A bank branch on a street in Jounieh, January 2024. (Credit: PHB)
There is growing pressure from some groups and policy makers for banks to resume lending, along with calls for a new law that requires borrowers to repay new loans denominated in dollars, in the same currency.
They see this step as necessary to reactivate the banking sector, finance investment and stimulate economic growth. While everyone agrees with the premises of this proposal, it must be carefully considered, given the fragility of the banking sector and the severe economic and financial conditions Lebanon is experiencing.
The banking sector’s foreign currency assets are significantly lower than its foreign currency liabilities, with a gap exceeding $70 billion. As a result, depositors have been unable to access their deposits prior to Oct. 17, 2019, and all "lollar" deposits made after, except for very limited amounts under strict conditions set by the Central Bank (BDL) circulars. On the other hand, a new category of dollar deposits made after that date (the “fresh dollars”) is accessible without restrictions.
In this context, a crucial question arises: Should banks, which are de facto (but not de jure) insolvent, be allowed to allocate their scarce dollar assets to finance new lending? Should such lending be limited to fresh funds under a separate window? What are the potential benefits of resuming foreign currency lending?
Assessing the risks
These complex issues require a thorough assessment of the associated risks.
First, with banks insolvent and with [nearly] zero capital, resuming lending would likely violate prudential and regulatory rules. Banks could only do so if they obtain more capital and a comprehensive banking restriction plan is put in place.
Second, the argument for resuming lending is based on the fact that the banking sector has a limited supply of “fresh” dollars or on releasing part of the BDL’s reserve requirements. However, the fresh dollars must be matched by dollars in vaults or with correspondent banks, meaning that there is no real fresh money available for lending. Using safe reserves for risky loans carries risks for depositors. Even with additional capital, the benefits of lending new dollars would likely be limited, as large Lebanese companies can already borrow from banks abroad. The loans would be used primarily for consumption rather than investment, which is undesirable in the current circumstances. Moreover, borrowing costs would be high because of the risks, which could not only restrict demand but also increase non-performing loans.
Ethical concerns and opinions must also be taken into account.
Allowing banks to lend in dollars while depositors cannot access their funds could exacerbate social tensions and spark legal challenges. Moreover, lending in dollars risks further straining banks’ dollar liquidity, making it difficult for them to meet their obligations to depositors, even for limited amounts, as stipulated in current BDL circulars.
Another risk is the asset-liability mismatch.
In a crisis where deposits far exceed available assets, banks face severe liquidity constraints. Even if fresh dollar deposits are available, they are typically short-term and withdrawn as soon as they are received. New lending, which typically involves longer maturities, could worsen the maturity mismatch, increasing risks for banks and depositors.
Finally, there are the risks of currency depreciation. Requiring borrowers to repay “fresh” dollar-denominated loans in dollars would mitigate currency risk for banks, but not for borrowers. A further depreciation of the pound could undermine the ability of businesses and individuals to repay their dollar loans, particularly if part of their income is denominated in local currency. This could increase non-performing loans, further weaken banks’ assets, and compromise depositors’ access to their funds.
Priority to restructuring
Given the significant risks involved, which far outweigh the potential benefits, monetary authorities and the government should focus on restructuring the banking sector as a priority.
In the past, different versions of the bank resolution law have met strong opposition from various parties. It is also essential to ask why a bill on the repayment of dollar loans should take priority over more important legislation related to the crisis. For example, the capital control law – which has been under discussion for nearly five years – has still not been adopted. A piecemeal approach to banking sector reform would reduce the pressure on policymakers to adopt a comprehensive reform program that includes a series of measures to rehabilitate the sector and put the economy on the right track.
Given the current crisis, extreme caution should be exercised before resuming foreign currency lending. The focus should be on rehabilitating the banking sector through a comprehensive resolution plan that would allow lending to resume on a larger scale and at lower rates, to the benefit of depositors if the bulk of the profits generated by such lending is allocated to deposit recovery. Even then, regulators should impose strict rules with clearly defined parameters to avoid exacerbating an already difficult situation and to respect broader economic stability objectives.
While resuming lending could potentially improve activity, any law allowing dollar loans and repayments in the same currency should be part of a broader, well-integrated reform package, rather than a stand-alone measure catering to special interests.
Saade Chami is the caretaker deputy prime minister.
This article originally appeared in French in L'Orient-Le Jour.