Lebanon could be headed for a cash crisis as banks remain shut a week into mass protests

Fears are growing over a looming cash crisis as Lebanon's banks remain closed for their sixth day since mass protests began sweeping the country last week.

No one seems to know when the country's lenders will reopen, triggering warnings of a run on the banks when they eventually do.

"Indeed we are afraid of a panic mode once they open," Fouad Zmokhol, president of the Worldwide Association of Lebanese Businesspeople, told CNBC from Beirut.

"The cash of the banks are in reserve at the Central Bank or are in Treasury bills. The cash of the banks are not in the bank deposits, so no, they don't have enough cash for everyone that would come and ask for any cash of transfer. So this is the main problem, we have to reduce the panic."

Zmokhol and others in Lebanon say that the Lebanese pound is not what's in trouble — it's the country's dollar reserves, needed for imports, something the country relies on heavily.

Yumna Fawaz, a Lebanese journalist and filmmaker taking part in the protests, articulated this fear.

"We are worried if the banks keep closing for a long time, the dollar value will hit the roof," she told CNBC.

The protests — the country's largest in 14 years — are a manifestation of widespread anger at decades of corruption, dysfunctional government and the deterioration of basic public services. A reform package promised by Lebanese Prime Minister Saad Hariri on Monday failed to satisfy the demonstrators, who want a full resignation of the Cabinet and an overhaul of the country's sectarian political system.

The reform plan aims to reduce the deficit in 2020 to 0.6% of GDP, but people are concerned that the measures have come too late and many are reliant on one-offs, like a one-off bank tax, that protesters say are unlikely to be implemented. An Arabic hashtag that says "no trust" is trending in Lebanon.

Observers say the sheer scope of the protests — spanning all age groups, religious sects and cities all over the country — make it unprecedented and more significant than perhaps any that have taken place before.

Economic problems have long plagued the diverse Middle Eastern country, home to 6 million people and 18 religious communities. Lebanon's current account deficit stands at an eye-popping 25%, meaning it imports far more than it exports, spends more than it saves, and relies heavily on foreign remittances to stay afloat.

Stagnant economic growth and a slowdown in remittances from wealthy Lebanese overseas — a diaspora that's been crucial to filling bank deposits, and by extension, funding the government — has led to a dangerous drop in foreign currency reserves, required for the import of everything from fuel and agrifood products to electronics. Businesses have found it increasingly hard to buy the dollars they need from lenders. In September, the country's government declared an economic state of emergency.

Debt-to-GDP stands at more than 150%, one of the highest in the world, and unemployment hovers between 35% and 40%. Lebanon is ranked 138 out of 175 countries by Transparency International's Corruption Perception Index.

"The fact that the banks remain closed is unpreceded in peacetime," a Lebanese investment analyst close to the situation, who did not want to be named, told CNBC. "It's a reflection of liquidity fears, especially that the central bank is and will be called upon to shoulder more of the fiscal responsibilities."

Lebanon hasn't been under this much economic pressure since its bloody 15-year civil war ended in 1990 and left an estimated 120,000 killed. Increased political instability — in a country hosting more than 1 million Syrian refugees and where government mismanagement has led to daily power cuts and piles of uncollected garbage on the streets — could be the breaking point that pushes the country to default, economists fear.

"Political and policy uncertainty will negatively impact the Lebanese economy by adding to its existing woes," said Alia Moubayed, managing director of fixed income strategy at Jefferies and a former economist at Lebanon's central bank.

"We are already in recession mode and the inability of government to set a credible path to fiscal policy, while monetary conditions are very tight is adding to the economic slowdown."

The Lebanese pound has been pegged at an official rate of 1,507.5 to the dollar since 1997, but many say they often have to go to currency houses that charge far higher rates.

Lebanon's central bank, the Banque du Liban, has been intervening for years to prop up the pound by selling dollars and buying pounds. But in order to sell dollars, it has to buy the dollars in the first place — meaning that as economic problems have worsened, the dollar reserves have been worn down. Lebanon's commercial banks have to buy dollars from the central bank, and those dollars are locked in the central bank's reserves or in Treasury bills.

"The Hariri plan is essentially a plan to buy some time, by explicitly channeling monetary policy towards fiscal purposes," the Lebanese investment analyst said. "With relatively lower inflows and eroding confidence, the banking segment is increasingly having liquidity issues and most of the USD is sucked up by the central bank."

A just-published white paper from the Lebanese International Finance Executives (LIFE), an apolitical and nonsectarian global organization of Lebanese professionals, proposes several measures to "save Lebanon," including the dismantling of the central bank's current policy, which it says "erodes confidence in the financial system."

"The central banks "advanced form of monetary policy experimentation, which was deemed necessary initially, increases systemic risks longer-term and reduces hard currency liquidity in the system," the paper wrote. "Following fiscal consolidation steps, we would like to see in due course an unwinding of these measures."

The paper outlined several steps that the finance executives deemed crucial to preventing a national default, including creating fiscal space via pension reform, subsidy cuts, improved tax administration and privatization of bloated state assets. It also stressed the need for transparency, the rule of law, reviewing debt management and an entirely new economic model.

It also described the government reform plan as "welcome" but "not a realistic and sustainable fiscal consolidation plan."

"More alarmingly, (the reform plan) continues to heavily rely on the central bank for fiscal purposes, representing a highly unconventional, and ultimately destabilizing policy," the paper continued.

"In the absence of immediate and radical austerity measures and structural reforms, Lebanon appears to be heading towards an economic meltdown."