BANKING & FINANCE: Profiting in an era of easy money

20 June 1997

The years of ease for Lebanon's banks continue. Times may be hard in the economy at large, but the banks are becoming more confident and more prosperous: many recorded record profits for 1996, often as much as 50 per cent up on the previous year.

In most cases these impressive figures have been achieved without much effort: the Banque du Liban (central bank) issues treasury bills (t-bills) with attractive yields and the banks simply snap them up. 'Almost all of this bank's profits are made by five people in the treasury department,' says Fadi Osseiran, general manager of Banque d'Affaires du Liban & d'Outre Mer (BALOM).

Yet, the days of milking the cash cow of public debt may be numbered. The central bank has issued t-bills in such quantities and at such rates in order to strengthen the Lebanese pound and control inflation. The price has been to draw much-needed funds away from productive investment. As concern has grown at the rapid increase in public debt and the slowdown of the economy, the central bank has moved to encourage the banks to lend more and wean them away from their reliance on t-bills to generate income.

'We have moved in two stages,' says central bank governor Riad Salameh. 'The first step was to strengthen monetary stability. We had to promote a climate suitable for medium-term credit. From February of this year, we felt more assured of this stability, and moved to establish it as a base for the Lebanese economy to begin to finance itself.'

'We now have a national currency that's back on its feet,' says Morris Kairouz, head of investment banking at Banque Libano Francaise. To many observers, action to boost pound lending was long overdue. In March, the commercial banks' total deposits were worth £Leb 31.9 million million ($20,660 million), of which more than 45 per cent was held in local currency. At the same time, local currency loans were worth a total of £Leb 1.73 million million ($1,120 million) - only 13 per cent of all loans.

The first step was to reduce the prohibitively high interest rates on the Lebanese pound. The Lebanese Banks Association, in consultation with the central bank, has already cut the pound prime lending rate twice this year, from 24 per cent to 16 per cent. The cuts have been in line with falling t-bill yields, with two-year bills currently yielding about 16 per cent. The central bank has also introduced an auction system for t- bill sales and abolished a regulation requiring banks to place at least 40 per cent of their pound deposits in t-bills.

But many are doubtful that these moves will have the desired effect of boosting lending and stimulating growth. Freddie Baz of Banque Audi argues that the 16 per cent pound interest rate is still too high. 'The central bank together with the Lebanese Banks Association should make further efforts to reduce interest rates by another two percentage points,' he says. However, substantial cuts do not look likely in the near future: Salameh warns that any further cuts will depend on the government's ability to control the fiscal deficit.

The abolition of the 40 per cent floor could have major implications for investment, Baz says. 'Between £Leb 3 million million -5 million million ($1,950 million-3,240 million) could be liberated for the private sector,' he says. 'However, the difference between interest rates on the pound and the dollar remains too large to allow such a shift to happen,' he adds. Most banks already have far more than 40 per cent of their pound deposits invested in t-bills anyway. 'Lower interest rates will be the catalyst for pound lending,' says BALOM's Osseiran. 'Abolishing the 40 per cent requirement has nothing to do with it. The central bank has used this measure to make it look as if it is placing fewer restrictions on banks.'

The central bank has made additional moves to reduce the high cost of credit. In April, it launched a programme to subsidise commercial banks' short and medium-term pound lending to productive schemes. The government has allocated £Leb 24,000 million ($15.6 million) to cover interest of 5 per cent on such loans in 1997. In effect, this means that more than $300 million may be lent at 11 per cent interest this year - a rate similar to that on the dollar.

'There has been no increase in pound lending,' says Osseiran. BALOM has applied for only one interest rate subsidy under the central bank's programme, he adds. 'Banks are not finding any more creditworthy customers.'

Joe Sarrouh, advisor to Fransabank chairman Adnan Kassar, is persuaded by the central bank's change of policy but not of the commercial banks' readiness to follow suit. 'The whole policy vis-a-vis treasury bills has been changed,' he says. 'The challenge for banks in the country now is to find new investment channels for the currency. That will add a new dimension to investments in the economy.' So far, the banks have not been very imaginative. 'Everyone is going for the consumer market, which is not alone sufficient to absorb the bulk of the local currency resources,' Sarrouh says.

Nonetheless, the past 12 months have seen banks increase their medium- term lending resources, albeit in dollars. 'As demand for medium to long- term finance grows, it is only fair to raise finance that reflects the evolution of our assets,' says Kairouz. He is not alone in this view: between June 1996 and May 1997, Lebanon's banks raised a total of $735 million in medium-term finance on the international bond markets. 'This is a revolutionary development,' says Marwan Ghandour, head of Beirut finance house Lebanon Invest. 'Before September 1996, the average length of a deposit was 45 days.' But he advises against premature expectations from the new funding. 'You cannot expect the banks to absorb this finance overnight,' he says. 'It takes time to digest.'

Lebanon's banking sector may also be constrained by the sheer number of local institutions. 'If Lebanon is to become a financial centre, you can't have 70 banks,' says Kairouz. 'The banks' total capital is now about $1,300 million - less than Riyad Bank alone. To be a credible regional bank, you need capital of $300 million-500 million to make a small dent. For this to happen in Lebanon, we are talking about a horizon of five- 10 years.'

The central bank's imposition of a minimum capital requirement for banks of £Leb 10,000 million ($6.5 million) is only a small push in the process of consolidation. In late 1996, it also passed a regulation permitting banks to list up to 30 per cent of their shares on the Beirut Stock Exchange. Three banks have subsequently listed, but observers warn that any attempts to coerce banks into increasing their capital are unlikely to succeed. Many are family-owned, and majority shareholders are usually unwilling to dilute their influence or relinquish control. For similar reasons, mergers are equally difficult to enforce, says Osseiran, who points to three failed merger laws in the past 25 years. 'These are private, family- owned banks. You can't ask two families to marry by law, even if there are incentives.'

Those incentives may turn out to be negative: 'It is the fear of disappearing that will ultimately force banks to consider merging,' says Kairouz. This fear will increase if the easy profits from t-bills begin to dry up or if the banks fail to find other sources of profit in Lebanon's reconstruction. 'The last five years have been the easy part,' says Gerard Charvet, deputy general manager of Byblos Bank. 'It might not be so easy in the future.'

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