The determination of interest rates in Lebanon : interest rates vs. debt and deposits

Abstract

The exchange rate peg in an open market economy allows the flow of large amounts of money and helps market participants to take advantage of arbitrage opportunities between domestic and international interest rates. Pegging disconnects the interest rate from real economic conditions of the underlining assets. This is the case of Lebanon, where national banks find a greater return on investment in the risk-adjusted return on government bonds. The main finding in this thesis is that the high level of deposits at commercial banks correlates directly with the level of the Lebanon national debt. Deposits are not directed properly to generate the expected economic growth, but they are used to further leverage the financial system, and eventually multiplying the detrimental effect of credit crisis. This research study showed that interest rates in Lebanon have lost their fundamental roles as the center of the economic cycle and are not indicators of the underlining economic situation of the country. Monetary policy in Lebanon is ineffective, and the government range of maneuver is very limited. Policy makers are spectators and reactors to economic developments; they lost their abilities to influence the country’s financial situation.