Currency Devaluation Working Paper

Arts, Sciences & Technology University in Lebanon
Faculty of Business Administration
Final Year Project

Submitted in partial fulfillment of the requirements for the Bachelor
of Business Administration – Emphasis: ___Banking and Finance___
The Effect of the Lebanese Pound

Devaluation on the Lebanese Economy
Prepared by:
Khaled Amin Ahmad
Supervised by:
Mr. Michel Saliby
Dekwaneh - Lebanon
Spring 2020
The Effect of the Lebanese Pound Devaluation on the Lebanese Economy Spring 2020
Arts, Sciences & Technology University in Lebanon
PROJECT RELEASE FORM
Khaled Amin Ahmad
󠇊Authorize the Arts, Sciences & Technology University in

Lebanon to supply copies of my project to libraries or
individuals upon request.
󠇊Do not authorize the Arts, Sciences & Technology University

in Lebanon to supply copies of my projects to libraries or
individuals for a period of two years starting with the date of
project defense.
Signature
…………………………
Date
…………………………
2 Spring 2020
DEDICATION
It is with my deepest gratitude and warmest affection that I dedicate this thesis to all
the hard working and respected professors who have taught me since my first year at
the Arts, Sciences & Technology University; and to the members of my dissertation
committee, Mr. Michel Saliby and Dr. George Maalouf, that have generously given
me their time and expertise to better my work.
Above all, this work is also dedicated to my parents who have loved and supported
me unconditionally; as one of the most important life lessons bestowed upon me, was
to work hard for the things that I aspire to achieve.
3 Spring 2020
ACKNOWLEDGEMENTS
I would like to take this opportunity to thank all the ones that have contributed in
facilitating the process of completing my thesis. First of all, I would like to express
my gratitude to my committee members, Mr. Michel Saliby and Dr. George Maalouf
for their kind and helpful supervising that granted me professional suggestions,
guidance, and encouragement at the time of preparing this dissertation; and who have
taught me the methodology of this course qualitatively and quantitatively. I wish to
also thank all my professors as they have put lots of effort throughout my academic
years. In addition, I would like to thank all my interviewees for their provided
information; and for imparting their knowledge and expertise in this study; and above
all, my family members and my partner for their great patience and care through it all.
Without them, this piece of work wouldn’t have been accomplished.
4 Spring 2020
List of Tables
Table 1 Procedure and time frame Page 35

Table 2 Results and findings Page 46
Table 3 Winners and losers from currency devaluation Page 53
5 Spring 2020
List of Figures
Figure 1 Saunder’s research onion Page 32

Figure 2 Evaluation of Lebanese debt Page 39
Figure 3 Effect of devaluation Page 52
Figure 4 Steps to reach growth improvement Page 54
6 Spring 2020
Abstract
Limited fiscal space limits Lebanon’s ability to meet its development goals and
improve the living condition of its population. Lebanese economic structure is
unusual in that product exports of local origin are insignificant, and the country relies
heavily on imported goods (food, medicines, consumer and capital goods). A currency
devaluation, by reducing real wages, could potentially provide more fiscal space that
would help Lebanon’s fundamental development goals. This paper elaborates the
impact of devaluation of the Lebanese pounds on fiscal savings, real public sector
wages, real income and poverty, on import and export shipments that in return affects
the aggregate demand of the country.
This paper aims at providing some evidence of the potential fiscal, social and
economic impact of the Lebanese pound devaluation on the Lebanese territory. The
method adopted is a qualitative research; where semi-structured interviews with the
financing experts and other financial university Doctors have been a guide to this
study, in order to further prove the impact of the currency devaluation on the
Lebanese economy due to its application to theory.
Key terms:
Currency Devaluation
Aggregate Demand
Marshall-Lerner Condition
Contractionary Monetary Policy
Inflation
7 Spring 2020
Table of Contents
Project Release Form..........................................................................................................................2

Dedication...........................................................................................................................................3
Acknowledgments...............................................................................................................................4
List of Tables.......................................................................................................................................5
List of Figures.....................................................................................................................................6
Abstract...............................................................................................................................................7
Table of Contents................................................................................................................................8
Chapter I: Introduction......................................................................................................................10
1.1 Introduction.............................................................................................................................10
1.2 Statement of the problem ........................................................................................................11
1.3 Purpose of the study................................................................................................................11
1.4 Significance of the study.........................................................................................................12
1.5 Research question....................................................................................................................12
1.6 Methodology............................................................................................................................12
Chapter 2: Background.....................................................................................................................13
2.1 Literature review.....................................................................................................................13
2.1.1 Currency Devaluation Introduction..................................................................................13
2.1.2 Aggregate Demand and Supply-Side Effects...................................................................14
2.1.3 Devaluation History..........................................................................................................15
2.1.4 Currency Devaluation Under the Marshall-Lerner Condition..........................................16
2.1.5 Currency Devaluation Effect on the Trade Balance.........................................................18
2.1.6 Currency Devaluation Effects on International Market Competitiveness........................19
2.1.7 Devaluation Effects on Income and Profit........................................................................20
2.1.8 Devaluation Effects in the Short and Long Run...............................................................21
2.1.9 System Stability Effects on Devaluation..........................................................................22
2.1.10 Employment Level Effects On Devaluation...................................................................23
2.1.11 Currency Devaluation Effects on Developing Countries...............................................24
2.1.12 Problems of Past Paper Works........................................................................................25
2.1.13 Devaluation Effects on Country’s Debt..........................................................................26
2.1.14 Currency Devaluation Negative Effects and Risks.........................................................26
8 Spring 2020
2.1.15 Devaluation of Botswana’s Currency, The Pula.............................................................27

2.2 Definition of terms:.................................................................................................................29
Chapter 3: Methodology...................................................................................................................31
3.1 Restate Purpose and Research Question..................................................................................31
3.2 Data Collection and Data Analysis..........................................................................................31
3.3 Population and Sampling.........................................................................................................31
3.4 Saunders’ Research Onion......................................................................................................32
3.4.1 Research Philosophy.........................................................................................................32
3.4.2 Research Approach...........................................................................................................33
3.4.3 Research Strategy.............................................................................................................33
3.4.4 Research Choice...............................................................................................................33
3.4.5 Time Horizon....................................................................................................................34
3.4.6 Techniques and Procedures..............................................................................................34
3.5 Instrumentation........................................................................................................................34
3.6 Procedures and Time Frame....................................................................................................35
3.7 Analysis Plan...........................................................................................................................35
3.8 Validity and Reliability...........................................................................................................35
3.9 Assumptions............................................................................................................................36
3.10 Scope and Limitations...........................................................................................................36
Chapter 4: Results.............................................................................................................................37
4.1 Findings...................................................................................................................................37
4.1.1 Interview with Dr. Bassem Bawab...................................................................................37
4.1.2 Interview with Mr. Michel Mrad......................................................................................42
4.1.3 Interview with Mr. Joseph Habchy...................................................................................44
4.2 Evaluation of the findings.......................................................................................................46
Chapter 5: Conclusions and Recommendations................................................................................50
5.1 Summary of Work and Findings:............................................................................................50
5.2 Discussions (Explanation of the Findings):.............................................................................51
5.3 Recommendations...................................................................................................................55
5.3.1 Recommendations for Decision Makers...........................................................................55
5.3.2 Recommendations for Policy Makers...............................................................................55
5.3.3 Recommendations for Future Researchers.......................................................................55
Chapter 6: References.......................................................................................................................56
Appendix A: Interview Questions / Questionnaire..........................................................................57
9 Spring 2020
Chapter I: Introduction
1.1 Introduction
The government of Lebanon is committed to meet their development goals, and to
rapidly improve the living conditions of its population. But high factor costs and
limited fiscal space stand in the way of meeting these fundamental development
goals. Unstable political circumstances in the country, along with regional tension and
the burdens of the Syrian crisis, have decreased the Lebanese economy for several
years now. The political situation caused by a nine-month absence of a government in
2018 further made the economic environment worse. As a result, main economic
sectors such as foreign investment, tourism, and real estate, marked their lowest levels
since 2011. GDP growth stood at around 1% compared to 2% growth in the region,
while the inflation rate reached approximately 6%.
A currency devaluation is a policy option to reduce factor costs and create fiscal space
to restructure expenditure towards achieving growth development and reducing
poverty. Currency devaluation is typically considered as a policy option to improve
export sectors and growth prospects. In Lebanon, given the structural features of its
economy, a nominal exchange rate devaluation is likely to be contractionary in the
short-run. The interest of considering a currency devaluation is based on its impact on
the fiscal accounts. Thus, a nominal exchange rate devaluation could create short-term
fiscal savings that could be distributed for poverty reduction purposes.
10 Spring 2020
1.2 Statement of the Problem
Lebanon is facing tough times, economic recession, crisis at its peak, where currency
exchange is out of control. Thus, the Lebanese government will have to respond to
these economic crises as readily as other developing countries did. In order to be able
to choose appropriate strategies regarding the huge debt (Eurobonds) and regarding
the currency exchange problem, the Lebanese government introduced a new financial
advisory company, Lazard (formerly known as Lazard Frères & Co.) to study the
country’s crisis and come up with solutions. This financial advisory provided many
suggestions to face this huge recession and one of the highly considered solutions is
‘Currency devaluation’ due to the interaction of market forces and policy decisions
that made the currency’s fixed exchange rate untenable. So, this research paper aims
to highlight the effect of the considered government solution.
1.3 Purpose of the Study
The purpose of this paper is to provide a wide knowledge regarding the main effect of
the Lebanese currency devaluation on its economy through clarifying:
- The currency devaluation definition
- The effects of the currency devaluation on the overall economy
- The importance of the currency devaluation
- The pros and cons of the currency devaluation on the short term and long
term in the Lebanese territory
11 Spring 2020
1.4 Significance of the Study
This research paper aims to assist policy makers, economists, and the Lebanese
government in their decision making with regards to the currency devaluation. Not to
mention, the students who have the interest in knowing more about the currency
devaluation and the different ways it can affect the economy.
1.5 Research Question
This research paper answers the following question:
What is the effect of the Lebanese pound devaluation on the economy?
1.5 Methodology
The method adopted is a qualitative research; where semi-structured interviews with
the financial experts and financial university doctors have been a guide to this study,
in order to further prove the impact of the currency devaluation on the Lebanese
economy due to its application to theory.
12 Spring 2020
Chapter 2: Background
2.1 Literature Review
Through adopting the currency devaluation, the Lebanese government will try to
lower the export cost so that it becomes cheaper for the foreign countries; which will
allow the Lebanese government to become more self-sufficient. Furthermore,
lowering imports and increasing exports will lead to the increase in the aggregate
demand which can in turn lower the Lebanese deficit. Another problem that the
currency devaluation can get rid of is the unemployment rate in Lebanon; as currency
devaluation will have an effect on wages due to the decreased power of the currency,
which will in turn force employers to minimize foreign worker recruitment and fill the
vacancies by recruiting Lebanese citizens instead.
2.1.1 Currency Devaluation Introduction
The concept of currency devaluation is not new. In simple terms, devaluation means a
reduction in the official value of a domestic currency. It occurs when a unit of
nation’s currency can buy fewer units of foreign currency, which means less than the
number that it did buy before. Adding to that, the devaluation of the domestic
currency means that the value of the exchange rate is continuously changing due to
the changes in the demand for and the supply of foreign currency. Due to excess
supply of domestic currency, the value of the exchange rate decreases.
13 Spring 2020
2.1.2 Aggregate Demand and Supply-Side Effects
Currency devaluation has been applied and practiced in many parts of the world.
Devaluation is usually taken as means of correcting the deficit in the balance
payments. While currency devaluation may eventually succeed in improving the trade
balance, the question arises on its overall effect, on whether it maintains or even
boosts aggregate demand and growth. Indeed, the belief that devaluation is also an
effective tool for raising aggregate demand is widely known. In order for a
depreciation to boost the aggregate demand, the real exchange should have a positive
effect on net exports, while the domestic elements of aggregate demand should be
inelastic to the exchange rate change. The concept of supply-side effect of the
exchange rate is similar and the same as of the demand side. When a country relies on
the import sector, especially on importing intermediary inputs and raw materials for
production purposes, devaluating its currency will cause an increase in the prices of
these imported inputs and goods which will lead to the increase of the production
costs for a specific level of output and production. This will cause a negative impact
on the production and outputs and is thus called a negative supply-side effect of the
exchange rate. Following devaluation, the domestic price of goods will either increase
or will stay at the pre-devaluation level, and the price in the foreign country will either
decrease or will stay at the pre-devaluation level.
2.1.3 Devaluation History
The favorable view of devaluation was challenged quite early from various authors.
Alexander (1952), Diaz-Alejandro (1963), and Krugman and Taylor (1978) pointed
14 Spring 2020
out that devaluation can also be contractionary for several reasons. Most importantly,
it was argued that:
a) Real depreciation might fail to increase net exports, if the Marshall-Lerner
condition (MLC) is not satisfied.
The Marshall-Lerner condition, which states that a currency devaluation
will only lead to an improvement in the balance of payments if the sum
of demand elasticity (% change in quantity demanded / % change
in price) for imports and exports is greater than one, it is named after
English economist Alfred Marshall (1842-1924) and the Romanian born
economist Abba Lerner (1905 – 1985)... When the Marshall-Lerner
condition is not met, and the sum price elasticity of demand for imports
and exports is less than 1, then the balance of trade will worsen when a
currency depreciates.
b) Real depreciation is likely to redistribute income from workers, who
normally have a lower ability to consume, to profit earners / owners, and
thereby depress and lower the consumption demand.
2.1.4 Currency Devaluation Under the Marshall-Lerner Condition
The supply-side effects of the exchange rate were ignored in the more conventional
economic literature. Earlier analysis of devaluation was centered around the familiar
Marshal-Lerner conditions. A conventional Keynesian economist such as Meade
(1951) concludes in his work that due to widespread and the huge number of
unemployment and the imperfect and bad competition, the prices of many home
15 Spring 2020
goods are sticky and don’t change immediately. If a currency devaluation occurs, in
the presence of MLC and when these conditions are met, the aggregate demand
function shifts outwards. With that being said, the horizontal aggregate supply
function will improve the balance of payments, and stimulate the domestic output.
Other economists such as Diaz-Alejandro (1963) hold the opinion that devaluation
can be contractionary in the short-run even without the presence of a negative supply-
side effects of the exchange rate. He argues and challenges Meade’s (1951) claim by
saying that devaluation will reduce the aggregate demand for the domestic goods by
changing the income distribution in favor of capitalists and profit makers, who have a
low marginal propensity to consume (MPC) and against laborers who a have a high
MPC. Which means even if the output is determined by the demand, devaluation
would be contractionary. He added that prices are increased exactly by the amount of
the exchange rate which will lead to eliminate the excess demand for the domestic
good.
Tsiang (1961) has used the work of Meade and Alexander and derived that even at
full employment level, devaluation could reduce the domestic absorption, such as
household consumption, gross investment and government consumption, and improve
the balance of the payments. The reason behind this outcome is as follows: The
increase in the price level reduces the real supply of money, which in return raises the
interest rate. Consequently, investment will fall from its pre-devaluation level, but on
the other hand, investment in the export sector will be increasing. Since the demand
for the foreign goods, or the imported goods, will fall, the payments balance will be
improving for sure upon devaluation. However, the demand for imported goods will
16 Spring 2020
fall if and only if the price of the domestic and home fabricated goods doesn’t
increase by the full amount of the exchange rate.
On the other hand, if the domestic good price increases by more than the amount of
the exchange rate, then devaluation will deteriorate the balance payments, and make it
worse.
Robinson (1947) was the first to criticize Marshall for his point. She has derived a
correct formula showing the effect of devaluation on the trade balance which is not in
equilibrium initially. But her study and the result that she got were taken in a case
when the trade balance was only in terms of the domestic currency. While Hirschman
(1949), on the other hand derived some formula showing the effect of devaluation on
the trade balance when it is measured in both possible currencies, domestic and
foreign currencies. He showed that if initially imports are not equal to exports, the
MLC won’t be sufficient and enough for balance payments to improve when
devaluation happens. Nevertheless, if the imports were initially equal to exports, then
only in this case, the satisfaction of the MLC becomes necessary and sufficient for
payments balance, measured in both foreign and domestic currencies, to improve with
devaluation. Hirschman also proved that if the payments balance is measured only in
domestic currency units, then devaluation might have unclear and misleading results.
2.1.5 Currency Devaluation Effect on the Trade Balance
Taking into consideration the above results, it is concluded that devaluation could
possibly have 2 kinds of effects. The first one, is the valuation effect on the initial
values of import and export quantities at the new value of the exchange rate. And the
17 Spring 2020
second one is the quantity effect, that is determined by the export and import
elasticities using the original exchange rate. If the initial trade was balanced, this will
lead to the loss in revenues due to higher cost of imports offset by the increase and the
addition of export revenues. In this case, devaluation only involves the quantity effect.
On the other hand, if the initial trade balance was in deficit and not balanced, then the
valuation effect caused by the devaluation will only make the domestic trade balance
worse, when it is measured in the domestic currency terms.
Furthermore, Robinson (1947) and Hirshman (1949) have shown that despite the
satisfaction or the violation of the Marshal-Lerner conditions, if the trade balance was
initially in deficit, then it is likely that devaluation will improve the trade balance
expressed in foreign currency.
Other economists such as Dornbusch (1980) and Schmid (1982) claim that due
to sufficiently low import and export elasticities in oil importing countries,
devaluation could have negative real effects. Economists such as Calvo (1983), and
Larrian and Sachs (1986) have derived the result that devaluation will exert
contractionary effects only if the local equilibrium is unstable.
Shea (1976) has derived the conditions under which devaluation could worsen or
improve the trade balance. Her model assumes that the country in question or the
selected country to study imports both consumer goods and intermediary inputs (such
as raw materials, semi-finished goods…) She derived the theoretical relationships
between the price elasticities of the demand for imported goods and of intermediate
imported inputs. In addition, the relationship between the income elasticities of the
demand for imported goods and of intermediate imported inputs are also derived.
With the help of these relationships, Shea has concluded that the satisfaction of the
MLC continues to imply that the balance of payments will improve upon devaluation,
18 Spring 2020
even if intermediate inputs are included in the model. Nielsen (1987) has also derived
conditions under which the balance of payments will improve upon devaluation when
the country is importing intermediate inputs.
Contrary to Shea, Nielsen has assumed that the country studied imports regarding
both, intermediate inputs and final consumer goods. He concluded that the satisfaction
of MLC is not sufficient for the payments balance to improve with devaluation. He
showed that along with exported and imported goods elasticities, there exist some
other factors such as the relative values of finished goods and relative values of
exports compared to the gross home good, the elasticity of substitution between
primary inputs and imported intermediate goods, and the share of foreign intermediate
input in domestic production play a crucial role in determining the balance of
payments effects of devaluation.
2.1.6 Currency Devaluation Effects on International Market Competitiveness
In an early contribution, Blecker (1989; also, Blecker, 2002) argues that the pricing
mark-up (difference between the selling price of a good or service and its cost) might
be flexible in an open economy in which firms are subject to international
competition. A reduction in international competitiveness, for example an increase in
nominal wages, might force firms to reduce the mark-up in order to maintain their
place in international markets and staying part of it. By the same token, a real
depreciation would make competitive pressures better, as it improves international
price competitiveness allowing higher mark-ups. Blecker (1989), thus, supposes that a
devaluation raises the mark-up and the profit share.
19 Spring 2020
2.1.7 Devaluation Effects on Income and Profit
Other authors (Bhaduri and Marglin, 1990; Taylor, 2004; Lopez and Perrotini, 2006;
Hein and Vogel, 2008) argue that a real devaluation affects income distribution
through imported raw materials. Bhaduri and Marglin (1990) leave the overall effect
of a devaluation increase in the cost of imported inputs on the profit share open and
argue that it depends on the relative ability and willingness of firms and workers to
roll over the cost increase on prices and nominal wages, respectively. Taylor (2004),
Lopez and Perrotini (2006), and Hein and Vogel (2008), in contrast, assume that
nominal wages are inelastic with respect to the exchange rate such that a real
depreciation always raises the profit share due to a reduction in real wages. Blecker
(1999; 2011) follows the notion of Bhaduri and Marglin (1990) that a real devaluation
induces a phase of conflict inflation in which firms and workers try to shift the extra
cost on each other. In the steady state, the effect of a real devaluation on distribution
is, therefore, ambiguous and depends on the relative bargaining and negotiating power
of both groups. Cooper (1971), Krugman and Taylor (1978) have the opinion that
devaluation could be contractionary and reduce the inflation in semi-industrialized
countries because their trade flows are relatively insensitive to the price and exchange
rate changes and not affected by it.
2.1.8 Devaluation Effects in the Short and Long Run
Other monetarists (such as Hume (1752) Han (1959) and Dornbush (1974) and many
others) have concluded that devaluation can influence economic activities only in the
short-run. However, in the long-run, when all variables are adjusted to the new
20 Spring 2020
sustainable level and get used to it, then devaluation will certainly be neutral. More
precisely, in the long-run, when domestic wages and prices are adjusted, devaluation
fails to reduce the domestic absorption (such as the sum of household consumption,
gross investment, and government consumption), so currency depreciation cannot
change real variables. Therefore, Monetarists believe that a deficit in the payments
balance is caused from excess money supply, while surplus occurs due to a shortfall
of money supply. Furthermore, contrary to Keynesian analysis where they consider
that spending is defined as a function of income, the Monetarists have defined
spending as a function of real balances. The monetarist believes that households and
firms, always attempt to maintain a certain level of real money balances. These
money balances are related to wealth, through portfolio decision, or related to income,
through the demand for money. People in general always adjust their behavior due to
changes in prices and on the nominal money supply. Noting that when devaluation
occurs, the price of domestic good alongside the foreign and imported goods will
increase; this reduces the real money balances. For a given level of money supply,
people will cut down their spending to maintain their desired real balances. This will
result in a bad and negative impact on output. Many monetarists argue that the best
policy is where the central bank should maintain the money supply according to
domestic criteria and let the economic forces determine the exchange rate and the
balance of payments.
2.1.9 System Stability Effects on Devaluation
Buffie (1986) has established a link and correspondence between stability of the
system and the impact effects of devaluation upon the labor employment, the demand
21 Spring 2020
for and the price of home goods, and the balance of payments. He concluded that for a
general technology, there exists no definite correspondence between the stability and
the impact effects of devaluation upon employment and balance of payments.
Nevertheless, in his model, devaluations cannot do both things; contact employment
and reduce the payments balance. This is because either the contraction in
employment or the reduction in payments balance is incompatible with stability. But
if the production factors and costs are separable between the primary factors and the
imported input then stability guarantees that devaluation both increases employment
and it improves the balance payments. This is also applicable and true if the labor and
the imported inputs are gross substitutes.
More recently, Lai and Chang (1989) focused attention on the importance of the
relationship between stability, the degree of money illusion, and the nature of the tax
system in determining the output effects of devaluation. So, by assuming Walrasian
stability, they found the following three results:
a) Regardless of whether the income tax is progressive or proportional, currency
devaluation has a negative impact on output if the workers doesn’t have
money illusion and are free of it.
b) When workers have and suffer from money illusion, the supply-side tax
effects may result in a contractionary devaluation.
c) When the income tax rate is proportional, whether the currency devaluation is
expansionary or contractionary, it has nothing to do with the tax induced
aggregate supply-side effects.
In a comprehensive literature survey, Lizondo and Montiel (1989) have discussed also
the issue of correspondence between the system stability and the potential and
22 Spring 2020
expected effects of devaluation and they concluded that a presumption of stability
doesn’t in general rule out the possibility that devaluation could be contractionary on
impact.
2.1.10 Employment Level Effects On Devaluation
The basic weakness of the studies reported is that the authors have assumed and took
into consideration that labor supply is perfectly elastic. This means that if the
economy is operating at other than the full employment level, the wage adjustments
have no effects on the efficacy of devaluation. Salop (1974) has attempted to enrich
the devaluation debate on this point. For achieving this purpose and goal, he extended
the Meade-Tsiang analysis by assuming that labor supply is positively related to real
wages.
The difference between the Meade-Tsiang and the Salop models is as follows: the
first one is that even in short-run in the Salop model, both the nominal wage and the
price of the domestic goods are endogenous variables. Thus, in the Salop model,
exchange rates have supply-side effects. Also, in opposition to the Meade-Tsiang, in
the Salop model labor market is always clear, and this implies that the economy is
always operating at the full employment level. Salop has derived the result that if the
monetary authority fixes the money supply then devaluation certainly reduces output
and improves the payments balance at the same time. This is the same result which
was derived by Diaz-Alejandro (1963) discussed above.
23 Spring 2020
2.1.11 Currency Devaluation Effects on Developing Countries
A number of empirical studies have also been done to study the effects of devaluation
in developing countries. Cooper (1971) found that in less developed countries (LDC)
even if devaluation contracts and decreases output, it generally improves the current
account and the balance of payments. Sheehy (1986) who has covered 16 Latin
American countries concluded and found out that devaluation is highly contractionary
in these countries. Edwards (1986), on the other hand, has covered 12 less developed
countries and found that devaluating the currency are contractionary in the impact
period only (short term) while in the long-run they all become neutral. Ahluwallia and
Lysy (1981) have done a case study for Malaysia and found that devaluation will be
contractionary when the export elasticity is less than 0.5. Gylfson and Risager (1984)
have covered 8 less developed countries and 7 developed countries and realized that
while devaluation is expansionary in developed countries and contractionary in less
developed countries, devaluation improves current account in both kinds of countries.
Unlike Hamilton (1987), who has done a study for Australia and found a very
different result. He concluded that devaluation is expansionary in the short-run but
contractionary in the long-run. Hamarios (1989) has used the data for the periods
1953-73 and 1975-84 and has covered 27 countries and 6 devaluations to study the
effects of devaluations. He found that over 80 percent of cases, devaluations cause a
net improvement in the trade balance both in the impact period and in the middle
period. The study concluded that the effects of devaluation last for 2-3 years.
24 Spring 2020
2.1.12 Problems of Past Paper Works
While doing the literature summary, some of the theoretical studies showed the
competing effects of the demand-side and the effects of the supply-side that follow
from devaluation of a currency. Some common problems were found in most of the
paper works which can be grouped into the following categories:
1- In most of the models, authors were dealing with a specific form of the
production function, without taking in consideration all the other production.
For example, Krugman and Taylor (1978) have used a specific kind of
production function, while Gylfson and Schmid (1983) have used another
function. Therefore, the results of these studies may be limited to specific
production function.
2- Only few studies have performed a wide and dynamic analysis of the
devaluation. For example, Calvo (1983), Larrain and Sachs (1986), Lizondo
and Montiel (1990), and Buffie (1986). As a result, the relationship between
stability and the contractionary devaluation was taken in consideration only a
few cases.
3- None of the studies have examined devaluation under different tax regimes,
except for Lai and Chang (1989). They have shown that the nature of the tax
system plays a crucial role in determining the effects of devaluations.
2.1.13 Devaluation Effects on Country’s Debt
After the Asian financial crisis in 1997-98, adverse effects on investment from foreign
currency denominated private debt (so-called balance sheet effects) have been added
25 Spring 2020
to the list of contractionary channels (e.g. Krugman, 1999; Allen et al. 2002). The
effect of devaluations on external debt is, therefore, another aspect that may be
relevant for an overall assessment of the advantages of devaluations.
2.1.14 Currency Devaluation Negative Effects and Risks
A recent study shows that a most common danger of devaluation is that of increasing
the price of imports resulting in greater demand for domestic products, where
devaluation can aggravate inflation. If this happens, the government might have to
raise interest rates to control inflation, but at the cost of slow economic growth (Daily
News, 2005). Another risk of devaluation is psychological. To the extent that
devaluation is viewed as a sign of economic weakness. Thus, devaluation might
reduce investors’ confidence in the country’s ability to secure foreign investment.
Another possible consequence is a round of successive devaluation (series of
devaluation). For example, when one country is in a trade business with another, the
later will be concerned if the former is experiencing a currency devaluation, as it
might negatively affect their own export industries. Neighboring countries for
example, in return, might also devalue their own currencies to remove the effects of
their trading partners’ devaluation. Such policies tend to worsen economic difficulties
by creating instability in wide financial markets (Federal Reserve Bank of New York
News, August 1999).
There exists several criticisms and controversies over currency devaluation. De Rosa,
while criticizing devaluation, compared the Hong Kong devaluation to ‘a parent
preparing a child for the death of a favorite pet’ (De Rosa, 1999). A controversy rises
over the devaluation of Brazilian currency by 33.4% (The Banker, 1999).
26 Spring 2020
2.1.15 Devaluation of Botswana’s Currency, The Pula
Boboloki Tlale, a member of Botswana Federation of Secondary School Teachers
(BOFESETE), said that devaluation is a necessary evil while describing Botswana’s
7.5% devaluation of Botswana’s currency, pula (Gideon and Chippa, 2004). The
Chief Executive Officer of Kgalagadi Breweries Limited revealed that his
organization incurred losses due to 12% devaluation of pula on May 30, 2005
(Sunday Standard, 2005). According to the ministry of France, the pula will continue
to be fixed to the currencies of the major trading partners of the country, such as the
South Africa rand, and the Special Drawing Rights (SDR) of the International
Monetary Funds (IMF) composed of the US dollars, the Euro, The British pounds and
the Japanese yen. With that being said, the rate of pula is to be adjusted continuously
and publicly rather than in discrete (Daily News, 2005). Botswana has devalued its
currency more than once, with the highest devaluation being 15% in 1985. On May
30, 2005, the government of Botswana devalued its currency by 12% against the
group of major currencies. This move was done alongside the pula exchange rate
being transformed from fixed exchange rate (which has been used since 1998) to a
decreasing change, known as crawling peg system.
According to the press release by the Ministry of Finance, this action and devaluation
was done to maintain a stable and competitive real exchange rate of the pula. They
also announced that the real exchange rate of the pula had become overvalued in real
terms lately. The real effective exchange rate index of the pula had been raised to 112
in May 2005, relative to the long-term average of 100, because costs in Botswana had
risen and became higher than its other trading country partners. Therefore, it was very
27 Spring 2020
important and crucial to devalue the pula alongside the exchange rate to a level where
it will be more competitive than lately. Botswana’s government felt that the period of
stability from 1993 to 2000, provided this equilibrium exchange rate level. But due to
the current difficulties facing the country, the exchange rate has been restored to avoid
problems of overvaluation (Kobo and Joel, 2005). The rate of the crawled exchange
rate is aligned with the differential between the expected rate of inflation if Botswana
and the expected rate of inflation in the currencies of the basket (it’s trading partners’
currencies) and therefore, the government intended and aimed to keep the real
effective exchange rate of the pula constant, neither overvalued nor undervalued. But
government should keep on following up and adjustments should be made all the time
in either results and directions to maintain the pula at its appropriate level. The system
allows for the rate of the crawl, to be adjusted to a major economic of financial shock
that might occur.
Therefore, the major advantage of this new system over the previous one is that it
takes into account the rate of inflation differentials between Botswana and its trading
partners. With a fixed exchange rate, there is usually a margin between the buy and
sell rates that the Central Bank posts, which is referred to as the band. Under the new
system, the band between the bank of Botswana’s buy and sell rates were raised from
+0.125 around the central rate to 0.5 around the central rate (Nyamadazbo, 2005).
According to Gaolatlhe, the devaluation would give exporters and domestic producers
a more favorable and stronger position against the rest of the world, putting Botswana
on the way to a quickly diversified growth and support job creation. Tourism, textiles,
diamonds, and beef are among many sectors that would benefit from the new system.
The member of the Botswana parliament, Phandu Skelemani, said that the devaluation
would benefit his country because exports would be bought at lower prices in the
28 Spring 2020
international market. He also said that since Botswana’s economy was dependent and
relied on the diamond and beef trade, devaluation would make the raw materials and
commodities affordable for foreigners, especially given that the pula is beginning to
gain more strength over other currencies, particularly South Africa. Adding to that,
after the Pula currency was devaluated, a weak Pula would attract investors to the
country (Daily News, 2005).
2.2 Definition of Terms
Currency devaluation: This is a macro-economic fiscal policy that bothers on
deliberate reduction in the value of home currency with the aim of maximizing
gaining tradable items.
Exchange rate: This is one country’s currency expressed in another’s country’s
country.
Contractionary monetary policy: Is a form of economic policy used to fight
inflation which involves decreasing the money supply in order to increase the cost of
borrowing which in turn decreases GDP and dampens inflation
Expansionary: Monetary policy when a central bank uses its tools to stimulate the
economy. That increases the money supply, lowers interest rates, and increases
aggregate demand. It boosts growth as measured by gross domestic product. It is the
opposite of contractionary monetary policy.
Current account: is a country's trade balance plus net income and direct payments.
The trade balance is a country's imports and exports of goods and services.
The current account also measures international transfers of capital.
29 Spring 2020
Fiscal policy: The use of government revenue collection and expenditure to influence
a country's economy.
Inflation rate: The rate at which prices increase over time, resulting in a fall in the
purchasing value of money.
Fiscal structure: Cities and State Fiscal Structures examines how the key
components of these systems (fiscal authority, revenue reliance/capacity, state aid and
tax and expenditure limitations) are structured across states.
Walrasian stability: Walrasian stability considers that the system is stable if the price
level increases when the good market is in excess demand.
Money illusion: Means that people have a tendency to view their wealth and income
in nominal dollar terms, rather than recognize its real value, adjusted for inflation.
30 Spring 2020
Chapter 3: Methodology
3.1 Restate Purpose and Research Question
The purpose of this paper is to highlight the effect of the currency devaluation on the
Lebanese economy, through clarifying its definition and importance and showing its
effect on the general economy in the short and long term.
Hence, this research paper will answer the following question:
What is the effect of the Lebanese pound devaluation on the Lebanese economy?
3.2 Data collection and Data Analysis
To perform this qualitative research, and gather the right information, the virtual
semi-structured interview method will be applied. This will involve asking questions,
listening and recording answers from experts in the financial field.
3.3 Population and Sampling
The population of a study refers to the total number of selected people that are related
to the subject of the study. A clearly defined and exact population makes sure that the
results and findings apply to the correct category of elements in the society. Taking
into consideration that this study aims to find the effects of the Lebanese Pounds
devaluation on the Lebanese economy, the population of this study is targeted at
financial experts in the Lebanese economy. Hence, the researcher plans to conduct an
31 Spring 2020
interview with Dr. Bassem Bawab, Amercian University of Beirut’s banking and
finance doctor, Mr. Michel Mrad, a financial expert, and Mr. Joseph Habchy, a
financial and operations consultant at Bank Med, to collect these qualitative data and
reach accurate results.
3.4 Saunders’ Research Onion
Saunder’s Research Onion
Source: (Saunders, et. al., 2009)
3.4.1 Research Philosophy
The research philosophy varies according to the research question. This research
focuses on the impact and effect of currency devaluation on a country’s overall
economy. Various authors and researchers have discussed this phenomenon and in
this research the goal is to show the effect of the Lebanese pound devaluation on the
Lebanese economy. The philosophy that is used is realism. For this, the researcher
uses acceptable knowledge in the field of banks and finance to understand the impact
of the devaluation on the overall economy.
32 Spring 2020
3.4.2 Research Approach
All research work involves theories; whereby the research’s theory at the beginning of
the research could inform the approach taken in designing the research. There are two
types of research approaches, inductive and deductive. In this paper, the researcher
uses the inductive approach by collecting the data to develop a theory with the results
from data analysis. Thus, the researcher will have a close understanding of the
research context, by using a qualitative data analysis and being part of the research
process.
3.4.3 Research Strategy
The strategy that has to be used can be chosen depending on the research question,
objectives, research time, and other available resources. The most feasible strategy for
this paper work is the qualitative interview. This method used is associated with the
inductive approach. It allows the collection of qualitative data from experts in the
financial field.
3.4.4 Research Choice
The two main methods of data collection are quantitative data collection and
qualitative data collection. Qualitative data that is used in research would be usually a
non-numerical data and has open-ended questions while the quantitative data uses
numerical data consisted of graphs or statistics and includes a close-ended questions.
In the context of this research, the researcher used the qualitative data technique to
33 Spring 2020
find and collect the data. The researcher will use the respondent’s observation and
expert knowledge to conclude his findings.
3.4.5 Time Horizon
This research is also limited to a specific time frame and hence the cross-sectional
time horizon is used.
3.4.6 Techniques and Procedures
The researcher used the virtual qualitative interview, through meeting applications
such as Zoom Meeting and WhatsApp Video calls, where some of the questions
related to the currency devaluation process, were targeted at people specialized in the
Banking and Financial sector in order to collect and gather the required data.
3.5 Instrumentation
A research paper is considered qualitative when it provides detailed insights of a
person’s feelings and thinking, which is the case for this research paper. In this
research, the interviewees’ thoughts and perceptions regarding the currency
devaluation effects on the overall Lebanese economy are expressed. The researcher
collected data using online semi-structured interviews with different experts in the
financial fields. The interview consisted of 9 open-ended questions that all related to
the concept of the Lebanese pound devaluation on the Lebanese economy; referenced
in Appendix A.
3.6 Procedures and Time Frame
34 Spring 2020
Achievement Time
First Meeting 30/03/2020
Chapter One – Introduction 15/04/2020
Chapter Two – Literature Review 19/05/2020
Chapter Three – Methodology 23/05/2020
Chapter Five – Conclusion and Recommendations 02/06/2020
Final Senior Presentation
3.7 Analysis Plan
Considering that this is a qualitative study, the researcher will be adopting the
grounded theory in order to uncover the essence of the research question under
investigation. Grounded theory requires a qualitative researcher to collect data and
analyze data concurrently using the constant comparison method of analysis. In this
study, the researcher will begin interviewing the targeted population gradually,
stopping in between interviews in order to analyze the transcriptions and results
provided. This constant comparison method of analysis will generate a theory at the
end of the analysis of all the data, where the researcher will combine all interview
responses in a comparative table versus theory.
3.8 Validity and Reliability
3.9 Assumptions
35 Spring 2020
Assumptions are things that are accepted as true, or at least logical, by other
researchers and peers who will read the research paper and thesis. In this research
paper, the researcher assumes that a well conducted devaluation of the Lebanese
pound will result in improving the economic situation of the country.
3.10 Scope and Limitations
The major limitation in this research was the difficulties of conducting semi-
structured interviews in-person due to the pandemic of the newly discovered
coronavirus COVID-19; where non-verbal clues which can help the researcher in
contextualizing the interviewee in a face-to-face interview are lost.
However, taking into consideration the many advantages of conducting virtual
interviews, this research rendered to be successful where the outcomes weren’t
affected.
36 Spring 2020
Chapter 4: Results
4.1 Findings
After implementing the methodologies of this qualitative research, the overall effect
of the Lebanese pound devaluation was discussed through the collected knowledge of
financial concepts and theories generally applied in this sector overall.
4.1.1 Interview with Dr. Bassem Bawab
The first interviewee was a banking and finance doctor at the American university of
Beirut, Dr. Bassem Bawab. As per Dr. Bawab, currency devaluation is a financial
policy, consisted of lowering the power of the local currency compared to foreign
currencies. This concept is not a once in a lifetime event, it’s a regular fiscal policy to
fight inflation, and was adopted in many countries such as Turkey, Egypt, Venezuela,
and China. When asked if devaluing the Lebanese pound would be helpful in facing
the economic crisis that the country faces, Dr. Bawab insisted that devaluing the local
currency is a must due to the fact that Lebanon became the most expensive country
among the Mena region, even more expensive than most of its neighboring countries
such as Iraq and Turkey. For example, the food and beverages sector became more
expensive during the past years, and the daily products and primary goods faced a
huge increase in their prices. More sectors were affected by this crisis; the high cost of
labors and high cost of electricity and industrial sector, led to the huge recession of
the exports sector. Another reason that led to this fiscal and economic crisis, as per
Dr. Bassem, was the Lebanese people themselves. When Lebanon was facing an
economic boom, people started wasting their money and savings on traveling and
37 Spring 2020
buying luxurious products which led to the huge increase in the import sector without
any change in the export sector which in turn led to the huge deficit in the country’s
balance accounts; with no foreign currency income to the country while the waste of
these currencies were nonstop. For that, the devaluation of the local currency could
change and turn the situation upside down. Exports will increase as the Lebanese
products will become cheaper to the foreign countries, while imports will decrease
due to the fact that the cost of importing the foreign products will increase. This
increase in the import cost will make the country shift from importing these goods
into locally manufacturing them, opening more job opportunities to more unemployed
people. Adding to that, the devaluation of the Lebanese pound will lead to the
increase of the foreign investments in Lebanon due to the fact that the cost expenses
will be lower than it was before the devaluation process, and the Lebanese people in
return will start to spend their money more locally than abroad, which will also lead to
the improvement of the internal tourism sector.
Moving now from the private sector to the public sector, the overall expenses of the
country will decrease, for example, the wages of the public sector employees, renting
cost, electricity cost...
When asked about the effect of the devaluation on the country’s account deficit and
huge debts, Dr. Bawab mentioned that in order to have positive devaluation effects,
the country should be able to keep this devaluation under control; else, it will only
lead to worsening the economic state. He highlighted the reason of the delay of this
devaluation process by the Lebanese government and the BDL, because they were
waiting for the help of the IMF (international monetary fund) and amicable countries,
by borrowing more foreign currency, the United States Dollars. When Lebanon
receives this help and possesses more of the U.S. Dollars, it will be easier to start a
38 Spring 2020
devaluation without collateral damages, as they will be able to maintain the devalued
currency on a new fixed rate, for example 3,200 LBP instead of 1,517 LBP; however,
without the extra US Dollars obtained, it will be hard to control this devaluation on a
fixed rate and it will be catastrophic. According to Dr. Bawab, regarding the Lebanese
country debt, most of it is of domestic origin. In fact, Lebanon’s local currency debt is
mostly held by the Lebanese banking sector and is constituted of a portfolio of
Eurobonds of short-term, medium-term, and long-term maturities. Lebanon’s foreign
and local currency debts have historically incurred their respective costs, noting that
public debt’s composition has changed over the years and now it is composed as of
60.7% of it in the local currency LBP while 39.3% of it is of a foreign currency.
So when the country possess and has a federal reserve of foreign currency, and by the
effects of the currency devaluation, the amount of local currency debt will decrease
which will be a positive effect of devaluing the Lebanese pounds (reduction in the
39 Spring 2020
debts amount).
One other mentioned effect of devaluation is increasing and improving the exports
sector. When asked if Lebanon is capable of relying on exports and what products or
goods can the country produce to overseas markets, Dr. Bawab confirmed that
Lebanon can benefit a lot from its exports sector. Lebanon is not capable of producing
big manufacturing products such as TVs, cars, weapons etc. but instead Lebanon is
very rich with its agricultural products, such as apples, lemons, potatoes, onions, etc.
He also added that Lebanese farmers are now growing exotic fruits locally such as
Avocado that can also be helpful by involving them in the exporting sector.
40 Spring 2020
Moreover, due to the low cost of labor, electricity, renting, more manufactured
products will be useful in exports, such as little handmade maneuver, foodstuff from
milk, dairy products, cereal, chips, canned food, vegetables, and water. Adding to
these products, Lebanon became the first Arab country to legalize the cannabis
agriculture for medical purposes, so the only market that will be available for this
product in the region will be the Lebanese market, and after devaluing the currency,
demand on this product will be very high by the countries that include this product in
their fabricated medicines, as the Lebanese market will be cheaper than other markets.
Will politics stand in the way of devaluation for some own interests? Dr. Bawab
believes that there won’t be any contradiction between political sectors in Lebanon
and the devaluation process, because even political parties now are low on budget and
need to regulate the fiscal state of the country; also the current general state of all the
country is unstable, which means devaluation of the local currency is also a benefit
for all parties, and there will be no conflict caused by any of them. Moreover, it was
important to mention, that IMF stipulated in their contract the need of devaluing the
Lebanese pound in order for them to fund Lebanon with some foreign currency, and
improvement in all sectors should be noticeable, and issuing new taxes is a must. In
other words, in order for IMF to provide Lebanon with some foreign currency
reserves, the government should follow some rules and regulations stated in the
contract and one of them is devaluing the local currency.
When asked about the devaluation effect, on the short term and how the Lebanese
lifestyle will be affected, Dr. Bawab stated that Lebanese citizens will be facing tough
times no doubt, he stated the current black market rate of the US dollars, and how it
differs between products, he said that for now the rate of the USD is still 1,517 LBP
on medical products and medicines, gas, fuel, and wheat as these products are still
41 Spring 2020
supported by the government. While the necessary daily products are traded around
3,200 LBP for each 1 USD, and finally 4,000 LBP for each 1 USD, for the luxurious
products such as mobile phones, TVs, and brand new cars. He also mentioned the
services sectors, such as schools, universities, and shipping companies, that for now,
still trades the dollar at the official rate set by Bank of Lebanon and there’s a long
road until they start becoming affected by this non official change of the rate. More
services that are still not affected are the municipalities services, passport fees and
services. With that being said, the real inflation isn’t 200% but 60% instead, so when
Lebanese people avoid buying imported stuff and products, they won’t feel the huge
increase in prices which means they are affected a little by this inflation. After
devaluation, this will change, and inflation would affect all sectors, including the
service sector, in order for them to adapt to the new economic situation, and people
will generally start feeling the increase in the prices for approximately a year or two
where for example, barbers will raise their prices and schools will raise their fees; but
it’s important to note that once devaluation occurs, the minimum wage will legally
increase.
And finally, Dr. Bawab suggested that in order to adapt to the upcoming short term
effects, Lebanese people should start changing their lifestyle habits, instead of buying
imported goods and products, they should shift towards buying more local products
because they are cheaper, for example buying local chocolate bars (Ghandour) instead
of foreign bars (Galaxy), or sticking to used cars instead of buying brand new cars
until the economic situation gradually becomes stable and normal.
4.1.2 Interview with Mr. Michel Mrad
42 Spring 2020
Another interviewed expert in the financial field, is Mr. Michel Mrad. He started his
statement by describing the devaluation as a downward adjustment of the value of a
country’s money relative to another currency, group of currencies, or currency
standard. One main reason a country may devalue its currency is to combat a trade
imbalance. Devaluation reduces the cost of a country’s exports, rendering them more
competitive in the global market, which in turn, increases the cost of imports, so
domestic consumers are less likely to purchase them, further strengthening domestic
business. Mr. Mrad, had the same thoughts of Mr. Bawab regarding the effect of the
Lebanese pound devaluation on the Lebanese economy, he highlighted that when
Lebanon devalues its currency, exports will increase because of the cheaper products
and imports will decrease due to the high increase in their cost; this will favor a better
balance of payments by shrinking trade deficits. Mr. Mrad believes that, even if
devaluing the Lebanese pounds will have benefits and positive effects, if it wasn’t
controlled well, it can have negative consequences. Increasing the price of imports
protects domestic industries, but they may become less efficient without the pressure
of competition. Higher exports relative to imports can higher gross domestic product
and inflation. Inflation can occur because imports are more expensive than they were.
Aggregate demand causes demand-pull inflation, and manufacturers may have less
incentive to cut costs because exports are cheaper, increasing the cost of products and
services over time. So, in order to try and avoid all these collateral damages,
devaluation should be well applied and controlled. Mr. Mrad stated that if demand is
price inelastic, then a fall in the price of exports will only lead to a small rise in
quantity. Therefore, the value of exports may actually fall. An improvement in the
current account on the balance of payments depends upon the Marshall Lerner
condition and the elasticity od demand of exports and imports. The impact of the
43 Spring 2020
Lebanese pound devaluation may take time to influence the economy as per Mr.
Mrad. In the short term, demand may be inelastic, but over the time, demand may
become more price elastic and have a bigger effect. One obstacle that might face the
devaluation of the Lebanese pounds, is the state of the global economy. Moreover, if
the global economy is in recession, along with the presence of the COVID-19 and its
negative effects, then a devaluation may be insufficient to boost export demand, and
there’s a chance on a devaluation failure. However, in a boom, a devaluation is likely
to exacerbate inflation.
The effect of the devaluation of the Lebanese pound on inflation will depend on many
factors such as the spare capacity in the economy; as in a recession, a devaluation is
unlikely to cause inflation if well applied.
When asked about the effects of devaluating the local currency on different sectors of
the country, Mr. Mrad, believed that in the initial stage of the devaluation, firms
shouldn’t pass the increased import costs onto consumers, but instead they should
reduce their profit margins at least for the short run. Not only import prices are
determinant but other factors affect the inflation such as increase in wages. He also
agreed with Dr. Bawab, that in order to have a good devaluation, the country should
be in possession of more foreign currency to support the export transactions and to be
able to pay the country’s local debts, which will be much lower than they currently
are, due to the devaluation and reducing the power of the Lebanese pound. Mr. Mrad
added that another obstacle that might stand in the way of this devaluation is that the
country relies a lot on imports. And devaluing the local currency will lead to a high
increase in prices of imported goods, and erode living standards. Since 1997, a dollar
peg has reassured foreign investors. And one main cause for this crisis was the
excessive government borrowing that has inflated the politically well-connected
44 Spring 2020
banking sector that lends to the state at high interest rates. Banks prefer to lend the
government rather than finance innovative enterprises, depressing private-sector
investment. Mr. Mrad also thinks that the only sector that can improve the exports
conditions is the agricultural sector, due to the high cost of raw materials, and the
country can’t import them, so a big reform on agricultural fields is a must; adding to
the adjustment of the politics in the country’s government and the help of the
international bank is a must too. As per Mr. Mrad, the political state in Lebanon plays
a significant role in the economics, it’s shown from the reaction of previous and
present governments. The political sector isn’t looking for an independent economical
sector as 50% of the income is for 2 or 3% from the Lebanese people. He concluded
that Lebanese people will suffer in the short run of the currency devaluation and will
need approximately two years to resume activities as before.
4.1.3 Interview with Mr. Joseph Habchy
The third interviewee, was a financial consultant and operations support in BankMed,
Mr. Joseph Habchy. Mr. Habchy agreed with the two previous interviewees on the
importance of applying the currency devaluation to strengthen the economic state of
Lebanon. He emphasized that this policy is critical to face the economic crisis as this
policy would adjust the account deficit on the long term. He further stated that even if
Lebanon, is greatly dependent on the import sector, it is important to try to shift this
economic state, and further improve the exports, by decreasing the cost of local goods
in comparison with other available markets. And by increasing the exports, imports
45 Spring 2020
will decrease due to the increase of the cost and prices. This will lead to increasing the
income brought to the country and decrease the expenses, and therefore adjust the
account deficit. Mr. Habchy, also agreed, on the fact that, in order to have a good
devaluation, Lebanon needs the help of the international bank, to possess more of
foreign currency. Possessing more foreign currency will allow the devaluation to
become more controlled and stable at a certain rate once applied. Mr. Habchy added
that, in order to achieve the goals of the devaluation, the country should set new
regulations to support this fiscal policy; for example, setting a rule that obliges trading
inside the country with the local currency, LBP, only; and forbidding the import of
specific goods and products, for example, vegetables; as he considers that the
agricultural sector in general, is capable of locally producing such goods and
improving the exports, due to the country’s good quality of vegetables and fruits.
When asked if the political sector would interfere in the devaluation process, Mr.
Habchy mentioned the importance of trying to separate both the economic sector and
the political sector, and the urgency to stop the waste inside the country and the illegal
smuggling outside the country, or else this devaluation will render negative results
such as further increasing the inflation rate. And finally, Mr. Habchy, insisted that
Lebanese people should stand in solidarity and cooperate in order to be able to pass
these economic crisis, where the devaluation’s effect on the short term won’t be easy;
however, if properly executed, currency devaluation can positively affect the
Lebanese current economic crisis, on the long term.
4.2 Evaluation of the Findings
46 Spring 2020
Based on the data gathered through the interview of the three experts in the financial
field and comparing them to the literature review, the researcher establishes the below
findings:
Theory vs. Interview Responses
Theory Component Interview Responses
 Low supply of foreign currency, US

Dollars
 High demand on the foreign currency
Currency Foreign Currency  Freeze of some economic sectors due to
the low supply of the US Dollars
 New black-market rate caused by the
shortage of US Dollars supply
 Low demand on the Lebanese pound
currency
 Excess supply on the local currency
Local Currency  With the reduction of the foreign currency
supply and due to high supply of domestic
currency, the value of the exchange rate
changes
 Huge reliance of the Lebanese’s economy
on imports
 Low and weak exports sector
Deficit Balance Account  High percentage of imported goods
alongside low percentage of exported
goods will result in a deficit of the balance
account
Demand and Supply Raising Aggregate  Devaluing the Lebanese pound will
Demand. result in making the locally produced
goods cheaper
 Foreign buyers will tend to buy more
Lebanese products due to its lower cost
 Local citizens will tend to buy more
47 Spring 2020
local products due to the fact that they

are cheaper than imported goods
 This will result in raising aggregate
demand
 Devaluing the Lebanese pound will lead
to the increase of the raw materials’ cost
and price
 Low demand on these raw materials will
lead to the reduction of the
manufacturing sector
 Only small manufacturing goods will be
produced such as foodstuff, hand
Supply-Side Effect
maneuver, etc.
 Lebanon should shift its interest and rely
more on the agricultural sector due to
the low cost of it, and the huge
capability of maintaining a good market
place
 With the change of the exchange rate,

Lebanese government will lower its
expenses such as renting, wages of public
sector, etc.
 In order to benefit from this effect, the
Contractionary
Devaluation Effects Lebanese government needs the help of
Fiscal policy
the international monetary fund (IMF)
 IMF should lend the government some
foreign currency, in order to maintain and
control the devaluation and render good
results
Improvement of the  The change in local product prices should
Local Market not exceed the change of the exchange
rate or else devaluation will only worsen
the current economic state
 With the increase in prices, real money
48 Spring 2020
supply will decrease, which in turn raises

the interest rate
 Foreign investors will target the Lebanese
market as a result of the low cost
compared to its pre-devaluation time
 Investment in exports sector will increase,
especially with the legalizing of the
cannabis agriculture, which opens a new
cheap market for big medical companies
 With the improvement of the exports
sector, the Lebanese market will have a
chance to improve in terms of
international competitiveness due to the
big demand on local goods and the ability
to increase the price mark-up caused by
the reduction of other local costs
 Most of the Lebanese debts are nominated
in the local currency LBP to local banking
sector
 With the help of the IMF, and lending

Lowering the
more foreign currency, USD, to the
Country’s Debt
government, and after the devaluation
process, the country will reduce the
amount of local debt with the same
increased exchange rate
 Lebanese firms should maintain the prices
for the short-run and not transfer it to
customers directly after devaluation
 Lebanese people will face some tough
times in the short-run event of devaluation
The Short-run Effect
 They will tend to cut down some
unnecessary spending, or shift to buying
local products instead of imported ones to
maintain their desired real balance and
wealth
49 Spring 2020
Chapter 5: Conclusions and Recommendations
5.1 Summary of Work and Findings
The concept of currency devaluation is not new. Many other countries including
Botswana have devalued their currencies in the past. In February 2004 and May 2005,
the Government of Botswana devalued its currency by 7.5% and 12% against the
basket of major currencies (US dollar, British pound, Japanese yen, South African
rand, euro).
Lebanon’s economy is highly dependent on the imports sector which lead to a huge
deficit in the trade account balance, and it is generally believed that devaluation
would try to balance between the two-trading sector in order to adjust the deficit. It is
assumed that the government would tend to devalue the Lebanese pound to diversify
the economy to stop overreliance on imports and the huge demand of foreign currency
in order to import goods and products from abroad. Moreover, the reasons behind the
Lebanese pound devaluation are, to standardize the exchange rate and fight the black-
market currency trade, to diversify the economy and to make the Lebanese economy
internationally competitive due to the good agricultural sector and the richness of
water in the country. This study investigated the effect of the Lebanese pound
devaluation on the Lebanese economy, through qualitative interviews that were
conducted with three financial experts, in order to gather qualitative data about the
effect of the currency devaluation on the country and its collateral damages. The
empirical results supported a positive effect of currency devaluation of the Lebanese
50 Spring 2020
pounds on the overall economy; however, only if well applied and under several
conditions.
The research question that remains for further studies is: Can the Lebanese pound
regain the current exchange rate after devaluation?
5.2 Discussions (Explanation of the Findings)
The thorough analysis in the previous chapters has enabled the researcher to arrive at
a substantial conclusion while answering the research questions and accepting or
rejecting the research hypothesis. Subsequently, it can be said that through the
analysis of secondary and primary sources, the hypothesis is accepted that devaluing
the Lebanese pound, if well conducted, will have positive effects on the overall
Lebanese economy. As many countries relied on this fiscal policy to adjust their
account deficit, as Botswana did for example; experts in the financial field in
Lebanon, insisted on the necessity to adapt this policy to face the current economic
crisis. Devaluating the Lebanese pound will decrease its purchase power compared to
other foreign currencies, such as dollars, euros… when adopted, this policy will lead
to shifting the aggregate demand upwards, where demand on locally produced items
will increase due to the low cost of these products compared to foreign products. And
as former authors published, and as the Lebanese financial experts approved, this
policy will increase the export and decrease the import and by that, adjust the deficit
payment account.
The below figure 5.2.1 will show the impact of devaluing the Lebanese pound
currency on the trade balance through import and export sector.
51 Spring 2020
Many obstacles may face this process such as the world economic recession due to the
current pandemic, or even when the devaluation is out of control due to low
possession of foreign currency at the beginning of the process. However, as prices
increase, including the price of raw materials, Lebanese economy and export sector
will rely mostly on the agricultural sector, which can be considered later on as a
competitive market, due to the high supply and the low cost of these agricultures.
When devaluating the pula, Botswana was able to grab foreign investors’ attention,
where they started to invest widely in the gold field; the same is expected to happen in
the Lebanese market. Low prices will highly attract foreign investors, and by that,
creating job opportunities for Lebanese people, that will be considered as low labor
cost.
Table 5.2.1, illustrates a brief of what the interviewees and the literature review
highlighted.
52 Spring 2020
The study also found that devaluing the Lebanese pound, will result also in decreasing
the government expenses, by reducing for example the wages of the public sector
employees, renting costs, and most importantly, the percentage of local debt,
denominated in the local currency. With the reduction of the current debt and fixation
of the deficit in payments account, the money supply in the government and the
overall country will start increasing on the long run of the devaluation.
Not to mention that the study also found that the economy in Lebanon should separate
itself from the political sector, because one of the main reasons of the need of a
devaluation, is the politics and their interest that conflict with the well-being of the
economy and the country. However, this policy won’t be inhibited by any political
party in the country because everyone agrees on the necessity of devaluing the
Lebanese currency.
And finally, even with the good effects that devaluation will cause to the current
economic state and the crisis the country is going through, it is important to mention
that there will be hard times on both, people and firms in the short term, where
companies should be responsible of the increased cost and not charge it onto the
53 Spring 2020
people. Furthermore, people should also cut down most of their spending in order to
survive the situation and the price increase that will happen at the start of the
devaluation process.
The following figure 5.2.3 illustrates the overall effect of a currency devaluation in
order to increase the economic growth.
Therefore, devaluing the Lebanese pound currency is a must under these
circumstances, in order to revive the economic sector and to fight the current black
market of currency trade. It may take quite some time, but at the end, good and
positive effects will result from this fiscal policy.
5.3 Recommendations
Based on what has been mentioned in the above results and findings, the following is
recommended:
5.3.1 Recommendations for Decision Makers
54 Spring 2020
The researcher recommends the decision makers, CEOs, and business owners, to start
adopting strategies, that will synchronize with the policy of devaluation, and to issue
some contingency plans for the short run effects of the devaluation. Also, local
investors are recommended to invest in the agricultural field that is expected to raise
and improve the Lebanese economy.
5.3.2 Recommendations for Policy Makers
The researcher recommends the government to start applying this policy as soon as
they get the fund by the international monetary fund (IMF) in order to fight the
current economic crisis.
5.3.3 Recommendations for Future Researchers
After highlighting and discussing the overall effect of the Lebanese pound
devaluation on the Lebanese economy, the researcher recommends future researchers
to continuously conduct more methodological work and research on how the
government is adapting to the devaluation of the Lebanese pound during its
occurrence, its impact, and the steps considered after rebalancing the country’s
economy.
Chapter 6: References
Cooper, R. (1971). Currency Devaluation in Developing Countries. Essays in
International Finance, 886.
55 Spring 2020
Tejvan, P. (2019). Economic Effect of a Devaluation of the Currency. Retrieved from:
https://www.economicshelp.org/macroeconomics/exchangerate/effects-devaluation/.
Alexander, S.S. (1952). Effects of a Devaluation on the Trade Balance. IMP Staff
Papers 2, 263-78.
Guitian, M. (1976). The Effects of Changes in the Exchange Rate on Output, Prices
and the Balance of Payments. Journal of International Economics 6, 65-74.
Mollah, S., Mobarek, A., Kachiraju, S. K., & Swami, B. N. (2008). The Impact of
Currency Devaluation: Focus on Botswana. ICFAI Journal of International
Business, 3(2), 7–23.
Bhaduri, A. and Marglin, S. (1990). Unemployment and the Real Wage: The
Economic Basis for Contesting Political Ideologies. Cambridge Journal of
Economics, 14, 375–393.
Blecker, R. A. (1989). International Competition, Income Distribution and Economic
Growth‟, Cambridge Journal of Economics. 13, 395–412.
Clarke, V. and Braun, V. (2017). The Journal of Positive Psychology. 12(3), 297-298.
Appendix A: Interview Questions / Questionnaire
Semi-structured Interview Questions:
56 Spring 2020
1- What is a currency devaluation?
2- Do you have any idea of a country that devalued its currency?
3- How would a meaningful one-time Lebanese pound devaluation affect the
overall economy? And can we consider it as one of the solutions to face the
economic crises?
4- Would a currency devaluation worsen the Lebanese economical stat?
5- What are the impacts of this devaluation on the different sector of the country?
6- Do you believe the devaluing the Lebanese pound will be a positive help for
the country’s account deficit?
7- As we know, currency devaluation will increase the export sector and reduce
the import sector. Is Lebanon capable of having a good export sector? Will the
country be able to produce and distribute the demanded products to the
neighbor countries?
8- Can the political stat in Lebanon, trouble the devaluation effect, or the two
mentioned subjects are independent to each other?
9- How long do you believe the Lebanese people will face hard times after
devaluing the currency?
57 Spring 2020

Currency Devaluation Working Paper

Uploaded by

Document Information

Original Description:

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Currency Devaluation Working Paper

Uploaded by

Copyright:

Available Formats

Arts, Sciences & Technology University in Lebanon

Faculty of Business Administration

Final Year Project

The Effect of the Lebanese Pound

Khaled Amin Ahmad

Mr. Michel Saliby

Arts, Sciences & Technology University in Lebanon

PROJECT RELEASE FORM

Khaled Amin Ahmad

󠇊Authorize the Arts, Sciences & Technology University in

󠇊Do not authorize the Arts, Sciences & Technology University

me their time and expertise to better my work.

to work hard for the things that I aspire to achieve.

taught me the methodology of this course qualitatively and quantitatively. I wish to

Without them, this piece of work wouldn’t have been accomplished.

Table 1 Procedure and time frame Page 35

Figure 1 Saunder’s research onion Page 32

improve the living condition of its population. Lebanese economic structure is

the aggregate demand of the country.

method adopted is a qualitative research; where semi-structured interviews with the

Lebanese economy due to its application to theory.

Contractionary Monetary Policy

Project Release Form..........................................................................................................................2

2.1.15 Devaluation of Botswana’s Currency, The Pula.............................................................27

The government of Lebanon is committed to meet their development goals, and to

years now. The political situation caused by a nine-month absence of a government in

while the inflation rate reached approximately 6%.

to restructure expenditure towards achieving growth development and reducing

poverty. Currency devaluation is typically considered as a policy option to improve

economy, a nominal exchange rate devaluation is likely to be contractionary in the

short-run. The interest of considering a currency devaluation is based on its impact on

fiscal savings that could be distributed for poverty reduction purposes.

1.2 Statement of the Problem

to highlight the effect of the considered government solution.

1.3 Purpose of the Study

the Lebanese currency devaluation on its economy through clarifying:

- The currency devaluation definition

- The effects of the currency devaluation on the overall economy

- The importance of the currency devaluation

term in the Lebanese territory

1.4 Significance of the Study

devaluation and the different ways it can affect the economy.

1.5 Research Question

This research paper answers the following question:

What is the effect of the Lebanese pound devaluation on the economy?

The method adopted is a qualitative research; where semi-structured interviews with

economy due to its application to theory.

2.1 Literature Review

allow the Lebanese government to become more self-sufficient. Furthermore,

vacancies by recruiting Lebanese citizens instead.

2.1.1 Currency Devaluation Introduction

reduction in the official value of a domestic currency. It occurs when a unit of

supply of domestic currency, the value of the exchange rate decreases.

2.1.2 Aggregate Demand and Supply-Side Effects

Devaluation is usually taken as means of correcting the deficit in the balance

decrease or will stay at the pre-devaluation level.

2.1.3 Devaluation History

it was argued that:

a) Real depreciation might fail to increase net exports, if the Marshall-Lerner

condition (MLC) is not satisfied.

The Marshall-Lerner condition, which states that a currency devaluation

will only lead to an improvement in the balance of payments if the sum