LEBANON In the Grip of ECONOMIC A New Crisis MONITOR Fall 2023 Lebanon Economic Monitor In the Grip of A New Crisis Fall 2023 Global Practice for Macroeconomics, Trade & Investment Middle East and North Africa Region LEBANON ECONOMIC MONITOR Document of the World Bank The Delibera Depressi © 2023 International Bank for Reconstruction and Development/The World Bank 1818 H Street NW Washington DC 20433 Telephone: 202-473-1000 Internet: www.worldbank.org This work is a product of the staff of The World Bank with external contributions. The findings, interpretations, and conclu- sions expressed in this work do not necessarily reflect the views of The World Bank, its Board of Executive Directors, or the governments they represent. 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TABLE OF CONTENTS Acronyms . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . v Preface . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . vii Executive Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ix ‫ ملخص تنفيذي‬. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xiii Résumé analytique . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xiii 1. The Policy Context . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 2. Recent Economic Developments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 A. Output and Demand . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 B. Fiscal Developments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 C. External Sector . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 D. Money and Banking . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12 3. Outlook and Risks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .19 Special Focus: The Impact of the Conflict in the Middle East on the Lebanese Economy . . . . . . . . .23 iii List of Boxes Box 1 Government Budget Drafts 2023 and 2024 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Box 2 Circular 165: An Unsuccessful Attempt to Reboot the Banking Sector and National Payment System . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Box 3 Remittances: Lebanon’s Lifeline . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .16 List of Figures Figure 1 Prior to the Current Conflict, Lebanon’s Economy Was Projected to Register a Tepid growth for the First Time Since 2018 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Figure 2 Consumption and Net Exports are Positive Contributors to Real GDP Growth in 2023 . . . . . . . . . 4 Figure 3 Evolution of Public Finances in Nominal (LBP) and Real Terms, 2018 vs. 2022 . . . . . . . . . . . . . . . .8 Figure 4 Overall and Primary Deficits are Projected for 2023 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 Figure 5 Sharp Decrease in Nominal GDP Prompts Erosion of Public Debt as a % of GDP to Pre Crisis Levels . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9 Figure 6 Current Account Deficit Widens in 2022, Registering a Ratio to GDP Similar to Pre-Crisis Years . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 Figure 7 A Steady Depletion in the Gross Foreign Exchange Position at BdL . . . . . . . . . . . . . . . . . . . . . . . . 11 Figure 8 Breakdown of Liquid Reserves at BdL . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .12 Figure 9 CPI Subcategories’ Monthly Contribution to Headline Inflation (Aug 2019–Aug 2023) . . . . . . . . .14 Figure 10 Exchange Rate Depreciation Drives the Surge in Inflation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .14 Figure 11 Currency Depreciation and Local Factors are Main Drivers of Inflation . . . . . . . . . . . . . . . . . . . . . 15 Figure 12 Inflation in Basic Items Has Been a Key Driver of Overall Inflation, Hurting the Poor and the Middle Class . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15 Figure 13 A Steady and Sharp Deterioration in Credit Performance as Measured by NPL Ratio for Banks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16 Figure 14 Remittance Inflows to Lebanon Remained Resilient Throughout the Crisis… . . . . . . . . . . . . . . . . . 17 Figure 15 …and Have Increased Significantly as a Percentage of GDP. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .17 Figure 16 Sources of Remittance Inflows to Lebanon in 2021 (percentage) . . . . . . . . . . . . . . . . . . . . . . . . . . 17 Figure 17 Sources of Remittance Inflows to Lebanon in 2021 (nominal US$) . . . . . . . . . . . . . . . . . . . . . . . . . 17 Figure 18 Ratio of Tracked to Scheduled Flights Shows Significant Travel Disruptions . . . . . . . . . . . . . . . . .24 Figure 19 Lebanon Experienced the Most Pronounced Disruptions to Travel among Neighboring Countries . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24 Figure 20 Significant Decline in Estimated Export and Import Trade Volumes since October 2023 . . . . . . .25 Figure 21 Eurobonds Prices Have Declined across All Maturities since October 9th . . . . . . . . . . . . . . . . . . . 25 Figure 22 Lebanon Is the Most Reliant on Tourism Receipts to Finance its Current Account, Compared to Jordan and Egypt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 Figure 23 Upward Trajectory of Tourist Arrivals to Lebanon Prior to October 2023… . . . . . . . . . . . . . . . . . . . 26 Figure 24 …and of Travel Services Receipts Prior to October 2023 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 List of Tables Table 1 Tax Brackets for Income Tax on Profits for Professionals and on Salaries and Wages . . . . . . . . . . 5 Table 2 Fiscal Balance (2020–2022) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .7 Table 3 Selected Economic Indicators (2015–2023) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .20 Table 4 The Economic Effect of Lost Tourism Spending: Revised Real GDP Growth in 2023 under Three Scenarios . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .27 iv LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS ACRONYMS ABL Association of Banks in Lebanon IMF International Monetary Fund AER Average Exchange Rate LBP Lebanese Pound BdL Banque du Liban LEM Lebanon Economic Monitor BNR Banknote Rate MIDAS Mixed-Data Sampling BTA Beirut Traders Association MoF Ministry of Finance BoP Balance of Payments NEER Nominal Effective Exchange Rate BPM Balance of Payments Manual NPL(s) Non-performing Loan(s) CA Current Account PMI Purchasing Manager’s Index CAS Central Administration of Statistics pp Percentage Points CIT Corporate Income Tax SLA Staff-Level Agreement CPI Consumer Price Index tb(s) Treasury Bond(s) EU European Union UN United Nations ERPT Exchange Rate Pass Through US$ United States Dollar EdL Electricité du Liban VAT Value Added Tax FX Foreign Exchange XM-2022 First X months of the year GDP Gross Domestic Product yoy year over year GNDI Gross National Disposable Income v PREFACE T he Lebanon Economic Monitor provides (Consultant), and Naji Abou Hamde (Economic an update on key economic developments Analyst). The Lebanon Economic Monitor has been and policies over the past six months. It also completed under the guidance of Eric Le Borgne presents findings from recent World Bank work on (Practice Manager), Norbert Fiess (Lead Economist), Lebanon. The Monitor places these developments, and Jean Christophe Carret (Country Director). Zeina policies, and findings in a longer-term and global El Khalil (Senior External Affairs Officer) is the lead on context and assesses their implications on the communications, outreach, and publishing. outlook for Lebanon. Its coverage ranges from the The findings, interpretations, and conclusions macro-economy to financial markets to indicators expressed in this Monitor are those of World Bank of human welfare and development. It is intended staff and do not necessarily reflect the views of the for a wide audience, including policy makers, busi- Executive Board of The World Bank or the govern- ness leaders, financial market participants, and the ments they represent. community of analysts and professionals engaged in For information about the World Bank and its Lebanon. activities in Lebanon, including e-copies of this publi- The Lebanon Economic Monitor is a product cation, please visit www.worldbank.org/lb. of the World Bank’s Lebanon Macroeconomics, Trade To be included on an email distribution list for and Investment (MTI) team. It was led by Dima Krayem this Lebanon Economic Monitor series and related (Senior Economist), Ibrahim Jamali (Consultant), Naji publications, please contact Alain Barakat (abara- Abou Hamde (Economic Analyst), with contribu- kat@worldbank.org). For questions and comments tions from Nisreen Salti (Consultant). The Special on the content of this publication, please contact Focus entitled Impact of the Conflict in the Middle Dima Krayem (dkrayem@worldbank.org). Questions East on the Lebanese Economy was prepared by from the media can be addressed to Zeina El Khalil Dima Krayem (Senior Economist), Ibrahim Jamali (zelkhalil@worldbank.org). vii EXECUTIVE SUMMARY Recent Economic Developments pervasive dollarization in the economy. The stoppage of the Sayrafa platform (the main platform used for Lebanon is hit by yet another crisis: the spillover foreign exchange interventions by the central bank) effects of the conflict in the Middle East. While the in July 2023, also contributed to a decrease in the country remains mired in political and institutional demand for dollars. The exchange rate relative stabili- vacuum, and a crippling socioeconomic crisis for zation is also owed to foreign exchange interventions over four years, it has now been hit by another large by the Banque du Liban (BdL) in the first half of 2023, shock: fear that the current conflict centered in Gaza along with an increase in foreign exchange inflows could escalate further into Lebanon. from tourism and remittances. However, depleted By 2022 and early 2023, the economy was gross foreign currency reserves imply that the scope able to find a temporary bottom following years for further foreign exchange interventions by BdL is of sharp contraction, thanks to tourism and size- limited, while inflows from tourism receipts are sus- able remittances (Spring 2023 Lebanon Economic ceptible to exogenous shocks. Monitor). Lebanon’s long economic contraction is Prior to October 2023, economic growth estimated to have further narrowed in 2022, to 0.6 was projected—for the first time since 2018—to percent. The main drivers of the slowing contraction in slightly expand in 2023 (by 0.2 percent). The economic activity are a growth in consumption coupled projected positive growth rate in 2023 is ascribable to with signs of stabilization in private sector activity, both a favorable summer tourism season and remittances, of which remain highly sensitive to exogenous shocks. both of which have underpinned consumption growth. The year-on-year (yoy) increase in tourist arrivals of 50.6 An increasing dollarization of salaries coupled with percent in 2022 also supported consumption growth. signs of continuing stabilization in private sector activ- Nonetheless, a wide current account deficit, primarily ity have also supported economic activity. Whereas net driven by the increase in imports to pre-crisis levels, exports’ contribution to real GDP growth is expected continued to constitute a drag on growth in 2022. to be positive and stand at 1.1 percent, investment and The temporary bottoming out helped the government consumption are expected to contribute exchange rate to also stabilize temporarily. This negatively to real GDP growth by 0.9 and 0.2 percent, stabilization reflects limited demand for dollars amid respectively. ix The fiscal and primary deficits are pro- unlikely to last as it was based on fragile drivers jected to narrow to 1.3 and 0.3 percent of GDP in resting on a dysfunctional economic structure. 2023, respectively. As planned revenue measures The impaired macroeconomic framework is not only take hold, revenues to GDP are projected to rise to impoverishing a large share of the population and 8.8 percent of GDP. Nonetheless, increases in current driving up inequality, but also preventing a sustain- expenditures, transfers to EdL, and the continuation able development model from emerging. Without a of social assistance schemes to public servants are crisis resolution plan, no long-term investment is fea- estimated to contribute to rising expenditures of sible, which is eroding the country’s physical, human, 10.1 percent of GDP. social, and natural capital stock as depreciation far The current account deficit is projected to exceeds investment. Lebanon’s reliance on tourism narrow to 12.8 percent of GDP in 2023, following and remittance inflows is neither a viable economic a dramatic increase to 32.7 percent of GDP in strategy nor an economic crisis resolution plan. 2022. The contraction in the current account deficit Because tourism tends to be volatile and subject to has been mainly driven by a narrowing trade-in-goods external and internal shocks (the spillover of the cur- deficit following the revaluation of the exchange rate rent conflict, a case in point—see Special Focus), the for custom duties that became effective in November sector cannot substitute for more sustainable and 2022. A surplus in trade-in-services, following a vig- diverse drivers of growth. The stable inflow of remit- orous summer tourism season during which many tances has supported consumption and acted as a Lebanese expatriates flocked back to the country, de-facto economic and social safety net, but it also will also likely contribute to narrowing the current does not substitute for a sustainable growth model. account deficit. With the onset of the current conflict, Inflation is projected to accelerate to Lebanon’s economy is projected to be back in 231.3 percent in 2023, mainly a reflection of the recession in 2023. The Special Focus assesses continued deterioration of the underlying macro- the impact of the current conflict and its spillovers on economic environment. The acceleration of inflation Lebanon’s economy. Assuming that the current situ- is primarily driven by exchange rate depreciation (in ation of containment of military confrontation to the the first half of 2023) and the rapid dollarization of southern borders persists, the economy is estimated economic transactions and, in particular, the compo- to contract in 2023, primarily due to the shock to nents of the consumer price index basket. tourism spending. More specifically, real GDP growth Even before the onset of the current conflict, declines to between –0.6 percent to –0.9 percent the tepid growth that was projected for 2023 was depending on the extent of the tourism shock. x LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS ‫ملخص تنفيذي‬ ‫األجنبــي‪ ،‬يف حــن أن التدفقــات مــن عائــدات الســياحة معرضــة ملخاطر‬ ‫آخر التطورات االقتصادية‬ ‫الصدمــات الخارجيــة‪.‬‬ ‫وقبــل أكتوبر‪/‬ترشيــن األول ‪ ،2023‬كان مــن املتوقــع أن يســجل‬ ‫يواجــه لبنــان أزمــة جديــدة ج ـراء آثــار وتداعيــات ال ـراع يف الــرق‬ ‫االقتصــاد ‪ -‬ألول مــرة منــذ عــام ‪ - 2018‬منــوا ً طفيفــاً يف عــام ‪2023‬‬ ‫األوســط‪ .‬فيــا ال تـزال البــاد غارقــة يف فـراغ ســيايس ومؤســي‪ ،‬وأزمــة‬ ‫(بنســبة ‪ .)0.2%‬ويعــود الســبب يف معــدل النمــو اإليجــايب املتوقــع يف‬ ‫اجتامعيــة واقتصاديــة طاحنــة منــذ أكــر مــن ‪ 4‬ســنوات‪ ،‬تتعــرض اآلن‬ ‫عــام ‪ 2023‬إىل املوســم الســياحي الــذي حقــق عائــدات كبــرة يف الصيف‪،‬‬ ‫لصدمــة كبــرة أخــرى بســبب احتــال تصاعــد الـراع الحــايل املتمركــز‬ ‫وتحويــات املغرتبــن‪ ،‬وكالهــا يدعــم منــو االســتهالك‪ .‬كــا أدت زيــادة‬ ‫يف غــزة أكــر إىل لبنــان‪.‬‬ ‫نســبة األجــور والرواتــب املدولــرة إىل تعزيــز النشــاط االقتصــادي‪ ،‬فضـاً‬ ‫بحلــول العــام ‪ 2022‬وأوائــل العــام ‪ ،2023‬وصــل االقتصــاد‬ ‫عــن اســتمرار االســتقرار النســبي يف نشــاط القطــاع الخــاص‪ .‬ويف حــن‬ ‫إىل قعــر مؤقــت بعــد ســنوات مــن االنكــاش الحــاد‪ ،‬وذلــك بفضــل‬ ‫يتوقــع أن يســاهم صــايف الصــادرات يف منــو إجــايل الناتــج املحــي‬ ‫الســياحة وتحويــات املغرتبــن (تقريــر املرصــد االقتصــادي للبنــان‬ ‫الحقيقــي بنســبة ‪ ،1.1%‬مــن املتوقــع أن يســاهم االســتثامر واالســتهالك‬ ‫لربيــع ‪ .)2023‬وتشــر التقديــرات إىل أن االنكــاش االقتصــادي الــذي‬ ‫الحكومــي مســاهمة ســلبية يف منــو إجــايل الناتــج املحــي الحقيقــي‬ ‫طــال أمــده يف لبنــان قــد تقلــص بشــكل أكــر يف عــام ‪ 2022‬إىل ‪.0.6%‬‬ ‫بنســبة ‪ 0.9%‬و‪ 0.2%‬عــى التــوايل‪.‬‬ ‫وتتمثــل املحــركات الرئيســية لتباطــؤ انكــاش النشــاط االقتصــادي يف‬ ‫ومــن املتوقــع أن ينخفــض العجــز يف ميــزان املاليــة العامــة‬ ‫منــو االســتهالك واســتقرار نســبي يف نشــاط القطــاع الخــاص‪ ،‬وكالهــا‬ ‫وامليــزان األويل إىل ‪ 1.3%‬و‪ 0.3%‬مــن إجــايل الناتــج املحــي يف عــام‬ ‫شــديد التأثــر بالصدمــات الخارجيــة‪ .‬كــا أدت الزيــادة الســنوية يف عــدد‬ ‫‪ 2023‬عــى التــوايل‪ .‬ومــع دخــول التدابــر املتخــذة لزيــادة اإلي ـرادات‬ ‫الســائحني الوافديــن بنســبة ‪ 50.6%‬يف عــام ‪ 2022‬إىل زيــادة معــدالت‬ ‫حيــز التنفيــذ‪ ،‬مــن املتوقــع أن ترتفــع نســبة اإليــرادات إىل إجــايل‬ ‫االســتهالك‪ .‬ومــع ذلــك‪ ،‬ظــل العجــز الواســع يف الحســاب الجــاري‪،‬‬ ‫الناتــج املحــي إىل ‪ .8.8%‬ومــع ذلــك‪ ،‬تشــر التقديـرات إىل أن الزيــادات‬ ‫املدفــوع يف املقــام األول بزيــادة الــواردات إىل مســتويات مــا قبــل‬ ‫يف النفقــات الجاريــة‪ ،‬والتحويــات إىل مؤسســة كهربــاء لبنــان‪ ،‬واســتمرار‬ ‫األزمــة‪ ،‬يشــكل عائق ـاً أمــام النمــو يف عــام ‪.2022‬‬ ‫برامــج املســاعدات االجتامعيــة ملوظفــي القطــاع العــام ستســهم يف‬ ‫كــا ســاهم القعــر املؤقــت الــذي بلغــه االقتصــاد اللبنــاين‬ ‫زيــادة النفقــات إىل ‪ 10.1%‬مــن إجــايل الناتــج املحــي‪.‬‬ ‫يف تحقيــق اســتقرار مؤقــت يف ســعر الــرف‪ .‬ويعــود هــذا االســتقرار‬ ‫ومــن املتوقــع أن يتقلــص عجــز الحســاب الجــاري إىل ‪12.8%‬‬ ‫أيضــاً إىل محدوديــة الطلــب عــى الــدوالر يف ظــل انتشــار الدولــرة‪.‬‬ ‫مــن إجــايل الناتــج املحــي يف عــام ‪ ،2023‬بعدمــا ســجل عج ـزاً كب ـراً‬ ‫وأدى إيقــاف العمــل مبنصــة صريفــة (وهــي املنصــة الرئيســية التــي‬ ‫بلــغ ‪ 32.7%‬يف عــام ‪ .2022‬ويعــود هــذا الرتاجــع يف عجــز الحســاب‬ ‫يســتخدمها مــرف لبنــان لتحقيــق اســتقرار ســعر رصف اللــرة) يف‬ ‫الجــاري بشــكل رئيــي إىل تقلــص العجــز يف رصيــد تجــارة الســلع عقــب‬ ‫متوز‪/‬يوليــو ‪ 2023‬إىل انخفــاض الطلــب عــى الــدوالر‪ .‬ويعــود االســتقرار‬ ‫إعــادة تقييــم ســعر الــرف املعتمــد للرســوم الجمركيــة والتــي دخلــت‬ ‫النســبي لســعر الــرف أيضــاً إىل تدخــات مــرف لبنــان يف ســوق‬ ‫حيــز التنفيــذ يف ترشيــن الثاين‪/‬نوفمــر ‪ .2022‬ومــن املرجــح أن يســهم‬ ‫النقــد األجنبــي يف النصــف األول مــن عــام ‪ ،2023‬إىل جانــب زيــادة‬ ‫الفائــض يف رصيــد تجــارة الخدمــات‪ ،‬بعــد موســم ســياحي قــوي خــال‬ ‫تدفقــات النقــد األجنبــي مــن الســياحة والتحويــات‪ّ .‬‬ ‫إاّل أن اســتنفاد‬ ‫فصــل الصيــف توافــد خاللــه العديــد مــن اللبنانيــن املغرتبــن‪ ،‬يف تراجــع‬ ‫احتياطيــات النقــد األجنبــي يعنــي محدوديــة املجــال أمــام املزيــد‬ ‫عجــز الحســاب الجــاري‪.‬‬ ‫مــن اإلج ـراءات التدخليــة مــن جانــب مــرف لبنــان يف ســوق النقــد‬ ‫‪xi‬‬ ‫اقتصاديــة ســليمة أوخطــة لحــل األزمــة االقتصاديــة‪ .‬فنظـرا ً للتقلبــات يف‬ ‫ومــن املتوقــع أن تتســارع وتــرة التضخــم ليبلــغ ‪231.3%‬‬ ‫قطــاع الســياحة وتعرضــه ملخاطــر الصدمــات الخارجيــة والداخليــة (عــى‬ ‫يف عــام ‪ ،2023‬نتيجــة التدهــور املســتمر يف بيئــة االقتصــاد الــكيل‬ ‫ســبيل املثــال تداعيــات ال ـراع الحــايل‪ ،‬راجــع الفصــل الخــاص يف هــذا‬ ‫األساســية‪ .‬ويرجــع الســبب يف تســارع وتــرة التضخــم يف املقــام األول‬ ‫التقريــر)‪ ،‬ال ميكــن لهــذا القطــاع أن يكــون بدي ـاً عــن محــركات النمــو‬ ‫إىل انخفــاض ســعر الــرف (يف النصــف األول مــن عــام ‪ )2023‬والدولــرة‬ ‫األكــر اســتدامة وتنوعـاً‪ .‬فقــد أدى اســتقرار تدفقــات تحويــات املغرتبــن‬ ‫الرسيعــة للمعامــات االقتصاديــة‪ ،‬وعــى وجــه الخصــوص‪ ،‬مكونــات‬ ‫إىل دعــم االســتهالك‪ ،‬وكان ذلــك مبثابــة شــبكة أمــان اقتصــادي واجتامعــي‬ ‫ســلة مــؤرش أســعار املســتهلكني‪.‬‬ ‫فعليــة‪ ،‬إال أن هــذه التدفقــات ليســت بدي ـاً لنمــوذج النمــو املســتدام‪.‬‬ ‫حتــى قبــل انــدالع الــراع الحــايل‪ ،‬مل يكــن مــن املرجــح أن‬ ‫ومــع انــدالع الـراع الحــايل‪ ،‬مــن املتوقــع أن يعــود االقتصــاد‬ ‫يــدوم النمــو املتواضــع الــذي كان متوقعــاً لعــام ‪ 2023‬ألنــه اســتند‬ ‫يــم الفصــل الخــاص يف‬ ‫اللبنــاين إىل حالــة الركــود يف عــام ‪ .2023‬ويق ّ‬ ‫إىل محــركات منــو هشــة وهيــكل اقتصــادي مختــل‪ .‬وال يــؤدي ضعــف‬ ‫التقريــر أثــر الـراع الحــايل وتداعياتــه عــى االقتصــاد اللبنــاين‪ .‬وبافرتاض‬ ‫إطــار االقتصــاد الــكيل إىل إفقــار نســبة كبــرة مــن الســكان وزيــادة‬ ‫اســتمرار الوضــع الحــايل املتمثــل باحتــواء املواجهــة العســكرية عــى‬ ‫عــدم املســاواة فحســب‪ ،‬بــل يحــول أيض ـاً دون تبلــور منــوذج للتنميــة‬ ‫الحــدود الجنوبيــة‪ ،‬تشــر التقديـرات إىل أن االقتصــاد ســينكمش يف عــام‬ ‫املســتدامة‪ .‬فــا مل يتــم اعتــاد خطــة شــاملة لحــل األزمــة‪ ،‬ال ميكــن‬ ‫‪ ،2023‬ويرجــع ذلــك يف املقــام األول إىل الصدمــة التــي أصابــت اإلنفــاق‬ ‫القيــام باســتثامرات طويلــة األجــل‪ ،‬وهــذا يــؤدي إىل تــآكل رصيــد رأس‬ ‫الســياحي‪ .‬وعــى وجــه التحديــد‪ ،‬مــن املتوقــع أن يــراوح إنكــاش‬ ‫املــال املــادي والبــري واالجتامعــي والطبيعــي للبنــان حيــث يتجــاوز‬ ‫إجــايل الناتــج املحــي الحقيقــي بــن ‪ -0.6%‬و ‪ -0.9%‬وفقــاً لحجــم‬ ‫ن اعتــاد‬ ‫إهــاك األصــول قيمــة االســتثامرات بنســبة كبــرة للغايــة‪ .‬إ ّ‬ ‫الصدمــة التــي سيشــهدها القطــاع الســياحي‪.‬‬ ‫لبنــان عــى الســياحة وتدفقــات التحويــات املاليــة ال ميثــل إس ـراتيجية‬ ‫‪xii‬‬ ‫‪LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS‬‬ RÉSUMÉ ANALYTIQUE Évolution récente de l’économie importations qui ont retrouvé le niveau qu’ils avaient avant la crise, a néanmoins continué de freiner la Le Liban est de nouveau frappé par une crise, croissance en 2022. due aux retombées du conflit au MoyenOrient. L’arrêt temporaire de la dégradation de la Alors qu’il continue de souffrir du vide politique et situation a également favorisé une stabilisation institutionnel et de la crise socioéconomique qui le momentanée du taux de change. Cette dernière paralyse depuis plus de quatre ans, le pays subit un a également été permise par la demande limitée autre choc majeur : la peur que le conflit au cœur de dollars dans un contexte de dollarisation duquel se trouve actuellement Gaza ne s’étende généralisée de l’économie. L’arrêt des activités au Liban. sur la plateforme Sayrafa (la principale plateforme En 2022 et au début de 2023, l’économie employée par la banque centrale pour procéder à était parvenue à sortir du creux de la vague des opérations en devises) en juillet 2023 a aussi après plusieurs années de fortes contractions, contribué à réduire la demande en dollars. La grâce aux recettes du tourisme et aux importants stabilisation relative du taux de change tient enfin envois de fonds de l’étranger (Bulletin de conjonc- aux interventions en devises auxquelles la Banque ture du Liban, printemps 2023) (a). La contraction du Liban a procédé au premier semestre de 2023, économique de longue durée enregistrée par le Liban ainsi qu’à l’entrée de devises associées aux recettes s’est, selon les estimations, atténuée en 2022 pour du tourisme et aux envois de fonds de l’étranger. s’établir à 0,6 %. Cette évolution a principalement L’épuisement des réserves brutes en devises signifie tenu à l’augmentation de la consommation et à la toutefois que les possibilités qui s’offrent à la Banque stabilisation apparente de l’activité du secteur privé, du Liban de procéder à de nouvelles interventions en deux facteurs qui demeurent extrêmement sensibles devises sont limitées, d’autant plus que les recettes aux chocs exogènes. L’augmentation d’une année sur du tourisme sont vulnérables à des chocs exogènes. l’autre du nombre d’arrivées de touristes, qui a atteint Les projections de la croissance 50,6 % en 2022, a également favorisé l’augmentation économique effectuées avant octobre 2023 indi- de la consommation. L’important déficit du compte quaient — pour la première fois depuis 2018 — une courant, essentiellement dû au gonflement des légère expansion en  2023 (0,2  %). Le taux de xiii croissance positif indiqué par les projections pour 2023 en particulier celles qui portent sur les articles du est imputable à la bonne saison touristique estivale panier sur la base duquel l’indice des prix à la con- ainsi qu’aux envois de fonds de l’étranger, qui ont sommation est établi. tous deux favorisé la croissance de la consommation. Avant même que n’éclate le conflit actuel, La dollarisation grandissante des salaires ainsi que il n’était guère vraisemblable que la croissance la stabilisation apparemment persistante de l’activité morose indiquée par les projections pour  2023 du secteur privé ont également stimulé l’économie. perdure parce qu’elle tenait à des facteurs Si la croissance du PIB réel est censée bénéficier fragiles fondés sur une structure économique d’une contribution positive des exportations nettes dysfonctionnelle. Le cadre macro-économique (1,1 %), elle devrait en revanche être entravée par la défaillant, d’une part, appauvrit une large proportion contribution négative des investissements (0,9 %) et de la population et accroît les inégalités et, d’autre de la consommation publique (0,2 %). part, fait obstacle à l’établissement d’un modèle de Le déficit budgétaire et le déficit primaire développement durable. En l’absence d’un plan devraient, selon les projections, être ramenés à conçu pour résoudre la crise, aucun investissement respectivement 1.3  % et 0,3  % du PIB en  2023. à long terme ne peut être réalisé, ce qui a pour effet Les mesures visant à accroître les recettes com- d’éroder le capital physique, humain, social et naturel mençant à produire leurs effets, la proportion du du pays qui se déprécie à un rythme nettement PIB représentée par ces dernières devrait atteindre supérieur à celui de l’investissement. La dépendance 8,8  %. Le gonflement des dépenses courantes, les du Liban à l’égard du tourisme et des entrées de fonds alloués à Électricité du Liban et la poursuite fonds des travailleurs à l’étranger n’est ni une stratégie des régimes d’aide sociale dont bénéficient les fonc- économique viable ni un plan de résolution de la crise tionnaires devraient, selon les estimations, porter les économique. Le tourisme est généralement volatil et dépenses à 10,1 % du PIB. tributaire de chocs extérieurs et intérieurs (comme les Le déficit du compte courant, qui avait con- retombées du conflit actuel — voir le volet spécial), de sidérablement augmenté pour atteindre 32,7 % sorte que le secteur ne peut pas s’appuyer sur des du PIB en 2022, ne devrait plus représenter que facteurs de croissance plus durables et diversifiés. 12,8 % de cet agrégat en 2023. La contraction Les entrées de fonds de l’étranger ont, grâce à leur du déficit du compte courant tient essentiellement à stabilité, soutenu la consommation et constitué, en la diminution du déficit des échanges de biens par pratique, un filet de protection économique et sociale, suite de la réévaluation, en novembre 2022, du taux mais elles ne peuvent pas non plus servir de base à de change utilisé pour calculer les droits de douane. un modèle de croissance stable. L’excédent du compte des échanges de services, Selon les projections économiques, le après les solides résultats affichés durant l’été par le Liban devrait retomber dans une situation de secteur du tourisme en raison du retour de nombreux récession économique en 2023 par suite du con- expatriés libanais, contribuera aussi probablement à flit actuel. Le volet spécial est consacré à l’évaluation réduire le déficit du compte courant. des répercussions du conflit actuel et de ses Le taux d’inflation devrait, selon les retombées sur l’économie libanaise. Cette dernière projections, encore augmenter pour atteindre devrait se contracter en 2023, essentiellement à 231,3  % en  2023, essentiellement à cause de cause du choc enregistré au niveau des dépenses de la détérioration persistante de la situation mac- tourisme, à supposer qu’il soit possible de limiter les roéconomique fondamentale. L’accélération de confrontations militaires aux frontières sud. Le taux l’inflation tient principalement à la dépréciation du de croissance réel du PIB devrait, plus précisément, taux de change (au premier semestre de 2023) et à tomber à un niveau compris entre –0,6 % et –0,9 %, la rapide dollarisation des transactions économiques, selon l’ampleur du choc sur le secteur du tourisme. xiv LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS 1 THE POLICY CONTEXT M ilitary confrontation at Lebanon’s south- remains elusive. Four years into the crisis, the bank- ern border with Israel is on the rise. ing sector, whose balance sheet continues to be Cross-border shelling and military opera- severely impaired, is unable to perform its financial tions have been intensifying and widening along the intermediation functions. The multiple exchange entire southern border since October 2023. This has rate regime, engineered by Banque du Liban (BdL), resulted in loss of life, injuries, and destruction to persists in view of limited progress towards unifying infrastructure in these areas, and sparked an exodus exchange rates and transitioning to a new exchange of people from southern Lebanon. rate regime. The economy is overwhelmingly dollar- With limited progress towards a compre- ized, and the vast majority of transactions are settled hensive crisis resolution plan, Lebanon remains in cash. entrenched in a socioeconomic and financial The central bank, under a new acting crisis, further exacerbated by an institutional governor, has initiated limited but encouraging and political vacuum. A highly polarized political reforms. These include: (1) stopping the Sayrafa landscape, a Presidential vacuum, a caretaker gov- platform in July 2023 and reportedly preparing to ernment with restricted executive powers, an interim transition towards a new, more transparent, platform, central bank governor, and limited legislative action to be powered by Bloomberg; (2) ceasing to finance by parliament have all markedly slowed the progress the fiscal and current account deficits; (3) publication needed for a comprehensive crisis resolution plan. of the central bank’s liquid foreign exchange position Progress on meeting the prior actions under the Staff- and asset holdings;1 and (4) publication of the special Level Agreement (SLA) concluded in April 2022 with purpose audit of the BdL’s foreign asset position, a the International Monetary Fund (IMF) is slow. Legislation pertaining to restructuring the 1 The liquid foreign exchange holdings of BdL are published banking sector and the upfront allocation of the on the central bank’s website. The latter practice has not financial losses in the insolvent financial system occurred under the former governor’s tenure. 1 prior action under the SLA with the IMF.2 Beyond advancement, and momentum is expected to build these, fundamental changes to bank supervision or in the new year. The reform committees are targeting the conduct of monetary and exchange rate policies much needed improvements in public financial man- have yet to be introduced as the multiple exchange agement and government efficiency. If implemented rate regime persists, and regulatory forbearance effectively, resulting reform initiatives are expected continues to apply to the banking sector. to strengthen budget preparation and execution, The (leaked) forensic audit of the BdL increase domestic resource mobilization, and drive reveals systemic and large-scale governance state modernization. weaknesses and abuses. These include the Following the demarcation of the maritime absence of an internal audit function, as well as the border, exploration for oil and gas has started, lack of an audit committee and independent board but concluding results have yet to materialize. members. The forensic audit also uncovers functional Drilling took place in block 9 of South Lebanon’s deficiencies at the central bank such as the absence Exclusive Economic Zone during the summer and of a risk management framework. The findings of completed in October by the consortium consisting the forensic audit further point to unorthodox and of TotalEnergies (France), Eni (Italy), and the state- questionable accounting practices such as record- owned QatarEnergy (Qatar). The Lebanese Petroleum ing massive losses on the BdL balance sheet under Authority and the Ministry of Energy and Water issued “other assets”. It further underscores the unexercised a statement on October 19 qualifying the results of scrutiny power by the Government Commissioner, the exploratory drill as “promising” for the prospects members of the Central Council, external stakehold- of identifying a high-quality reservoir of hydrocarbon ers, and commissions. The weak transparency and resources, despite the fact that no traces of oil or gas reporting standards at BdL constitute another main were discovered. The authorities are awaiting to be finding of the audit. apprised of the official results of the exploratory drill The Government has recently set up dedi- by TotalEnergies. Prospective revenues from oil and cated reform committees to support reforms of gas, which if they materialize would in any case be public financial management in six priority areas. years away, are expected to be dwarfed by the size of Reform committees bring together relevant central the losses in the financial sector (Fall 2022 Lebanon and line ministries, local and international experts, Economic Monitor). Hence, recourse should not be and private sector representatives. Committees made to the rent from the nascent extractives industry have been tasked with the drafting of legislation and to reduce the financial sector’s losses or delay the diagnostics in the following areas: (1) Law on a unified much-needed equitable banking resolution. income tax system, (2) Civil service reform and SOE reform; (3) Modernizing the IT system in government, (4) Amending and updating the Public Accounting Law; (5) Customs reform; and (6) Tax on Luxury 2 The vault audit confirmed that the physical gold holdings Goods. Reform committees are at different states of at BdL are in line with the published figures. 2 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS 2 RECENT ECONOMIC DEVELOPMENTS Output and Demand dollarization of salaries. The increase in imports to pre-crisis levels constituted a drag on growth in 2022. The contraction in real GDP is estimated to have High frequency data, collected prior to the narrowed to 0.6 percent in 2022 (Figure 1).3 The onset of the current conflict, suggest that private growth in consumption, coupled with signs of stabi- sector activity, tourism and remittance inflows will lization in private sector activity are the main drivers support additional growth in consumption in 2023. of the slowing contraction in economic activity. The The BLOM-PMI index has for the first time in 4 years, with BLOM-PMI index (capturing private sector activity), the exception of a brief uptick above 50 in August 2022, which inched up to 48.4 in 2022, up from an average of moved into an expansionary reading (albeit a very small 46 percent in 2021, suggests a stabilization in private one) in June and July 2023, standing at 50.2 and 50.3, sector activity (a PMI reading of less than 50 is indica- respectively. The subcomponents of the BLOM-PMI—new tive of a contraction). A year-on-year (yoy) increase orders, new exports orders, output and employment in tourist arrivals of 50.6 percent in 2022 has also indexes—also indicate an expansion in 2023. Tourist supported consumption. In contrast, activity in the real arrivals and airport passengers have increased by estate sector, a traditional pillar of the economy, has 25.2 percent (yoy) and 19 percent (yoy) in 8M-2023. decelerated. Construction permits have decreased by 1.2 percent (yoy) whereas cement deliveries declined by 8.1 percent (yoy) in 2022. Developers’ inability to Fiscal Developments access credit coupled with subdued demand owing to falling real per capita incomes are contributing Following a modest improvement in the fiscal to the slowdown in the real estate sector. From the stance in 2021, the overall and primary balances demand side, private consumption contributed posi- tively to real GDP growth for the second consecutive 3 This contraction is a revised estimate from a previous year (Figure 2). Consumption growth in 2022 is under- 2.6 percent contraction owing to better-than-expected pinned by remittances, tourism, and an increasing high frequency indicators data. 3 Prior to the current conflict, FIGURE 1 •  Consumption and net exports are FIGURE 2 •  Lebanon’s economy was projected to positive contributors to real GDP register a tepid growth for the first growth in 2023 time since 2018 Real GDP Components Real GDP Growth (%) 20 20 16.4 10 15 10.8 11.3 10.2 9.3 9.1 0 10 8.1 7.5 8.0 6.4 5 3.8 3.9 3.93.4 3.8 –10 2.5 2.5 1.6 1.1 1.7 2.7 1.5 0.9 0.6 0.9 0.2 0 –20 –0.8 –1.9 –0.6 –5 –30 –6.9 –7.0 –10 –40 2013 2014 2015 2016 2017 2018 2019 2020e 2021e 2022e 2023f –15 –20 –21.4 Private consumption Government consumption –25 Gross fixed capital investment Net exports 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020e 2021e 2022e 2023f Statistical discrepancy Source: CAS and WB Staff calculations. Source: CAS and WB Staff calculations. are estimated to be in deficit in 2022 (Figure 4).4 Électricité du Liban (EdL),7 and (iii) other current expen- The fiscal and primary deficits are estimated to have ditures, current expenditures, which include transfers recorded a deficit of 2.9 and 2.1 percent, respectively. to the National Social Security Fund and other public Public finances deteriorated in 2022 as revenue mobi- entities, along with spending from the World Bank’s lization efforts—correcting the mis-valuation in the Emergency Social Safety Net and Wheat Supply exchange rate for customs and taxes—only came into Emergency Response Projects. Estimates of the fiscal force with the ratification of the budget in November and primary balances are conservative given that they 2022. Revenue mobilization measures have therefore do not fully account for the quasi-fiscal operations of not been sufficient to meet rising personnel costs the BdL, which comprise the sale of foreign exchange and current expenditures. Revenues to GDP, which to the government, public servants, businesses, and are estimated to have stood at 6.1 percent of GDP in segments of society via its platform, Sayrafa, at favor- 2022, are the second lowest ratio globally.5 able exchange rates in the first half of 2023. Expenditures rose in 2022, both nominally Interest expenses are significantly lower and as a ratio to GDP, reaching 9 percent of GDP. after the sovereign default, but this has not led to In nominal terms, expenditures are estimated to have debt-stabilizing fiscal dynamics. Interest expendi- increased by US$ 391 million in 2022, compared to tures have fallen from, on average, 6 percent of GDP 2021. Despite that spending for most of 2022 followed the 1/12th rule of the last approved budget (2020),6 4 Fiscal data have not been published since 2021 due to and thus in nominal Lebanese Pounds given the triple inadequate human and technological resources within digit inflation implies a sharp contraction in real terms, the Ministry of Finance. rising US$ expenditures were funded from budgetary 5 Using the IMF WEO October 2023 data, only Venezuela allocations and using extra-budgetary spending (i.e., has a lower revenue-to-GDP ratio, at 5.96 percent of GDP using Treasury advances and by tapping into the in 2022. 6 The 2022 budget only became effective upon its general Special Drawing Rights (SDR) allocation of the ratification in November 2022. IMF). Rising expenditures are driven by (i) an increase 7 Transfers to EdL and the social assistance schemes for in personnel costs owing to the social assistance public sector employees were funded from Treasury schemes for public sector employees, (ii) transfers to advances and the SDR allocation. 4 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS BOX 1. GOVERNMENT BUDGET DRAFTS 2023 AND 2024 The 2023 and 2024 budget drafts were approved by the council of ministers (CoM), on August 16 and September 12, 2023, respectively, and sent to Parliament for ratification.a However, none of the budgets have been passed by parliament yet.b Given the delay in the ratification of the 2023 budget by parliament with only one month left in the year, the 2023 budget is expected to have very limited (if any) effect on public finances in 2023 if ratified by the end of the year. Because the budget draft was submitted to parliament within constitutional deadlines, it could, according to constitutional stipulations, come into effect by a decree issued by the CoM if parliament does not ratify it by January 2024. The budget drafts target deficits of 2.2 and 2.7c percent of GDP for 2023 and 2024,d respectively. The 2023 Budget Draft Revenues are projected to reach 9.5 percent of GDP, representing a 92 percent contraction in real terms compared to 2019. In line with pre-crisis budgets, the draft relies heavily on indirect taxes, constituting yet another missed opportunity for more progressive revenue measures. Tax revenues account for 76 percent of total revenues, which are mainly composed of indirect taxes, standing at 54.2 percent of total revenues. The most prominent change in the proposed revenues is the adjustment of tax brackets (for income and property taxes). The 2023 budget draft maintains the top marginal income tax rate at 25 percent while it also keeps firms’ profits taxable at a flat rate of 17 percent. The built property tax is capped at 14 percent. The highest rate for income tax applies to the annual income bracket exceeding LBP 2,440 million (around US$ 27,000 using the BNR), while the highest built property tax rate applies to annual revenues exceeding LBP 2,170 million (equivalent to US$ 24,382 using current BNR of 89,000 LBP/US$). Table 1 presents a comparison between the old and the new brackets for income tax on profits for professionals and on salaries and wages, as per the 2023 budget draft. The family abatement (exempted first income bracket), that is applicable for both the income tax on professionals and salaries and wages, was also increased from LBP 7.5 million to 37.5 million for the taxpayer, from LBP 2.5 million to 12.5 million for the unemployed spouse, and from LBP 500 thousand to 2.5 million for each child (up to the age of 25 if unemployed). TABLE 1 • Tax Brackets for Income Tax on Profits for Professionals and on Salaries and Wages Income tax on professionals Tax rate Old brackets (LBP million) 2022 budget (LBP million) 2023 budget draft (LBP million) 4% 0–9 0–27 0–100 7% 9–24 27–72 100–260 12% 24–54 72–162 260–590 16% 54–104 162–312 590–1,130 21% 104–225 312–675 1,130–2,440 25% Above 225 Above 675 Above 2,440 Income tax on salaries and wages Tax rate Old brackets (LL million) 2022 budget (LBP million) 2023 budget draft (LBP million) 2% 0–6 0–18 0–70 4% 6–15 18–45 70–170 7% 15–30 45–90 170–330 11% 30–60 90–180 330–650 15% 60–120 180–360 650–1,300 20% 120–225 360–675 1,300–2,440 25% Above 225 Above 675 Above 2,440 (continued on next page) Recent Economic Developments 5 BOX 1. GOVERNMENT BUDGET DRAFTS 2023 AND 2024 (continued) Other changes in the proposed revenues of the state budget include: • Increases in fees,e by a factor of 30 (from their August 2019 levels) • Increases exit fees for airport and seaport passengers. • Introduction of fees on trucks entering the country, requiring quarrying sector dues to be paid in US$ • Introduction of customs and fees exemptions as well as tax reductions for environment-friendly vehicles. Expenditures are budgeted at 11.7 percent of GDP. Current expenditures represent the bulk of expenditures, with the social assistance scheme constituting the highest spending item. In lieu of wage corrections and comprehensive civil service reform, the 2023 budget draft proposes a social assistance scheme. The latter scheme does not constitute an increase in basic salaries of public servants and is not permanent. The social assistance scheme comprises a transportation allowance; four and three-fold increases in the wages of civil servants and military personnel; a three-fold increase in pensioners’ wages; and adjustments to the hourly wages of contractual employees. As such, salaries, wages, and social assistance (including pensions) are allocated 61.6 percent of expenditures. Interest payments stand at 7 percent of expenditure, while capital expenditures account for a mere 6.5 (0.8) percent of spending (GDP). The 2024 Budget Draft Revenues are projected to reach 16.6 percent of GDP, 93.6 percent lower in real terms than in 2019.f Similar to the 2023 budget draft and pre-crisis budgets, the 2024 budget draft relies heavily on tax revenues, amounting to 80 percent of total revenues. Tax revenues are predominantly composed of indirect taxes, which stand at 53.6 percent of total revenues. The main adjustments to tax revenues and fees include: • For the first time, the 2024 budget draft raises the Value Added Tax (VAT) rate from 11 to 12 percent.g The VAT constitutes a largely regressive indirect taxation scheme. In fact, over-reliance on consumption taxes is a highly regressive trend and key feature of the post- war economic model. • Introduction of an ad-valorem tax on imports ranging from 0.1 percent to 0.4 percent • Introduction of a fee to be paid for expedited administrative services and transactions. • Adjustments to the payment method of taxes: income tax is to be paid in the same currency as that of income using a discounted Sayrafa rate (for salaries earned in foreign currency); payment of taxes is also allowed using pre-October 2019 bank deposits. • The introduction of a US$ fee for the collection and treatment of solid waste. On the other hand, expenditures are budgeted at 19.3 percent of GDP in the 2024 budget draft. With the BdL announcing that it will cease financing the deficit, a possible source of financing is to issue LBP denominated Treasury bills and bonds as provisioned for in article 5 of the 2024 budget draft. Nonetheless, demand for these debt instruments is likely to be non-existent amid a sovereign default and BdL may ultimately act as the financier of the deficit by purchasing these bonds. Similar to the 2023 budget draft, current expenditures represent the bulk of expenditures, with the social assistance scheme constituting the highest spending item, in the 2024 budget draft. Salaries, wages, and social assistance (including pensions) are allocated 58 percent of expenditures. Interest payments stand at 4.9 percent of expenditure, and capital expenditures account for 7 (1) percent of spending (GDP). Expenditure Allocation to Ministries in both Budget Drafts The biggest share of expenditures is allocated to the Ministry of Finance (MoF) in the 2023 budget draft, and to the budget reserve in the 2024 budget draft.h Moreover, the four sovereign ministries (Interior and Municipalities, Finance, Foreign Affairs, and Defense) are allocated 48.4 percent and 25.4 percent of total expenditure in 2023 and 2024 budget drafts, respectively. The MoF’s share of total expenditures decreased by 26.6 percent in the 2023 draft budget to 1.6 percent in the 2024 budget. The latter decrease in the MoF’s share of total expenditures is likely to entail persistent inadequacies in human and technological resources within the ministry and does not bode well for the prospects of revenue collection and fiscal management. Five service ministries (Public Works and Transport, Education, Public Health, Telecom, and Energy and Water) account for 16.7 percent and 19.9 percent of expenditure in 2023 and 2024 budget drafts, respectively—with the Ministry of Energy and Water receiving just 0.6 percent and 0.3 percent of total expenditure. Consequently, the severe lack of public service provision, in the education, healthcare, transportation and energy sectors is expected to persist. Despite the fact that conserving the environment was the alleged motivation behind imposing an “environment conservation consumption tax”, the Ministry of Environment is allotted the lowest share of expenditure in both budget drafts at 0.04 percent in 2023 and 0.02 percent in 2024. (continued on next page) 6 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS BOX 1. GOVERNMENT BUDGET DRAFTS 2023 AND 2024 (continued) Regressive Fiscal and Tax Policies The draft budgets of 2023 and 2024 represent missed opportunities for introducing much needed changes to fiscal and tax policies. The brunt of the fiscal adjustment is borne by wage earners despite the significant loss of purchasing power owing to the triple digit inflation and currency depreciation. The two draft budgets do not entail changes to the tax system or fiscal policy. The tax system, in the two draft budgets, continues to overly favor the affluent and non-wage earners via the favorable treatment of wealth, capital gains and property taxation. In terms of policy recommendations, the fiscal authorities can mobilize revenues from wealth, income, and capital gains by, for example, obtaining and acting upon information on offshore holdings of Lebanese residents, taxing capital gains from the sale of shares in joint stock companies by individuals, taxing income from rent, and removing the exemption for dividend distributions to individuals from holding and offshore companies. The authorities can also consider abolishing the reduced Corporate Income Tax (CIT) rates for reinvested profits, subjecting corporate capital gains to the standard CIT rate, abolishing property tax exemptions for vacant properties and the preferential treatment for second properties as well as tightening the definition of residency for tax purposes (IMF, 2023).i Such measures are absent from both drafts. Moreover, taxing small to medium enterprises on a presumptive basis, subjecting professionals to the real profits regime, and taxing illegal maritime properties are additional revenue enhancing measures and policy recommendations that the fiscal authorities can pursue. The tax elasticity in Lebanon is likely to be high owing to significant declines in nominal and real incomes. Therefore, the scope for revenue mobilization from consumption taxes is likely to be limited. Nonetheless, going forward, the government intends to enhance revenues by introducing new laws or putting into practice existing legislation. The measures that the authorities expect to embark on include (i) unifying the income tax and accounting for all sources of income, (ii) enhancing customs revenue by combating pervasive evasion, (iii) taxing illegal maritime properties, (iv) unifying and streamlining the property valuation system, with municipalities assuming a central role in the property valuation exercise, and (iv) modernizing the Public Accounting Law, which dates to 1963. TABLE 2 • Fiscal Balance (2020–2022) Actual Actual Budget WB est. Budget draft WB proj. Budget draft (LBP Billion) 2020 2021 2022 2022 2023 2023 2024 Revenue 15,341 20,264 29,986 35,137 147,739 137,077 258,785 Expenditure 19,236 17,614 40,870 51,849 181,923 157,767 300,519 Fiscal balance ­3,895 2,650 ­10,884 ­16,712 ­34,184 ­20,690 ­41,734 Actual Actual Budget WB est. Budget draft WB proj. Budget draft (% of GDP) 2020 2021 2022 2022 2023 2023 2024* Revenue 13.1 7.5 5.2 6.1 9.5 8.8 16.6 Expenditure 16.4 6.5 7.1 9.0 11.7 10.1 19.3 Fiscal balance –­3.3 1.0 –­1.9 –­2.9 –­2.2 –­1.3 –­2.7 * The 2024 ratios to GDP are calculated using the baseline GDP for 2023, which excludes the impact of the current conflict and its spillover into Lebanon. The World Bank staff are not producing a forecast for GDP in 2024 due to high uncertainty. a The fiscal accounts have not been reconciled since 2003. b The draft and final budgets may differ substantially as changes can be introduced to the draft budget by parliament and the Budget and Finance parliamentary committee. c These numbers do not include extra-budgetary or quasi-fiscal spending, and therefore underestimate the fiscal deficits in both years. d The 2023 nominal GDP is used to compute percentages to GDP. e The thirty-fold increase applies to all fees that are not to be collected in US$. The nominal GDP for 2023 is used to compute the ratios to GDP in 2024 due to uncertainty regarding the GDP for 2024. f The World Bank staff are not producing an inflation forecast for 2024 due to the high uncertainty. Therefore, the inflation forecast for 2023 is used to compute revenues in real terms for 2024. g The VAT increase proposal has faced considerable push back in ongoing discussions in parliament. h The budget reserve in the 2024 budget draft is large because it includes the three and four-fold (temporary) increases in the salaries of public sector employees and retirees. i International Monetary Fund (2023). “Lebanon: Technical assistance report on putting tax policy back on track”, Washington DC. Recent Economic Developments 7 FIGURE 3 • Evolution of Public Finances in FIGURE 4 • Overall and Primary Deficits Are Nominal (LBP) and Real Terms, Projected for 2023 2018 vs. 2022 Fiscal aggregates (% of GDP) 40,000 5 3 30,000 0 20,000 –3 10,000 –5 –8 0 Percent –10 LBP Billion –10,000 –13 –15 –20,000 –18 –30,000 –20 –23 –40,000 –25 –50,000 –28 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021e 2022e –60,000 2018 actual 2022 actual 2018 real 2022 real Overall fiscal balance Revenues Expenditures Fiscal balance Primary fiscal balance, excluding interest payments Sources: Lebanese authorities and WB staff calculations. Sources: Lebanese authorities and WB staff calculations. during 2017–2019 to 1.3 percent of GDP over the to remain on its structurally unsustainable path, akin period 2020 to 2022. Despite this significant decrease to the pre-crisis era (Figure 5). in debt-servicing costs, the primary balance has Lebanon must confront its debt overhang deteriorated, posting an average deficit of 0.3 percent with urgency. Since the sovereign debt default on over the 2020–2022 period compared to an average March 9, 2020, little progress has been made on a surplus of 0.3 percent between 2017 and 2019. debt restructuring strategy or in pursuing an agree- Sovereign debt, at 179.2 percent of GDP ment with foreign creditors.8 Large-scale private in 2022, remains unsustainable amid a sharp investments, which are essential for an economic currency depreciation and economic contrac- recovery, will not materialize without a restructuring tion, and in the absence of comprehensive of public debt. The World Bank’s 2022 Lebanon debt restructuring. The sharp depreciation in the Public Finance Review underscores further that the local currency has eroded the domestic currency restructuring of Lebanon’s foreign-denominated debt component of total debt (part of the numerator in is unlikely to be sufficient for debt sustainability. In the debt-to-GDP ratio). This, however, is more than fact, maintaining sustainable debt dynamics in the offset by a lower denominator, GDP in US$, due also long run hinges on sustaining economic growth.9 The to currency depreciation and economic contraction, sustainability of the foreign-currency component of leaving a larger debt-to-GDP ratio in 2022 (Figure 5). the debt will also depend on positive net exports. It is Whereas the surge in inflation is rapidly eroding the essential for the country to resume negotiations with real value of domestic debt, the sharp depreciation of its creditors to assess the degree of the potential debt the currency continues to make Lebanon’s sovereign relief that it could receive. Existing research, based on debt burden unsustainable. The World Bank debt model assumes a stable foreign-denominated debt 8 The last conference call between the Lebanese authorities and the creditors took place on May 9, 2022. stock and does not include accumulated arrears. 9 Should a successful debt restructuring be undertaken, As nominal GDP in US$ continues to decline in the maintaining debt on sustainable footing in the medium absence of comprehensive reform and an economic and long run hinges on the differential between GDP stabilization plan, the debt-to-GDP ratio is projected growth and the interest rate being positive. 8 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS FIGURE 5 • Sharp Decrease in Nominal GDP Prompts Erosion of Public Debt as a % of GDP to Pre Crisis Levelsa Gross public debt 100 200 90 180 80 160 70 140 Percent of GDP (%) US$ Billion 60 120 50 100 40 80 30 60 20 40 10 20 0 0 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021e 2022e External public debt (US$ bln) Domestic public debt (US$ bln) Gross public debt (US$ bln) Gross public debt as a percentage of GDP (rhs, %) Sources: BdL and WB staff calculations. a To convert domestic debt to US$, the World Bank Average Exchange Rate is used for 2020–2022, estimated at LBP 3,688, 11,755, 27,309 per US$, respectively. a sample of 180 debt restructuring episodes over the less evident for “soft” debt relief which consists of period 1987 to 2010, points to an average haircut (i.e., maturity extensions and interest rate reductions.15 The face value reduction of debt outstanding) of 37 per- cent.10,11 This number however is only indicative, as 11 The haircut of roughly 75 percent for Argentina in Lebanon would require a much larger debt write-off 2005 can, therefore, be viewed as an outlier (Edwards, than the historical average to achieve debt sustain- 2015b). According to Edwards (2015b), the haircut on Greek bonds, of roughly 64 percent, is more in line with ability. There is further evidence that larger haircuts international experience. tend to be associated with higher holdout rates, 12 Cruces, J. J., & Trebesch, C., (2013). “Sovereign defaults: higher subsequent bond spreads and longer periods The price of haircuts”, American Economic Journal: of exclusion from international capital markets.12 Macroeconomics 2013, 5, 85–117 Lebanon’s significant debt overhang 13 Recent empirical research by the World Bank (2023) using a sample of 88 external debt restructurings relative to a shrinking GDP precludes a ‘soft’ since 1970 suggests that larger restructurings, which debt restructuring. Significant face value reductions significantly lower debt-to-GDP ratios, entail a lower are necessary to reduce Lebanon’s debt-to-GDP probability of relapsing into debt-related distress. For to sustainable levels and maturity extensions and more information, please refer to World Bank (2023), interest rate reductions would not suffice to ensure Spotlight: An ounce of prevention, a pound of cure: Averting and dealing with sovereign debt default. South debt sustainability.13,14 Empirical evidence suggests Asia Development Update, October 2023. that “hard” debt relief, which involves debt write-offs, 14 Morgan Stanley (2020). Lebanon sovereign debt is associated with stronger economic growth, debt restructuring awaits, March 24, 2020. sustainability and improved credit ratings; this is Goldman Sachs (2021). Mapping out the path to Lebanese economic recovery. CEEMEA Economic Analyst, September 22, 2021. 10 Ewards, S., (2015a). “Sovereign default, debt restructuring, 15 Reinhart, C. M., & Trebesch, C., (2016). “Sovereign and recovery rates: Was the Argentinean ‘haircut’ debt relief and its aftermath”, Journal of the European excessive?”, Open Economies Review. Economic Association, 14(1), 215–251. Edwards, S., (2015b). “Sovereign default and debt Trebesch, C., & Zabel, M. (2017). “The output costs of restructuring: Was Argentina’s ‘haircut’ excessive?” Vox hard and soft sovereign default”, European Economic EU, Center for Economic Policy Research. Review, 92, 416–432. Recent Economic Developments 9 FIGURE 6 • Current Account Deficit Widens in 2022, Registering a Ratio to GDP Similar to Pre-Crisis Years 45 0 40 –5 35 –10 30 US$ Billion –15 % of GDP 25 20 –20 15 –25 10 –30 5 0 –35 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 Foreign Reserves at BdL (excl. gold) Total Imports Current Account (rhs) Sources: BdL, CAS and WB staff calculations. absence of International Capital Market Association end of COVID-19 related restrictions, hotel occupancy (ICMA)-recommended single limb Collective Action rates in Beirut averaged 42 percent and passenger Clauses (CACs) for Lebanon’s Eurobonds implies that arrivals via the Beirut international airport have the vote will have to occur on a bond-by-bond basis, increased by 23.3 percent (yoy) in H1–2023. This which could entail low participation.16,17 vigorous tourism activity is projected to spur tourism receipts and contribute to a record trade-in-services surplus of 10 and 17.7 percent of GDP in 2022 and External Sector 2023, respectively. The ongoing military operations in southern Lebanon are, however, already exerting a The current account (CA) deficit is projected to negative impact on passenger arrivals. Should these narrow to 12.8 percent of GDP in 2023, following a dramatic increase to 32.7 percent of GDP in 2022 (Figure 6). The contraction in the CA deficit, 16 Fang, C., Schumacher, J., & Trebesch, C., (2021). “Restructuring sovereign bonds: holdouts, haircuts and from US$ 6.9 billion in 2022, has been mainly driven the effectiveness of CACs”, IMF Economic Review, 69, by a narrowing trade-in-goods deficit following the 155–196. revaluation of the exchange rate for custom duties that Fang, Schumacher, and Trebesch (2021) offer a became effective in November 2022.18 The gradual simulation that demonstrates that the holdout problem correction of the mis-valuation of the exchange rate for is minimized for the strongest form of CACs with single- customs duties has reduced incentives for opportunis- limb aggregate voting. That is, classic CACs with bond- by-bond voting could also entail lower participation. tic purchases, hoarding, and possible over-invoicing. 17 In Lebanon’s case, the absence of formal CACs can be According to customs data, imports of goods have addressed by making a debt restructuring contingent decreased by 9.4 percent (yoy) in 7M-2023. The com- on the vote for every bond reaching 75 percent as in pression in imports of goods is expected to persist Ukraine’s debt restructuring of 2015 (Morgan Stanley, for the remainder of 2023 and is projected to reach 2020). This could prove to be a significant hurdle for a 23.1 percent by year-end, reducing imports of goods debt restructuring. 18 The exchange rate used for customs duties has to an estimated US$13.9 billion or close to 2021 levels. increased from LBP 15,000 per US$ in November 2022, A surplus in trade-in-services will also to LBP 45,000 and 60,000 per US$ in March and April contribute to a lower CA deficit. As many Lebanese 2023. Since May 2023, the customs duties have been expatriates flock back to the country following the collected at the Sayrafa rate. 10 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS FIGURE 7 • A Steady Depletion in the Gross Foreign Exchange Position at BdL 50,000 45,000 40,000 35,000 US$ Million 30,000 25,000 20,000 15,000 10,000 5,000 0 Jan-13 Apr-13 Jul-13 Oct-13 Jan-14 Apr-14 Jul-14 Oct-14 Jan-15 Apr-15 Jul-15 Oct-15 Jan-16 Apr-16 Jul-16 Oct-16 Jan-17 Apr-17 Jul-17 Oct-17 Jan-18 Apr-18 Jul-18 Oct-18 Jan-19 Apr-19 Jul-19 Oct-19 Jan-20 Apr-20 Jul-20 Oct-20 Jan-21 Apr-21 Jul-21 Oct-21 Jan-22 Apr-22 Jul-22 Oct-22 Jan-23 Apr-23 Jul-23 Oct-23 Foreign currencies Foreign securities Gross FX reserves Compulsory FX reserve Sources: BdL and WB staff calculations. persist, expand geographically, or intensify, touristic their lowest value of US$ 13,811 million in July 2023 activity in December is likely to be subdued, which will (Figure 7). According to the central bank’s official decrease the projected trade-in-services surplus in statements, net liquid assets stood at US$ 8,542 mil- 2023. Tourism receipts, coupled with a compression lion as at end-August 2023 (Figure 8).20,21 in the imports of goods, are projected to lead to the The sizeable inflow of remittances did narrowest post-crisis nominal CA deficit of US$ 2.3 bil- not meet Lebanon’s external financing needs. lion in 2023. Remittances, which are proving to be resilient, Gross foreign currency reserves have continue to act as a de-facto social safety net and increased by US$ 425 million between end-July support a modest growth in domestic consumption. and mid-November 2023, reaching US$14,213 Remittances in 2023 are projected to remain near million, reflecting ad-hoc policy measures and not their 2022 levels, at US$ 6.4 billion. Net remittances to a sustainable improvement in the net foreign asset GDP are projected to stand at 23.4 percent whereas position. The two main factors that have led to a short- remittance inflows are projected to reach 35.2 per- term increase in reserves are (i) halting the Sayrafa cent of GDP; a record high since 2019, due to a platform, the main monetary tool to supply foreign currency to shore up the LBP,19 and (ii) BdL purchases of foreign exchange from the banknote market and 19 Please refer to Spring 2023 Lebanon Economic Monitor exchange bureaus, absorbing the excess US$ supply for a discussion of Sayrafa platform’s operations. accumulated following a buoyant summer season 20 The BdL began publishing its liquid foreign exchange position and asset holdings in August 2023. Liquid and substantive foreign currency inflows. Hence, the foreign currency assets comprise, (i) cash, (ii) current reserve accumulation does not stem from an intrinsic deposits at BdL, (iii) term deposits at BdL and improvement in the financial sector’s net foreign asset (iv) international securities. position and could be short-lived. Indeed, the volatile 21 The latter liquid reserve position differs from BdL’s net nature of tourism precludes predicating a long-term reserve position—which accounts for BdL’s liabilities reserve accumulation strategy on tourism receipts. to banks whereas the liquid reserves do not—and is estimated to be highly negative (several times current With the depletion of the SDR allocation, pressures GDP). The net negative reserve position of BdL is to draw down BdL’s reserves will mount. Prior to the estimated to exceed US$ 60 billion as discussed in the accumulation of reserves in November, gross foreign Fall 2022 Lebanon Economic Monitor. The bulk of the currency reserves had declined by US$ 24,131 mil- losses in the financial sector can be ascribed to the latter lion between October 2019 and July 2023, reaching net negative reserve position. Recent Economic Developments 11 FIGURE 8 • Breakdown of Liquid Reserves at BdL 10,000 8,000 6,000 US$ Million 4,000 2,000 0 –2,000 September 30, 2023 Cash Current account Term deposits International securities Public sector deposits Financial sector deposits Usable SDR allocation Lines of credit by BdL Loans to Arab entities Arab deposits Total Sources: BdL and WB staff calculations. denominator effect (i.e., declining nominal US$ GDP). US$ 125 million of the US$ 1.139 billion general SDR These figures only capture the inflows through official allocation can be deployed, suggesting a rapid pace of channels and may therefore underestimate the actual utilization of the funds. The reliance on the SDR alloca- size of remittances.22 tion has substituted for drawing down foreign currency The current account deficit was, in the first reserves at BdL, but this strategy is untenable given the half of 2023, predominantly financed from BdL’s near complete depletion of the SDR allocation. reserves. The rapid drawdown in foreign currency reserves coupled with limited net liquid reserves at BdL suggest that continued reliance on the central Money and Banking bank to finance the external deficit is becoming increasingly tenuous. The private sector has also The pace of the exchange rate depreciation has resorted, in part, to financing imports via the full col- moderated, with the banknote market exchange lateralization of credit lines and by leveraging funds rate stabilizing, albeit temporarily, at around from the sizeable cash economy.23 Indeed, utilized 90,000 LBP/US$ since July 2023. Testament to credit from documentary lines of credit stood at US$ the continued atrophy of the Lebanese economy, 80 million in 5M-2023 having registered US$ 223.2 the Lebanese pound depreciated precipitously over million in 2022. Consistent with mounting difficulties in 22 Lebanese expatriates could have brought in remittances financing the external deficit, Lebanon was forced in cash. to tap into its general Special Drawing Rights 23 The cash economy is estimated in the Spring 2023 (SDR) allocation to finance critical imports. With Lebanon Economic Monitor to stand at 45.7 percent of BdL’s waning ability to finance the current account GDP. Some large importers are also reportedly relying deficit, Lebanon has increasingly relied on the 2021 on offshore bank accounts to finance their imports and general SDR allocation from the IMF as well as the partly circumvent the Lebanese banking sector. These importers use the Lebanese banking sector as a conduit World Bank’s Wheat Supply Emergency Project to for the remitting the cash revenues (from sales) to the finance part of its US$ 420 million and US$ 228 million offshore accounts. import bill for medicine and wheat. According to an 24 BdL’s statement on liquid foreign currency reserves is official statement by BdL (dated August 31, 2023),24 available here: Link 12 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS BOX 2. CIRCULAR 165: AN UNSUCCESSFUL ATTEMPT TO REBOOT THE BANKING SECTOR AND NATIONAL PAYMENT SYSTEM Prior to his departure, the outgoing former BdL governor issued Circular 165 on April 19, 2023, to restart the settlement of transactions via the banking sector. The stated aim of the circular is to strengthen the economy and stimulate banking activity, by mandating commercial banks to extend basic banking services (the use of checks, electronic transfers, and payment by card) to all foreign or cash inflows into the banking system since November 2019. Since the onset of the crisis, the settlement of transactions, aside from deleveraging, has been predominantly carried out in cash, as detailed in the Spring 2023 Lebanon Economic Monitor. Circular 165 aims at resuming the use of the national payment system, which comprises the real-time gross settlement system (RTGS) and BdL-clear, to settle and clear transactions via the banking system and ultimately decrease the size of the cash economy. Nonetheless, this move carries important risks in that it effectively creates a parallel banking system for fresh dollar deposits that has been “reset” in November 2019, which ignores the pre-crisis encumbered foreign-currency deposits. Further, circular 165 poses financial integrity and anti-money laundering risks given that illicit funds may be channeled via the financial system. Despite the risks posed by a sizeable cash economy, Lebanon has avoided, until now, being placed on the Financial Action Task Force’s grey list. Take up of the provisions of circular 165 is likely to be limited amid a complete loss of confidence in the impaired banking sector and the departure of the former BdL governor. the period January to March 2023 and the Banknote Inflationary pressures have not abated, Rate (BNR or parallel rate), at its weakest, stood at averaging 171.2 percent in 2022, one of the 134,900 LBP/US$ on March 21. In response, the BdL highest rates globally, primarily due to the announced, on March 21, its readiness to sell dollars depreciation of the LBP. Year on year inflation on the Sayrafa platform and raised the Sayrafa rate stood at 208.5 percent in September 2023, averag- to 90,000 LBP/US$. BdL’s foreign exchange rate ing 229.4 percent (yoy) in 9M-2023. As in 2022, interventions, coupled with an increase in foreign food and non-alcoholic beverages are the largest exchange inflows from tourism services and remit- contributor to headline inflation in 9M-2023. Of the tances, proved to be sufficient to stem the rapid other categories in the CPI basket, (i) transportation, depreciation. The exchange rate has now stabilized, (ii) owner occupied housing costs (i.e., equivalent albeit temporarily, at around 90,000 LBP/US$. How- rent), (iii) health, and (iv) water, electricity, gas, and ever, the currency lost more than 98.3 percent of its other fuels are also substantial drivers of headline pre-crisis value by July 2023.25 inflation with contributions standing at, respectively, The BdL has stopped the Sayrafa platform in 29.8, 25.1, 21.6, and 20.8 percent (Figure 9).26 The July 2023 and is reportedly transitioning towards latter inflationary dynamics can be ascribed to the a new platform, to be powered by Bloomberg. increasing dollarization of prices across sectors, The new platform could permit larger transactions and offer more transparency than its predecessor in terms of order flow, leading to enhanced price 25 The spread between the BNR, Sayrafa and World discovery. Nonetheless, as expounded in the Spring Bank Average Exchange rates, has narrowed to, respectively, 10.8 percent and 9.7 percent, on average, 2023 Lebanon Economic Monitor, it is still not clear, over the period March and July 2023. The Spring should the exchange rate not be unified, who will 2023 Lebanon Economic Monitor expounds that the assume the sell side of transactions on the platform in removal of subsidies on critical imports by BdL is the the absence of economic incentives to transact. Apart main driver of convergence between the AER and from discontinuing Sayrafa, the BdL, has not, to date, parallel market rates. introduced fundamental changes to bank supervi- 26 The year-on-year increases in the price food and non- alcoholic beverages, owner occupied equivalent rent, sion or the conduct of monetary and exchange rate health, and transportation stood at, respectively, by policies. The multiple exchange rate regime persists, 239, 324, 215.8, and 176 percent. The price of the and regulatory forbearance continues to apply to the communication component of the CPI basket grew banking sector. by a staggering 337.6 percent (yoy) in 9M-2023. The Recent Economic Developments 13 FIGURE 9 • CPI Subcategories’ Monthly Contribution to Headline Inflation (Aug 2019–Aug 2023) 350 300 250 200 Percent (%) 150 100 50 0 –50 –100 Aug-19 Oct-19 Dec-19 Feb-20 Apr-20 Jun-20 Aug-20 Oct-20 Dec-20 Feb-21 Apr-21 Jun-21 Aug-21 Oct-21 Dec-21 Feb-22 Apr-22 Jun-22 Aug-22 Oct-22 Dec-22 Feb-23 Apr-23 Jun-23 Aug-23 Food & non-alcoholic beverages Alcoholic beverages & tobacco Clothing & footwear Actual rent Owner occupied Water, electricity, gas and other fuels Furnishings, household equipment Health Transportation Communication Education Other Headline inflation growth Sources: CAS and WB staff calculations. FIGURE 10 • Exchange Rate Depreciation Drives the Surge in Inflation 7,000 200% 180% 6,000 160% Index (Aug 2019=100) 5,000 140% Percent (%) 4,000 120% 100% 3,000 80% 2,000 60% 40% 1,000 20% 0 0% Aug-19 Oct-19 Dec-19 Feb-20 Apr-20 Jun-20 Aug-20 Oct-20 Dec-20 Feb-21 Apr-21 Jun-21 Aug-21 Oct-21 Dec-21 Feb-22 Apr-22 Jun-22 Aug-22 Oct-22 Dec-22 Feb-23 Apr-23 Jun-23 US$ banknote rate WB average exchange rate Inflation Currency in circulation CPI-Exchange rate pass through (rhs) Sources: BdL, CAS and WB staff calculations. which drives domestic-currency inflation (Figure 10). Lebanon was also the second hardest hit country by Social tensions could rise as the poorest and most nominal food price inflation, which stood at 280 per- vulnerable segments of society struggle to afford cent, second only to Venezuela. Soaring food prices shelter and access to services.27 World Bank staff following the Russian invasion of Ukraine are forcing analysis reveals that local factors and dollarization remain important drivers of inflationary pressures latter increase predates the seven-fold increase in (Figure 11) (Spring 2023 Lebanon Economic telecom tariffs that was enacted by the Ministry of Monitor). Telecommunications and approved by the caretaker Lebanon topped the list of countries that government. The increase in tariffs will be effective on September 1. are hardest hit by nominal food price inflation 27 Rent prices have also increased by 204.9 percent (yoy) in the first quarter of 2023. Nominal food price in September 2023. The inability to afford shelter and inflation stood at 350 percent (yoy) in April 2023 access to basic services may potentially lead to social (Figure 12). On a global level from March to July 2023, unrest. 14 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS FIGURE 11 • Currency Depreciation and Local 6.8 percent (yoy) and stood at US$ 71 billion whereas Factors are Main Drivers of Inflation non-resident foreign currency deposits decreased 600% by 6.7 percent (yoy) and stood at US$ 24.3 billion 500% in August 2023. The commercial banking sector’s 400% 300% deposits at BdL declined by 22.5 percent (yoy) in 200% August 2023. 100% The banking sector remains insolvent, 0% –100% with a severely impaired balance sheet. With –200% losses exceeding three times GDP and standing at –300% US$ 72 billion, the banking sector’s losses as a share –400% of GDP are among the largest, if not the largest, in Aug-19 Oct-19 Dec-19 Feb-20 Apr-20 Jun-20 Aug-20 Oct-20 Dec-20 Feb-21 Apr-21 Jun-21 Aug-21 Oct-21 Dec-21 Feb-22 Apr-22 Jun-22 Aug-22 Oct-22 Dec-22 Feb-23 Apr-23 Jun-23 the world. A comparison with global banking crisis BNR change Global food prices effect episodes suggests that the losses of the Lebanese Global energy prices effect Local effects banking sector are orders of magnitude larger than CPI inflation for any of the comparators and are indeed unprec- Sources: CAS and WB staff calculations. edented.29 The quality of the private sector lending households to adopt extreme livelihood coping mea- 28 The soaring food inflation and adverse economic conditions have led more than 10 percent of Lebanese sures and exacerbating the precarity of the conditions households to send their children to work to access food of the poorest and most vulnerable segments of the and pay for essentials (World Bank, 2023a). Further, host and refugee communities.28 more than 90 percent of households are lacking funds Currency in circulation contracted by to meet payments on essentials and make ends meet 26.8 percent in Q1-2023 amid limited demand for (World Bank, 2023a). LBP (Figure 10). The downward trend has reversed 29 Caprio Jr., G., & Klingebiel, D. (1996), “Bank insolvencies: Cross-country experiences”, Policy Research Working in Q2-2023 leading to a cumulative contraction in Paper 1620, World Bank, Washington DC. currency in circulation of 10.2 percent in H1-2023. Goldstein, M., & Turner, P. (1996). “Banking crises in The deleveraging in the banking sector continues. emerging economies: Origins and policy options”, Trade Resident foreign currency deposits decreased by Currencies and Finance, 301–363. Inflation in Basic Items Has Been a Key Driver of Overall Inflation, Hurting the Poor and FIGURE 12 •  the Middle Class Contributions to Overall Inflation in 9M-2023 200 180 160 140 Percent (%) 120 100 80 60 40 20 0 Headline inflation growth Food & non-alcoholic beverages Transportation Owner occupied Health Water, electricity, gas, & other fuels Communication Clothing & footwear Education Furnishings, household equipment Other Alcoholic beverages & tobacco Actual rent Sources: CAS and WB staff calculations. Recent Economic Developments 15 FIGURE 13 • A Steady and Sharp Deterioration in portfolio shows no signs of improvement and the Credit Performance as Measured by banking sector’s balance sheet remains impaired NPL Ratio for Banks (Figure 13). The inability of the banking sector to inter- NPLs by Sector mediate funds and perform its delegated monitoring Total credit portfolio and maturity transformation functions will prove to Consumption be an obstacle to the much-needed domestic and Foreign Direct Investment (FDI), large sized and long- Housing term capital and financial inflows, which will obfuscate Financial intermediation an economic recovery. An economic recovery plan Retail trade which does not place an equitable banking resolu- Wholesale trade tion—that comprises an upfront allocation of losses, Contracting and construction bail-ins and restructuring—at the forefront is unlikely Processing industries to yield high and sustained economic growth rates that are required for keeping debt on a sustainable 0% 10% 20% 30% 40% 50% 60% 70% footing (assuming a successful debt restructuring Dec-21 Dec-20 Dec-19 process) and restoring economic activity to its pre- Sources: Lebanese authorities and WB staff calculations. crisis levels. BOX 3. REMITTANCES: LEBANON’S LIFELINE Lebanon has experienced several waves of out-migration due to political instability, internal strife, civil unrest, and regional conflict. The postwar economy’s structural inability to produce high-quality jobs has also prompted a brain drain of highly skilled workers seeking employment opportunities in the region and globally. As a result, Lebanon boasts a large and highly educated diaspora, and its economic model has become highly dependent on the inflows of remittances. Remittances have also been essential in partially financing the persistent and structural current account deficit. In fact, remittances have exceeded Lebanon’s exports of goods since 2002, underscoring their importance in meeting the country’s external financing needs. Remittances have served as a de facto social safety net in the absence of adequate social spending and have permitted the Lebanese to achieve a higher standard of living. Indeed, Gross National Disposable Income (GNDI) has, over the period 2004 to 2020, consistently exceeded GDP. Since the onset of the crisis in 2019, remittances have proven to be resilient and provided many Lebanese with a lifeline in terms of supporting basic needs. The sizeable inflow of remittances has also facilitated access to healthcare and education. Further, remittances have played a critical role in partially remedying the severe loss of purchasing power owing to the massive depreciation of the LBP in the ongoing crisis. However, despite their stable nature, remittances are prone to slowing down due to external shocks, such as a decline in the price of oil, a decrease in real incomes in the remitting countries, pandemics, or conflicts and wars.a Moreover, remittances have not, according to a survey conducted by the UNDP in Lebanon, reached the most vulnerable segments of society.b According to the Mercy Corps (2022), the disbursement of remittances that are channeled via Lebanese municipalities may have been subject to political considerations and patronage. The empirical evidence on the effect of remittances on growth is mixed and, therefore, remittances cannot be considered a sustainable pillar for growth.c Remittances have averaged US$ 6,450 million (14.2 percent of GDP) between 2009 and 2018, and US$ 6,346 million (22.3 percent of GDP) over the period 2019 to 2022. While remittances displayed remarkable resilience in level terms (i.e., in nominal US$ terms) in the post-crisis period (Figure 14), remittances to GDP have exhibited a discernable increase, largely due to a denominator effect (i.e., the decline in US$ nominal GDP) (Figure 15). Lebanon received remittances equivalent to 29.9 percent of GDP in 2022 making it the 3rd largest recipient globally, as a percentage of GDP, trailing only Tajikistan, and Samoa. In comparison, remittances to GDP stood at a According to the IMF (2017), both oil supply and demand shocks lead to a decrease in remittances to Lebanon. However, the increase in real GDP and household incomes stemming from a supply shock can counterbalance the drop in remittances. Details are provided in IMF (2017), “Lebanon: Selected Issues, Oil-price spillovers in Lebanon: The role of remittances”, IMF Country Report No. 17/20, Washington DC. b Mercy Corps (2022), “Thematic report: Understanding remittances as a coping strategy amidst Lebanon’s crises: Opportunities and challenges for aid actors”. c Please see Yang (2011), D., “Migrant remittances”, Journal of Economic Perspectives, 25, 129–152 and the references therein. (continued on next page) 16 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS BOX 3. REMITTANCES: LEBANON’S LIFELINE (continued) FIGURE 14 • Remittance Inflows to Lebanon FIGURE 15 • …and have Increased Significantly Remained Resilient Throughout as a Percentage of GDP the Crisis… 35 8,000 30 7,000 6,000 25 US$ Million 5,000 20 US$ Million 4,000 15 3,000 10 2,000 5 1,000 0 0 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 Sources: BdL and WB staff calculations. Sources: BdL and WB staff calculations. Sources of Remittance Inflows to FIGURE 16 •  Sources of Remittance Inflows to FIGURE 17 •  Lebanon in 2021 (percentage) Lebanon in 2021 (nominal US$) 1,200 1,000 2% 17% 16% 800 2% US$ Million 600 4% 16% 5% 400 6% 200 11% 110% 11% 0 Saudi Arabia United States Australia Canada Germany France United Arab Emirates Sweden United Kingdom Denmark Others Saudi Arabia United States Australia Canada Germany France United Arab Emirates Sweden United Kingdom Denmark Other Sources: Knomad and WB staff calculations. Sources: BdL and WB staff calculations. 4.6 percent for lower middle-income countries, 4.4 percent for MENA countries (excluding high income countries), and 4.2 percent of GDP for Fragility, Conflict and Violence (FCV) countries.d The Kingdom of Saudi Arabia was the largest source of remittances to Lebanon in 2021, with US$1,114 million, followed by USA with US$1,002 million, and Australia with US$719 million (Figures 16 and 17). The inflows of remittances originating from Canada, Germany, France, the United Arab Emirates have also been sizeable.e d This comparative assessment is based on data for remittances to GDP in 2022 for 179 countries that are comprised in the World Development Indicators database. e Knomad bilateral remittance matrix with data for 2021 (Link). Recent Economic Developments 17 3 OUTLOOK AND RISKS T he spillovers from the current conflict will revenue mobilization measures take hold, revenues dent the export of tourism services and to GDP are projected to rise to 8.8 percent of GDP. tip Lebanon’s fragile economy back into Nonetheless, increases in current expenditures, trans- a contraction. The pre-conflict baseline projection fers to EdL and the continuation of social assistance of tepid growth of 0.2 percent in 2023 is attributable to public servants will contribute to rising expenditures to a growth in consumption stemming from a strong of 10.1 percent of GDP. Owing to higher revenues, the tourism season, stable inflow of remittances, increas- overall and primary deficits will narrow relative to 2022 ing dollarization of salaries, and stabilization in private to 1.3 and 0.3 percent of GDP in 2023, respectively. sector activity. The escalation of the military opera- The deficit is likely to require central bank financing as tions along Lebanon’s southern border will break the government has no alternative sources and debt these trends and weigh on consumption. Moreover, issuance by the government is likely to be held by BdL net exports’ contribution to real GDP growth is likely to due to lack of appetite by other investors. Additional be smaller than the anticipated 1.1 percentage point money creation to finance the fiscal deficit will in turn (pp) due to a drop in the exports of goods and ser- perpetuate large scale inflation: the inflation rate has vices. The contraction in investment is also likely to be been in triple digit since 2021 and is projected to larger than anticipated due to the uncertainty created accelerate to 231.3 percent in 2023. by the military escalation along the southern border. The halt of monetization of the fiscal Lebanon’s macroeconomic framework, deficit, as announced by the new BdL leadership, however, remains severely impaired. Four years may lead to lower overall and primary deficits into the crisis, and despite a favorable tourism season if implemented. Whereas the implementation of until Q3-2023, the current account deficit is projected planned revenue mobilization measures is projected to continue to be in a deficit of 12.8 percent of GDP to narrow the fiscal and primary deficits in 2023, BdL’s in 2023. Public finances have also not yet been fixed, intention to refrain from financing the government will and the government remains in deficit. As planned lead to an additional reduction in the deficits. In the 19 absence of monetary financing of the deficit, the fiscal to Lebanon after clashes erupted along the southern authorities will have to mobilize additional revenues border. Lebanon’s national carrier resorted to modify- to balance the budget, which could decrease dispos- ing its schedule and halved its incoming flights. Other able income. Given Lebanon’s significant reliance on airliners have halted their trips to Beirut. A palpable imports for consumption, the lack of financing of the pickup in departures is unfolding, while over 50 per- external deficit would lead to an import compression cent of the travel reservations to Lebanon have been and a decrease in private consumption. Import sub- canceled. Depending on their intensity and duration, stitution will not be readily possible to meet domestic the ongoing military operations, even if they remain demand in view of capacity constraints (i.e., limited confined to the southern border, are all but certain to production capacity) and infrastructure bottlenecks dampen the tourism season in December. Should the facing domestic producers. ongoing military operations significantly escalate, the Inflationary pressures are also fueled by an human, economic, and social tolls will be severe. increase in the exchange rate pass-through and Tourism cannot, on its own, serve as the the dollarization of components in the CPI basket. basis for an economic recovery, nor be the single A higher price of oil, following supply cuts by Saudi pillar of sustainable economic growth. Because Arabia and Russia and/or a significant escalation tourism tends to be volatile and subject to external of the conflict, could contribute to a broad-based and internal shocks, the sector cannot substitute for increase in inflation. The expiration of the Ukrainian more sustainable and diverse drivers of growth. The grain export agreement between Russia and Ukraine ongoing military confrontation along the southern could also increase the prices of wheat and margin- border, which is already affecting touristic activity, is a ally stoke inflationary pressures. case in point of the precarity of a growth model that is The current conflict and its spillovers into highly reliant on the tourism sector. The accelerating Lebanon are expected to quickly reverse the triple-digit inflation will affect the poorest and most tepid growth projected for 2023, as the economy vulnerable segments of society the most and could returns to a recession. The tense and volatile security stir social discontent. The twin—current account and environment is already undermining tourism, the main fiscal—require financing, which, absent other financ- engine of growth to date. Insurance premia soared ing sources, may lead to a draw down in the central and some insurers have canceled coverage for flights bank’s foreign currency reserves. TABLE 3 • Selected Economic Indicators (2015–2023) 2023 pre-conflict; 2015 2016 2017 2018 2019 2020 Est. 2021 2022 Proj.a (annual percentage change, unless otherwise specified) Real sector Real GDP 0.5 1.6 0.9 –1.9 –6.9 –21.4 –7.0 –0.6 0.2 Real GDP per capita b –1.7 3.8 3.4 0.7 –4.2 –19.7 –5.8 1.2 0.7 (Share of Real GDP) Agriculture 3.7 3.8 4.3 4.4 4.7 6.0 6.0 6.0 6.0 Industry 12.7 12.8 12.3 12.0 10.7 12.8 12.8 12.8 12.8 Services 72.0 71.7 71.8 72.2 73.9 76.9 78.6 78.6 78.6 Net indirect taxes 11.6 11.7 11.6 11.4 10.6 4.3 2.6 2.6 2.6 (continued on next page) 20 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS TABLE 3 • Selected Economic Indicators (2015–2023) (continued) 2023 pre-conflict; 2015 2016 2017 2018 2019 2020 Est. 2021 2022 Proj.a (annual percentage change, unless otherwise specified) Inflation (Consumer Price Index) –3.7 –0.9 4.5 6.1 2.9 84.3 154.8 171.2 231.3 Public finance (percent of GDP, unless otherwise specified) Revenue 19.2 19.4 21.9 21.0 20.8 13.1 7.5 6.1 8.8 o/w tax revenue 13.7 13.7 15.5 7.7 15.6 9.0 5.6 4.9 7.5 Expenditure 26.9 28.7 28.6 32.0 31.4 16.4 6.5 9.0 10.1 Current expenditure 21.7 23.2 23.6 26.0 26.1 14.3 5.8 8.2 9.2 o/w interest payment 8.9 9.3 9.4 9.9 10.1 2.5 1.0 0.8 1.0 Capital expenditure 1.4 1.4 1.5 1.7 1.3 0.4 0.1 0.2 0.2 Overall fiscal balance –7.7 –9.3 –6.7 –11.0 –10.6 –3.3 1.0 –2.9 –1.3 Primary balance 1.2 0.0 2.7 –1.2 –0.5 –0.8 1.9 –2.1 –0.3 External sector (percent of GDP, unless otherwise specified) Current account balance –17.1 –20.5 –22.9 –24.3 –22.0 –9.3 –12.5 –32.7 –12.8 Trade balance –22.9 –23.7 –24.8 –24.8 –25.1 –20.3 –31.0 –55.0 –32.7 o/w export (GNFS) 39.7 37.3 36.1 35.7 35.7 28.2 44.9 60.1 76.4 Exports of goods 8.0 7.7 7.6 7.0 9.4 12.9 20.1 21.0 24.7 Exports of services 31.7 29.6 28.5 28.7 26.3 15.3 24.7 39.1 51.7 o/w import (GNFS) 62.6 61.0 60.9 60.5 60.8 48.5 75.9 115.1 109.1 Imports of goods 35.2 35.1 34.8 34.4 35.3 33.4 55.4 86.0 75.2 Imports of services 27.4 25.9 26.1 26.1 25.5 15.1 20.5 29.1 34.0 Factor services and transfers 5.8 3.2 1.9 0.5 3.0 11.0 18.5 22.3 19.9 o/w net remittance inflows 7.2 6.7 5.2 4.2 6.1 11.9 17.8 21.9 23.4 Total public debt Total debt stock (US$ million)c 70,315 74,959 79,530 85,139 88,900 56,813 39,903 37,718 32,936 Debt-to-GDP ratio (percent) 140.8 146.6 150.0 155.1 172.3 179.2 172.5 179.7 181.3 Memorandum items Nominal GDP (LBP billion) 75,268 77,105 79,939 82,764 80,196 116,954 271,916 573,282 1,559,451 Exchange rate, WB-AER 1,508 1,508 1,508 1,508 1,554 3,688 11,755 27,309 85,828 (LBP/US$) Nominal GDP (US$ million)c 49,929 51,147 53,028 54,902 51,606 31,712 23,132 20,992 18,169 a Our forecasts for 2023 do not take into account the impact of the current conflict on the Lebanese economy given the uncertainty of the evolving situation; however, our Special Focus provides a preliminary analysis of the impact of the current conflict on Lebanon’s GDP, in addition to an analysis of the various channels through which the conflict can affect Lebanon’s economy and the welfare of its citizens. b We base our per-capita calculation on population estimates produced by UN population division. These estimates have been significantly revised down, for Lebanon, to 5.5 million, from 6.7 million, in 2022. This change has a prominent effect on Real GDP per capita growth and Nominal GDP per capita. c The WB-AER is used to calculate the total debt stock and nominal GDP in US$ million for 2019 onwards. Outlook and Risks 21 SPECIAL FOCUS: THE IMPACT OF THE CONFLICT IN THE MIDDLE EAST ON THE LEBANESE ECONOMY A ssuming that the spillovers of the current are renting apartments across the country. In addition conflict into Lebanon remain contained, the to the disruption of local economic activity along the special focus finds that real GDP growth will border area, increased demand for rental apartments contract by 0.6 percent to 0.9 percent (depending on has resulted in rental price pressures in some regions the extent of the tourism contraction), reversing the such as Mount Lebanon, Beirut and the Chouf. positive pre-conflict baseline, of 0.2 percent growth Real time high-frequency data suggest in 2023. Our working assumption is that the current that Lebanon is the hardest hit among neighbor- situation of containment (military operations limited to ing countries by the current conflict. Alternative border areas) persists for the remainder of the year. data on scheduled and tracked flights for Lebanon, Should the current conflict significantly escalate, the shows that the ratio of tracked-to-scheduled flights human, economic, and social toll will also grow. A high- (i.e., a higher ratio implies that a larger number of level analysis of key channels of impact is provided. flights have been completed as planned and, hence, Military operations unfolding along indicates fewer disruptions) dropped precipitously Lebanon’s southern border have escalated from from 98.8 percent on October 7 to 63.3 percent on low- to high-intensity fighting since October November 4 (Figure 18). While flight activity to Egypt 2023. The ongoing military operations have already and Jordan was also disrupted, the ratio of tracked- caused the internal displacement of around 50,000 to-scheduled flights was significantly higher than persons as of November 30th.30 Among these, Lebanon’s (Figure 19). Tracked-to-scheduled flights 57 percent of internally displaced persons (IDPs) are residing with host families while 28 percent of IDPs 30 Link International Organization for Migration (IOM). 23 FIGURE 18 • Ratio of Tracked to Scheduled Lebanon Experienced the Most FIGURE 19 •  Flights Shows Significant Travel Pronounced Disruptions to Travel Disruptions among Neighboring Countries 100 100% 95% 90 90% 80 85% 70 80% 75% 60 70% 50 65% 40 60% 9/29/23 10/1/23 10/3/23 10/5/23 10/7/23 10/9/23 10/11/23 10/13/23 10/15/23 10/17/23 10/19/23 10/21/23 10/23/23 10/25/23 10/27/23 10/29/23 10/31/23 11/2/23 11/4/23 9/29/23 10/1/23 10/3/23 10/5/23 10/7/23 10/9/23 10/11/23 10/13/23 10/15/23 10/17/23 10/19/23 10/21/23 10/23/23 10/25/23 10/27/23 10/29/23 10/31/23 11/2/23 11/4/23 Scheduled flights Tracked flights Lebanon Egypt Jordan Source: Flight Radar 24. Source: Flight Radar 24. stood, on average, at 90 and 92.1 percent, respec- depending on the maturity. The downward trend in tively, for Egypt and Jordan relative to 81.3 percent price continued throughout October and November, for Lebanon over the period October 7 to November indicating waning sentiment by Eurobond inves- 6. Moreover, alternative and high frequency data on tors concerning economic and debt restructuring maritime freight activity—gauged from the Automatic prospects. Eurobonds traded at 6.3 percent of face Identification System (AIS)—indicate that, consistent value in November, indicating lower recovery value. with rising insurance premiums, trade activity has Consistent with a slowdown in economic activity, the noticeably slowed down, with maritime import and BLOM-PMI index (capturing private sector activity), export volumes down by about 50 and 64.6 percent dropped from 49.1 in September to 48.9 in October, (yoy), respectively, in October 2023 (Figure 20). suggesting a widening of the contraction in economic Lebanon’s Eurobonds suffered from a activity (a PMI reading of less than 50 is indicative of selloff starting October 9, suggesting worsening a contraction). market-implied sentiment of economic and debt The Lebanese authorities have, on October restructuring prospects. The forward-looking nature 31, put in place a national emergency plan to cope of financial markets provides a natural gauge for in the event of a significant escalation of the con- measuring changes in risk premiums. With Lebanon flict.32 The crisis response strategy is predicated on in default, typical market gauges of credit risk, such assumptions that mimic the repercussions of the 2006 as changes in CDS and EMBI spreads, have become conflict in Lebanon. More specifically, the response less pertinent. Heightened risk perceptions can be plan envisages an air and maritime blockade, the gauged, however, from Lebanese Eurobonds whose healthcare sector coming under pressure as well as the prices have tumbled across all maturities since internal displacement of around one million Lebanese October 9 (Figure 21. ).31 Having increased to more over 45 days. The emergency plan includes setting up than 8 percent of face value across all maturities in September 2023 possibly due to a vigorous tourism 31 Bond prices and yields move in opposite directions. The season and the start of gas exploration, Eurobond sharp decrease in Eurobond prices implies that yields prices have recorded a single day decline ranging have risen. from 0.6 to 0.8 percentage points of face value, 32 Please refer to this article. 24 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS Significant Decline in Estimated FIGURE 20 •  FIGURE 21 • Eurobonds Prices Have Declined Export and Import Trade Volumes across All Maturities since since October 2023 October 9th 600,000 9.0 500,000 8.5 Percent of Face Value (%) 400,000 8.0 Tonnes 300,000 7.5 200,000 7.0 100,000 6.5 0 6.0 May May Aug Mar Dec Aug Sep Nov Mar Sep Feb Jun Feb Jan Jun Apr Jan Apr Oct Oct Jul Jul 7/3/23 8/3/23 9/3/23 10/3/23 11/3/23 2022 2023 Nov 27, 2026 Feb 26, 2030 Nov 3, 2028 Exports Imports Nov 2, 2035 May 17, 2033 Source: World Bank Data Lab. Source: Bloomberg. centers to host the internally displaced and addressing the current conflict. Lebanon’s tourism revenues the sectoral impacts of the conflict in terms of provi- accounted for 25.6 percent of total current account sion of healthcare, electricity, water, and humanitarian receipts in 2022.33 The latter share is larger than assistance as well as ensuring food security. Jordan and Egypt’s, which stood at 20.6 and Our working assumption is that the current 11.6 percent, respectively (Figure 22). In view of situation of containment of military operations to the buoyant tourism activity in the first half of 2023, the southern border persists for the remainder tourism receipts were projected to increase further. of the year. The main impact channel under the Nonetheless, the eruption of the conflict along current situation is a fall in receipts from tourism Lebanon’s southern border is expected to jeopardize services that is driven by a decrease in tourist arriv- touristic activity and thus depress tourism receipts, als. A containment situation does not entail a drop in which is especially damaging in December (a peak remittances. Should the current conflict significantly tourism month). This would, in turn, weigh on growth. escalate, the human, economic, and social toll will be The net effect of the military confrontation on losses severe. A high-level analysis of the economic costs in foreign currency reserves is, however, unclear in of a significant escalation of the conflict in Lebanon view of the projected compression in imports that can is offered due to the uncertainty surrounding its be gleaned from the high frequency data on maritime manifestation, as well as the difficulty of discerning and air freight activity. the impact on real GDP growth in view of the multiple The strong upward trajectory in tourism channels of impact. activity and tourism receipts will be dented by the current conflict, pulling Lebanon’s fragile economy back into a recession. As indicated Impact of Current Situation I.  in section II, tourist arrivals are estimated to have (Containment) on Economic Growth increased by 26.4 percent (yoy) in September 2023 and by 25.3 percent in 9M-2023 relative to 9M-2022. Lebanon’s reliance on tourism receipts makes growth and current account dynamics very 33 Standard and Poor’s (2023). “Lebanon Tourism Likely to susceptible to a continuation or escalation of Take a Hit from Israel-Hamas War”, November 6, 2023. Special Focus: The Impact of the Conflict in the Middle East on the Lebanese Economy 25 Lebanon Is the Most Reliant on FIGURE 22 •  (Figure 23).34 The bulk of tourist arrivals has historically Tourism Receipts to Finance its occurred in second and third quarters of every year.35 Current Account, Compared to Nonetheless, tourist arrivals in the fourth quarter have Jordan and Egypt also been substantial. Absent the military conflict, 30 tourist arrivals would have been projected to increase by 42.1 percent (yoy) in Q4–2023.36 In line with the 25 decrease in tourist arrivals and tourism receipts Percent of Current Account Receipts (%) following the onset of the financial crisis in October 20 2019 and the outbreak of COVID-19 pandemic in 2020 (Figure 24), which brought about lockdowns 15 and travel restrictions, the current conflict is projected 10 34 Lebanese expatriates accounted for 43.4 percent and 45.9 percent of total arrivals in 2021 and 2022, 5 respectively. Arrivals by citizens of Arab countries accounted for 77.5 percent of total arrivals in 9M-2023. 0 35 Receipts from travel services in the fourth quarter Lebanon Jordan Egypt averaged US$ 269.4 million over the period 2019 to Source: Standard and Poor’s. 2021. This represents a significant decline relative to an average (for the fourth quarter) of US$ 481.1 million over the period 2012 to 2018. The data suggest that Lebanon was expected to enjoy 36 This projection is obtained from a well-specified a stronger tourism season compared to 2022, itself a Autoregressive Moving Average (ARMA) model, which accounts for the seasonal pattern in tourist arrivals that record year in the post-crisis period. Lebanese expa- can be gleaned from Figure 23. Formal econometric triates, which are not considered to be part of tourist tests (using seasonal dummy variables) confirm that flows, have accounted for about 44.3 percent of total tourist arrivals and receipts from travel services exhibit arrivals in 9M-2023 and sustained consumption a seasonal pattern. Upward Trajectory of Tourist Arrivals FIGURE 23 •  FIGURE 24 • …and of Travel Services Receipts to Lebanon Prior to October 2023 Prior to October 2023 1,400,000 900 1,200,000 800 700 1,000,000 600 800,000 US$ Million 500 600,000 400 400,000 300 200,000 200 0 100 2012Q1 2012Q3 2013Q1 2013Q3 2014Q1 2014Q3 2015Q1 2015Q3 2016Q1 2016Q3 2017Q1 2017Q3 2018Q1 2018Q3 2019Q1 2019Q3 2020Q1 2020Q3 2021Q1 2021Q3 2022Q1 2022Q3 2023Q1 2023Q3 0 2012Q1 2012Q3 2013Q1 2013Q3 2014Q1 2014Q3 2015Q1 2015Q3 2016Q1 2016Q3 2017Q1 2017Q3 2018Q1 2018Q3 2019Q1 2019Q3 2020Q1 2020Q3 2021Q1 2021Q3 2022Q1 2022Q3 Tourist arrivals Lebanese arrivals Source: WB staff estimates based on CAS. Source: BdL. 26 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS The Economic Effect of Lost Tourism Spending: Revised Real GDP Growth in 2023 under Three TABLE 4 •  Scenarios Real GDP Nominal GDP growth (percent) (US$ million) Pre-conflict baseline 0.2 18,169 Revised GDP growth and nominal GDP: 50% decline in travel receipts and spending by Lebanese –0.6 17,847 expatriates in Q4 2023 Revised GDP growth and nominal GDP: 70% decline in travel receipts and spending by Lebanese –0.7 17,718 expatriates in Q4 2023 Revised GDP growth and nominal GDP: 80% decline in travel receipts and spending by Lebanese –0.9 17,653 expatriates in Q4 2023 Note: Given the uncertainty surrounding the impact of the current conflict on Lebanon, specific forecasts for 2023 that take this conflict into account are not produced. However, the Special Focus analyzes the various impacts and channels through which the current conflict could affect Lebanon’s economy and the welfare of its citizens. to significantly lower the revenues from the export of Three scenarios are employed to reflect tourism services. the uncertainty pertaining to the potential drop A scenario analysis is undertaken to assess in receipts from travel services and spending by the effect of the drop in tourism spending on eco- Lebanese expatriates. These scenarios assume 50, nomic growth. The scenarios exploit data on tourist 70, and 80 percent declines in total tourism spending, arrivals, a forecast of tourist arrivals for Q4-2023, as defined as the sum of receipts from travel services well as estimates of the elasticity of receipts from travel and spending by Lebanese tourists, in the fourth services to tourist arrivals.37 Forecasts of receipts from travel services for 2022 and 2023 are produced at the quarterly frequency using (i) a well-specified 37 The elasticity of receipts from travel services to tourist arrivals is estimated using quarterly data for the period model and (ii) growth in tourist arrivals for 2023, the Q1-2012 to Q2-2022. forecast of receipts from travel services for 2022 as 38 Receipts from travel services are a component of the well as the elasticity of receipts from travel services current account. From the national income accounting to tourist arrivals.38 Moreover, a forecast of arrivals of identities, GNDI = Cp + IFp + Cg + IFg + IN + CAB, where Lebanese citizens for Q4-2023 is generated from a Cp is private consumption IFp is private fixed investment, well-specified time series model. is government consumption, IFg is government fixed investment, and IN is inventory investment. The current Receipts from travel services underesti- account balance is CAB = X – M + NFI + TR, where X mate actual tourist spending. Travel receipts for are exports, M are imports, NFI is net factor income from the first three quarters of the year have been realized abroad and TR are transfers from or to abroad. and, therefore, the impact of the military operations 39 For a more detailed discussion of the size of the cash along the southern border is confined to the touris- economy in Lebanon, please refer to the special focus tic activity in the fourth quarter. However, receipts of the Spring 2023 Lebanon Economic Monitor entitled “Gauging the Size of the Cash Economy in Lebanon”. The from travel services are likely to underestimate balance of payments statistics in Lebanon are compiled actual tourism spending due to (i) the prevalence of according to the IMF’s Balance of Payments Manual cash transactions in the economy,39 and (ii) some 5 (BPM5). Receipts from travel services are computed Lebanese expatriates, particularly those who have left based on data on passenger arrivals multiplied by the country recently, being misclassified as residents. average spending by nationality, payment card statistics To better estimate lost tourism receipts, the spending and withdrawals by nonresidents, and (iii) data from the real-time gross settlement system (and money transfer by Lebanese expatriates is accounted for as follows: companies). For further information, please refer to: BdL’s average spending per tourist in Lebanon is first com- External Sector Statistics Methodology. With the increasing puted and then multiplied by the number of Lebanese reliance on cash transactions, card payment data expatriates. significantly underestimate the size of the transactions. Special Focus: The Impact of the Conflict in the Middle East on the Lebanese Economy 27 quarter of 2023. After computing the loss in tourism 2006 conflict resulted in a death toll exceeding 1,000, spending, the effect on real GDP growth for each of left more than 4,000 civilians injured, and displaced these scenarios is examined. more than a quarter of the population.43 One clear dis- The scenario analysis indicates that irre- tinction between the present situation and the 2006 spective of the magnitude of the decline in tourism conflict is that the land borders with Syria were open spending, the tepid growth projection in real GDP in 2006, allowing several thousand Lebanese to seek growth for 2023 will be reversed. More specifically, refuge in a neighboring country. The current war in real GDP growth declines, respectively, to –0.6 percent, Syria prevents this option. Therefore, massive internal –0.7 percent, and –0.9 percent under the 50 percent, displacement is likely, with not much certainty on 70 percent, and 80 percent scenarios relative to the where is deemed safe. Another important distinction baseline of 0.2 percent growth (Table 4). That is, the between the present situation and the 2006 conflict is loss in real GDP growth (i.e., difference between the the presence of close to one million Syrian refugees growth under the baseline and each of the scenarios) in Lebanon. Finally, an escalation in the conflict could ranges from 0.8 to 1.1 percent. The decline in real GDP spur another wave of departure of skilled workers, is not expected to be long-lived because Lebanon will which will contribute to an additional toll on the coun- not suffer from destruction in physical and human try’s human capital. capital. Should the shock to tourism spending be lower The escalation of the conflict could than 50 percent, real GDP growth would be near zero. lead to a severe and long-lasting impact on The social impact of the crisis is likely to be Lebanon’s already weak infrastructure in the significant. Prior to October 2023, preliminary data electricity, water, and transportation sectors. from the 2022–2023 Lebanon Household Survey If key infrastructure in Lebanon is targeted (airport, (LHS) suggested that poverty continues to rise and major bridges, the port, southern suburbs of Beirut), household living conditions continue to deteriorate. massive destruction is likely. Unlike the 2006 conflict, Around three out of every five households considered financing from Lebanon’s own resources, the Arab themselves to be poor or very poor.40 As a direct result Gulf and other states is not likely to be forthcom- of a contraction in economic activity due to a disrup- ing. Restoring the damaged infrastructure to its tion in tourism, and political uncertainty, hundreds of pre-conflict state will likely be a long process, which tourism jobs will be put at risk. Internal displacement would exact a heavy toll on the country’s potential will also undermine IDPs’ access to crucial services, output and citizens’ welfare. not limited to education and healthcare.41,42 A significant escalation of the conflict The human and infrastructure impacts are would also permanently scar Lebanon’s growth expected to be limited. In the current situation of potential and carry grave economic implications. contained clashes, limited impact on infrastructure, If the operations of the banking sector, which is con- beyond weak and faltering infrastructure in the tending with a systemic crisis and whose functions absence of capital expenditure and large-scale invest- are grossly impaired, and money transfer companies ments in the current crisis, is envisioned. The human are disrupted during the conflict, the inflow of remit- toll will also be restricted to the border areas in view of tances would slow down depriving the economy of the displacement from Southern Lebanon as people flee border areas. 40 World Bank (2023), Macro Poverty Outlook – Lebanon (Link). 41 From the latest crisis update, covering the month of II.  Significant Escalation of the October. 42 For further information, please refer to Mercy Corps’ Conflict in Lebanon-High Level (2023). “Flash report: Palestinian-Israeli conflict: Analysis Humanitarian and development implications for Lebanon”, October 2023. The human toll of a significant escalation of the 43 Government of Lebanon (2006). “Rebuilding Lebanon conflict in Lebanon would likely be large. The Together... 100 days after”, November 21, 2006. 28 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS much-needed foreign exchange liquidity.44 Tourism to be massive relative to GDP. More specifically, an will come to a sudden stop at least for the duration escalation of the conflict could lead to a double-digit of the active conflict. Any private sector activity decline in real GDP relative to the baseline projection stabilization will also be reversed. Thus, a sharp con- of tepid growth. This decrease in real GDP is unlikely traction of economic activity is likely, with a lasting to be short-lived given the country’s binding financing effect, depending on the damage and length of the constraints and the fact that sizeable bilateral and escalation of conflict. The destruction in human and multilateral financing—akin to 2006 and 2007—will not physical capital will likely have a long-lasting effect on be forthcoming due to geopolitical factors and amid a Lebanon’s growth potential. sovereign default. Lebanon is ill-equipped to manage the Imports are expected to be severely sectoral effects of any escalation in the conflict. affected, with risks of shortages of food, fuel, and As the country is grappling with binding financing, rev- essential goods, and possible total blackouts. enue, and foreign exchange constraints, it is unlikely The import compression is expected to be severe if all to be able to address the humanitarian, economic, trade routes are deemed inaccessible (port, airport). infrastructure, social, and environmental effects of a The compression in imports will alleviate the loss significant escalation of the conflict (Mercy Corps, of foreign currency reserves albeit at a significant 2023). The situation is likely to worsen living conditions cost in terms of consumption and economic growth. further; with shortages in fuel and food threatening to Given that Lebanon is almost entirely dependent plunge the country into a humanitarian emergency. on fuel imports for private alternatives to electricity Deprived of fuel and essential medical supplies, the generation, an escalation of the conflict, causing fuel healthcare sector is unlikely to be able to cope with a shortages, could plunge the country into darkness. large-scale emergency. The exchange rate is expected in the The 2006 conflict in Lebanon is estimated to short to medium term to come under significant pressure. This will arise despite the compression have led to 10.5 percent of GDP in lost economic in imports, which is helping to alleviate exchange output and damages of US$ 3.1 billion (direct rate pressures. As import activity resumes, deposit and indirect). The 34-day conflict (July 12-August 14, outflows materialize, and ‘precautionary’ demand for 2006) provides a benchmark for the potential effects of US$ increases. The steady depletion in BdL’s reserves an escalation of the conflict. The World Bank estimates implies that the scope for exchange rate intervention forgone output in 2006 alone to be US$ 2.3 billion, will be limited. equivalent to about 10.5 percent of nominal GDP, and that 30,000 jobs may have been permanently lost 44 For example, akin to October and November 2019, banks whereas 200,000 people may have emigrated during could declare a banking holiday to stem a possible the hostilities.45,46 Lebanon’s infrastructure was also outflow of ‘fresh’ dollar deposits whereas money transfer severely damaged. The output loss from the 2006 companies might limit their operations should an intense conflict turned out to be smaller than anticipated by the bombardment occur. World Bank, and the infrastructure was rapidly repaired 45 World Bank (2007). “Lebanon Economic and Social due to significant bilateral and multilateral funding in Impact Assessment: From Recovery to Sustainable Growth”, January 20, 2007, Washington DC. the immediate aftermath of the conflict.47 46 The economic costs of environmental degradation The economic impact of an escalation of stemming from the 34-day conflict in 2006 with Israel the conflict, is estimated to materially exceed have also been significant. For further information, that of the 2006 conflict given Lebanon’s current please refer to World Bank (2007). “Republic of vulnerabilities. The intensity of the conflict could be Lebanon: Economic Assessment of Environmental Degradation Due to July 2006 Hostilities”, October 11, markedly higher than the 2006 conflict, which, in view 2007, Washington DC. of the significantly lower US$ nominal GDP in 2023 47 The Paris III conference that was held on January 25, (relative to 2006), would imply that the economic cost 2007, succeeded in raising US$ 7.6 billion of multilateral of a significant escalation of the conflict would prove funding, thereby sustaining economic growth in 2007. Special Focus: The Impact of the Conflict in the Middle East on the Lebanese Economy 29 A significant escalation of the conflict is systemic banking crisis, prohibitively elevated, thus estimated to halt and, ultimately, reverse the rendering capital and investment inflows to Lebanon meager investment and capital inflows into the completely unattractive. Investment sentiment is also country. In contrast to the 2006 conflict (and PM likely to be strongly affected and the prospects of Hariri’s assassination in 2005) following which capital finding investment opportunities in a country sinking outflows reversed rapidly, outflows (including of ‘fresh’ into infrastructural, institutional, and economic decay funds in banks) could prove to be more long-lasting. will be slim. An escalation of the conflict could also In fact, the heightened risk premiums following the disrupt the ongoing stabilization in private sector conflict would make the required return on capital, activity and adversely affect investor sentiment for a which is already high due to the sovereign default and long period of time. 30 LEBANON ECONOMIC MONITOR: IN THE GRIP OF A NEW CRISIS 1818 H Street, NW Washington, DC 20433