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Opinion

The dichotomy of Lebanon’s social protection and currency crises – Part 1

Published on 21 May 2021

Image of Philip Proudfoot
Philip Proudfoot

Research Fellow

Ali Reda

This blog is part of a Better Assistance in Crises Research programme series exploring the implications of Lebanon’s ongoing fiscal crisis for social protection. 

Lebanon faces a social protection crisis. Unemployment is rising, food is increasing in price, and essential infrastructure has ground to a halt. Not since the Civil War (1975 – 1990) has it been more challenging for people in Lebanon to meet their basic needs.

In 2020, the government ‘peg’ – a financial measure holding the exchange rate between the US dollar and the Lebanese lira together – collapsed. The on-the-ground impact of the collapse has been illustrated viscerally by videos on Lebanese social media showing supermarket shoppers fighting over basic goods. Social protection in Lebanon cannot be achieved by the state, where it lacks a sufficient welfare programme, and an unstable labour market risks further aggravating the crisis.

Precarity is a defining feature of life in Lebanon. Its rentier economy entails weak protection mechanisms for labour, alongside speculative trends for capital. Moreover, the economy is heavily skewed towards importing consumer goods. Indeed, over 85 per cent of nutritional necessities come from abroad. But with those foodstuffs rising in price, a hunger crisis could easily take hold. And it’s not just food that Lebanon imports; clothes, cosmetics, machinery, and of course petroleum are also produced elsewhere.

For development and humanitarian organisations, the currency collapse has further implications. The most immediate is the erosion of aid value. In February 2021, the central bank set its official exchange rate for donors at 6,240 lira. However, black-market rates stood at 12,000 – 12,500 to the USD. This directly endangers flagship assistance projects, like the World Bank’s ESSN cash transfer scheme. The government has, as of April 2021, pledged to deliver near-market rates, however it does not, as yet, appear fully implemented. If conditions remain the same, as much as USD 20 million in aid transfer could be lost each month due to those variations. As a result, vulnerable populations now stand – to use a Lebanese expression – ‘on the palm of the devil.’

Failing institutions and faltering confidence

Even at the best of times, the Lebanese economy is highly speculative. An inherent fragility hinders the government’s ability to plan or provide social assistance. Unstable governance systems and political insecurity, in turn, make it harder for aid agencies to work with the state, and the currency collapse has eroded the value of assistance at exactly the point people need it the most.

Lebanon’s economic outlook is poor. While the service sector is relatively strong, it generates little stable employment opportunities. Sectors such as banking and tourisms rely on stability -– a luxury that Lebanon does not possess. While the long-running conflict in Syria has limited through trade to Lebanon, more recent sanctions on Damascus (the US Ceaser Act) have had a further knock-on negative impact on the economy.

Nevertheless, a remaining source of stability for many Lebanese are family remittances. A staggering 36.2 per cent of the country’s total economy is comprised of such inwards transfers. And indeed, this trend has historically contributed to a certain degree of fiscal solidity; however, both sanctions and the pandemic have decelerated down an already faltering flow.

Property speculation is a second (interlinked) pillar of the economy. In 2010, almost half of Lebanon’s foreign direct investments targeted real estate developments (pdf), representing 16 per cent (pdf) of the country’s national income by 2017. Most buyers, however, are members of the domestic ruling class, who move capital into and around the country in a bid to control the market while leaving luxury properties largely empty.

The currency collapse has a simple underlying logic: the lower the currency’s worth, the more it costs to pay for imports. And in an import-orientated economy, this led to an almost immediate shortage of essential goods. These shortcomings, in turn, fed into an existing negative feedback loop composed of political unrest, environmental degradation, and critical state-level negligence, all of which culminated in August 2020’s port explosion.

The Merchant State

Lebanon is often characterised as the Middle East’s free market exception.  But this is not entirely accurate. Like all other independent Arab nations, Lebanon enjoyed its own state-led developmentalist period. Between 1958 – 1964, President Fuad Chehab responded to emerging social tensions with a series of reforms that weakened the sectarian elite’s welfare role by building instead secular state-led support. His achievements are impressive, such that, during the 2015 trash crisis, Chehab’s image appeared on several posters and graffiti generated by civil society activists. In contrast, today’s sectarian political forces are attempting to reposition themselves as primary social protection agents, with Hezbollah even issuing its own ration card.

After Chehab’s presidency ended, the lightly regulated banking industry triumphed over any lasting legacy. The financial sector has dominated Lebanese politics ever since. Throughout the 1960s, a quarter of all ministers came from a banking background. Over 300 MPs from that period effectively inherited their constituency positions from their fathers.

At that time, the agricultural and manufacturing sectors was heavily damaged through insufficient regulation or financial intervention. As the banking industry expanded in the capital, rural migrants flocked to Beirut to secure their livelihoods. An influx of Palestinian refugees also placed pressure on the country’s infrastructure, which was soon incapable of absorbing all those residents’ social protection needs in Lebanon. In 1975, interlocking challenges of poverty, refugee flows, collapsing industry, and rising inequality formed the socio-economic background on which Lebanon’s brutal civil war emerged.

When the war ended, major players met to determine how to share the “spoils of truce.” The most prominent player of the post-war period was the late prime minister Rafiq Hariri. Hariri built his fortune as a contractor in Saudi Arabia. His first move upon returning to Lebanon was to facilitate a massive set of pay-outs to warlords. He channelled capital to their private businesses as a patronage machine. In exchange, he acquired the rights to Beirut’s downtown reconstruction.

This reconstruction effort was tremendous in cost. Between 1992 and 1998, the government’s debt jumped from USD 150 million to a whopping USD 2.7 billion. Between 2000–2018, the government debt piled up even further to an utterly staggering USD 60 billion. Perhaps nothing better symbolises the anti-poor development logic of post-war Lebanon than the fact shopping centres, replete with European designer outlets, were prioritised over building a comprehensive industrial or agricultural policy capable of generating stable long-term employment or a taxation system with enough surplus to support a modern welfare system.

In 1997, Lebanon pegged the lira to the US dollar. When other countries have initiated such a policy, they’ve harnessed foreign currencies from industrial or mineral exports. Lebanon has no serious resource endowment. So how was the peg maintained?

The answer is loans. To attract foreign currency, the government issued high-interest bonds. These bonds were meant to lure private investors. Yet a country fresh out of a civil war, surrounded by belligerents, was (unsurprisingly) a rather unattractive prospect for the most risk-tolerant investor.

Luckily, the local banks stepped in and began borrowing dollars on behalf of the government before depositing those dollars back into the central bank, sitting on them while they accumulated interest. The Economist rightly described this arrangement as no more sophisticated than a Ponzi scheme. But it stands today, exorbitant interest rates provided by banks to attract capital has crowded out investment (in new business and production). Patronage networks have produced highly uncompetitive markets which are controlled by cartels and oligarchies with enduring ties to the ruling class, and poor investment in infrastructure has led to a weak productive sector.

The currency crisis was, then, a long-time coming, resulting from a slowly de-developing state, surrounded by belligerent neighbours and crippled by a political system that awards power based on sectarian affiliation rather than technical competency.

In 2021, Lebanon looks set to face yet more compounding and overlapping crises, from climate shocks to the fiscal collapse, the COVID-19 pandemic, and the drying-up of the labour market. Within this context, refugees and a growing number of Lebanese citizens need basic social assistance more now than ever.

However, to improve protection in such a context, we must never neglect the reality of Lebanon’s highly fragmented state, where politico-economic policies have promoted short-term rent-seeking activities among the elite, often to the detriment of collective welfare and long-term security. For this reason, while the mounting humanitarian crisis might demand contingency planning, it is imperative that international development initiatives do not end up inadvertently supporting an economic system that is, itself, an important aggravator of the current crisis.

 

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