Amer Bisat is a senior portfolio manager at BlackRock where he heads the Sovereign and Emerging Markets (alpha) investment team. Prior to BlackRock, he held portfolio management responsibilities at UBS and Morgan Stanley and between 1991 and 1998 he was a senior economist at the International Monetary Fund (IMF), where he helped negotiate high-profile programs with Russia, Ukraine, and Egypt. Bisat has taught graduate level economics at Columbia University from where he received a Ph.D. Recently, Carnegie published an article that Bisat coauthored with Ishac Diwan and Marcel Cassard, in which they discussed the likely trajectory of Lebanon’s negotiations with the IMF. Diwan interviewed Bisat in early June to get his perspective on the broad lines of a possible reform plan for Lebanon.

Michael Young: The Lebanese government is in the midst of negotiating an International Monetary Fund (IMF) program. How optimistic should we be about its success?

Amer Bisat: Cautiously optimistic. The political class seems to “get” how severe the crisis is, and an admittedly weak consensus is emerging that an IMF program is a prerequisite for unlocking much-needed foreign funding. In parallel, in the post Covid-19 world, the IMF itself is eager to help poorer countries and has recently made it easier for countries to access funding from the organization. Incentives on both sides are aligned.

But, important as an agreement is, it won’t be easy sailing. First, the size of the IMF’s financial support will likely be smaller than desired. IMF funding is linked to the ambitiousness of the underlying economic program. The Lebanese government can, and will, ask for “exceptional access”—meaning outsized financial support. However, to receive it, Lebanon must undertake measures that have, so far, been almost impossible to implement.

Second, the IMF will not accept promises. It will want concrete actions. Related to this, it will not accept government decrees, but will want laws. Parliamentary involvement—with all its political implications—will become necessary. Finally, IMF funding will not come in one go. It will be staggered. The first disbursement will be made after “prior actions” are taken, but after that the IMF will expect another set of measures to be implemented over the subsequent two years. Monies will be disbursed on a quarterly basis after the IMF staff reviews progress. IMF programs that falter do so because these reviews fail.

MY: Lebanon’s recession has been wrenching and the social impact debilitating. When will it end?

AB: The country is, tragically, facing a perfect storm of problems. First, countries that faced similar crises to the ones that Lebanon is experiencing have taken, on average, a year to exit from a recession. And that included countries that experienced less severe crises than Lebanon’s and, importantly, managed their situation infinitely better than the Lebanese authorities are doing at present.

Second, the Covid-19 shock is epic. Even once a vaccine is discovered, the process of reemploying shed labor and reviving closed businesses will be slow.

Finally, the economic crisis and the Covid-19 shock are occurring at a time when oil prices are collapsing. This will result in a sharp drop in remittances, tourism, and financial flows from Gulf Cooperation Council countries.

What does that mean for Lebanon? The authorities are assuming a 12 percent contraction in 2020. I’m afraid that number will prove to be far too optimistic. The recession, moreover, is very likely to extend into 2021, where I am tentatively penciling in an additional mid-single digit contraction. What happens afterward is less certain. Much depends on the steps being implemented today. If the stabilization-reform program being discussed with the IMF succeeds, we can look for a nice “V” shaped recovery starting in 2022. If not, alas, it is more realistic to think in terms of an L-shaped economy where the collapse does come to an end, but the recovery is muted or even nonexistent for years to come.

MY: So, if the recession is long-lasting, is it too early to start thinking about the future of Lebanon’s economy?

AB: It’s never too early. Actions taken today will influence what the “new Lebanese economy” eventually looks like. That said, I personally come from a tradition of economists who think policymakers should avoid micromanaging economies. Centrally deciding which sectors should be supported, and which ones shouldn’t, is not only tough to do, it also opens the door to corruption and rent-seeking activities.

Instead, I would rather see Lebanese policymakers lay the foundation for a healthy economy. This includes eliminating the debt overhang, reforming public finances, implementing monetary policy that results in low inflation, manageable interest rates and, crucially, a competitive foreign exchange. It also includes rebuilding the banking sector, reforming the regulatory framework to allow efficient—but fair—private sector competition, and ensuring a generous, but affordable, social safety net. If the policymakers succeed in enshrining this kind of macro and regulatory framework, Lebanon’s entrepreneurial and skilled private sector will, organically, figure out the areas where it can excel and prosper.

MY: The Association of Lebanese Banks (ABL) has presented a plan that is meant to be an alternative to the government’s. What are your thoughts about it?

AB: Let me start by making a broad point. Banks are, and will continue to be, important stakeholders. Demonizing them, as has become common, is counterproductive. They certainly share part of the blame for Lebanon’s situation, but they aren’t the only culprits. Compromise must be at the core of a sustainable solution to Lebanon’s economic crisis. The ABL plan is a thoughtful document that contains important elements worthy of discussion and analysis.

That said, my main issue with it is that it effectively proposes that state assets be used primarily to save bank shareholders from taking a financial hit. That is clearly inappropriate. State asset usage does have a role in helping to facilitate a soft landing in an economy. But bank capital must be the “first loss.” Only afterward should state assets be used to reduce the burden on depositors.

MY: On that note, usage of state assets is a hotly debated topic. Where do you stand on this?

AB: We cannot only focus on government debt and ignore the asset side of its balance sheet. The size of the financial sector problem is so large that one cannot reject the use of state assets. If those aren’t used, we’ll experience a deeper recession, a larger devaluation, and a bigger deposit bail-in. But any serious plan involving state assets should thoughtfully consider equity considerations (who benefits and who doesn’t), modalities such as outright sale versus securitization and better efficiency, and, most importantly, governance issues.

MY: If the crisis proves to be a multiyear affair, what will be the fate of depositors during that period?

AB: A dose of reality is in order. The hole in the financial sector is gargantuan. The government plan estimates the gap at $53 billion—and, realistically, this may well prove to be an understatement. That gap must be filled or else the country will endure extended capital controls, deposit freezes, and a so-called “zombie” banking system.

How should this hole be filled? The imagery I like to use is of a ladder. One starts from the bottom and moves up. The first thing is to “responsibly” postpone as much of the problem as is feasible—the technical term for this is “regulatory forbearance.” If that is insufficient, bank owners will have to forego their capital, and bring in fresh capital from abroad. The next step on the ladder is for the state to bring some of its own assets into the mix. If all of this is still not enough, then sadly one needs to climb to the top of the ladder—in other words to depositors. Unfortunately, given the size of the hole in Lebanon, that last step seems inevitable. The notion that depositors won’t be affected is unrealistic.

The timing, method, and magnitude of how depositors are “bailed in” won’t be known until a broader financial sector restructuring plan is announced. One idea that some people, including myself, have been advocating is to segment the financial sector into “good” banks and one “bad” bank. Small depositors would be transferred to the former and would, within a relatively short period of time, gain access to their savings. Crucially, the “good” banks can start servicing the economy immediately.

By contrast, larger depositors would be assigned to the “bad” bank and would see their savings frozen until the impaired assets—sovereign debt and banks’ claims on the Banque du Liban, Lebanon’s central bank—are restructured. State assets can, in theory, be used to bolster the “bad” bank, in that way reducing the eventual burden on large depositors.

MY: In a recent essay, you introduced the notion that a gradual solution to the Lebanese crisis may be more efficient and achievable than the radical solution many are hoping for. Can you elaborate?

AB: My starting point is that the size of the problem is stunningly large. There are no easy solutions and painless measures are nowhere near enough. Policies that can make a difference are either unbearably painful or sociopolitically impossible to implement in today’s Lebanon. More fundamentally, the kind of wealth destruction needed to immediately rebalance the economy will create instantaneous impoverishment. Without wading too much into political-economic territory, one must worry about the implications of such an economic collapse on a country with deep sectarian fissures and patterns of violent civil strife.

All this is why I’ve been advocating a gradual approach. If policy levers are painful and seemingly sociopolitically impossible to pursue, shouldn’t policymakers be considering an alternative plan? Isn’t there space for a less aggressive approach to crisis management—one that doesn’t try for perfection but garners just enough political and social backing to avoid a complete collapse?

Lest there be any confusion, I am not blind to the gradualist approach’s downsides. They’re major. It will prolong the adjustment, keep capital controls in place for longer than is desired, and possibly require a larger devaluation. However, the gradualist approach has the major advantage of being sociopolitically more palatable. It would also buy the nation time while awaiting oil and gas revenues or the possibility of a changed regional outlook, or both. Most optimistically, it gives civil society a few more years to organize and prepare to contest the next parliamentary elections, with the hope that then a more profound transformation can begin.