Deadlock or shadow plan, why isn’t there movement towards an IMF deal?

A year on from signing a staff-level agreement with the IMF, Lebanon is still a significant distance from securing a financial rescue deal. Some suggest the delays are intentional; others disagree. And the deal has its skeptics. 

Deadlock or shadow plan, why isn’t there movement towards an IMF deal?

The IMF logo at the entrance of the Fund headquarters in Washington. (Credit: AFP/File)

BEIRUT — A year after a staff-level agreement (SLA) with the International Monetary Fund (IMF) was signed, Lebanon is still very far from a final agreement that would allow the country to access a $3 billion loan to help restart its economy. The reason for the holdup? Unfinished prior actions requested by the Fund.

Of the 10 prior actions — the exact number is disputed because it depends on how narrowly each one is defined — caretaker Deputy Prime Minister Saade Chami, the person in charge of Lebanon’s negotiations with the IMF, says just three have been implemented. Chami is himself a veteran of the IMF.

The seven remaining include many of the most contentious and difficult changes the government is being asked to undertake in exchange for a bailout.

In particular, political parties have been unable to come to a mutual agreement on the distribution of financial losses — an issue that has barely moved in the deadlocked Parliament that resulted from last May’s elections.

Setup of the negotiations

Lebanon formally requested IMF assistance in May 2020, seven months after it became clear the country was in dire economic straits. But negotiations hit a deadlock by July of that year after Banque du Liban, the Association of Banks in Lebanon (ABL) and MPs rejected the Hassan Diab government’s IMF-endorsed estimate of the size of losses in the financial system (more than $90 billion). Negotiations were resumed in January 2022, four months after the third Najib Mikati cabinet gained confidence, leading to an SLA four months later.

In October 2021, shortly after Mikati’s cabinet took office, it was announced that the government’s negotiating team would be led by Deputy Prime Minister Saade Chami and include Finance Minister Youssef Khalil, Economy Minister Amin Salam and BDL Governor Riad Salameh.

However, according to Sam Heller, a researcher with US-based think tank Century International, “Saade Chami heads a negotiating team that is ostensibly larger and more inclusive of various interests and power centers than himself but … in practice, it seems like he’s basically on his own. He has no dedicated staff. He has, depending on who you ask, one or two advisors as well as some outsiders who he may consult, but he seems kind of out on a limb.”

“The reason this matters is you end up with an SLA that officially has the collective endorsement of Mikati’s cabinet and the three presidencies [of the republic, of the government and of Parliament], both for the SLA and for the government reform plan that underpins it, but that in reality has very little political buy-in,” he explains.

Heller says that not much has been done to explain the document to the political class and convince them of its usefulness. Which results in a discourse that goes in all kinds of directions and parliamentarians who amend the text into a draft law that’s unacceptable to the IMF.

According to a November 2022 report by Olga Jbeili, a senior economic researcher with the Arab NGO Network for Development, and colleagues, “While the caretaker government officially negotiates with the IMF and endorses agreements with them, others, such as the Finance and Budget Committee in the Lebanese parliament, oppose government initiatives, with some appearing to advocate for the interests of the banking sector and big depositors, especially regarding the distribution of financial losses.”

Indeed, when the Mikati cabinet presented its recovery plan along the policy lines of the SLA last May, virtually all establishment political parties assailed it for not protecting large depositors and bank shareholders, although the plan reportedly envisioned protecting 92 percent of depositors from haircuts.

In a recent interview with L’Orient Today, Chami said he did not know if “the political class has a well-orchestrated plan to isolate me but the mere fact that they are not doing what they are supposed to and I have been pushing and arguing for, could be interpreted as isolation.”

Read also:

A year on from the IMF staff-level agreement: Lebanon’s caretaker deputy prime minister answers some questions

Following the signing of the SLA, Chami’s office sent draft legislation written in consultation with the IMF to Parliament. Some of it — like restructuring of the banking sector and the capital control law — has not made it out of the legislature.

Other laws, like the banking secrecy law, were passed but with amendments the IMF found unacceptable. The 2022 budget was passed shortly before the end of the year — and Chami told L’Orient Today that the IMF considers that prior condition therefore fulfilled — but many outside observers said the budget lacked a rigorous macroeconomic foundation.

In his L’Orient Today interview, Chami denied that progress on the prior conditions requested by the IMF is stalled, saying “it is moving at a very slow pace.”

As a factor in that slowness, he cited the well-known institutional deadlock, saying: “Under the political circumstances, and the constitutional debate that is raging in the country as to whether the Parliament can legislate in the absence of a president, the process of reform has almost stalled when Parliament cannot meet to legislate.”

Chami also added, “There is no political will to really forge ahead with the required reforms, because some of the reforms are probably not popular.”

Some people, however, have a different view of the slow pace of movement on the IMF’s prior conditions, one centered around what some observers are calling the “shadow plan.”

Shadow plan

Critics of the government have suggested that the delays are at least partly intentional. Last month, Lebanese political NGO Kulluna Irada told a visiting IMF delegation that the negotiations were merely “a means to buy time” while the government implements a “shadow plan to liberalize deposits and burden society with the losses realized in the banking system,” according to a statement from the group.

“What began as an obvious convergence of interests evolved rapidly into a deliberate — but implicit — strategy implemented by Riad Salameh,” said Sibylle Rizk, public policy director at Kulluna Irada. “What we refer to as a shadow plan is the deliberate decision to lirafy deposits and inflate the financial system out of the crisis.”

Lirafying deposits is the process of converting foreign currency deposits into lira at values below their face value in the original currency.

Rizk says she is skeptical that the delays in progress towards an IMF deal can be attributed to the deadlock in the Parliament — which is theoretically limited to an electoral function until it elects a president — and the fact Lebanon’s cabinet is not fully empowered, having assumed caretaker status following legislative elections in May last year.

“Cabinet and Parliament are facade institutions to a de facto non-democratic system that does not abide by the constitution, laws and regulations,” she said. “Instead there are entrenched political-sectarian-financial powers that rule the country according to their own interests. They pass through institutions — parliament, cabinet, etc. — when they need to do so. Otherwise, power is exerted de facto …. There is an implicit deliberate plan that serves the interests of the sectarian kleptocracy at the expense of Lebanon’s social fabric and public interest.”

For Sam Heller, the notion of a “shadow plan” reflects the practical outcome of the political class’s seeming unwillingness to move towards a final IMF deal.

Heller says the “shadow plan” is likely not something its actors have consciously crafted.

“It seems more likely that you’re looking at a situation where it’s more of a de facto consensus … at which these various political and economic factions have arrived.”

Heller also cited the “total incoherence” of Lebanese political discourse around the IMF deal and the resulting “cacophony” in politics and the media.

“It seems like we are now several years into the alternative to an IMF program, which is this kind of managed collapse … a sort of economic correction that is hugely painful and costly and that comes at the expense of the country’s most vulnerable,” said Heller.

Heller and Sami Zoughaib, an economist with The Policy Initiative, co-authored a report on Lebanon’s negotiations with the IMF forthcoming in May.

Political opposition

Donor-country diplomats and representatives of international institutions continue to publicly insist on the necessity of Lebanon achieving an IMF deal, often describing it as the only path out of a prolonged depression.

On Wednesday ambassadors from six western countries, Japan and the EU, issued a joint statement calling on “all Lebanese leaders to rediscover the sense of responsibility and urgency they recognized last April,” when the SLA was signed.

In his recent interview with L’Orient Today, Chami made similar points, arguing that the IMF prior actions constitute reforms that Lebanon ought to undertake with or without an IMF program, arguing it would be better to do them with an IMF agreement rather than without, and that an agreement could open the door to additional international funding.

Heller, for his part, said of foreign diplomats that “many of them believe privately that Lebanon is unlikely to achieve [an IMF deal].”

One constituency resisting the IMF’s reform requirements seems to be a faction within the banking sector and their allies.

Jbeili and her report co-authors have written that “colluding business and political elites increasingly oppose the IMF deal, with the realization that a potential distribution of financial losses will be to their disadvantage.”

In June 2022, ABL wrote a letter to the IMF saying the SLA is based on “misguided Lebanese ‘civil society’ talking points,” and could “unfairly disenfranchise ABL.” Some banks immediately distanced themselves from the letter and ABL promptly issued a statement that it did not “completely oppose” the SLA.

The episode highlighted divisions within the banking sector, which had previously led to confusing positioning. On April 8, 2022, ABL said it welcomed the signing of the SLA, only to say on April 23, 2022, that it “completely rejects” the government’s “disastrous [recovery] plan,” which was largely aligned with the SLA’s policy proposals. In August, ABL “confirmed its support” of the SLA.

Other voices have argued that the IMF’s requirements constitute political interference in domestic affairs or that the fund’s decision-making is influenced by US foreign policy objectives. Hezbollah deputy chief Naim Qassem claimed last year that the US “instructed” the IMF to not get involved in the much-delayed Lebanon-Jordan-Egypt energy deal.

The IMF did not respond to a request for comment on the claim.

Potentially reinforcing rhetoric of the IMF being linked to US foreign policy objectives, in March the institution changed its lending rules by relaxing some of its criteria for debt sustainability to allow itself to provide a loan to Ukraine. In response, US news website Axios said, “the institution — which has long tried to position itself as technocratic and apolitical — could be perceived as more overtly acting as a policy tool of the US and Europe.”

The IMF told Axios that the rule change is “a framework to support countries — any country — in circumstances of exceptionally high uncertainty, including, but not limited to, in cases of active conflict.”

The IMF did not respond to questions sent by L’Orient Today, including whether the rule change might have implications for Lebanon’s IMF negotiations, instead directing L’Orient Today to existing press materials.

Is the current IMF proposal the right plan?

Lebanese economists and policy experts have also raised their own concerns about the current content of the SLA.

Jbeili echoes Chami’s argument that some of the reforms demanded by the IMF — financial sector restructuring, an audit of BDL, tax policy reform and so on — are ones that Lebanon needs to undertake no matter what, but cautions about the effects of other conditionalities, in particular SOE reform and unifying the exchange rate, as both carry potential risks for Lebanon’s most vulnerable depending on how they are implemented.

“Some structural adjustment programs linked for instance to reforming state-owned enterprises (SOEs) and fiscal consolidation including the gradual liberalization of the exchange rate must not be enacted at the expense of increasing socio-economic vulnerabilities,” she told L’Orient Today. “It is important to enact legislation clarifying governance, roles and responsibilities of the state (as an SOE owner or manager).”

Hussein Cheaito, an economist with The Policy Initiative, noted that the private sector in Lebanon is rife with patronage networks and conflicts of interest with the very government that would be responsible for contracting out the responsibilities of SOEs. In practice privatization could mean “we would end up in a situation where … there is price gouging and basic social services from health, education, and otherwise become largely inaccessible to the wide majority of society.”

Cheaito also criticized “the lack of specificity” in how a unified market exchange rate will be determined and the real value of the currency ascertained. “All of these questions are really just left open to interpretation,” he said.

Jbeili cautioned against a possible “liberalization of the exchange rate … at the expense of increasing socio-economic vulnerabilities,” citing the recent devaluation of the Egyptian pound which, she said, worsened poverty there.

One of the goals of the SLA is for Lebanon to achieve debt sustainability, in part through “revenue-generating and administrative reform measures to ensure a more equal and transparent distribution of the tax burden,” per the IMF’s press release announcing the SLA. A technical report on Lebanese tax policy released to the public in January 2023 gave more specifics on the revenue-generating measures needed for the state to be fiscally viable but Cheaito argues the Fund leans too heavily on taxes like VAT, which can hit the poor and middle classes hardest, rather than progressive taxation.

Regardless of how revenue is raised, new research from the IMF itself has raised interesting questions about the relationship between fiscal consolidations — revenue hikes and/or spending cuts — and debt reduction.

The IMF’s 2023 World Economic Outlook report, published this month, goes so far as to state that, contrary to conventional wisdom that raising government revenues and reducing expenditures brings down the debt-to-GDP ratio, “the average fiscal consolidation has a negligible effect on debt ratios.” This is because they require domestic and global economic conditions — such as growth in the domestic or global economy, and low “global risk aversion and financial volatility” — that are not always present. And “partly because fiscal consolidation tends to slow GDP growth,” which has a negative effect on the debt to GDP ratio.

In a commentary on the report, University of Massachusetts economist Jayati Ghosh said that unintended consequences of the IMF’s programs, “which tend to require indebted countries to shift to market-determined exchange rates, raise interest rates, and cut state subsidies,” could undermine debt-reduction efforts in contrast to policies that “restore growth.”

“The IMF’s staff seems to be unaware of its latest report or has chosen to ignore it. The Fund’s recent financing programs include onerous conditions that will most likely have extremely damaging effects on developing countries’ populations and economies,” she added.

The IMF did not respond to requests for comment on these claims.

One Lebanon-based IMF employee involved in negotiations with the Lebanese government told L’Orient Today that an IMF program would consist of “a highly concessional loan … [with] extended grace periods and low interest rates compared to the market ones.”

Despite this, for Jbeili, “This loan will pave the way to additional built-up loans that are unsustainable in the absence of clearly established checks and balances and in the absence of a national integrated economic development strategy that will identify productive sectors able to support Lebanon’s recovery by creating jobs.”

She adds that what is needed is “a strong, informed and transparent negotiating team,” “a clear debt restructuring pathway” and “a political will to enact much-needed reforms.”

Without those, she says, adding more loans to the debt-ridden country does not seem like a long-term sustainable solution to lead Lebanon on the path of recovery.

BEIRUT — A year after a staff-level agreement (SLA) with the International Monetary Fund (IMF) was signed, Lebanon is still very far from a final agreement that would allow the country to access a $3 billion loan to help restart its economy. The reason for the holdup? Unfinished prior actions requested by the Fund.Of the 10 prior actions — the exact number is disputed because it depends on...