Lebanon’s Recovery Is Being Squeezed Between War Damage and Banking Losses

An IMF mission to Beirut acknowledged progress in Lebanon’s budget management and banking-resolution framework but warned that conflict, displacement and renewed economic contraction are intensifying pressure on the country. The discussions exposed the key challenge facing Lebanon: restructuring its damaged banking system and restoring fiscal sustainability while financing reconstruction, social protection and public-sector obligations.

Lebanon's latest talks with the International Monetary Fund have exposed a recovery effort under pressure from two crises at once. Conflict has damaged infrastructure, displaced communities and weakened economic activity, while the country's unresolved banking collapse continues to block a credible path toward financial stability.

An IMF mission led by Ernesto Ramirez Rigo visited Beirut from September 15 to 18, assessing the macroeconomic outlook and the government's progress on economic and financial reforms. Its conclusions offered cautious recognition of better budget management and banking legislation, but also underscored how regional insecurity has made an already difficult reform programme considerably harder.

Economic activity is expected to contract significantly in 2026, inflation remains in double digits and the current account deficit has widened, driven mainly by higher energy costs. Lebanon must now rebuild damaged homes and infrastructure, support internally displaced people and restore its banking system without worsening public debt or creating another unsustainable fiscal burden.

Conflict Has Turned Financial Reform Into a Reconstruction Test

The Hezbollah-Israel conflict and wider regional security developments have placed fresh strain on an economy that had little capacity to absorb another shock. Damage to housing and infrastructure is being accompanied by internal displacement and a deterioration in living standards among affected communities.

Conflict is also reshaping the country's fiscal priorities. Spending that might otherwise have supported economic recovery or public investment must now compete with reconstruction requirements, humanitarian assistance, wages, pensions and other essential government obligations.

Lebanese authorities have maintained cautious fiscal and monetary policies despite tight financing conditions, preserving what the IMF described as a measure of stability. Such restraint may have limited further deterioration, but stability under severe constraints is not the same as recovery.

A prolonged contraction would weaken tax collection just as demands on the state are increasing. Rising energy costs add another layer of pressure by widening the external deficit, while damaged infrastructure can restrict production, mobility and the delivery of public services.

So, Lebanon faces more than a temporary conflict-related setback. Its financial reforms must now be designed for an economy carrying greater physical damage, deeper social needs and even less room for policy error.

Depositor Recovery Depends on Who Absorbs the Banking Losses

Progress on the amended Bank Resolution Law represents an important institutional step. The legislation provides a framework for the orderly resolution or liquidation of troubled banks and is intended to bring Lebanon's approach closer to international banking practices.

A legal mechanism for closing or restructuring banks, however, does not decide how accumulated financial losses will be distributed. The more contentious issue lies in the Financial Stabilization and Deposits Recovery Law, which is expected to shape the treatment of bank shareholders, creditors and depositors.

The IMF has insisted that the hierarchy of claims must be respected. Depositors should not bear losses before shareholders and junior creditors, a principle that places the initial burden on those who assumed greater financial risk or held ownership interests in the banks. Protecting depositors in the order of loss allocation does not guarantee the immediate or complete repayment of deposits. Any recovery plan must also be compatible with the viability of the restructured banking sector and the sustainability of Lebanon's public debt.

A repayment scheme financed too heavily by the state could convert private banking losses into a broader public liability. Such an approach could weaken government finances, reduce resources for social protection and reconstruction, and place part of the burden on current and future taxpayers.

The restructuring debate is consequently about more than reopening banks or restoring access to savings. It will determine whether Lebanon emerges with a credible financial system or preserves liabilities that continue to undermine confidence, credit creation and economic recovery.

The 2027 Budget Must Reconcile Revenue With Social Pressure

Lebanon's draft 2027 budget targets a balanced position and includes measures to improve tax compliance. The objective signals a desire to maintain fiscal discipline, but the budget is being prepared in conditions that make balance difficult to achieve without politically sensitive choices.

A public wage and pension increase approved in February 2026 has created additional expenditure pressure. The cabinet approved an increase in the value-added tax rate to 12 percent to help finance those costs, but the higher rate had yet to be implemented when the IMF mission concluded.

Failure to secure the expected revenue would leave the government with higher recurring personnel costs and no corresponding source of financing. Further ad hoc salary or pension adjustments could intensify the imbalance unless they are accompanied by credible and durable revenue measures.

Higher consumption taxes also create a social trade-off. A VAT increase may strengthen revenue collection, but it can raise the cost of goods and services at a time when inflation remains in double digits and living standards have already deteriorated.

Careful design will be needed to prevent fiscal adjustment from placing excessive pressure on vulnerable households. Support for internally displaced people must also be prioritised, while room must be preserved for capital spending that can repair infrastructure and support economic activity.

Foreign-financed spending presents another test of budget credibility. Recording such expenditure comprehensively would provide a clearer picture of the state's commitments and reduce the risk that reconstruction or externally supported programmes operate outside the government's main fiscal framework.

An IMF Programme Still Depends on Credible Sequencing

Development of a medium-term fiscal framework could help Lebanon move beyond annual crisis budgeting. A credible multi-year plan would connect revenue decisions, debt sustainability, reconstruction, social protection and capital investment instead of treating each pressure as a separate emergency.

Progress has been made in refining the framework, but important questions about the sequencing and prioritisation of measures remain unresolved. Fiscal reforms introduced in the wrong order could deepen hardship, weaken implementation or undermine public confidence before the benefits become visible.

Bank restructuring and fiscal reform are especially difficult to separate. The government cannot credibly plan its finances without knowing how banking losses will be allocated, while the banking sector cannot be rebuilt around a repayment model that depends on unsustainable public financing.

The IMF has said it remains prepared to support a comprehensive reform agenda that could eventually underpin a Fund arrangement. Continued engagement does not yet amount to an agreement, and no financing timetable has been announced.

The next phase will be judged by concrete decisions: whether lawmakers approve a deposits-recovery framework that protects the hierarchy of claims, whether the proposed VAT increase advances, and whether the 2027 budget fully reflects wage, pension, displacement and reconstruction costs.

Formal adoption of the medium-term fiscal framework will be another critical marker. Its credibility will depend not only on fiscal targets but also on whether annual budgets follow those targets and whether social and capital spending are integrated realistically.