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Capital Flight and the Consequences of the War Economy

[Syrians in old Damascus, an area which used to be teeming with foreign tourists at this time of the year. May 2011. Photo by Muzaffar Salman/AP Photo.] [Syrians in old Damascus, an area which used to be teeming with foreign tourists at this time of the year. May 2011. Photo by Muzaffar Salman/AP Photo.]

As the Syrian conflict enters its second year, it is obvious that the war economy is becoming structurally entrenched and can no longer be considered merely a temporary episode. This entrenchment demands immediate analysis in order to help us understand the long-term consequences of the conflict. These include the ability of the country to engage in a meaningful reconstruction process, the new relationships between the current elite and the post-conflict authority, and, most importantly, the possibilities for refugee repatriation as well as the alleviation of the long-term socio-economic ramifications of protracted conflict.

One of the major features of the war economy in Syria has been capital flight. Capital flight—understood loosely as the divestment or liquidation of assets from a host country after they are moved across borders to another country–is not new. It is a feature observed both in Syria’s pre-war economy as well as the current war economy. The phenomenon of “suitcase banking” and cash transactions between enterprises persisted well into the late 2000s, even after marketization introduced a range of financial institutions supposed to capture Syrian capital that had found its way into the banks of Lebanon, Jordan, Egypt, and the Gulf. Similarly, the 2000s witnessed strong attempts by the regime to cultivate strong economic ties with Syrian expatriates. They held more than sixty billion dollars in assets that, theoretically, could have been repatriated through investment opportunities to support economic development.

The Syrian revolution only accelerated processes of capital flight, which have been both a consequence and a driver of the socio-economic catastrophe experienced in the country. While it may have been the case that Syrian businesspeople wanted to hoard their money from potential regime seizure in the pre-revolution period, today, it is the multiple consequences of the crisis that are providing the broader structural backdrop for capital flight.  

What Drives Capital Flight?    

In this article, I focus on physical rather than human capital flight. While most people tend to think of capital flight as the wealthiest elites moving their money, this process also involves lower-level wealth holders. The specific mechanisms and forces that have pressured people or enterprises to move their assets, to cease productive operations, or to divest entirely vary throughout the country. The most obvious driver of capital flight has been the conflict itself, and the resulting collapse of economies of provision. As the threat of the movement of goods and people has increased, the productive potential of the country has similarly decreased. In the agricultural regions most affected by violence, such as in areas around Homs and Dara’a, many of the laborers have fled the areas resulting in labor shortages in some parts of the country. Labor shortages, insecure transportation routes, and the ever-increasing costs of basic inputs into the production process—diesel, water, fertilizer, and so on—have forced such significant reductions in agricultural productivity. 

At the same time, in the northern areas around Aleppo, the violence has caused so much damage to physical infrastructure that production is simply impossible. The textile industry has been especially affected, as most of the textile factories are located in areas that witnessed the heaviest fighting. While some say there have been hundreds of factories that have been destroyed since March 2011, others claim more pessimistically that this number is in the thousands. There are also reports stating that opposition fighters steal machinery and send it to Turkey, or destroy it altogether. Stories about Turkish looting of Syria’s industries seem exaggerated, but they still speak to the level of destruction wrought on Syrian production in its industrial heartlands.  

Destruction and looting have had major impacts on industry as a whole. In November 2012, Mahmud al-Zayn, a member of the Damascus Chamber of Industry, claimed that Syrian textile industries were only able to export less than ten percent of their total production, compared to sixty percent in previous years. Production has become too risky and export markets in Turkey and the Gulf have dried up.            

The sanctions imposed by the European Union and by the League of Arab States have also contributed to a contraction in production in Syrian industries. Since the sanctions were imposed, Syrian enterprises and regional partners signed virtually no new export contracts. The only production and export to occur was in fulfillment of existing export contracts exempt from the sanctions. The collapse of both external and internal markets simply aggravated the existing pressures on Syrian enterprises.  

Capital Flight in Context 

Furthermore, fully explaining the nature of capital flight requires a deeper understanding of the structure of the Syrian economy. Thinking about capital flight in conventional terms—as a process by which an enterprise divests its physical and financial assets and moves them abroad—betrays much of Syria’s pre-revolution political economy and the structure of its enterprises. Prior to the revolution, more than ninety-six percent of Syrian enterprises had less than fifteen employees and were loosely structured around familial networks. These enterprises contributed to supporting multiple households within the same larger family structures. While the introduction of market mechanisms into the economy had liberalized certain sectors of activity (e.g., banking) and led to the gradual expansion of private sector, the economic benefits had been largely captured by some of the existing and slowly expanding urban elites. Meanwhile, these smaller enterprises continued to operate in an economic environment in which they could hardly expand and grow their operations. They were limited by a maze of contradictory and ill-enforced laws, a weak financial system, corruption, and limited export capacity.

At the same time, capital stock in Syria was low. The Damascus Stock Exchange (DSE) trades shares for a mere twenty-two companies, eighteen of which are financial services companies that entered the Syrian market after 2003. Thus, many of the typical financial assets that are held by corporations, such as stocks or other financial instruments, were not widespread throughout the Syrian business community. Rather, many Syrian assets were held in smaller enterprise units, whether in the form of cash or physical infrastructure. We should thus think beyond the obvious places—corporations, stock exchanges, and so on—when looking for divestment patterns and capital flight.  

Syrians are divesting their assets to help them cope in this period of hardship, whether to support their migration out of the country or simply to pay for goods. Divestment is certainly a coping mechanism in a war economy as people try to acquire resources to maintain sufficient living conditions. How much of this capital is being spent inside the country or is making its way across borders is unknown. Statistics and information are scarce in Syria under any conditions. The problem of trying to determine how much capital is moving is compounded by the wildly divergent estimates coming from different sources, the lack of reporting from public sector banks, and the complicated and informal ways in which most capital gets transferred out of Syria.

Despite the climate of misinformation and the unreliable data, many private Syrian banks have reported account activity, thus providing some insight into the impact of the conflict on the banking system. It is estimated that after one year of conflict, more than one-fifth of all deposits in private banks had left the system (al-Sayegh and Arnold, 2012). The information obtained from all fourteen private banks and their branches indicates that the total figure was over ninety-five billion Syrian pounds. The drop occurred despite yearly increases in deposits prior to 2010. 

By 2013, the numbers had declined even further and the situation of private banks became emblematic of the worsening economic conditions throughout the country. The figures being reported by six of Syria’s private banks paint a dire picture of the banking system and the extent to which capital flight has occurred. Based on data from early 2013, six of Syria’s fourteen private banks had reported profit losses between forty to ninety-five percent despite registering both increases in overall deposits and total profits in every year prior (al-Sayegh, 2013). Byblos Bank Syria, for example, reported a profit loss of ninety-five percent between 2011 and 2012, with a drop in deposits by twenty-seven percent and the write-off of 525.5 million Syrian pounds in bad loans. Other banks reported similar patterns: a loss in profits, decline in deposits, and the default of millions of dollars in loans. This has destroyed existing means of financial intermediation between the banks and citizens and forced Syrians to look outside of the banking system for financial services.

Where is all the money going? It is impossible to tell with absolute certainty. One way to think about the question is to use banking information from neighboring countries (as I do below) as one possible (imperfect) proxy.  In Lebanon, for example, financial inflows into banks in the first ten months of 2012 were actually lower (twelve billion dollars) than in the same period in 2010 (fourteen billion dollars). Similarly, until a spike in early 2013, Lebanese banks had reported consistent foreign currency deposit increases of just over twenty million dollars per week during the latter parts of 2012. The deposit increases over the course of the conflict have thus been modest but not out of the ordinary.

This trend is quite puzzling considering that several hundred thousand Syrians have fled the conflict into Lebanon. However, it can be partly explained by two factors. The first is the presence of existing bank accounts by Syrians or their Lebanese partners where money has flowed into. The second is a more unfortunate reality. Because of the sanctions against many Syrians, financial institutions in Lebanon and in the wider region have been reluctant to offer bank accounts to Syrian nationals. Syrians are thus forced to either deposit their money with friends or relatives, find informal means to shelter their cash or assets, or simply avoid the banking system altogether.  

In Turkey there is more evidence of Syrian capital flight. In late 2012, official figures from banks in the Hatay region of Turkey reported deposit increases of thirty-four percent over eighteen months, overlapping with the start of the uprising. The Banking Regulation and Supervision Agency (BDDK) in Turkey reported no change in overall foreign currency deposits in Turkey during this same period. However, all of the provinces neighboring Syria reported higher-than- normal increases in foreign currency deposits. One year into the revolution, the real number of deposits in Hatay increased by around $230 million USD. In the province of Kilis, there was a lower real figure but foreign currency deposits registered a percentage increase of  forty-eight percent from the previous year. According to the BDDK, the increase of foreign currency deposits in Turkey increased by thrty-six percent overall from March 2011 until mid-2012. In Hatay, the increase was 101 percent, an astonishingly high figure given the modest increases throughout the rest of the country. The real figure increase of business deposits was 410 million USD.   

The figures above give us some strong indications into where Syrians are funneling their financial assets. They do not, however, answer two other important questions: first, are these assets being put to productive use or simply saved? Second, what about the assets that could not be moved? In Lebanon, and to a lesser extent Turkey, it seems that many Syrians and businesspeople are simply waiting out the conflict in the hopes that, once it ends, they can return and resume productive activities. However, reports out of Egypt and Gulf countries show that some Syrian businesspeople have "set up shop" and intend to revitalize their businesses and access new markets there.

Those patterns offer a window into the relationship between capital flight and conflict. Indeed, it seems that the possibility for capital repatriation is less dependent on the form of political authority that emerges after the conflict than it is on the longevity of the conflict. As the conflict drags on, two parallel processes will likely occur. On the one hand, those "waiting it out" will experience asset depletion, making it more and more difficult to revitalize production if and when they return to their country permanently. On the other hand, those who have set up production outside of the country may choose not to return. Both scenarios have negative consequences for the future of the country.  

Capital Flight and Its Impacts  

A repeated meme throughout the last two years has been that the business community is one of the keys for the collapse of the Syrian regime. In this argument, the withdrawal of support from the upper echelons of the business community would torpedo the regime’s survival prospects. A corollary to this argument is that the relative quietism of the more economically powerful and politically connected businesses classes in Aleppo and Damascus is more about them hedging their bets and waiting until it is clear what sort of post-conflict authority will emerge before politically moving one way or another. However, these claims have proved highly erroneous in large part because of the heterogeneity of the Syrian business community. While it is the case that many of Syria’s “big fish” possessed financial and fixed assets abroad, particularly in the Gulf, many of these people invested heavily in land and other fixed assets. Obviously, these assets cannot be moved the way that financial assets, such as cash, can. Thus, these businesspeople are bound to the country, not the regime, because of the nature of their assets. The same cannot necessarily be said about the remaining layers of the business community which are differentially positioned politically vis-à-vis the regime and economically within Syria’s recent marketization policies.   

In addition to the heterogeneity of the business community and the differential economic and political positions therein, the conflict has itself generated those outcomes that were supposed to collapse the regime: a cessation of production, a collapse of markets, fiscal pressure on the government to compensate for these collapsed losses by drawing on, and thus depleting, their financial reserves, and so on.  

Under these circumstances, the question should not be when will the business community extract itself from the regime. At this point, the conflict has generated such devastation and contraction of Syria’s productive potential that it is almost a moot point. Rather, it is useful to reflect on how businesspeople cope with the conflict, how the coping differs across business groups, and, in turn, what impact does this have both on the trajectory of the conflict and on Syria’s future reconstruction and development. I will focus on the latter point.  

A great deal of Syrian wealth is being transferred and spent outside of the country. Much of this wealth is being put to productive use elsewhere and will, over the long-run, likely become entrenched in economies of those host states, further dis-incentivizing capital repatriation. The same can be said about Syria’s human resources. This portends a bleak economic future in which regional capital, especially Turkish and Gulf investments, flow into the country to substitute for Syrian capital that has been lost or marshaled for productive use elsewhere outside of the country. Such a scenario is quite likely under the circumstances, regardless of the nature of a post-revolution authority.  

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