One helpful rule before you engage in a game of chicken is not only to assess your opponent’s courageousness but to examine what kind of vehicle he will be driving. The risk-reward ratio for a driver of an 18-wheel semi-trailer is dangerously unfavorable if you’re competing with an Austin Mini.
Yet over the weekend, Lebanon decided it would play chicken with the people to whom it owes $90 billion under those conditions. Prime Minister Hassan Diab announced that his country would not be paying the $1.2 billion due on March 9 and offered to enter into “fair” negotiations about winning better terms. He’s now waiting for an answer.
The announcement is both momentous and unsurprising. Lebanon has been financially unviable for years due its corrupt, dysfunctional government and the fallout of the Syrian civil war. It survived thanks to cash infusions from Gulf countries, tapping international debt markets and finally by luring deposits from overseas with what many observers have likened to a government-sanctioned Ponzi scheme.
None of that was used to buy time to improve Lebanon’s economic fundamentals. Instead, Lebanon is poor, economically uncompetitive, and as badly governed as ever while carrying one of the world’s heaviest debt loads relative to its GDP.
Diab justified the decision to restructure (which in effect means default) on the grounds that the country faced a stark choice between handing over badly needed cash to a bunch of global plutocrats or making sure that ordinary Lebanese can feed their families. “How can we pay creditors abroad when the Lebanese cannot get their money from their bank accounts?” he said. “Our debt has become greater than Lebanon can bear, and greater than the ability of the Lebanese to meet interest payments.”
But the choice isn’t quite as stark as Diab made it out to be. The credit rating agency Moody’s has warned that default is going to wreak havoc on Lebanon’s banking sector, which the government has now in effect acknowledged is insolvent. It will have to be recapitalized at great cost to the economy and quote probably to depositors.
Default is almost certainly going to come at a huge direct cost to ordinary Lebanese. The country is highly dependent on imports but, given its new deadbeat status, it is going to be harder for importers to get the letters of credit they need to bring goods in. The Lebanese pound actually appreciated slightly after Diab’s announcement, but that was after it had lost more than 60% of its value on the black market since anti-government protests erupted last October. In any case, it’s been next to impossible to buy dollars at all since the weekend.
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A sharp depreciation of the pound is inevitable and will raise the cost of living in a country already reeling from the effect of the financial crisis. Maybe, a weaker pound will spur businesses to step up local production, but that will take time and may not happen at all give the country’s poor business environment. Meantime, Moody’s estimates that a just a 20% depreciation of the pound will, all other things being equal, increase Lebanese government debt to 200% of GDP from its already sky-high 170%.
Heading for trouble
This might all be worth it if Lebanon stood to get a good deal from its creditors. Other countries, like Argentina and Ukraine, have defaulted, negotiated better terms and were welcomed back into the international credit market.
The problem is Lebanon is playing chicken while driving an Austin Mini and while its creditors are behind the wheel of a Mack truck.
The creditors could keep Lebanon in court for years if they want to and meantime deprive it of access to the credit markets. They may even be able to impound government assets abroad.
But Lebanon’s main problem is that it has no friends, or at least none of any use to it in a financial crisis. The Gulf states have little money and even littler appetite for helping a government they regard as controlled by an Iranian proxy, Hezbollah. Western countries have the same problem and, in any case, are conditioning $11 billion in help on structural reforms that Beirut has barely even tried to act on.
The most obvious friend of all for countries in dire straits is the International Monetary Fund, but except for some technical assistance, Lebanon has not even asked any aid – or more precisely, Hezbollah refuses to let the government ask for it because it regards the IMF as a tool of American imperialism.
Hezbollah’s view is that it’s better to let Lebanon sink under the weight of debt than accept an IMF austerity plan dictated by Washington. Austerity would spark “a popular revolution,” a spokesman has warned.
The problem is that Lebanon faces a bleak future no matter what it does. At least a partnership with the IMF would provide it with badly needed cash and force the country’s leaders to take the measures they have resisted taking for so long and show no willingness to do now.
They could have used the drama of the default announcement to unveil a comprehensive package of reforms. It would have gone away towards convincing its creditors that Lebanon wasn’t just welching on its debt but seriously contemplating how to address the problems that got it so heavily into debt in their first place. But, as I’ve said before, Lebanon’s leaders have no other strategy other than playing for time.