Who remembers a banker or politician beaming proudly about the banking sector’s $170 billion in deposits? The Lira is safe, they would continue without skipping a beat, because the size of our deposits is 3 times GDP. This is like me borrowing $3 million from someone and going around town bragging that I’m a multi-millionaire. Deposits are liabilities, i.e. debt, owed by the banks to you, the depositor. Banks and people forgot this simple principle, which is why we are where we are today.
The banking sector and the central bank in Lebanon have presided over the biggest artificial creation of money and wealth in the history of the nation, which I wrote about here Effectively, they did something that nobody’s ever done before — they printed US dollars. If this had happened in physical form, special agents from the US Secret Service, wearing Oakley sunglasses, would have been dispatched to Beirut to investigate ... except it was all perfectly (or imperfectly) legal.
This also makes the current unwinding that we’re currently witnessing, the biggest destruction of wealth in the history of the country.
We were featured in the Guinness Book of Records in 1976 for the biggest bank heist in history, the British Bank of the Middle East (HSBC today). The armed bandits, thought to be PLO, made out with around $125 million in today’s dollars, and, except for the largest Hummos plate, we haven’t graced its pages for anything significant since. We will soon have the dubious honor of being featured again, for the biggest bank heist in history, except this time it won’t involve armed men with AK-47s and RPGs. It was perpetrated by men in Ermenigildo Zegna suits, Hermès ties, and Rolex watches.
It will more accurately be featured as the largest government-sponsored Ponzi scheme in the history of mankind, more than double the size of that amateur Madoff. A Ponzi Scheme is defined as a fraudulent investment scheme paying inexplicably high returns to old investors, funded by new investors. This definition applies precisely to what happened in Lebanon, except the fraudulent part. Madoff promised high returns using a “split-strike option strategy” — an outright lie, and too complex-sounding for anyone to ask further questions. In our case, it was explained by “financial engineering” which was also too complex-sounding for anyone to ask further questions, however nobody actually lied, meaning nobody claimed that this was being invested in widgets, when they weren’t. Banks simply offered high returns of say 15% to a customer who didn’t know or care how these returns were being generated.
While Madoff affected a few hundred rich investors, our Ponzi involves the government, the whole banking sector, and will touch, in some shape or form, some 5 million Lebanese citizens, as well as a few adventurous foreigners — Iraqis, Syrians, and even the likes of some Jordanian banks, tempted by the interest rates offered by our banking geniuses, unmatched anywhere in the world. Once again, they will be reminded, the hard way, of the eternal cliche and fallacy, “too good to be true” and “this time is different.”
A few months ago, in a conversation with the author of the book with the same title, the renowned expert on financial crises, Harvard Professor Carmen Reinhardt, said, “Lebanon has been the source of largest errors in the Kaminsky-Reinhart early warnings model (i.e. Chronic false alarms) ... Lebanon is a tricky and very interesting case. I have been expecting a currency devaluation for a long, long time! I think you have sources of funding that are difficult to track.”
If more than half of all dollar deposits in Lebanon are fake, as I’m claiming, how does this affect day-to-day life?
For one thing, whether or not you believe in the inevitability of a haircut, it’s pretty clear that a dollar outside Lebanon (or cash) is worth more than a dollar in your bank account (let’s call this a fake or “Lebanese dollar”). We’ve already seen this reflected in some unusual transactions in the market, such as a person trading a $100,000 deposit in his bank account for $80-90,000 in cash. We’ve also seen a spike in real estate transactions, meaning people buying land or apartments using checks drawn on fake dollars to buy tangible assets — the bet here is that even if real estate drops further (which it will), it’s a better store of value than the eventual recovery value of a typical deposit. A developer is happy to take a check for fake dollars, because his bank has no choice but to accept it in return for his loan in (real dollars). In some sense, this is positive for the banking sector, because it shrinks their balance sheets and reduces their nonperforming loans. Of course, a person buying real estate with real dollars (cash or dollars transferred from an overseas account to an overseas account) might pay half-price on the same deal. Other forms of these types of deals might be buying a used car (or other depreciable assets or even commodities such as gold or diamonds) using fake dollars, and exporting it outside the country and selling it overseas ... assuming the seller accepts fake dollars. The only seller who would accept it is one in debt, because his bank has no choice but to accept this check to settle a loan.
Traditionally, banks have competed ferociously for your deposit. Have you noticed that these days they’re not offering you high interest to switch to their bank? Why do you think that is? Because, the dollars you’re transferring are fake and you’re probably switching banks assuming that the receiving bank will be more permissive in letting you withdraw money or transfer overseas. In other words, you’re making the problems of the receiving banks worse, because of increasing the demand on their dwindling real dollars, rationed by the central bank.
They no longer want you.
In fact, banks will no longer be as proud of their deposits increasing, because those are liabilities (debt) that they can’t pay.
The best banks today are the ones who can reduce their deposits, reduce their loans (especially NPL), and unwind as much as they can from their deposits at BDL. That last one is the most tricky part and the key to its survival.