In perhaps a tale of two cities, or rather a tale of two economies, Spain’s bond rates hit the danger zone this week, which begs a comparison to Lebanon’s history of bond rates, fiscal discipline and navigating troubled waters.
The economic differences between Spain and Lebanon are, of course, stark. One country is snarled in a larger eurozone problem, while the other is a constant victim of political instability. Both are saddled with government debt. But for now, it would appear – according to the market – that Spain has less ability to pay its bills.
Nevertheless, with risk warnings from rating agencies and its own economic troubles – including a tourist season that has crashed and burned – the popularity of the Lebanese bond would seem to defy basic economic theory. That is Lebanon’s luck and its track record. It is resilient.
“I think the Lebanese bond – the new Eurobond [and international bond denominated in dollars] is very stable. There is a balance between demand and supply,” a senior banking executive at one of Lebanon’s largest lenders said.
The bonds sell more domestically, he added, noting that “non-Lebanese partnership in bond purchases accounts for [only] 15 to 20 percent of purchases.”
While the Lebanese banking sector and well-heeled Lebanese investors account for the majority of purchasers, “there are some pension fund partners – which I will not name – from Europe and America,” he said.
In a move to shore up the credit risk rating of Lebanon, Central Bank Governor Riad Salameh undertook a $2 billion debt swap between the Bank and the Finance Ministry. The swap entailed the Central Bank exchanging local-currency-denominated T-bills for dollar-denominated bonds from the ministry.
“This has a positive impact because with a strong balance sheet for the central bank in foreign currencies, the Lebanese pound is comforted,” Salameh told the Bloomberg news agency, adding: “It will allow interest rates in the country to remain stable.”
This exchange enabled the government to issue three international dollar-denominated bonds – the so-called Eurobonds – maturing between 2015 and 2025. Interest rates ranged between 4.1 percent and 6.25 percent for the longer-maturity bond, according to the ministry website. Rates that are posted are the result of an “ask/bid” process, with the amount bid by the market overall being the posted prices.
Currently, Spain’s banking sector needs a bailout of billions of dollars after a precipitous collapse. Meanwhile Lebanon continually operates on a huge public debt, the ramifications of a large bill left over from the 15-year Civil War and large-scale infrastructural damage from the 2006 Israeli airstrike campaign.
Market confidence in Spain has hit a record European low with interest rates on the country’s 10-year bonds – a key indicator of market expectations on Spain’s ability to pay down debt – sticking above the 7 percent danger zone all week. In a similar case, Irish, Greek and Portuguese rates hit this same red level before requiring big-time bailouts of the governments.
At question is Spain’s ability to pay back a debt that may reach as much as $126 billion for a bailout of its banking system and whether market confidence is so low that Spain cannot finance government expenses without going back for more money in terms of a larger bailout.
The Spanish economy – at $1.39 trillion (larger than the so-called “PIGs” combined) – is going through its second recession in three years and, at 25 percent, has the largest unemployment rate among the 17-nation eurozone system. It boasts a population of 47 million and workforce of 23.1 million.
Lebanon’s GDP at $39 billion for the end of 2011 is comparatively diminutive. The country boasts a population of 4.2 million (with an active workforce of 1.4 million)
In economic comparison, by the end of devastating Civil War, Lebanon’s benchmark bond rate was at 40 percent, an untenable amount, and seemingly unsalable, but they were offered to anyone who would buy – Lebanese banks, citizens, Gulf nationals – and they sold.
One Lebanese business analyst said the economy of the nation could be viewed in two ways: both as a “dynamic growth market” but also a country that is burdened by a large public debt borrowed largely from domestic banks.
“Government debt at 134 percent of [GDP] at end-October 2011 remains among the highest in the world and gives rise to large recurrent financing needs,” noted a recent IMF report.
At the end of May, rating agency Standard & Poor’s revised its outlook on the long-term sovereign credit rating for Lebanon to negative from stable. At the same time S&P affirmed its “B/B” long- and short-term foreign and local currency sovereign credit ratings on Lebanon.
“The outlook revision reflects our view that the balance of risks to the ratings on Lebanon has shifted to the downside as the Syrian conflict shows no sign of abating. Heightened domestic tensions in Lebanon – as pro- and anti-Assad sectarian factions skirmish in the Tripoli region, as well as in Beirut – indicate to us that Lebanon’s domestic stability has become increasingly more vulnerable to events in Syria,” the ratings agency said.
However, S&P also noted Lebanon’s political and macroeconomic resilience, adding that “it has withstood both domestic and geopolitical turmoil in recent years. Since the formation of the March 8 Alliance-led government under Prime Minister Najib Mikati in June 2011, the Lebanese government has maintained a greater degree of stability than a number of its neighbors in the Middle East and North Africa region.”
That said, S&P added that despite government efforts to avoid getting drawn into the neighboring conflicts, there was “an increasing possibility that the Syrian civil war could destabilize Lebanese society and politics.”
S&P also noted that at the “B”‘ rating level, “we see Lebanon’s banking system and external position as key rating strengths. Bank deposits grew 2.6 percent in the first quarter of 2012, driven largely by nonresident deposit inflows, providing both balance of payment support and sources for additional government financing.”
Fitch Ratings LTD said at the end of May the Lebanon credit rating can absorb the types of violent sporadic bouts – several week’s running in Tripoli and one major clash in the Tariq al-Jadideh neighborhood of Beirut – that have roiled the country this spring. Fitch ranks Lebanon bonds at B or five levels below investment grade, with one Fitch analyst saying: “The question is deciding when it gets to a tipping point.”
In the case of Spain, the country is undergoing economic challenges of a different sort, no war, no sporadic political shakeup or factional fighting; just prolonged recession and market doubts.
In official statements the country has said that in cannot sustain the high and increasing interest rates for its bonds even in the short term. Finance Minister Cristobal Montoro issued an urgent plea this week for the European Central Bank to buy Spanish bonds in order to force rates down.
To the markets, it is all about confidence, with some experts saying the pressure on Spanish bonds is exaggerated and others noting that exaggerated or not, the rates are an indication that there is doubt in the market of a comprehensive solution to the European financial meltdown.
Adnan Halawi, a fixed income expert at the Zawya business intelligence company, said: “The eurozone debt crisis is making many investors move toward safer havens – and Lebanese bonds represent that.”
“I would say the Lebanese bond market is appealing,” he added.