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World Bank: High growth unsustainable without reform

23 August 2010

BEIRUT: The World Bank considered that the key near-term policy challenge for Lebanon is maintaining a prudent approach to economic management.

It said that the country remains highly vulnerable to a change in confidence and to external shocks, and has limited fiscal space due to its high fiscal and current account deficits and public debt, as reported by Lebanon This Week, the economic publication of the Byblos Bank Group. It stressed that careful fiscal management to maintain the confidence of depositors and investors is critical for Lebanon’s economic prospects, given the substantial exposure of commercial banks to the public debt. It added that a stable political and security environment, and continued prudent monetary policies, are critical to managing risks and protecting Lebanon from the effects of external shocks.

The World Bank projected real GDP growth in Lebanon at 8 percent in 2010 and 7 percent in 2011, adding that its forecast takes into account the importance of the external economic environment, political stability, and the government’s medium-term economic program. It said its base-case scenario for economic growth assumes a political environment that is conducive to decision-making, as well as the absence of major military conflict related to regional tensions.

It also takes into consideration an expected gradual increase in oil prices and its impact on foreign inflows and growth; a projected gradual recovery in growth regionally and globally and its impact on demand for Lebanon’s exports of goods and services; the government’s plan to increase public investments in key service sectors over the medium-term and its program to stimulate private investment and growth, including through improved service delivery and enhanced public-private-partnership. It considered that these assumptions, combined with the current favorable economic dynamics and constructive political environment, would result in an annual average growth rate of 6 percent over the 2011-13 period.

The World Bank warned about the high costs of not implementing solid reforms. It said that the medium-term reform scenario suggests that, even with fiscal adjustment that would reduce fiscal deficits by 1.6 percent of GDP between 2009 and 2013 and a fairly positive growth response in the medium-term, the public debt will remain high at 124 percent of GDP at end-2013.

It noted that in the event of a weak policy response and a deteriorating internal or external political environment, or unfavorable external shocks, Lebanon’s growth potential would remain at around its historical annual average of 3.5 percent due to a lack of profitable business opportunities, weak external competitiveness and low levels of business confidence in economic prospects.

It added that primary public spending relative to GDP would also remain at its historical average, and interest payments in terms of GDP would stay high. It expected that, in such a low growth scenario, the fiscal deficit would become unsustainably high at double-digit levels relative to GDP, and the debt-to-GDP ratio would increase back to the high level of a few years ago. In turn, this would inevitably expose the country to a risk of financial disruption, should investors holding the vast majority of Lebanon’s debt lose confidence in the country’s debt servicing capacity.

The World Bank said that, under the medium-term reform scenario, transfers and subsidies would decline moderately starting in 2011, reflecting the government-approved plan for improving the electricity sector. It added that public investment will be higher to address, in particular, supply deficiencies in the electricity and water sectors, and to upgrade telecom services and roads.

It expected tax revenues to remain robust with the impact of the rise in direct taxes gradually materializing in the longer run. It also forecast non-tax revenues, essentially transfers from the telecom sector, to remain constant in percent to GDP. Accordingly, it estimated 2010 budget expenditures to remain high at 33 percent of GDP. The World Bank forecast the fiscal balance, including grants, to post a deficit of 8.5 percent of GDP in 2010 and a deficit of 8.7 percent of GDP in 2011; while it projected the primary balance, including grants, at 1.7 percent of GDP in 2010 and 1.1 percent of GDP in 2011. It also estimated debt servicing at 10.2 percent of GDP in 2010 and 9.8 percent of GDP in 2010. As such, it forecast the level of the public debt to decline to 139 percent of GDP at end-2010 and 134 percent of GDP at end-211.

The World Bank said that implementing structural reforms requires legislative approval and greater consensus building within the Lebanese public. It noted that the past policy track record does not provide much comfort in this case, as the prolonged period of weak and slow reform implementation and lack of fiscal adjustment are largely responsible for the high fiscal and current account imbalances and volatile growth performance, despite the fact that the issues and remedies have been well identified. It stressed that there is a significant risk that narrow sectarian interests will continue to overshadow national-level interests and obstruct again the implementation of the economic reform program. It added that this risk could be compounded if macroeconomic stresses develop, triggered by external shocks from volatility in oil prices, a surge in commodity prices, as well as insufficient growth in Lebanon’s main trading partners. – The Daily Star

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