possibilities-but-no-promises:-challenges-and-opportunities-in-lebanon

Possibilities but no Promises: Challenges and Opportunities in Lebanon

During the first half of January 2025, speculators rushed to purchase Lebanese pounds on the parallel market in anticipation of a rebound in the currency’s exchange rate. This marked a major shift in sentiment regarding the health of Lebanon’s economy, after the pound lost more than 98 percent of its value over the past five years due to the country’s ongoing financial collapse. The Central Bank capitalized on this opportunity and exchanged Lebanese pounds for US dollars, boosting its foreign currency reserves by $206 million.

This was the Lebanese financial markets’ way of expressing their optimism about the recent political shifts in the country, following the election of Joseph Aoun as president and the appointment of Nawaf Salam to lead the next government. Despite the significance of all these positive indicators, it still remains unclear to what extent these political developments can ensure the implementation of financial recovery and reconstruction plans. A list of postponed reforms related to the financial sector, public spending, and taxation still needs to be addressed, requiring the challenge of taking on deeply entrenched interests within Lebanon’s financial and political systems.

Political surprises

Joseph Aoun was elected on January 9, 2025, after over two years of a presidential vacuum. This time around, Hezbollah and its allies refrained from disrupting the election sessions from taking place, after actively disrupting all previous sessions since October 2023. Moreover, Hezbollah and their closest allies voted in favor of the new president himself, who was seen as a candidate aligned with the West—particularly the United States—and the Gulf countries, and antagonistic to Hezbollah’s interests.

The recent political shift was completed with the appointment of Nawaf Salam, former President of the International Court of Justice, as prime minister on January 13. Salam entered the scene from outside the traditional political establishment, replacing caretaker Prime Minister Najib Mikati, whose personal, including commercial, interests had long been tied to the local banking sector and political elites. Salam’s appointment came as a surprise, following last-minute negotiations between various opposition and key parliamentary blocs. Hezbollah and its main ally, the Amal Movement, pragmatically coordinated with Salam to form the new government, after initially viewing the maneuver as a hostile takeover.

Salam formed a government on February 8, less than a month after his appointment. The composition of the government inspires some optimism. On the other hand, some doubts remain after the Amal Movement managed to retain control over the ministry of finance, despite objections from many. The party has controlled this position since 2014, and has used it to obstruct many of the much needed reforms since then. 

These latest political developments gave certain economic circles, both locally and internationally, the impression that Lebanon has politically moved closer to a setting in which it could be more capable of engaging with the international community. This is particularly with regard to Western countries that have significant influence over international financial institutions. It also appears that Gulf states—specifically Saudi Arabia, the UAE, and Qatar—which have the capacity to provide financial support, have been on board with the latest changes. Meanwhile, the end of the political deadlock signals the possibility of finally moving forward with reforms agreed upon with the International Monetary Fund in 2022, in a previous staff-level agreement

The political context of the post-war phase

At first glance, Lebanon appears to have undergone a rapid transformation in its domestic political landscape within just a month. However, these local shifts can only be understood as a part of a series of events that have unfolded across the Middle East since the last quarter of 2024. As has often been the case since Lebanon’s independence in 1943, domestic political balances, resulting from the dynamics between Lebanese sects, tend to shift with every change in regional power balances and external influences.

Hezbollah emerged from the war burdened with human and material losses that it has yet to fully address, including caring for the wounded and the families of those killed, as well as rebuilding its organizational structure. This was added to the extensive material destruction that affected its social base, with more than 317,500 housing units damaged and 43,750 completely destroyed, according to Hezbollah-affiliated “Jihad al-Binaa” Foundation.

This significant damage—social, political, and economic—placed Hezbollah in a difficult and unfamiliar political situation, as the party tries to find ways to repair the losses it has sustained

This significant damage—social, political, and economic—placed Hezbollah in a difficult and unfamiliar political situation, as the party tries to find ways to repair the losses it has sustained. Iran no longer enjoys the financial surpluses needed to play a major and active role in reconstruction as it did in the aftermath of the July 2006 war. Meanwhile, Gulf states, who played a significant role in reconstruction after 2006, have become more cautious in their economic and political relations with Lebanon. Additionally, Lebanon’s ongoing economic collapse since late 2019 has left the state with no financial capacity to contribute to reconstruction efforts. However, Hezbollah’s troubles did not end there. The party has been exposed on a regional level, having lost its ally in Damascus and its strategic depth to the north and east of Lebanon. This issue poses significant logistical challenges for the group, particularly in terms of arms supply routes and fighter movements from Tehran. 

In this political context, Hezbollah witnessed the unraveling of several traditional alliances that the party had forged with key figures from various religious sects. After a gradual drift with its main Christian ally, Gebran Bassil—head of the Free Patriotic Movement and son-in-law of former president Michel Aoun—Bassil became bolder in openly criticizing Hezbollah after the war, questioning the legitimacy of the party’s military role and its regional ties. Similarly, Druze leader Walid Jumblatt publicly questioned the principle of armed resistance and nominated Nawaf Salam despite the opposition of Hezbollah and the Amal Movement. 

Reconstruction and financial recovery

In order to unlock external aid, Lebanon must simultaneously address both the challenges of reconstruction following the devastation of the war with Israel and grapple with the economic collapse the country has undergone since 2020. 

The World Bank estimates that total war-related costs are at $8.5 billion, including $3.2 billion in damages to housing units alone. This means that the total damages amount to approximately 47 percent of the country’s GDP. Meanwhile, there are significant accountability risks in allowing reconstruction aid to flow into the impaired Lebanese financial system while the banking sector suffers from losses estimated at around $72 billion, according to the latest government estimates. Lebanon has set a precedent in this regard, when the state mismanaged foreign aid allocated to Syrian refugees in 2021 with local banks siphoning some $250 million, by using inaccurate and inflated exchange rates and disbursing the funds in local currency. 

The success of the reconstruction plan is therefore inherently tied to progress in implementing the financial recovery plan

In this context, the upcoming government faces a significant challenge: taking bold steps to address the financial, monetary, and banking crises, as well as confronting the deep local vested interests that previously obstructed such measures. Without these steps, within the framework of the financial recovery plan, it will be difficult to secure substantial aid for reconstruction. The success of the reconstruction plan is therefore inherently tied to progress in implementing the financial recovery plan.

The current status of the financial recovery plan

The Mikati cabinet had already developed a financial recovery plan in 2022, based on which it signed a staff-level agreement with the IMF. However, much like the plan approved by Hassan Diab’s government in 2020, it was never implemented, and the agreement with the IMF never progressed to a final deal. The key provisions that remained unexecuted were those that directly affected the interests of powerful figures within the banking and political elite, reflecting the resistance to reforms that could undermine their influence and interests.

Those provisions include passing an emergency law to restructure the banking sector. Bank owners’ insistence on retaining ownership of the banks, combined with their pressure on political decision-makers, has maintained the status quo of “zombie banks,” burdened with losses and incapable of providing basic banking services, including secure savings. Additionally, since the financial collapse of 2020, Lebanon has not completed the auditing of banks’ balance sheets, or negotiated the restructuring of public debt to bring it down to sustainable levels. Lastly, the government has failed to approve a credible general budget with realistic figures. The previous budgets approved in past years were undermined by their lack of accuracy in estimating revenue.

Overly optimistic perspectives

Investors in sovereign debt showed optimism after Israel intensified its attacks on Lebanon in September 2024. They believed that weakening Hezbollah would benefit the Lebanese economy and, in turn, improve the country’s ability to repay its debts. As a result, demand for Lebanon’s bonds surged as investors sought to capitalize on the expected improvement in creditworthiness.

However, such a perspective remains overly optimistic. The resistance to economic reforms did not stem from one political group, but was instead driven by a consensus among traditional political forces seeking to protect deep-rooted interests embedded in Lebanon’s economic structure. It is unclear how one might expect a sudden shift in this dynamic simply by weakening Hezbollah, as proposed by some international financial reports.

The resistance to economic reforms did not stem from one political group, but was instead driven by a consensus among traditional political forces

A more realistic perspective can be considered from an entirely different angle. The urgently needed reconstruction aid that would flow under the plan put together with the World Bank, could push political parties toward implementing the financial and economic reforms they have avoided since 2020. In contrast to the influence of the local banking lobby, there is now this counter-pressure that could encourage responsiveness to the needs of economic recovery.

Hezbollah and the Amal Movement in particular have a vested interest in starting the reconstruction process, given the direct impact of the war’s displacement and destruction on the community they both represent. 

Given this current counter-pressure, now is the right time to push for a broad package of reforms to achieve a comprehensive economic transformation that extends beyond financial recovery alone. For instance, it is essential to review Lebanon’s existing tax system, which currently allows significant tax evasion by the wealthiest while placing the tax burden on low-income groups through easily collected and regressive indirect taxes. At the same time, the Lebanese state must conduct a comprehensive review of its existing infrastructure to ensure it can effectively support productive sectors to foster investment and growth. 

The Lebanese state must also address the emerging challenges related to social protection networks, especially after the suspension of US foreign aid, which previously covered over 62 percent of the costs of World Food Program projects in Lebanon. Notably, these projects provided food and financial assistance to Syrian refugees and the poorest Lebanese households. The new government must also address the funding shortages facing public services such as education and public hospitals, due to the severe austerity policies adopted by the previous government.

Ultimately, the implementation of the stalled reforms will depend on the extent to which local political forces are willing to change their approach to the financial crisis under the weight of external and domestic pressure and Lebanon’s need for reconstruction funds.

Next steps

Implementing reconstruction projects will require the sustained cessation of hostilities and the full withdrawal of Israeli forces still occupying South Lebanon. As of now, Israeli airstrikes continue in South Lebanon and the Beqaa in the east, with the Israeli army repeatedly delaying its complete withdrawal. Only proper American and broader Western pressure can push Israel to end its occupation and breaches of the ceasefire deal to let the new Lebanese government start its work.

Salam’s government will face some serious challenges in the next few months, particularly when pushing for the necessary reforms and financial plan in parliament. He is expected to face fierce opposition in parliament, after most political parties have already blocked any attempts of economic reforms since the country’s financial collapse. Now, more than ever, he and his cabinet can use all the support they can get.

Ali Noureddeen is a Senior Inclusive Economies Associate at TIMEP, focusing on issues related to fiscal policies, socioeconomic inequalities, and social protection in Lebanon.