The next head of the Banque du Liban will inherit a shattered institution, collapsed economy and politicians unable to agree on a recovery plan.
(Bloomberg) — Wanted: A central bank governor to help reset a financial system that collapsed under decades of corruption and mismanagement, in a country whose currency is almost worthless and where the banking sector — once a bedrock of stability — faces losses nearly three times the size of the economy. The successful candidate must be able to navigate a complex political maze and has traditionally been a Maronite Christian. Complicating things further, the Shiite militia Hezbollah, designated as a terrorist organization by the US, could hold the deciding vote in the recruitment process.
It is fair to say that whoever takes over as Lebanon’s first new central bank governor in 30 years will have more to think about than just monetary policy. The roll call of candidates is short. And with just four days to go before Riad Salameh — blamed by some for the chaos and the subject of an Interpol Red Notice over money laundering allegations in Germany and France — steps down, there is no successor in place.
The country has been in a downward spiral since a financial crisis in 2019 triggered by a slowdown in remittances from Lebanese abroad and a drop in Gulf aid that combined to create a drastic decline in foreign inflows of dollars. Salameh became the face of the crisis. Protesters nationwide accused politicians of pillaging state coffers to benefit their cronies and saw the veteran governor as the enabler who bought time for the political class through the adoption of risky measures only to spark an economic disaster. The crisis has wiped out over half of the country’s gross domestic product in the past three years as the currency lost about 90% of its value.
Lebanon owed nearly $100 billion in debt at the end of 2022, including defaulted Eurobonds, and is run by politicians who have failed to agree, let alone execute a recovery plan. The country signed a preliminary agreement for a $3 billion bailout from the International Monetary Fund last year but must introduce reforms as part of the bargain. That has yet to happen. The IMF has asked for an audit of the central bank and other lenders to assess undisclosed losses and initiate financial sector restructuring, unification of the currency, and adoption of a capital control law — most of which need parliamentary approval.
Who runs the independent central bank always matters, but in a country which has suffered intermittent bouts of violence and political conflict that have on occasions paralyzed the state, it is even more important. Some critics believe Lebanon is on the brink of becoming a failed state in a volatile neighborhood. To the south it borders Israel and to the north and west, Syria whose 12 year civil war has led to more than 1 million people taking refuge over the border in Lebanon, adding to the strains on the economy of 5.4 million people. An explosion at the port of Beirut ripped through the capital and killed hundreds in August 2020, destroying the country’s bustling downtown and surrounding neighborhoods.
“What is needed is more transparency, more accountability,” said Nassim Nicholas Taleb, Distinguished Professor of Risk Engineering at New York University and a Lebanese-Amercian commentator, otherwise “it won’t make a difference who you bring in to replace Salameh.”
“The situation is driving the policy and that situation is a very limited amount of currency and an economy that’s already adjusting on its own,” said Taleb, referring to how companies are adapting to life without imports in a country whose foreign reserves have slipped below $10 billion.
Politicians have been in discussions about Salameh’s replacement — his term ends on July 31 — for months. Those talks were hastened on Wednesday when France’s President Emmanuel Macron dispatched Jean-Yves Le Drian, his personal envoy for Lebanon, to Beirut in a last-ditch effort to force an agreement among rival factions over the country’s vacant presidency, seen as one of the hurdles to appointing a new central bank governor. French officials have also met their counterparts in Saudi Arabia to discuss the potential power vacuum in Lebanon.
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By law, the first vice-governor should take on the role at the central bank, at least on a temporary basis, but Wassim Mansouri and the three other deputies have warned they will resign if a new permanent central banker is not named.
“The person that takes the helm of the Central Bank of Lebanon, at this difficult juncture, is someone who is ready to make personal sacrifices and pay a heavy cost,” Saade Chami, deputy prime minister and the country’s lead negotiator with the IMF, told Bloomberg News. “We need a person with unscathed integrity who is ready and willing to break away from the political class and act independently focusing on the main tasks of monetary policy without getting into territories that are not in the central bank domain.”
‘Deliberate Depression’
In 2009, Salameh became the first Arab central banker to ring in the New York Stock Exchange. It was interpreted as a reward for the job he had done restoring stability during Lebanon’s turbulent financial and political history. He took the helm of the central bank in 1993 with the country and economy shattered by 15 years of civil war and was credited with maintaining the currency’s peg to the dollar, which ultimately stabilized the import-dependent economy. He inherited an organization that owned a part share in the country’s only casino — it also owns Middle East Airlines. The 73-year-old has survived 12 prime ministers and 11 finance ministers in the time that he has run Banque du Liban, commonly known a the BdL.
His critics, however, say he inflated the role of the regulator throughout his tenure, repeatedly financing the government, designing financial programs to keep the system afloat and allowing various administrations to spend beyond their means. The central bank has been a main buyer of government debt. It holds over 60% of local-currency treasury bills and $5 billion of Eurobonds. It has also provided US dollars to the government to cover its import bill as most state revenues, taxes, come in local currency. The BdL also made Eurobond principle and coupon payments on behalf of the government, which would normally be expected to pick up the bill.
Salameh has repeatedly defended those policies, saying he bought time for politicians to enact reforms. But the 2019 financial crisis brought Lebanon to its knees and wiped out his legacy; the decades-old peg unraveled, a hole of about $70 billion in the financial sector surfaced and the country defaulted on its debt for the first time in its history.
The World Bank, in a 2022 report, dubbed Lebanon’s financial crisis a “deliberate depression orchestrated by the country’s elite that has long captured the state and lived off its economic rents.”
Lebanon had relied on US dollar inflows primarily from its vast diaspora to maintain the peg and finance large current account and budget deficits. So when deposit growth began to ease in 2015 coupled with instability at home and war in neighboring Syria, the central bank introduced what it called financial engineering operations, which the IMF repeatedly described as “unconventional” and urged the BdL to discontinue.
These operations offered local lenders high returns to invest in the central bank’s dollar term deposits and to do so banks had to attract fresh inflows with lucrative interest rates. A government rescue plan in 2020 revealed that commercial banks — lured by the higher returns — parked about $70 billion of their assets at the central bank.
The IMF estimates the operations attracted over $24 billion from lenders between 2016 and February 2019. Commercial banks scooped up the money by offering savers soaring yields, ensnaring retirees and salaried workers in an increasingly-risky program. Exposing the banks to such debt and deepening the link between the central and commercial banks proved catastrophic. At the onset of the 2019 crisis, banks imposed de facto capital controls on US dollar deposits. BdL simply didn’t have enough to support imports, intervene to defend the peg, finance deficits and most importantly meet its liabilities toward local lenders.
The crisis wiped out people’s life savings but also shattered confidence in the central bank. In May hundreds of protesters, mainly retired security personnel, tried to storm parliament buildings in downtown Beirut where MPs were in session after the pound passed 140,000 for every US dollar, a record depreciation. Some people have even resorted to robbing banks to take back their own money.
Salameh was accused by European authorities of indirectly benefiting from the sale of Eurobonds via a brokerage firm owned by his brother, Raja. Both men deny the allegation. European investigators have interrogated Riad Salameh and others in Beirut several times this year. The Interpol Red Notice — a request to law enforcement worldwide to locate and provisionally arrest a person pending extradition or similar action — followed the issuing of arrest warrants by both France and Germany over fraud and money laundering allegations after the central bank governor failed to turn up for questioning in Paris.
He has denied all allegations saying they were part of a media campaign to tarnish his image. He did not respond to questions for this article, but in a television interview on Wednesday — likely to be his last as governor — Salameh again defended his policy decisions, and himself against allegations of fraud and money laundering.
Asked about the allegations surrounding his brother’s brokerage firm Salameh said: “I confirm for the 10th time that no money came out of the central bank.”
The IMF, as recently as July 2019, described the Banque du Liban as a “linchpin of financial stability and the guardian of the peg.” But recent history records it as a major factor in the deep meltdown that is expected to usher in more conventional policies under Salameh’s successor.
“I think the successor would first need to communicate with the political class and the public and make sure they have their support to break from the past,” Bank of America Corp. economist Jean-Michel Saliba said. “More orthodox traditional accounting will allow a better understanding of the BdL balance sheet and income position.”
Vacant Position
Officials have approached several candidates about the central bank role but many are hesitant. Some have demanded guarantees from politicians including Hezbollah, which has the political and military power to disrupt any appointment, that they will accept the hard choices that come with an IMF deal such as more scrutiny on government accounts and taxes. Others are simply too afraid to take the job in a country that’s witnessed dozens of political assassinations, people involved in the discussion over Salameh’s replacement said.
Jihad Azour, the IMF’s Middle East director and a former finance minister in Lebanon, features on most candidate wish lists. He was briefly touted last month as the country’s next president — a position empty since October because politicians cannot agree on a candidate — but he was blocked by Hezbollah. Others on that wish list are HSBC and General Atlantic senior adviser Samir Assaf and Camille Abousleiman, a corporate finance and international capital markets lawyer at the law firm Dechert, and one-time labor minister.
The three have a lot in common: they work outside Lebanon in internationally recognized organizations in finance and they are Maronite Christians; the latter is convention under the country’s power-sharing system. The prime minister must be a Sunni Muslim, the president a Maronite Christian — the only Christian head of state in the Middle East — and the speaker of parliament a Shiite, a complex arrangement where any number of groups can block progress. Posts like the central bank governor and senior security chiefs fall into this bracket and are traditionally reserved for certain religious groups.
Azour, Assaf and Abousleiman declined to comment for this article.
Whoever takes over at Banque du Liban will face a deeply-divided, angry population, politicians who have dragged their feet on every aspect of a possible recovery and local lenders facing an existential crisis.
“The problem is parliament,” said Henri Chaoul, a former government adviser who worked on a financial rescue plan for Lebanon with the advisory firm Lazard Ltd. in 2020, “because any suggested changes to law have to ultimately go through parliament.”
This plan became the basis for negotiations with the IMF, but was opposed by the central bank, local lenders and parliamentarians. It was the first time financial sector losses were put on paper and very few wanted to admit to the scale of the problem. Chaoul quit a few months later because he saw “no genuine will” in the political class to reform. Others followed suit.
The omens are not good. Politicians and two consecutive governments have been discussing a capital control draft law since 2020 which the IMF insists is one of the main conditions to secure the bailout. They have been at loggerheads with banks and each other on how to distribute the losses and ways to repay small depositors. But first, they need to agree on the value of those losses.
The optimal way to avoid any delays in reform is to grant the executive branch exceptional powers and have a central bank governor willing to draw the line on financial support for the government and assert pressure for force through reform, former advisers and ministerial candidates said.
What is evident is that it’s getting more difficult for Lebanon to pick and choose reforms. Time is running out.
“On the policy front, Lebanon needs to have more transparency at the level of the central bank, unify the currency, stop financing the budget and enact institutional reforms including those listed by the IMF,” Bank of America’s Saliba said. “The reality is that if you remove one aspect of the whole puzzle, you might not be successful.”
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