Lebanon: Staff Concluding Statement of the 2019 Article IV Mission
IMF News, July 2, 2019
Source details
- Canonical URL
- Lebanon: Staff Concluding Statement of the 2019 Article IV Mission
Other formats
Bibliographic details
- Published: July 2, 2019
Key messages
- Strengthen the Lebanese economy through three priorities:
- A credible medium-term fiscal plan aiming for a substantial and sustained primary fiscal surplus that would steadily reduce the public debt-to-GDP ratio over time.
- Fundamental structural reforms to boost growth and external competitiveness, starting with improving governance as well as implementation of the electricity sector reform plan and recommendations of the Lebanon Economic Vision.
- Measures to increase the resilience of the financial sector through a stronger BdL balance sheet and continuing to build bank capital buffers.
I. Context and opportunities
- Lebanon faces a difficult starting position characterized by high deficits, large public debt, and low growth.
- Government actions taken and prospects:
- Parliament approved a plan to reform the electricity sector and reduce its fiscal cost.
- A budget proposal has been submitted to parliament that aims to reduce the fiscal deficit in 2019.
- Successful reforms could encourage donors to disburse USD 11 billion in pledged concessional funding secured for the Capital Investment Plan (CIP) at CEDRE (April 2018).
- CIP execution can provide a short-term growth boost and employment opportunities for host communities and Syrian refugees, particularly if public investment management is improved early.
II. A difficult economic environment — key findings and indicators
- Growth and inflation:
- Growth estimated at 0.3 percent in 2018.
- Average inflation reached over 6 percent in 2018.
- Fiscal positions and debt:
- Public debt: over 150 percent of GDP; specifically 151 percent of GDP in 2018.
- Budget deficit: 11 percent of GDP in 2018 (up from 8.6 percent in 2017).
- Primary balance: deteriorated to ‑1.4 percent of GDP in 2018.
- Interest payments now exceed 9 percent of GDP.
- External sector and reserves:
- Current account deficit: over 25 percent of GDP in 2018.
- REER continued to appreciate with significant estimated overvaluation.
- BdL foreign reserves have decreased by around US$6 billion since early 2018.
- Financial sector and flows:
- Deposit growth in 2018 was the lowest since 2005; deposit dollarization rose to over 70 percent.
- Bank lending to the private sector declined; non-performing loans (NPLs) increased.
- Sovereign exposures: government securities and deposits at BdL account for 14 and 55 percent of bank assets, respectively; total exposure to the sovereign equals 68.5 percent of assets (more than 8 times Tier 1 capital).
- Market and ratings:
- Sovereign downgrade by Moody’s to Caa1 and negative outlook changes on S&P and Fitch B- ratings.
- External upside and downside risks:
- Upside: potential Syrian resolution and possible discovery of a natural gas field with exploration expected to start by the end of the year.
- Downside: failure to implement fiscal and structural reforms or loss of political/social consensus could erode confidence and donor support.
III. Policy priorities and recommendations
A. Front-loaded and sustained fiscal consolidation
- 2019 budget and IMF assessment:
- Budget submitted to parliament targets a deficit of 7.6 percent of GDP.
- IMF staff preliminary estimate: the budget measures will reduce the cash-basis fiscal deficit to around 9¾ percent of GDP.
- Uncertainty remains about the approved budget form and the stock/clearance of outstanding payment orders.
- Temporary savings on interest payments from delayed Eurobond issuance partly benefit the projected deficit.
- Medium-term outlook and needed adjustment:
- Full-year effect of measures for which IMF staff has details is estimated at 2.3 percent of GDP; this helps turn the primary balance slightly positive in 2020.
- Without additional measures, the primary deficit will remain above its debt-stabilizing level and public debt-to-GDP will remain on an increasing path.
- IMF staff projects that a primary surplus of around 4.5 percent of GDP would be needed to noticeably reduce the debt-to-GDP ratio over the medium to long run.
- On current plans about 0.5 percent of the 2019 revenue measures will be permanent; the authorities’ current electricity plan can yield a further 2 percentage points of GDP in savings over the medium term.
- Authorities must identify and implement additional permanent fiscal measures to achieve the necessary primary surplus.
- Revenue and expenditure measures recommended:
- Revenue: raise the value-added tax (VAT) and increase fuel excises; consider making the temporary increase of interest income tax (from 7 to 10 percent) permanent; broaden the VAT base by removing exemptions (e.g., foreign-registered yachts, diesel used for electricity generation, road vehicles); improve tax administration and compliance (examples include requiring businesses to use financial statements certified by the Ministry of Finance to obtain bank loans).
- Expenditure: eliminate electricity subsidies through the electricity sector reform (switch fuel to natural gas, increase EdL capacity, and raise tariffs sufficiently to close EdL’s deficit in the medium term under realistic loss-reduction assumptions); conduct a thorough public expenditure review to identify savings, including inefficiencies in wages and benefits.
- Social protection: complement fiscal tightening with scaled-up targeted transfers to the poor and vulnerable; allow for an additional 0.5 percentage points of GDP in SSN spending, channeled largely through a scaled-up National Poverty Targeting Program.
B. Growth- and export-enhancing structural reforms
- Priorities to boost growth and competitiveness:
- Deep reforms required to lower the cost of doing business and raise potential growth; export-enhancing reforms essential given the currency peg.
- Advance electricity provision reforms: increase EdL supply to 24/7 to eliminate a major constraint to business.
- Approve and implement legislation identified in the CEDRE vision, including: code of commerce, law on judicial intermediation, a new customs law, regulation on closing a business, bankruptcy law, insolvency practitioner law, law on secured lending; resolve regulatory obstacles to industrial zones.
- Implement recommendations of the Public Investment Management Assessment before most CIP execution: incorporate Council for Development and Reconstruction (CDR) spending in the budget and pass a public procurement law.
- Governance and anti-corruption:
- Promptly and effectively implement recently passed public information transparency and anti-corruption legislation (access-to-information law, whistleblower protection law, law establishing a national anti-corruption commission, law on oil and gas sector transparency).
- Appoint an independent, empowered, and resourced anti-corruption commission; adopt illicit enrichment and asset declaration legislation; adopt an anti-corruption strategy; undertake investigations and prosecutions to obtain convictions and confiscations commensurate with risks.
- These steps are important for the upcoming MENAFATF AML/CFT assessment.
C. Monetary policy and financial stability
- BdL role and concerns:
- BdL has been central to financial stability and maintaining the peg, but its operations intensified sovereign-bank linkages and weighed down its balance sheet.
- BdL’s operations provided high marginal returns in Lebanese pounds on new bank U.S. dollar deposits at BdL, boosting BdL dollar holdings while not affecting rates on older deposits and government debt.
- USD reference rate rose from 6.8 percent in November 2017 to 9.7 percent by June 2019, contributing to high lending rates and a decline in productive lending.
- Recommended BdL and banking sector actions:
- BdL should gradually step back from quasi-fiscal operations and strengthen its balance sheet; refrain from government bond purchases that would worsen its balance sheet and credibility; phase out financial operations once fiscal adjustment and lower yields permit.
- Continue building banks’ capital buffers: fully align risk weights on banks’ holdings of BdL instruments with Basel III requirements to raise effective capital requirements.
- Increase deposit insurance coverage levels and provide for insured depositors’ preference under creditor hierarchy rules in resolution and liquidation.
- Review and strengthen tools to cope with financial distress in systemic institutions: BCC should identify critical functions of systemic institutions and develop bank-specific resolution plans.
- AML/CFT and correspondent banking:
- Continue effective implementation of AML/CFT measures to mitigate ML/TF risks and ensure a positive MENAFATF AML/CFT assessment; focus on effectiveness in line with the revised 2012 FATF assessment methodology.
- Authorities should share risk assessment outcomes with relevant private and public entities and improve risk-based supervision, preventive measures, transparency of legal entities, targeted financial sanctions, access to financial information by law enforcement and judicial bodies, and increase prosecutions and convictions for ML in line with Lebanon’s risks.
- Support BdL’s plans to fully abolish numbered (secret) accounts.
Source: IMF Communications Department — Lebanon: Staff Concluding Statement of the 2019 Article IV Mission (Mission Concluding Statement, July 2, 2019).