The Banking Executive Magazine - March 2021

The Conduct of Lebanese Banks Leading to the 2020 Financial Crisis d) Lending practices. Banks focused more on the Credit Approval Process (CAP) and less on the Asset Life Cycle (ALC). The CAP concentrates the power of decision in the hands of one or two who are either most familiar or most intimate with clients and with a strong ten- dency to socialize the decision-mak- ing process; and it helps the bank score a loan with little attention to what happens after origination and recognition of the facility. However, the ALC engages the bank with proper planning ranging from devel- oping a target market to securing that the facility is in line with the bank’s strategic objectives, all the way to se- curing a good performance and timely settlement of the debt leading to repeat businesses. Considering that the bank originates an asset to hold till maturity, it is the better ap- proach to focus on the asset life cycle. LOOKING AHEAD A clear plan to reschedule and/or re- structure public debt is undoubtedly necessary but it is not sufficient. A strong prerequisite for improving Lebanon’s capacity to recover and reclaim its economic power is a sound banking sector. Banks have failed to properly assess the risks as- sociated with their sources and uses of funds. Today, banks are carrying loads of troubled assets which se- verely constrained banks’ ability to meet deposit outflows; and it most likely will drain their capital at a time the government is completely hand- icapped and not capable of provid- ing the much needed bailout. Prompt restructuring, and adequate recapi- talization are a must; although there shall be consequences! Recapitalization involves a major change in the way banks are funded, and it, essentially involves providing the banks with new capital. This im- proves the banks’ balance sheet and prevents them from going bust. Since the start of the economic crisis and the resulting credit crunch, banks op- erating in Lebanon have lost much money because: • First and for most, the government of Lebanon took the irresponsible decision to default on its debt in the absence of a plan to restructure or reschedule the debt. Banks op- erating in Lebanon are major cred- itors (Banks hold 50% of the debt denominated in foreign currency, and over 70% of the debt denomi- nated in domestic currency). • BDL’s decision to continuously bail out the bankrupted government with depositors’ money made the problem worst, and rendered re- covery and BDL’s capacity as lender of last resort near impossi- ble. • The recession was exacerbated by the un-legislated capital controls, and led to more defaults by indi- viduals and business entities which expanded the portfolio of non-per- forming loans. The credit crunch meant that banks are no longer able to lend to each other; they cannot meet the demand for deposit withdrawals; and they lost confidence. This created the need for recapitalization. Recapitalization is necessary, but not sufficient, for the rescue and recovery of banks. Over and above the drive to adequately capitalize, banks should agree to an improvement course of actions (self- imposed or imposed by the regula- tory authority): • Accurately assess the true volume of non-performing loans, and maintain reasonable levels of lend- ing since excess lending created problems in the first place, • Ensure proper identification and assessment of all risks on all place- ments, • Freeze the payment of bonuses and dividends until capital is re- stored to an adequate level, • Consolidate, downsize, and/or merge. What is important at this juncture is the health of the finan- cial sector, and not the health of any one particular financial institu- tion, • Reassess the capacity of key man- agement positions to deliver. Posi- tions such as Corporate Banking, Chief Financial Officer, Chief Risk Officer, Treasury, Chief Internal Audit, and Head of Branch Net- work, • Reassess the Composition of the Board of Directors, and the capac- ity of each member to deliver as expected and required, • Limit the period of engagement be- tween each financial institution and its external auditors to no more than five years only, • Cleanse your institution from all political contamination, and de- tach from dependency on politi- cally exposed persons. Fresh fund can help improve bank liquidity, but it doesn’t necessarily improve nor sustain its performance. There is more to healthy banking sector than just recapitalization and the extra fresh fund. CONCLUSION Banks, as profit-maximizing firms, did not fail on the profit-maximizing objective but they fell short of effec- tively considering the constraints en- countered in this optimization process. Managing risks, and abiding by regulatory guidelines constrain banks’ strive for profits. The regula- tory authorities and Bank Manage- ment have always claimed success on the regulatory front. However, the state that banks are in today clearly points in the direction of an utter fail- ure when it comes to managing risks: on lending, banks went for volume and played down the importance of quality; they were fully aware of the corruption which infested the politi- cal landscape, but despite that they continued on lending the govern- ment; on the liquidity front they did not do any better. With the recent crisis, serious prob- lems in the banking model and the conduct of bankers emerged and re- covery is no longer about what the government should do; restructuring and reorganizing the banking sector has become urgently needed. the BANKING EXECUTIVE 38 ISSUE 147 MARCH 2021