BEIRUT – A million dollar transfer here, a million dollar transfer there.

Day by day, week by week, Lebanese bank employees say they have watched while foreign reserves have hemorrhaged from the country, even as small depositors struggle to withdraw even minimal sums from their accounts.

“There’s nothing we can do about it,” said a Lebanese bank employee on condition of anonymity. “There’s butter for some and oil for the rest,” he said, using a Levantine expression to describe the haves and have-nots.

Lebanon has seen billions of US dollars flee from its financial institutions over the past two and a half years, capital flight that has accelerated in recent months as those with the wherewithal and connections race to export their cash holdings.

As the comparatively privileged secure their holdings abroad, the vast majority of depositors find their savings locked down or devaluated. That has Lebanon teetering towards what some economists see as a “financial civil war”, one that threatens to obliterate the nation’s middle and under classes.

Lebanon’s dire state of affairs has been building for years, with once-plentiful remittances channeled toward public debt and dollarized consumption rather than productive sectors. The central bank, tasked with maintaining the local currency’s peg to the US dollar, consequently upheld an import-based economy reliant on the greenback.

The stage was thus set for a financial meltdown in 2016, when the central bank, known as Banque du Liban, launched a mechanism known as “financial engineering” to prop up the peg. To attract US dollars from the banks, it offered high interest rates on Lebanese pounds, a formula some have likened to a Ponzi scheme.

A money changer counts Lebanese pounds with US dollars in the background in Beirut in a file photo. Photo: AFP

Financial engineering relied on a steady stream of remittances from Lebanese in the Gulf and elsewhere. Those dollar-denominated deposits, however, plunged following the abduction and forced resignation of then-Lebanese Prime Minister Saad Hariri by Saudi Arabia in October 2017.

Capital flight accelerated last autumn, as gas stations, unable to finance dollar-denominated imports with depreciating Lebanese pounds, went on strike – exposing the severity of Lebanon’s dollar crunch to the general public.

The Institute of International Finance, a global association of financial institutions, tracked roughly US$30 billion in capital outflows between the start of the fourth quarter of 2019 and the first quarter of 2020.

The data was gleaned from a documented rise in the amount of deposits held by Lebanese nationals in foreign banks recorded by the Basel-based Bank for International Settlements.

Faced with fast-dwindling foreign reserves, Lebanon’s parliament on May 28 deferred the passage of a capital controls law for the second time since the country’s financial meltdown began last September.

The situation has deteriorated since, forcing the government on May to request a $10 billion International Monetary Fund (IMF) bailout.

While de facto capital controls aimed at curbing money movements have been in place since November, when banks re-opened following an unprecedented two-week closure amid nationwide protests against decades of corruption and mismanagement by political elites, it remains legal, if not controversial, to transfer money out of the country.

The majority of Lebanon’s small-scale depositors now face rigid yet arbitrary controls on their holdings, with transfers tightly restricted and weekly, then bi-monthly withdrawal limits recently shrinking from hundreds of dollars to nil as regulators scramble to keep fast-fleeing capital domicile.

Nassib Ghobril, chief economist at Byblos Bank Group, one of Lebanon’s top banks, says the country witnessed a $23 billion drop in deposits between September and March.

At least half of that sum comprised companies and individuals using their bank deposits to pay off loans before any potential “haircut”, or currency devaluation, could affect them, Ghobril told Asia Times. The other $11 billion was split roughly down the middle between cash withdrawals and transfers abroad, he said.

Graphic: The Institute of International Finance

To put that sum into perspective, Lebanon’s gross domestic product (GDP) amounted to $55 billion in 2018, according to government statistics. That figure is believed to have contracted year on year in 2019.

The banking sector, Ghobril claims, has long been pushing for a capital controls law to protect their liquidity.

“The banks have been asking since early December of last year for capital controls to regulate transfers from Lebanon,” Ghobril said. It is the executive branch, not the banks, that has failed to curb capital flight, he argues.

“Despite efforts to contain the remaining foreign reserves in the system, we are still seeing a leakage of hard currencies to the tune of $1 billion per month,” Nafez Zouk, lead emerging markets strategist at Oxford Economics, told Asia Times.

While it is impossible to know how much of that sum has actually left the country, Zouk says it is probable banks have used foreign exchange-denominated deposits abroad to ensure select clients can access their funds.

Zouk tracked the leakage from September, when Lebanon’s longstanding pound currency peg to the US dollar began to unravel, through March.

He observed a notable exception in November, when the capital flight spiked to nearly $3.5 billion after banks re-opened following the two-week shutdown.

Other prominent figures have alleged that hundreds of millions of dollars left the country even during the period when the banks were closed.

In Zouk’s view, there is little reason to believe the leakage stopped after March, when the latest central bank data was published, given that nothing has changed legally or economically.

“[That] the government — until now — has not been able to adopt a capital control law…is a major governance and credibility problem for the authorities,” said Sibylle Rizk, director of public policy at the civic organization Kulluna Irada.

“In whose name do they speak and in whose name do they act?”

Lebanese Prime Minister Hassan Diab delivers a speech at the presidential palace in Baabda, east of the capital Beirut. Photo: AFP

Lebanese Prime Minister Hassan Diab, who came to power earlier this year following three months of nationwide protests against decades of political elite corruption and economic mismanagement, first tried to pass a capital controls law in March.

His cabinet failed to overcome opposition from nearly the entire spectrum of Lebanon’s sectarian political forces, who continue to control parliament and whose leading members and loyalists often sit on the boards of banks or are significant shareholders.

The Association of Banks in Lebanon in lieu of controls formulated its own guidance for emergency transfers abroad, including for overseas school tuition and medical equipment imports.

Those remain up to the discretion of each bank, however, and may vary depending on clients’ needs and history. Transfers of so-called “fresh money” deposited after controls were imposed are unrestricted.

Paul Morcos, a banking lawyer, says that while the public is justifiably upset over the discrepancy in massive transfers leaving the country while small depositors are barred from accessing their savings, the situation is legal.

“It’s unfair, it’s unethical, but it’s not a crime that the judiciary should prosecute,” he told Asia Times.

Morcos says his firm has taken up several cases of Lebanese seeking to get their money out of the country, or at least get their claim in the pipeline, before any new legislation makes it illegal – or before the money runs out.

“If they don’t get a positive response from the banks, they will at least get their rights before such a law is issued, because it won’t be replied retroactively.”

Capital outflows have not gone without scrutiny. In December, central bank governor Riad Salameh pledged to investigate reports that politicians, senior civil servants and bank owners had illegally engaged in suspicious financial transactions.

Hezbollah lawmaker Hasan Fadlallah, whose Shiite party has been shunned from the banking system due to the threat of US sanctions, claimed at the time that $11 billion had been transferred abroad in violation of restrictions, though he did not name names or note when or how the capital flight took place.

“[The] time has come to demand banks’ owners return their deposits and those of their relatives [to Lebanon],” said Muhammad Baasiri, a former vice governor of the central bank, in March. He suggested in a tweet that a “capital charge” be imposed on banks which continue to allow deposits to flee abroad.

A Lebanese demonstrator waves the national flag outside central bank headquarters in the capital Beirut on April 28, 2020, as anger over a spiralling economic crisis re-energized a months-old anti-government movement. Photo: AFP/Anwar Amro

In March, Lebanese prosecutors interrogated the president of the Association of Banks and the heads of the country’s private lenders over $2.3 billion that left the country in the two months following the October protests.

Nothing came of that investigation, which may have lacked legal justification, according to banking law experts.

The renewed push for a capital controls law is reported to have IMF backing. The IMF “supported Lebanon in its efforts to confine dollar transactions abroad to specific areas only,” Lebanon’s Daily Star reported, citing a source familiar with the talks.

“Putting the law in place so late in the game is more of a step for the future, i.e. a prerequisite to get foreign aid,” said Zouk.

The country is $90 billion in debt, amounting to over 170% of GDP, one of the highest such percentages in the world. The debt is so onerous that, in 2019, Lebanon spent half of state revenues to pay off interest expenses.

The World Bank in November warned that poverty in Lebanon would rise to 50% this year if the economic situation failed to improve.

With hundreds of thousands of businesses closing or slashing salaries amid the dual pressures of financial crisis and Covid-19 lockdown measures, and inflation spiraling out of control, the country may have hit that point already.

Frustration with galloping inflation and the financial sector erupted in late April, when protesters launched Molotov cocktails against bank branches across Beirut. The following day, banks began boarding up their branches with metal sheeting.

Investors in Lebanon’s debt have also been battered. A number of Lebanese banks last year offloaded Eurobonds maturing in 2020 to distressed asset funds and other foreign investors, namely the UK’s Ashmore.

The government defaulted for the first time in its history on a $1.2 billion Eurobond maturity in March, opting to save its dwindling foreign currency for critical imports like wheat, fuel and medicine over paying bondholders. 

Lebanon owes an additional $30 billion in outstanding Eurobonds over the next two decades, much of which was purchased by the banks themselves.

Lebanon’s central bank governor Riad Salameh gestures during a press conference at the bank’s headquarters in Beirut, November 11, 2019. Photo: AFP/Joseph Eid

The defaults and debts have put a spotlight on conflicting official figures for the current level of foreign reserves, prompting United Nations envoy Jan Kubis to publicly call in March for the central bank and government to harmonize their statistics.

The lack of coordination, he says, will “only weaken Lebanon’s position in talks with the IMF.”

In April, the government hired three international firms to conduct an independent audit of the central bank, with the stated goal of uncovering the underlying causes of the current financial morass.

Salameh insisted in a late May media interview that the central bank still has $30 billion in foreign reserves and that “the capital of the central bank remains positive.”

According to the government, the central bank has accumulated more than $40 billion in losses, which it says is the result of years of loss-making transactions aimed at securing foreign reserves to defend the currency peg and cover a balance of payments gap.

Salameh emphasized that the central bank is still able to finance key commodity imports, including of fuel and wheat, for which it provides US dollars at the pre-crisis exchange rate of 1,500 Lebanese pounds to the dollar. In official exchange shops, the rate is now 3,200 and over 4,300 on the black market.

Despite Salameh’s assurances, the dollar, once interchangeable with Lebanese pounds, has nearly disappeared from daily transactions and ceased to be an option for ATM withdrawals. Last autumn, banks limited dollar interchangeability for all but those with US dollar deposits and subject to limitations.

Those dollar accounts are increasingly being “lirafied”, or forcibly changed by banks into Lebanese pounds, also known as lira, with depositors only able to withdraw in the depreciated local currency at market rates adjusted daily.

Merchants importing everything from glass to car parts are now forced to resort to the parallel market, where the value of the pound has plunged by more than 50% against the dollar since September.

Lebanese pound currency notes packed on shelves inside a safe at Lebanon’s central bank in Beirut in a file photo. Photo: AFP/Ramzi Haidar

Diab’s government and the Association of Banks have laid out dueling visions for a way out of the crisis.

In April, the government said it aims to recoup losses from those who reaped the greatest benefit from questionable financial practices, including “financial engineering.”

Diab pledged that the vast majority of Lebanon’s depositors would not have their accounts touched, but that the government would instead look to the wealthiest top 2% to help cover the central bank’s losses.

That prospect angered political leaders from across the spectrum, with Parliament Speaker Nabih Berri claiming that deposits are “sacred”, while former prime minister Saad Hariri called the plan “economic suicide.”

In a country where wars and corruption have forced millions to seek their livelihoods abroad and build businesses without support from the state, any “bail-in” of the wealthy is controversial.

“You have those who benefited who took their money out, so they don’t care. The issue is with the normal people who have worked and earned money all their lives and their life savings now are threatened. For these people it’s now a tragedy,” a Lebanese banker told Asia Times on condition of anonymity.

A counter-plan put forward by the Association of Banks calls for the privatization of state assets to pay back money the government owes to banks.

Critics say the plan only addresses money owed by the government to private banks, which is denominated mainly in depreciating Lebanese pounds, but fails to account for the estimated $40 billion owed by the central bank.

The central bank owes $75 billion to commercial banks, but it doesn’t have the dollars to pay, threatening the wealth of a nation where half of all savings have been deposited in dollars.

“The underlying assumption is you never give people their dollars back in real dollars,” the banker said.

Bank customers in front of a locked and secured Bank of Beirut branch. Photo: Facebook

Lebanon is now in the midst of “a banking sovereign debt crisis, unraveling 30 years of bad economic policy, and it’s going to hurt everyone,” Zouk said. “There is obviously going to be a civil war between the banks and the government” over who bears the cost. 

He contends that banks must accept their share of the blame, given that for years they bought bonds from a government they knew was sinking deeper and deeper into debt.

“We all know in Lebanon there’s [a] tight symbiosis between the political class and banking class. For [the banks] to point fingers is completely absurd,” he said.

To be sure, it is the average Lebanese who will feel the most pain, with the middle class sinking into poverty and the poor faced with hunger.

“One of our main concerns concerning the policy of the central bank is that until now the burden of the losses has been put on the shoulders of the weakest part of society — the Lebanese citizen at large,” said Rizk.

Meanwhile “the banking sector has been able to continue business as usual, as if they were not bankrupt.” 

Alison T Meuse is the Asia Times Middle East editor and correspondent.