrated by the rapid inflation in Lebanon. While it oscillated in a manageable corridor for many years, the recent jump to nearly 100% (see chart, above) makes it very difficult for people to access many essential goods and services, especially ones that need to be imported from abroad.

This is just one of many failures by the Lebanese government, which went without a budget for 11 years until finally approving one in 2017.

The country's political order is based on the idea that power sharing and sectarian quotas for the country's various religious and confessional groups is the only way to preserve civil peace, and that this formula should extend to the way public funds are allocated. Consequently, politicians, chieftains and their cronies benefit financially.

Lebanon's top 1% earn about 23% of the nation's pre-tax national income while the bottom 50% earn around 10%, making it one of the most unequal states in the world in terms of income and wealth distribution.

Last week's tragic port explosion was the latest case of mismanagement by the Lebanese government. Despite customs officials proposing exporting the 2,750 tonnes of ammonium nitrate, giving it to the army, or selling it to an explosives company, no action was taken because the judiciary's approval could not be obtained.

Last Monday (10 August), the Lebanese government resigned in the wake of the deadly blast.

Political reform in Lebanon has finally reached a tipping point. The IMF has warned Beirut it will not get any loans unless reforms are carried out and the financial system is solvent.

Nations such as Canada and France have already taken action to ensure their aid bypasses the government level to avoid any corrupt use of funds.

Lebanon's recovery requires a two-pronged approach involving both humanitarian and political aspects. First and foremost, action must be taken to address food shortages, overrun hospitals, and provide shelter for displaced persons in the wake of the Beirut explosion.

Once support for the humanitarian crisis has been provided, ESG challenges must be tackled through political reforms, restructuring the economy, and greater support from the international community for the 1.5 million refugees the country hosts in order to get Lebanon back on a path to recovery.

Bernhard Obenhuber is managing partner at CountryRisk.io

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