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What Egypt can teach Lebanon about currency crises

Lebanon is finally closing in on a new prime minister. After almost a year of the caretaker cabinet that took control when the former government resigned over the Beirut blast, Lebanon might have some proper leadership at a time when it is sorely needed.

Parliament’s approval for Najib Mikati to form a government isn’t groundbreaking. Mikati has been prime minister twice before. He is also the richest man in Lebanon and has faced numerous corruption allegations, all of which he denies. But regardless of his past, what’s important is that Lebanon now has a prime minister to hold accountable for government’s failure to address the economic crisis.

Lebanon’s economic woes have been exacerbated over the past year-and-a-half by the Covid pandemic and the explosion of a large store of improperly stored ammonium nitrate in Beirut last year that left over 300,000 homeless. But at the heart of the fiasco is a liquidity crisis that stems from years of government borrowing that economists have likened to a national Ponzi scheme and an insistence of pegging the US dollar to 1,500 Lebanese lira since 1997.

Things came to a head in 2019 when it became apparent that Lebanon would default on its aging foreign loans. The news sparked a rush to exchange Lebanese liras for hard currency and the ensuing shortage of foreign money created a black-market trading US dollars and euros at high above the official exchange rate. At the time of writing, one dollar buys roughly 18,500 lira on the black market, more than 12 times the government approved rate.

In a country that relies on foreign goods, imports have become either scarce or prohibitively expensive. Drivers queue at petrol stations for hours to fill their cars; the price of food at the markets has skyrocketed pushing the country’s poorest citizens into poverty. Army soldiers haven’t received meat in their rations for months and the purchasing power of their wages is roughly ten percent of what it was a year ago. Struggling to buy petrol to keep their vehicles moving, the Army has even begun offering out helicopter rides to tourists for $150.

Economists are in agreement that the official exchange rate has become a fiction, one that is becoming exorbitantly expensive to maintain as the black-market rate continues to climb. Sooner or later, the central bank will be forced to face up to this reality, either by devaluing the pegged currency or allowing it to float and have the market dictate its value.

Lebanon isn’t the first country in the region to face this dilemma. Egypt allowed its currency to float against the dollar in 2016 after five years of economic stagnation following the Arab Spring uprisings and subsequent military crackdown. Much like in Lebanon, the decision had been a long time coming but still reeling from a popular uprising, the government was reluctant to do anything that could make life yet more expensive for the millions of Egyptians who had already seen their living standards drop over five years.

In the end, Egypt weathered the ensuing storm of the float well. The price hikes on imports such as food and fuel were partially offset by an increase in state subsidies – to the frustration of government officials who had been trying to reduce Egypt’s massive subsidy budget – and as Western tourists started getting more than twice as much for their dollars over night, visitors numbers jumped from 5.4 million in 2016 to 8.3 million in 2017 and foreign currency began to flow back into the country.

The Egyptian experience bodes well for Lebanon, but there are some crucial caveats. Firstly, following the floatation of the pound, the value of the dollar rose 2.5 times; in Lebanon the black-market price of the dollar peaked at 15 times the official rate. It’s unlikely that if the lira was allowed to float it would settle at such a high but it’s still likely to be a much bigger drop than in Egypt.

Secondly, the Egyptian government was in a comparatively stronger position than is that of Lebanon. President Sisi came to power in 2014 in a dubious election following the overthrow of the elected Muslim Brotherhood but nonetheless with real popular support. His campaign promise was to make the difficult decisions that would return Egypt to a sense of normality. Even before the election he had spoken of the need for Egyptians to tighten their belts and the currency crash was met with grumbles and begrudging acceptance among Egyptians.

The Lebanese, on the other hand, are in no mood to give their leaders the benefit of the doubt. Frustration with the country’s ineffective leadership is at an all-time high. Add to this the intricacies of Lebanon’s political system which shares power between different religious groups and associated political parties. The outgoing prime minister is a Western-educated Sunni with a Hezbollah-backed finance minister. Politicians can conceivably wash their hands of any government inaction and are reluctant to get their own fingerprints over potentially unpopular moves.

But refusing to face up to the problem is probably the worst approach. Lebanon is burning through its foreign currency reserves and will soon run out. The black-market rate bounced back on the news that Mikati could try to form a government from 22,000 lira to the dollar to 18,500 but if he continues to do nothing it could easily slip back.

Later this month, President Macron will host a UN aid conference for Lebanon to mark the first anniversary of the Beirut blast. Macron has already expressed frustration over Lebanon’s ineffective government but France, like the rest of the world, cannot stand by and watch Lebanon fail. Whoever is prime minister when the conference takes place should show foreign governments that Lebanon is prepared to make the difficult decisions needed to alleviate the crisis by allowing the lira to float. If Lebanon fails to take the initiative, it may find the lira’s float a prerequisite of international aid.

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