Bassam Aoun
Last updated: 12 June, 2013

Will Lebanon’s banks cope with the crisis?

The banking sector is now the last peg holding up the tripod that is the Lebanese economy, ever since tourism and agriculture were essentially kicked out by the crisis next door. But the country’s big players in finance are also under increasing pressure.

While policymakers, both domestic and international, attempt to recalibrate this issue, Lebanon’s bankers have once again heard the calling: with great power, comes great responsibility. Valued at approximately $155 billion, this industry is currently the equivalent of over 387% of the nation’s GDP.

The sheer size of the Lebanese financial markets in relation to other sectors, combined with the increasingly bumpy sociopolitical rollercoaster surrounding the economy, was sure to attract additional regulator scrutiny at some point in the near future.

And so it has.

Moody’s, the credit rating agency that investors rely on to eliminate asymmetrical information barriers across a myriad of financial markets, has downgraded the outlook for three major Lebanese banks from stable to negative. Bank Audi SAL, Blom Bank SAL and Byblos Bank SAL all received the downgrade on their B1 long-term foreign-currency deposit ratings earlier last month. The decision came about vis-à-vis a range of factors, with the overarching reason being the preceding downgrade in Lebanon’s government bond rating from stable to negative.

Banking sector activity is set to reach a growth rate of 10% by year’s end

Moody’s analysts uncovered that these three banks in particular are significantly exposed to sovereign credit risk. Upon assessing the banks’ balance sheets, what stood out was the heavy investment in government securities. These holdings, coupled with the downgrade in state financial products, influenced the outlook shift on private banking institutions. In 2012, the direct exposure to credit risk from government investments averaged 378% of core capital for all three banks involved in the matter. The lack of diversification in the banks’ portfolios exacerbated the evaluation even further; the focus of the entities’ activities were found to be “primarily Lebanese,” thereby perpetuating the perception that the banking sector is overly exposed to exogenous risk.

The operating environment, or in layman’s terms, the socio-political situation in and around the nation, has also contributed to the negative pressure currently asphyxiating Lebanon’s financial industry. In addition to the impending economic reverberations that are sure to be felt from fiscal linkages with Syria, Egypt, and Jordan, the predicted increases in non-performing loans will damper already strained financial ratios. The standout repercussion from this will be a subsequent fall in credit quality, which will worsen the lending atmosphere for local Lebanese businesses that are already struggling to stay afloat. Analysts also criticized the lackluster guidelines used for rating asset quality currently utilized by bank representatives – the depreciation is allegedly understated by these benchmarks.

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As was salient in this decade’s fiscal crisis, the ability of the government to alleviate stressful pressures on the financial system is a vital indicator of national liquidity levels. Unfortunately, Lebanese authorities are lacking in this department as well, retaining a limited capacity to buoy “big banks” in the event of a rapid drain in deposits. Relatedly, public debt is set to increase past $55 billion, or approximately 140% of GDP, mainly due to the situation in Syria and what Moody’s defined as a “decline in the banks’ loss-absorption capacity.” This further highlights government authorities’ financial impotence on the matter.

In the event that loss-absorption capacity measures decrease further, or if the nation’s sovereign creditworthiness additionally weakens due to a poor operating environment, analysts may be prompted to consider yet another downgrade in the near future. On the other hand, improvements in these respects, particularly with regards to banks’ credit risk policies, could reverse this assessment for the better. With virtually all matters concurrently in flux, however, any significant improvements seem less feasible than usual.

Should you ask Lebanese bankers about the status quo, they may very well boast that their financial standing is not only adequate, but has actually been on the rise. According to Central Bank data, banking sector activity escalated from $151.9 billion in December 2012 to $155.1 billion by April 2013 – a 2.1% growth rate for the first four months of the year.

For the time being, the financial sector seems hardly affected by what Moody’s analysts have to say or do. However, some of the industry’s participants are openly expressing concern of what 2014 and 2015 will have in store for the market, particularly when the minimum required capital adequacy ratio is to be set at 8%.

Banking sector activity is set to reach a growth rate of 10% by year’s end. Nevertheless, given the unstable nature of regional politics and its unyielding ties to the health of the financial industry, Moody’s warnings should not be so easily dismissed.

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