Lebanon’s currency is the strongest it’s been in decades. For now.

Attracted by high interest rates, for many investors Lebanon has been the perfect port to weather the slowly passing global economic storm. As the clouds begin to clear, however, the days of local banks offering well above-average returns may be ending, and just how long billions belonging to foreigners will stay anchored in Lebanon is unclear.

A conservative Central Bank avoided the subprime market that brought down financial giants like Bear Sterns, and interest rates on term and savings deposits offered by local banks – ranging from 3 to 7 percent – have attracted consistently increasing capital flows in recent years.

Total private sector deposits in Lebanon’s commercial banks jumped 67 percent between the end of 2007 and the end of 2009 to over $96 billion, including a 663 percent surge in deposits denominated in Lebanese pounds (LL), or Lira, by non-residents to nearly $2.4 billion.

This flood of money lifted the Central Bank’s foreign currency reserve levels to $28.6 billion, putting it in the strongest position it has been in in decades.

At the end of 1975 the dollar cost 2.5 LL, but the Lira took a beating during the civil war. By the time Lebanon ratified the Taif Accord to end the bloodshed in November 1989, the price of a dollar had risen to over 400 LL. The weakened pound limped away from the conflict and fell further, at one point momentarily nudging 3,000 LL in the autumn of 1992 before stabilizing at around 1,500 LL in the mid 1990s.

Since then the Central Bank has successfully kept Lebanon’s pound pegged to the greenback at an official rate of around 1,500 LL (it technically fluctuates in a very narrow band). Foreign currency reserves are the Central Bank’s main weapon in the battle to ensure that, should Lebanon rock, the Lira won’t roll.

Marwan Barakat, head of research at Bank Audi, told NOW Lebanon that the surest threat to the peg would come from mass exchanges of pounds into foreign currencies. Such a phenomenon is common when disaster or instability strikes.

Following the 2005 assassination of former Prime Minister Rafik Hariri and the 2006 July War with Israel, people panicked and “a maximum of 30 percent of the Lebanese pound currency supply was converted to foreign currencies,” Barakat said.

The Central Bank executes these conversions, and as its supply of foreign cash dwindles, the pressure on the value of the pound to start plummeting increases. In fact, in 2006 Saudi Arabia and Kuwait sank $1.5 billion into the Central Bank’s foreign currency reserves to bolster the pound.

Lebanon amassed the unprecedented foreign currency reserves it now holds by offering mouth-watering interest rates on savings and term deposits when most of the world was mired in financial crisis.

While interest rates on deposits in US dollars fell to nearly zero in the US during 2008 and 2009, rates on US dollar-denominated accounts were over 3 percent in Lebanese banks. Rates on accounts in Lebanese pounds stayed around 7 percent, luring non-residents whose foreign currency, after conversion, wound up with the Central Bank’s reserves.

Central Bank Governor Riad Salameh, who has received much flattering press coverage in recent years for ensuring Lebanon avoided any financial crisis, has long worked to keep interest rates on deposits in pounds high to attract investors from abroad. Critics argue this policy is too costly for local banks – which hold some 58 percent of Lebanon’s growing $51 billion debt – and should be revised, though that does not seem likely.

Barakat, echoing Central Bank Governor Riad Salameh, said the record-high reserves reflect strong confidence in Lebanon’s economy. With internal political stability holding, foreigners certainly do have confidence in Lebanon, but that is perhaps not the driving factor behind the hike in non-resident deposits, argued Nassib Ghobril, head of research at Byblos Bank.

“It’s not only a question of trust in the banking sector, it’s a less charitable reason,” he told NOW Lebanon. “High interest rates… are attracting deposits. There’s lots of speculative money coming into Lebanon right now. Billions of dollars are coming as speculative money – hot money that would go at the slightest change.”

Ghobril said the pound is indeed well-positioned. However, he said he expects at least some of the foreigners who profited in the past few years to soon begin seeking other investments.

High returns, he noted, may start declining. Last week the Association of Banks in Lebanon, an industry group, recommended reducing interest rates on pound-denominated deposits to 6.25 percent, and Ghobril said they’re expected to call for rate cuts on US dollar-denominated accounts this week.

Rate reductions in Lebanon coupled with future hikes in other markets could prompt something of an exodus of capital by investors eager for the highest earnings wherever they can find them.

Even if cash flows reverse, however, the ever-vigilant Salameh should be able to keep the pound’s value from falling.

“It’s very strong and very stable,” Ghobril said. “What affects the pound are political stability and military conflict, [and] the Central Bank is always prepared for any eventuality.”


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