Restructuring Lebanese banks: What’s in the pipeline?

On Friday, a draft law containing a section addressing restructuring losses was leaked.

Restructuring Lebanese banks: What’s in the pipeline?

A bank branch in Jounieh, Jan. 2024. (Credit: PHB/L'Orient-Le Jour)

After four and a half years of crisis, Lebanon’s decision-makers now appear committed to increasing efforts to enact the various regulations needed for the country’s recovery.

Following the release of the 2024 budget — which remains a topic of debate but was nonetheless promulgated last Thursday — and the publication of two circulars by the Banque du Liban (BDL) aimed at advancing the unification of the exchange rate, attention has shifted to banking restructuring and addressing Lebanon’s more than $70 billion in financial losses.

The two projects, initially slated for separate bills, have been merged into a single text, which was intended to remain confidential but was leaked to the media and social networks on Friday.

In a statement released late Friday night by the official National News Agency (Ani), Deputy Prime Minister Saade Chami said that the bill represented the “best possible” outcome given the country’s challenging circumstances. He also stated that the executive was “prepared” to address any feedback received.

When reached for comment, Jean Riachi, CEO of I&C Bank, expressed that the content of the text was “fairly satisfactory in terms of the technical aspects of restructuring, but less clear regarding how losses will be distributed.”

He remains hopeful that if the draft is passed as it stands, the stringent procedures laid out for sector restructuring will provide clarity on how the losses will be distributed.

Another bank executive, opting to remain anonymous, believes that the plan unfairly burdens the banking sector. “It places excessive demands on [the bank] to cover the losses and doesn’t involve the state or BDL adequately,” he said.

However, he concedes that “any regulation is an improvement over the current state of affairs,” a sentiment echoed by Wassim Manssouri, BDL acting governor of the BDL, during a conference in Beirut on Feb. 2.

Key measures

In terms of its content, the 60-page document, which L’Orient-Le Jour viewed, encompasses several crucial measures highlighted by Riachi.

“The first, which is particularly significant, involves mandating foreign banks to fulfill all owed deposits without undergoing the restructuring process,” he said.

In practical terms, this entails compelling banking groups headquartered abroad, where the Lebanese market constitutes only a fraction of their operations, to directly bear the losses associated with the Lebanese system’s collapse without transferring the burden to their clients.

“This is a perfectly reasonable measure given the circumstances, and I believe that, in any scenario, the brands in this position would not have consented to a restructuring in Lebanon, as it essentially acknowledges bankruptcy,” Riachi said.

However, he underscored the importance of clarifying the definition of a foreign bank in the draft to determine which brands operating in Lebanon will be affected.

The second notable addition is the incorporation of the principle of the hierarchy of rights and claims, which had been a contentious issue in discussions on this project in recent years.

“Regardless of the outcome, banks unable to reimburse the deposits they hold will undergo restructuring, entailing a reduction of their capital to zero,” Riachi said.

The vast majority of banks will be unable to evade this outcome, largely due to the losses incurred by BDL, which will only reimburse a fraction of their deposits.

Thirdly, the draft delineates a clear differentiation between deposits in foreign currencies established before Oct. 17, 2019, and those initiated thereafter, such as the conversion of funds into Lebanese lira amidst the system’s destabilization.

The proposal stipulates that banks ensure the phased reimbursement of deposits, up to $100,000 for depositors in the former category, and only $36,000 for those in the latter.

Imminent disaster

Another crucial aspect of the text is that deposits exceeding the ‘protected’ amount ($100,000 or $36,000) will be categorized separately and removed from bank balance sheets.

“This is a sensible measure, as it would have been unfair to burden the banks with $90 billion in deposits, especially considering that BDL will be significantly reducing its debt to the banks,” Riachi said. “One of the primary aims of the text is to save what can be saved.”

The ad hoc authority established within BDL to oversee this aspect will have three options for handling “unprotected” deposits:

· Bail-in: Involves converting a portion of the owed deposits into equity in the bank. This applies to a portion of deposits exceeding $500,000. It’s important to note that one dollar from the affected deposits is valued at a quarter of a real dollar. Therefore, a depositor would need to give up $4 of their deposits to acquire the same number of shares as an investor who injects 1 “fresh” dollar into the bank.

· Voluntary “lirification”: Allows depositors to opt for the conversion of a portion of deposits exceeding USD 100,000 into Lebanese lira. However, the conversion rate will be set at only 20 percent of the market rate.

· Conversion into securities: Depositors may also choose to convert the remaining balance into securities. These securities grant rights to a deposit restitution fund, the specifics of which remain ambiguous in the text.

The draft also introduces a provision requiring banks to request public sector depositors with deposits exceeding $300,000 to provide justification for the source of their funds.

“This measure is theoretically sound but impractical,” Riachi said. “It’s difficult to envision a scenario where a bank would reasonably allocate the resources needed to scrutinize a potentially compromised customer, especially considering the potential repercussions that could ultimately undermine the bank’s compliance and control procedures.”

Lastly, while the text is relatively forgiving toward bankers who emerge from restructuring by injecting new capital into their banks, it imposes a looming threat over bankers whose institutions face liquidation, with the potential seizure of their assets and legal action.

“It’s a combination of incentive and deterrent,” Riachi said. “The text motivates bankers to exhaust all options to evade liquidation and to reinvest some of their past profits into the system, even if it entails merging with another bank. Those envisioning an easy handover of their banks and a peaceful retirement are now facing considerable risks.”

‘Reducing risks’

The bill is an evolution of previous drafts initiated as early as 2022 under the current government but with many adjustments along the way.

According to Chami, the text was formulated by the executive branch, with support from the Banking Control Commission and BDL.

As of now, the central bank has not issued an official statement regarding the draft’s content. The interim governor had previously deemed it to be improvable, suggesting that modifications could be introduced during the aforementioned conference.

Additionally, there is flexibility for changes to be made both before its adoption and even afterward.

The draft was not on the agenda for discussion at the cabinet’s meeting on Thursday. In his statement, Chami clarified that the text had not yet been included in the executive’s agenda.

He then outlined the objectives of the bill, which include “protecting legitimate deposits,” “strengthening financial stability,” and “rehabilitating the banking sector to enable it to fulfill its role in financing the private sector and citizens.”

The overarching goal is to “promote growth” while considering the “sustainability of public debt and the continuity of public services,” all while “mitigating systemic risks within the Lebanese financial sector.”

Chami further emphasized that the final objective includes diminishing the country’s reliance on the cash economy, which could potentially harm the relationships between Lebanon’s banking sector and corresponding banks and international financial institutions. These objectives are outlined in Article 3 of the bill.

According to the bank executive who spoke on condition of anonymity, the imposed measures will primarily dissuade prospective investors from considering investments in the banks. “The proposed actions will undoubtedly have a lasting impact on bank revenues,” he said. 

This article was originally published in French in L'Orient-Le Jour. Translation by Sahar Ghoussoub.

After four and a half years of crisis, Lebanon’s decision-makers now appear committed to increasing efforts to enact the various regulations needed for the country’s recovery.Following the release of the 2024 budget — which remains a topic of debate but was nonetheless promulgated last Thursday — and the publication of two circulars by the Banque du Liban (BDL) aimed at advancing the...