The high interest historically paid out by Lebanese banks on deposits in Lebanese lira (LL) made the country an attractive location for stashing cash. At its peak, near the end of the civil war in February 1988, the average rate on lira deposits was 20.55 percent, according to data from Banque du Liban (BDL), Lebanon’s central bank. Such double-digit interest was the norm when Lebanon needed as much capital as possible to reconstruct the country. Come the Paris II donor conference in November 2002, lira interest rates dropped below 10 percent, never to return to such highs, as perceived risk was lower. They’ve been more or less in a gradual decline ever since, hitting a three-decade low in June this year when the weighted average interest rate on deposits hit 5.83 percent, according to data provided by BDL.
The cost of competition
As the global financial crisis set in, Lebanon was once again an attractive depositors' haven, with $55 billion flowing into the country from 2007 to the first half of 2010, according to Bank Audi data. Such an abundance of liquidity, combined with the lower rates offered internationally and the heightened confidence in the Lebanese financial system meant interest rates had to tumble. As a result, the Central Bank and the Ministry of Finance were in a position to demand lower returns on treasury bills (TBs) and certificates of deposit (CDs).
But this represented a challenge for the banks in managing their spreads, particularly when the three-year and five-year TBs and CDs in lira matured, as it would no longer be advantageous to pay out high interest to clients when the banks themselves were no longer receiving such returns.
“On government paper for lira, [interest] was 11.25 percent for [the last] five years, but now it is 6.18 percent, so a huge drop in just a year and a half,” said Walid Raphael, general manager of Banque Libano-Francaise. “If you look at the three-year paper — what most banks are holding with the government — it was at 9.3 percent and is now just below 6 percent, so a 3.30 percent drop. It is the banks that are bearing this reduction in interest. If the market was really efficient the banks would not pay more than they are getting on TBs but much less, yet this is not the case.”
Earlier this year, the Association of Banks in Lebanon decided that the rates banks offered should be lowered, as paying out their current interest was no longer sustainable. But in a free market it is the prerogative of banks as to what rate they offer, even if this costs the institution to do so. “If you are getting 5.3 percent on three-year local treasury bills, why are you paying depositors 5.5 percent?” said Freddie Baz, chief financial officer at Bank Audi. “It is because of idiotic competition to attract clients. Banks are shooting themselves in the foot.”
The banks have to tread carefully though, as a rapid reduction in interest rates on the lira could trigger conversions back to US dollars and threaten the currency’s stability. As Baz remarked, the Lebanese “are not mentally prepared for this,” as depositors have become used to the high rates on the lira. He does, however, advocate a drop of 1 percent on lira interest in 2011.
Decline prompts diversity
Najib Semaan, assistant general manager at the Bank of Beirut, considers the lower interest rates as a boon for the government, the economy and the banks. “Banks are happy to see rates go lower in foreign currency and the lira. Why? Because it will give a boost to the lending on the retail and corporate side, and servicing the debt of the republic will cost less,” he said. “But while it is beneficial to the government to have lower interest rates, I insist we reach a level acceptable to the government and the banks.”
The decline in the interest rates has clearly affected bank’s strategies, placing a greater emphasis on services to attract and retain clients; before it was a case of shopping for the best interest rate on offer. That said, interest rates are still a primary tool to expand the depositor base, hence some rates on offer are on par and even above the returns banks get on TBs and CDs.
For instance, Bank of Beirut is offering an account to new clients that pays 7.20 percent over 15 months. “We want to diversify and increase our client base, and have cross selling, such as to small investors,” said Semaan. “We are not accepting deposits over LL 60 million as we want to diversify and have longer term maturities. The interest rate is a welcome gift to new clientele because otherwise, on a small amount, whatever you pay doesn’t make sense.”
Such a rate is increasingly rare, and overall interest rates are likely to drop in years to come. This could prompt a change in mindset among Lebanese that have lived off the high interest.
“We are coming to normal times, not the extraordinary times of high interest and premiums, which could not last forever,” said Baz. “This could trigger a quicker development of the domestic capital markets as people will be forced to look at other alternatives. Today it is a rentier economy; if I can still get 6 to 8 percent interest, why should I understand the stock market?”