Lebanon eurobond crisis: Default, haircut, restructuring, refinancing explained

Members of the IMF are seen leaving after meeting with Lebanese Prime Minister Hassan Diab at the government palace in Beirut, Lebanon. (Reuters)

As media reports swirl around Lebanon’s upcoming repayment of a $1.2 billion eurobond due March 9, many phrases have been used to discuss the route that authorities may take. This includes discussions of a “default” or a “haircut,” possibly twinned with “restructuring.”

A eurobond is a domestically issued bond held in a non-native currency.

To help cut through the jargon, here is an explanation of each of these terms:

Default

Defaulting on a loan simply refers to a failure to repay the debt. In Lebanon’s case, as the country faces an unprecedented economic and political crisis, if it fails to repay its creditors, the bondholders, on March 9 it will default.

Defaulting on debt in the short term will reduce the amount that the country will need to pay back – more on this later – but this can have disastrous consequences in the long term. The country’s credit rating will fall drastically and make it much harder for Lebanon to attract foreign investment and much more expensive to take out loans.

The Lebanese currency, the lira, which has for months traded on the black market significantly lower than compared to its official peg, will lose further value as money leaves the country.

Restructure

Debt restructuring is a tactic used by individuals, companies, and countries to try to avoid a potential default. For example, if an entity has multiple loans with different interest rates, it could take one large loan with a lower interest rate and repay the older loans in order to bring down overall repayments.

On Tuesday, credit ratings firm Fitch Ratings said that, “We believe that some form of government debt restructuring is probable.”

“Although Lebanon technically retains foreign-exchange reserves sufficient to service its sovereign debt repayment obligations in 2020-2021, the costs of meeting its obligations would be so high that this outcome appears politically unrealistic,” the firm commented.

One potential might be for authorities to swap the $1.2 billion eurobond into new bond notes that would mature later with a higher interest rate – a move at which authorities have previously hinted.

Haircut

The term haircut has been used in reference to the Lebanese financial crisis to refer to a forced decrease in deposits. During Cyprus’ financial crisis in the early 2010s, authorities used this method, and depositors who had savings of over 100,000 euros lost over half of their deposits in order to free up liquidity and finance a bailout.

The exact mechanics of how this would work in Lebanon’s case have already been debated by experts. Those who have deposits of over $1 million at a bank could receive a haircut of 50 percent, for instance. Some estimates say a 70 percent haircut is needed, Reuters reported. So far, however, authorities have strongly denied rumors that a depositor haircut is on the table.

Refinance

An example of refinancing was used above as a form of restructuring– when a loan with a high interest rate is paid off with a lower interest rate loan, leaving the debtor with lower payments.

Lebanon has used refinancing, by issuing more eurobonds, in the past to service debt repayments. However, given the country’s economic and political crisis, authorities would need to offer a high interest rate to offset risk for investors, causing greater problems in the future and calling into question whether the loan could ever be repaid.

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Last Update: Wednesday, 20 May 2020 KSA 10:02 - GMT 07:02
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