Moody’s Investors Service, the international rating agency, downgraded on February 21, 2020 Lebanon’s issuer ratings from “Caa2” to “Ca”, while amending its outlook from “Under review for downgrade” to “Stable”. This rating action showcases the fast deteriorating economic and financial situations in Lebanon, thereby limiting the Central Bank’s ability to maintain the currency peg and paving the way for a debt restructuring in the near term. The agency also took the following rating actions: It downgraded Lebanon’s senior unsecured Medium Term Note Program rating from “(P)Caa2” to “(P)Ca” (under review for a downgrade), affirmed the other short-term rating at “(P)NP”, lowered each of the long-term foreign currency bond and deposit ceilings to “Ca”, lowered the long-term local currency bond and deposit ceiling to “Caa1”, and maintained the short-term foreign currency and deposit ceilings at “Not Prime”. The agency changed the outlook to stable based on the assumption that a debt restructuring might occur in conjunction with the International Monetary Fund (IMF), and therefore increasing the possibility of Lebanon obtaining external funding either through the pledged funds from the CEDRE conference or through the IMF’s program.

In details, Moody’s noted that the aforementioned debt restructuring would lead to losses for the creditors (i.e. the Central Bank and Lebanese banks) ranging between 35% and 65% of the debt’s principal. In addition, and despite the formation of a new government in January 2020 which is in the process of preparing a reform plan, the agency expects the economic deterioration to continue driven by the shrinking monetary aggregates which reflect the large deposit outflows in the last quarter of the year 2019. In addition, and according to the rating agency, private sector deposits at banks dropped by $15.7 billion in the year 2019 (around 30% of GDP). Furthermore, said contraction was reflected by a drop in the balance of payments and the foreign exchange (FX) reserves at the Central Bank to below $30 billion by end of 2019. Moody’s estimated Lebanon’s usable FX reserves in the $5-10 billion range, while noting that FX reserves would be needed to honor the $4.7 billion debt due in 2020 and the debt service payment of over $4 billion in 2021 and to fund key imports. The agency mentioned that as a result of the shortage of USD liquidity, the exchange dealers in the parallel market are charging a 40% premium over the official exchange rate when it comes to buying the US dollar, leading to higher inflation and jeopardizing the peg. Moody’s also mentioned that the restructuring of debt (around 160% of GDP) is a matter of time, while highlighting that Lebanon has several options for debt management in the near term to limit private sector losses in the case of a default event. Moody’s estimates that rescheduling BDL’s portion of the public debt (over 50% of GDP) could serve as a first loss protection against any potential losses for the holders of debt, yet warned that these options are costly from the economic and financial side, noting that these costs have already started compounding on the Central Bank’s balance sheet.

The agency stated that it may upgrade the rating in the event the financial situation were to stabilize and if the risk of restructuring that would entail sizeable losses to private creditors were to lessen. On the other hand, an additional downgrade is possible if reforms were faced with challenges that in turn could prevent external funding help to aid with the debt restructuring exercise, or if Lebanon encounters a sudden de-pegging of its currency.