No Skin in the Game: Lebanese Cronyism and the Lira's Collapse
Recently in Lebanon people were robbing banks in order to retrieve their own deposits.
The massive explosion that rocked the Port of Beirut and global media in 2020 caused an estimated US$3.8 - 4.6 Billion in immediate damage (World Bank, 2020) was but an insult to injury. That already eye-watering figure was dwarfed by the economic carnage inflicted on Lebanon by the Lira’s collapse that saw the GDP contract from US$52 Billion to US$21.8 Billion in 2021, the largest contraction in the world with triple digit inflation to boot (World Bank, 2021). In a short span of time, half of Lebanon’s population plunged into poverty and the perpetual inability to put food on the table, only exacerbated by their almost total dependence on Ukraine for grain imports (SIPRI). The Lebanon Economic Monitor declared that the economic crisis was among the worst in history.
Solutions are far from clear, but Lebanon can begin to clear the rubble by 1) banning culpable government elites from returning to governmental positions of power, 2) implementing the IMF’s policy recommendations, and 3) de-pegging their currency from the dollar and allowing a free-floating currency.
But what has brought Lebanon to this point? In short, criminal incompetence on the part of the ruling elite.
Once hailed as the ‘Switzerland of the Middle East,’ this small Mediterranean nation with friendly banking laws and booming tourism underwent a financialization of the national economy after the sectarian civil war that lasted from 1975 to 1990. To rebuild after the war, the Lebanese government relied almost entirely on debt, tourism, foreign aid, and oil money fueled Gulf-state rentierism. Moreover, with a diaspora hovering around three times the size of the resident population, foreign remittances also accounted for a large portion of incoming funds. All the while the local economy remains sclerotic due to government cronyism and sectarian squabbles that forces Lebanon to rely almost entirely on imports.1 It was only once the tide of foreign cash flow receded that the world realized that Lebanon was swimming naked.
As internal conflict once again reared its ugly head alongside other regional turmoil in Syria, Lebanon received a massive influx of refugees at the same time that Hezbollah rose to power. Arab Gulf states halted the flow of cash fearing Iranian influence and government budget deficits soared at the same time that remittances began to slow. Having pegged the Lebanese Lira to the US dollar, the Lebanese government did not have the nifty ace up its sleeve that countries like America have relied on since coming off the gold standard 1971 to finance bloated budget deficits—literally printing money. Instead, they began to borrow from its own banking sector, initiating what has now been called a state-sponsored Ponzi scheme (World Bank, 2022). Yes, the kind Bernie Madoff made famous. In order to lure dollars into its coffers Lebanon began offering irresistible interest rates for deposits in 2016 and like a herd of lemmings, yield-starved investors and sovereign funds piled in. Of course, there was no real way to pay up on these exorbitant promises.
The straw that broke the camel’s back came in 2019 when the government’s incapacity to effectively levy taxes—without, of course, irritating the rich elite—gave someone the brilliant idea to replicate the British Tea Act of 1773 and levy a tax on WhatsApp calls, the primary means of communication for the common populous. Mass protests erupted and toppled the sitting prime minister, Saad Hariri. Dollars fled the country and inflows dried up, causing the illusory USD/LBP peg to collapse. Capital controls were immediately instituted, and with no faith in the Lebanese currency and a near instantaneous dollar liquidity crisis, the black market rates for US dollars quickly soared to somewhere around 30,000 Lira for a dollar (the official peg is 1,500).
The price of a currency is the most important price in an economy, because it dictates the price of everything else. With most international trade denominated in dollars and Lebanon’s heavy reliance on imports, what this amounts to for the common people of Lebanon is a total collapse in buying power and near erasure of any banking savings. A savings account of US$50,000 prior to this collapse is now worth something like US$5,000 (IMF) and even then, withdrawal in US dollars (of your own account) is only manageable at gunpoint. The banks that service the common populous had lent out the majority of their assets to their own government, who no longer could pay it back. The result: Lebanese elite with the means fled the country, while the poor locals and refugees were left to fight for dollar-denominated scraps.
Whither now? While the IMF and others are willing and ready to come to Lebanon’s aid, no lasting change can occur without radical and comprehensive reforms. The IMF’s recommendations are 1) Tackling head-on the fundamental problem of weak governance including enhanced transparency, anti-corruption frameworks, and audits of the central bank and energy providers, 2) Implementing a fiscal strategy including debt restructuring and expanding social-safety nets for the vulnerable, 3) Pursuing a comprehensive restructuring of the financial sector including recognition of current systemic losses, and 4) Establishing a credible monetary and exchange rate system comprised of multiple exchange rates and temporary capital controls (IMF). In the short term, it is necessary to allow the USD/LBP rate to free-float, but in the long term, it may be wisest to decouple from the US dollar because future dollar hegemony is by no means guaranteed.2 The current decline and potential fall of dollar hegemony (Cao, Slawotsky) does not bode well for anyone reliant on the dollar (Hensman and Correggia), and frankly everyone ought to be terrified by the potential catastrophe that is waiting to happen in the global debt and credit derivatives market which totals up to more than three and ten times global GDP respectively (ISDA).
De-financialization never occurs organically, it only follows in the wake of collapses. However, the modern systemic propensity for rescuing the ailing entity (in some cases beneficially, of course) has dire effects for the long run evolution of the global system. When failed corporations, banks, or government regimes are rescued, or in the term popularized in the 2008 global debacle, ‘bailed out,’ mal-adapted organisms are allowed to survive and propagate. Darwinian nature’s worst nightmare come true. Lebanon’s existing structure and ruling class must not be allowed to survive. In order to reap long term gains, Lebanon must blacklist culpable parties, banning them from returning to positions of power in the government—they must be excised from the system like the malignant tumor they are. The IMF and other beneficent countries are in the precarious position of wanting to offer monetary aid but demanding that reform happens first, all while the common folk starve. Existing ruling elites stand in the way.
These are the realities of a global economic system run by opaque central banks operating with fiat currencies and Keynesian fiscal policy. Without what Lebanese quantitative trader turned essayist-philosopher Nicholas Nassim Taleb calls the principle of ‘skin in the game,’ Lebanon’s predicament will continue to occur in a variety of forms and scales across the globe (Taleb). In short, this principle states that if those in power making decisions for the masses do not partake in the downside of their decisions, systemic ruin is always right around the corner and justice will always evade us. This seemingly hidden asymmetry is responsible for so much of the woes of global society. Roger Fisher, professor of law at Harvard Law School and director of the Harvard Negotiation project highlighted this principle in memorable fashion in a piece for the Bulletin of the Atomic Scientists in 1981. On the subject of preventing nuclear war, he suggested a novel idea for placement of the nuclear launch codes:
My suggestion was quite simple: Put that needed code number in a little capsule, and then implant that capsule right next to the heart of a volunteer. The volunteer would carry with him a big, heavy butcher knife as he accompanied the President. If ever the President wanted to fire nuclear weapons, the only way he could do so would be for him first, with his own hands, to kill one human being. The President says, "George, I'm sorry but tens of millions must die." He has to look at someone and realize what death is—what an innocent death is. Blood on the White House carpet. It's reality brought home.
When I suggested this to friends in the Pentagon they said, "My God, that's terrible. Having to kill someone would distort the President's judgment. He might never push the button." (Fisher)
Similarly, if the cronies running the Lebanese financial system had before their eyes the prospect of a 90% collapse in value of their personal bank account that the common people experienced—by requiring them to keep their deposits in Lira, for example—the outcome of this all most certainly would have been drastically different.
Works Cited
Brown, Brendan. “A 100 Years of Dollar Hegemony.” Atlantic Economic Journal, vol. 48, no. 4, Dec. 2020, pp. 413–19. DOI.org (Crossref), https://doi.org/10.1007/s11293-020-09693-z.
Cao, Lan. "Currency Wars and the Erosion of Dollar Hegemony." Michigan Journal of International Law, vol. 38, no. 1, Fall 2016, pp. 57-118.
Fisher, Roger (March 1981). “Preventing nuclear war.” Bulletin of the Atomic Scientists. 37 (3): 11–17.
Hensman, Rohini, and Marinella Correggia. “US Dollar Hegemony: The Soft Underbelly of Empire.” Economic and Political Weekly, vol. 40, no. 12, 2005, pp. 1091–95. JSTOR, http://www.jstor.org/stable/4416354. Accessed 29 Oct. 2022.
IMF, “Lebanon and the IMF,” IMF, https://www.imf.org/en/Countries/LBN/faq. Accessed 29 Oct. 2022.
ISDA, “Key Trends in the Size and Composition of OTC Derivatives Markets in the First Half of 2021,” International Swaps and Derivatices Association Inc., December 2021. https://www.isda.org/a/tBngE/Key-Trends-in-the-Size-and-Composition-of-OTC-Derivatives-Markets-in-the-First-Half-of-2021.pdf. Accessed 29 Oct. 2022.
Lothian, James R. "Exchange Rates." The Oxford Encyclopedia of Economic History : Oxford University Press, Oxford Reference. Date Accessed 29 Oct. 2022 <https://www-oxfordreference-com.byu.idm.oclc.org/view/10.1093/acref/9780195105070.001.0001/acref-9780195105070-e-0252>.
SIPRI, “War in the Breadbasket: The impacts of the war in Ukraine on food security and stability in Lebanon.” Stockholm International Peace Research Institute,
https://www.sipri.org/commentary/blog/2022/war-breadbasket-impacts-war-ukraine-food-security-and-stability-lebanon. Accessed 29 Oct. 2022.
Slawotsky, Joel. "US Financial Hegemony: The Digital Yuan and Risks of Dollar De-Weaponization." Fordham International Law Journal, vol. 44, no. 1, October 2020, pp. 39-100. HeinOnline, https://heinonline-org.byu.idm.oclc.org/HOL/P?h=hein.journals/frdint44&i=45.
Taleb, Nassim Nicholas. Skin in the Game: Hidden Asymmetries in Daily Life (Incerto), Random House, 2018.
World Bank, “Beirut Rapid Damage and Needs Assessment (RDNA) — August 2020.” World Bank, https://www.worldbank.org/en/country/lebanon/publication/beirut-rapid-damage-and-needs-assessment-rdna---august-2020. Accessed 29 Oct. 2022.
World Bank, “Lebanon Economic Monitor, Fall 2021: The Great Denial.” World Bank, https://www.worldbank.org/en/country/lebanon/publication/lebanon-economic-monitor-fall-2021-the-great-denial. Accessed 29 Oct. 2022.
World Bank. Lebanon Public Finance Review: Ponzi Finance? World Bank, July 2022. openknowledge.worldbank.org, https://openknowledge.worldbank.org/handle/10986/37824.
It’s tempting to say that the only known export from Lebanon were its cedars (Psalms 104:16, 1 Kings 5:6, etc.), which ancients went to great lengths to procure, as exemplified by Herihor’s pitiable servant in the 11th-12th Century BCE Egyptian literary text Tale of Wenamun.
Dollar hegemony since the Bretton Woods Agreement of 1944 has allowed America to export inflation and hold the economic sword, so to speak, over the heads of nations it doesn’t get along with (Brown).