Rising Prices and Political Instability in Lebanon, Iran and Sudan

July 7, 2021

Lebanon, Iran and Sudan are all suffering from a lack of energy sources, but these are merely underlying causes of a larger issue: their real struggle will be in overcoming rampant inflation.
A Sudanese protester holds a placard reading " No to IMF's policies " during a demonstration in the capital Khartoum on June 30, 2021, urging the government to step down over delayed justice and recent harsh economic reforms. Photo by ASHRAF SHAZLY/AFP via Getty Images.

Political instability has arisen around the world, driven by rising costs, food insecurity, and current effects of COVID19. Inflation was already hitting many emerging markets, but the pandemic has only exacerbated these dire circumstances. Sudan, Lebanon, and Iran are getting hit particularly hard, with current inflation rates that can only be described as hyperinflation.

Official statistics for Sudan are recording 363.14%, Lebanon 119.83%, and Iran 46.9%. These extreme rates are affecting the people of these countries on every level. The three countries mentioned are all suffering from a lack of energy sources, but these are merely underlying causes of a larger issue: their real struggle will be in overcoming rampant inflation.

As the market loses confidence in a country’s currency, a Central Bank can build up foreign reserves to “backstop” the local currency to restore faith and purchasing power for international goods like food, medicine, and fuel, most of which trade in USD. The U.S. Dollar is the reserve currency of the world, with over 80% of global trade transacting in dollars. If you don’t have access to USD, your country is at a disadvantage.

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Inflation rates in Sudan, Lebanon and Iran. Photo provided by the author.

Here is a simplified example of how trade flow and foreign exchange might work in an emerging market:

  • A company in Lebanon uses its dollar reserves to buy raw materials (i.e. fuel).
  • They pay workers in Lebanese Pound, who use these wages to buy “goods.”
  • The company sells goods locally, taking in Pounds to cover costs and make a profit.
  • They can also sell some of their products abroad in USD, which would help “replenish” their reserves to buy more raw materials.
  • The firm can also sell 100% in Lebanese Pound and rely on the local Banks/ Central Bank to maintain a steady exchange rate against USD or EUR to keep costs manageable to convert from local to foreign FXA fiat currency—or government-issued currency not backed by a commodity—is only as good as the confidence the market has in it.

A fiat currency—or government-issued currency not backed by a commodity—is only as good as the confidence the market has in it.

But what happens when the banks run low on FX reserves and can’t make the exchange?

A fiat currency—or government-issued currency not backed by a commodity—is only as good as the confidence the market has in it. So, if there are fears of rampant printing, expansive debt, or government instability, people will avoid using the currency, or demand more physical dollars or higher interest on debt to cover the rising risk. As confidence is lost, companies will want to transact in a “stable” currency, but these may not always be available—whether due to sanctions (U.S. sanctions on Iran) or local foreign reserve shortfalls at the Central Bank.

As costs rise, salaries must keep pace to cover bigger bills, and tax receipts fall, resulting in a government who can’t buy basic necessities. If a company can’t manage payroll or COGs (Cost of Goods Sold), how can they hire new employees or invest in facilities? Instead, they will always be reactionary. The same goes for a local consumer trying to manage a household: How can they save up for a house or car if the cost of everything around them is rising?

One of the biggest causes of inflation is driven by energy and food. Lebanon has always struggled with reliable power, pushing businesses, consumers, and power companies to rely on diesel to run generators. Now, facing huge shortfalls in diesel, they are experiencing prolonged power outages and a stressed electrical grid. Since most of these assets trade in US dollars, as the USD fluctuates, the cost of diesel and gasoline cargoes explodes higher, stressing government, consumer, and corporate balance sheets.

In Dec 2020, Lebanon experienced a devastating explosion at the Beirut port, resulting not only in the loss of innocent lives, but also crippling vital infrastructure and destroying many local businesses. Lebanon was already facing a slowdown, but now due to political instability and finger pointing, the rebuilding process has been moving at a snail’s pace, only to be hindered further by bottlenecks and shipping delays caused by COVID19.

Lebanon has struggled with power generation and transmission for years, and now with so much stress on an overtaxed system, generators are failing—or even exploding—due to overuse.

As local consumers and the broader market lose faith, they will avoid buying government debt needed to rebuild. Lebanon has struggled with power generation and transmission for years, and now with so much stress on an overtaxed system, generators are failing—or even exploding—due to overuse.

The lack of fuel oil (diesel) also pushes consumers to utilize “other” combustible material that may not be compatible on a BTU level, resulting in misfiring and failure. An economy needs cheap, reliable, and efficient power to grow, but Lebanon faces an inability to borrow and an imploding local currency. There is already anger towards the current government, and now with power outages lasting for 22 hours a day in some spots due to fuel shortfalls, tension is mounting.

The below chart breaks down how bad some currencies are faring vs the USD, and it isn’t just the Lebanese Pound. The Iranian Rial is also spiraling as U.S. sanctions remain in place, crushing the local economy.

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Hanke's Currency's Watchlist Chart provided by the author.

In Iran, protests are expanding nationwide with the most recent being oil and petrochemical workers demanding higher wages to compensate for the falling Rial. Salaries have remained mostly stagnant while the currency devalues as the Iranian government expands the balance sheet.

The local infrastructure has also been failing due to terrorist attacks and ignored maintenance, resulting in rampant downtime and fires throughout the energy industry. Even though Iran produces millions of barrels of oil a day and has local refining capacity, they are struggling to maintain infrastructure and sell crude in the international market. If they can sell, it is at a steep discount due to sanctions, which limits Iran’s ability to tap American and European banks (SWIFT) as well as their currencies.

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Iran's government debt racks up. Chart provided by the author.

With the failures of their refining and petchem industries, fuel shortfalls and price hikes have expanded, creating more local strife. The Iranian government has increased their use of bartering with food for oil and oil for fuel programs to avoid even worse shortfalls than already exist internally. The current sanctions are only part of the problem—the Iranian economy never firmly recovered even when former President Obama lifted them.

Money was diverted to pet projects and proxy groups throughout the Middle East, leaving the locals struggling to get back on their feet. This has only increased the anger of the populace against the current regime.

The U.S. started lifting sanctions against Sudan back in 2017 and accelerated their removal in 2020 following the ouster of President Omar al-Bashir. But the economy still continues to struggle, which has been made worse by the IMF pushing for more austerity measures, forcing the government to end fuel subsidies, doubling prices overnight. It has crippled local businesses and consumers as they were already reeling from a floundering economic backdrop.

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Share of the Global poor and the Global Population Chart provided by the author.

The transitional government has been facing shortages of foreign reserves, so without USD or EUR to back the Sudanese Pound, the market has lost confidence. This creates an inflationary spiral, and the inability to purchase goods such as fuel, food, and medicine (or service over 49 billion euros of foreign debt) is a huge anchor weighing down growth. It just takes one incident (on purpose or by accident) to set off a chain of events that can’t be contained, leading to more unrest, especially with the backdrop of a pandemic.

Emerging Markets are struggling under the weight of COVID19 and a sputtering global economy that is trying to awaken. The poor are getting poorer, and the middle class is being pushed closer to the poverty line as quality of life around the world is diminished. During COVID19, hundreds of millions of people fell out of the “Middle Class” and the $1.90 a day poverty line has only grown. This causes local populaces to become disenfranchised, resulting in more protests and riots against existing governments.

As COVID19 passes and people feel the sting of inflation and unemployment, pressure will mount on governments, and calls for change will rise. Each of the three governments discussed—Sudan: Transitional and Struggling, Lebanon: Fractured and Distrusted, Iran: Repressive and Suspected—will be under additional duress given the lack of local support, mounting debt, and failed policies.

The shortage of necessities (food, medicine, electricity, and fuel) will make it difficult to grow, and put more pressure on local governments. We have already seen food riots and protests . . . and we aren’t even fully out of the pandemic. Pain, despair, and anger has been bubbling beneath the surface for years, and now the match has been lit.

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A financial industry veteran and renowned expert on global financial markets and supply-chain analysis. As Founder and CEO of C6 Capital Holdings LLC, he provides investment and consulting services to clients across multiple sectors with a pronounced focus on global product flows. That expertise has been crafted over many years in a variety of roles, including Senior Energy Analyst and Macro-Economist positions at Elevation, Candlewood Investment Group, and South Ferry Capital Management, as well as his formative experiences as a Portfolio Manager at FNY Capital and Morgan Stanley Investment Management, where he managed an eight-person team focused on developing a global trade platform to invest in rates, foreign exchange, commodities, and equities.

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