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Lebanon’s 2023 budget challenges: Political impasse and economic turmoil
As the parliamentary committees began discussing Lebanon’s spending architecture for 2023 – in the middle of 2023 – and as the central bank of Lebanon’s new leadership threatened to cut fueling expenditures, it seems the country is descending towards a new political impasse.
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To start with, the preliminary draft seen by Al Arabiya English lacks the preamble that typically explains the methodology employed by the ministry in formulating the budget. The draft does not explicitly state the exchange rate used for these calculations.
Apparently, the 2023 budget was based on the Sayrafa platform rate, which is around 86,000 Lebanese pounds and not according to the parallel market rate, said Nassib Ghobril, Chief Economist for the Byblos Group.
“What will happen to the 2024 budget will be a different story,” he told Al Arabiya English in an interview.
While it is still premature to comment on the likely implications, what is certain is that it includes a mountain of new taxes and fees to account for the high inflation rate and the valuation of the currency, he added.
The ministry has forecast Lp181.9 billion in public spending for 2023, which equates to approximately $1.98 billion at the parallel market exchange rate or $12.13 billion at the official exchange rate (Lp15,000 to a dollar). Expenditure has been shown to have increased by Lp141.1 billion, compared to Lp40.9 billion in 2022.
Clearly, the fragile political entente in the parliament will stand against the new law.
The taxes, in fact, have been parachuted on to the budget, while the corporate Lebanese community is expecting to alleviate their tax burden and not increase them. The state’s priority is clearly to increase revenues regardless of the economic consequences, Ghobril pointed out.
Such a tax regime will backfire since the revenue targets will not be met – especially when you deal with customs revenues, given the amount of increase on the import bill of $19 billion in 2022, which is at the same level as the import bills prior to the crisis, he added.
Anti-government protesters flash the victory sign during a driving convoy protest through the streets to express rejection of the political leadership they blame for the economic and financial crisis, in Beirut, Lebanon, on Tuesday, April 21, 2020. (AP)
The jump in oil prices, the war in Ukraine and the increased cost of shipping of insurance will not make the situation any easier, he further observed. Traders have already imported vast supplies ahead of the expected rise in customs duties, Ghobril added.
It is a mixture of many “tour de forces,” wishful thinking that will never materialize except on paper, former Lebanese finance minister Georges Corm told Al Arabiya English. Seemingly, the minister of finance is being engaged in a situation that is totally alien to him, he added. Corm also expressed his skepticism over the efficacy of applying a free-floating rate to the economy.
The big question is: Where will the revenue be generated from as the purchasing power of the Lebanese and the corporates is in free-fall, Corm added. He also expressed his dismay over how the preamble of the budget was missing, a prerequisite for any law to be passed. Its ratification will take many more months before it can be passed. The budget is already late to be ratified. Moreover, the preliminary draft budget for 2022 was completed in January, with the corresponding Finance Act passed eight months later.
Experts believe that all those figures are meaningless as the 2023 budget did not fix an exchange rate for the Usd/Lp parity. It is evident that the budget law will be stuck between a rock and a hard place. A proposed reform plan submitted by the vice-governors of the central bank to the authorities last month was rather fuzzy about the budget figures.
It said: “At this stage, the proposed budget 2023 is balanced with revenues and expenditures reaching Lp181.9 trillion, at an average revenue of Lp15 trillion per month. At the current exchange rate of 92,000 to the dollar, this represents around $2 billion per year, $164 million per month. As for revenues in 2023, they are estimated at Lp147,739 billion, equivalent to around $1.61 billion at the parallel market rate or $9.85 billion. Over the course of a year, revenue has surged by Lp117.7 billion, with 76.3 percent of it coming from tax revenue, including value-added tax (VAT) and other obligatory levies.”
In particular, the ministry anticipates the collection of Lp36.2 billion of VAT, which constitutes approximately 24.5 percent of total revenue. It is important to note that the exchange rate currently used to calculate VAT varies between that of the central bank’s Sayrafa platform (currently LL85,500 to the dollar) and the parallel market rate, depending on the entity collecting it on behalf of the state.
Currently a lot of taxes are still accounted for on the Sayrafa rate. Ghobril expects real estate fees to also be at an all-time high with the proposed budget. These revenues will not be achieved as the public administration is still on strike, Ghobril cautioned.
Not just that, even the tourism sector will be suffering from more tax burdens, even as new fees are levied on the production of beverages in Lebanon, Ghobril said.
Tourists sit in a boat near the sea castle in the port city of Sidon, Lebanon July 9, 2019. (Reuters)
He added that the budget could have helped with the implementation of new and stringent measures to combat tax evasion and fight cross-border smuggling, instead of tapping into resources in sectors that are showing signs of life.
The main twist in the plan is the proposition of a hike in revenues based on a free-floating rate. It said the government is currently collecting around Lp20-24 trillion monthly and $20 million annually. It said: “Starting July 2023, the government should be able to collect Lp240 trillion to Lp288 trillion and $240 million. It is important to note that currently, around 40 percent of collected Lebanese pounds are in cash and the remaining are in bank transfers.”
The floating exchange rate will need to be coupled with a rescheduling of public sector debts as well as a strict monetary policy. No one will buy that Lebanon will be able to tap into international markets with such a history of defaults and failed reforms.
In a nutshell, the vice-governors want to see the coverage of a new deficit in 2023 as the preliminary draft projects a deficit of Lp34.1 billion, equivalent to approximately 18.79 percent of total expenditure.
Also, the trend in money supply is shifting as currency in circulation is underlining a dollarized cash economy. It recorded Lp80.8 million in May 2023, compared to Lp43.5 million in May 2022, as deposits are at an all-time low. Resident customers’ deposits declined to Lp57 million in May 2023, compared to Lp40.8 million in May 2022. Non-resident customers’ deposits, too, saw a decline of Lp3.14 million in May 2023 compared to Lp3.11 million in May 2022.
According to the IMF Article 4, consultation fiscal revenues are estimated to have collapsed to 6 percent of GDP in 2022 (compared to 10 percent of GDP in 2021 and over 20 percent before the crisis).
“This reflects insufficient valuation adjustment of taxes, excises and fees to exchange rate depreciation and surging inflation and growing non-compliance due to the collapse of tax,” the IMF article noted.
The completion of the budget voting process should have ideally taken place no later than this January. Yet, unfortunately, the ruling class has once again disregarded this timeline, despite being in the fourth year of an ongoing economic and financial crisis.
Moussa Yaakoub, a Lebanese pub owner, counts Lebanese pound banknotes in Beirut, Lebanon October 26, 2021. (Reuters)
A free-floating rate applied to the economy and the budget without proper intervention in markets means a skyrocketing Usd/Lp parity, experts say.
The exchange rate of the Lebanese pound was pegged to the US dollar in 1997 (1 US dollar = 1,507 Lebanese pounds, also referred to as Lebanese lira), and, until 2019, Lebanon’s currency had been stable. Lebanon began employing a new official exchange rate of 15,000 Lebanese pounds to the dollar, as opposed to the now-obsolete rate of 1,507 to the dollar, by the end of October 2022.
In the backdrop of such contentious macroeconomic policy formulations, there is growing uncertainty on whether the Parliament will make the effort this year to pass a law to finalize public accounts for 2022. This procedure, which is typically mandated by the constitution to enable MPs to oversee the budget’s execution retrospectively, has been neglected for several years.
According to the World Bank, tax revenues above 15 percent of a country’s gross domestic product (GDP) are a key ingredient for economic growth and, ultimately, poverty alleviation. At an average GDP of $20 billion, the tax revenues should at least represent $3 billion. In an attempt to control the Cash Economy and adopt necessary reforms, which could reach 50 percent of the current GDP, the tax revenues could exceed $4.5 billion, according to an International Institute of Finance report.
The government will need to strengthen its budget revenue framework through deeper reforms. This will be possible if there is a major review of taxes, fees and excises at the level of various ministries. Several examples of low-hanging fruit can be cited that will have a direct and major impact on revenues and help the government enhance its revenues.
Also, the conditions to meet, in keeping with the vice-governors’ proposal, is that the Parliament should approve the proposed 2023 Budget before the end of August and the government shall prepare the 2024 budget with the required adjustments and submit it before the end of October 2023. The 2024 budget should be approved before the end of November 2023, the vice-governors said.
The previous budget was formulated using a combination of exchange rates. The exchange rate utilized for calculating customs duties in Lebanese lira, based on pre-tax prices denominated in dollars (commonly known as the customs dollar), has been progressively increased since the start of this year. As of last May, it has been fixed at Lp86,000 to the dollar.
Furthermore, there is a notable increase in non-tax revenues from the telecommunications sector, nearly doubling from Lp4.5 billion to Lp8.3 billion.
New tax adjustments
To optimize revenue collection, the ministry has implemented new measures and revised existing ones to align with the exchange rate and accommodate salary increases granted to civil servants since the beginning of this year (with their pre-crisis salaries being multiplied by seven).
Regarding income tax (as specified in Article 17 of the current draft), the number of tax brackets remains at seven, along with the corresponding tax percentages (2 percent, 4 percent, 7 percent, 11 percent, 15 percent, 20 percent and 25 percent).
However, adjustments have been made to the bracket amounts. The first bracket now encompasses sums below Lp70 million per year, while the highest bracket encompasses sums exceeding Lp2.44 billion per year.
In the budget, the ministry has also applied new fixed taxes on the consumption of locally produced alcohol, tobacco and soft drinks, in addition to all existing levies.
Under these new measures, there is a tax of Lp5,000 per liter of beer produced, Lp7,500 per liter of arak and Lp6,000 per liter of wine (as outlined in Article 36).
For soft drinks, whether imported or domestically produced, there is a tax of Lp5,000 per liter (as stated in Article 61).
People sit at an outdoor restaurant in Batroun, Lebanon June 5, 2021. (Reuters)
In terms of tobacco, there is an additional tax of Lp7,500 per carton of cigarettes, as well as an additional tax of Lp75,000 per kg of hookah tobacco. For cigars, a new tax equivalent to 10 percent of the retail selling price has been planned (as mentioned in Article 78).
Continuing with the current regulations, travelers will still be required to pay exit taxes upon leaving Lebanon. These taxes will amount to $35 for economy class passengers, $50 for business class, $65 for first class and $100 for passengers traveling on private jets or yachts.
For individuals entering Lebanon via land routes, a fee of Lp500,000 will be levied (as stipulated in Article 51).
Moreover, the preliminary draft budget includes a provision for an annual tax of Lp100,000 per kilovolt ampere (KVa) imposed on private generator owners for the electricity they supply to their subscribers (as outlined in Article 52).
Registration fees, mechanical taxes and driving license fees, both for local and international licenses, have been increased (as stated in Article 56).
Furthermore, one provision (Article 80) specifies that salary hikes granted to civil servants from 2020 will not be considered as part of those employees’ basic salary. This suggests that these increases may not be permanent.
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