Lebanon: Rebuilding all over again (page 1 of 2)

A fragile truce

At the time of writing, the UN-brokered ceasefire, which ended the 33-day conflict between Israel and Hezbollah on 14 August, continued to hold. However, the ceasefire remains fragile. Israel has indicated it is entitled to use force to prevent Hezbollah from rearming and to clear guerrilla positions under the UN resolution. Meanwhile, Hezbollah has said it reserved the right to fight Israeli soldiers still on Lebanese soil.

Indeed, there have been clashes between Israeli troops and Hezbollah fighters, which could easily spiral back into a larger conflict. The ceasefire is weakened by the delay in sending international and Lebanese troops to the border area. On a longer-term issue, implicit in Resolution 1701 is that Hezbollah should no longer operate as a military force.

This will be difficult for the Lebanese government to enforce, especially as Hezbollah has indicated now is not the time for disarmament. The risk of the conflict escalating remains significant, which would be detrimental for the recovery process. However, in our central scenario, although skirmishes will continue in the border area, the conflict is not forecast to spread to the levels earlier in the short-term.

Economy to contract in 2006

Along with the devastating cost to human lives, Lebanon's economic position has deteriorated markedly as a result of the war. This follows indications that the economy rebounded strongly in H1 2006. The buoyant economic performance was being driven by a rebound in tourism and strong performance of exports.

The Council for Development and Reconstruction has placed the cost of infrastructural damage at USD 3.6bn. However, this excludes the wider losses to the economy. As a result of the conflict, the economy will contract sharply in H2 2006 and we are now forecasting real GDP growth will contract by 6.2% in 2006.

There are a number of factors behind the contraction in the economy, namely the loss of tourism revenue and export capacity. The ability of companies to function and export has been greatly curtailed by the damage to infrastructure as well as blockades from Israel. These factors, along with the loss in private income and sentiment, will result in private consumption to contract sharply in H2 2006.

Wider deterioration in the economy

Other macro-economic indicators will also deteriorate in 2006 owing to the conflict. The fiscal deficit will widen as tax revenues fall with the contraction in business activity. Meanwhile, government spending will expand sharply as a result of emergency and reconstruction spending.

The trade deficit will also deteriorate given the destruction to the production and export capacity. Despite the end of the conflict, the Israeli air and sea blockade continued at the time of writing. The import bill will surge to cover fuel imports and basic goods. Imports will also be driven higher by the rebuilding process.

Furthermore, the services account will deteriorate as tourism revenue plummets. However, the overall current account deficit will likely narrow with increase inflows of aid, grants and remittances. Meanwhile, inflation will accelerate in H2 2006 as the sea and air blockade and shortage of goods will result in rising prices. The cost of vegetables and other household products, as well as black market fuel, in some cases doubled during the war.

V-shaped recovery

However, we are forecasting a v-shaped recovery, although this is dependant on the ceasefire holding.