The consequences of the devaluation for the financial market

The manat devaluation has affected the entire economic life of the country. Its influence on the consumer market has been immediately investigated – the results are not comforting and it has become clear immediately that growth of prices is inevitable (in February 2015 the prices for food products went up by 4.4%, according to Turan).

In order to avoid their further growth, control over trade has been intensified. But the wholesaler and monopolists-importers, which are known in our country by names, have dropped out of sight. Fitch has evaluated losses of big economic structures of the country and it claims that SOCAR will suffer from devaluation most of all and Azerenerji will also have losses. For the banking system the devaluation is neutral in generation, though some banks (especially those who have allotted credits in foreign currency) already have problems. The banks fear and like changes at the financial market – this is a good time to make money. For some of them it is a complete failure, others are able to adapt and multiply their capital. Volatility at the markets gives the banks a chance to play at the market and make profit, but on the other hand increases risks for the entire banking system. Some Azerbaijani banks have already lost about 5% of their assets. The markets look confused. This causes growth of prices for immovable property. Potential investors lose confidence in investments, because it is unclear how the exchange rate is going to change.

Everyone would to know if the devaluation has been artificial?  The problems started accumulating long before February 20, 2015. For the first time last year Azerbaijan’s foreign debt exceeded proficit of the current account of payment balance. Proficit of the current account constituted 13.7% of GDP and the foreign debt reached 14.4% of GDP. This was a signal for the economy and first of all the entire financial system. These imbalances will keep on growing, because of reduction of oil production and now reduction of world oil prices.

Larisa Leshenko, representative of World Bank (WB) in Azerbaijan, said at the Bank and Financial Forum last month that in mid-term oil price it is expected to go down: in 2015 it will be $53.00, in 2016 -$57.00 per barrel and Azerbaijan should take measures to expand the taxation base and solve the issue of information business.

“All agencies, including Azerbaijan Ministry of Taxes, consider emergency measures to minimize this influence. In this situation Azerbaijan should continue the policy of fiscal consolidation and fiscal reforms, which will ensure stability of proceeds and achievement of the set goals,” she added.

“In the past three years the non-oil sector of Azerbaijani economy shows annual growth of 9-10%, but one should say that this index reflects growth with respect to GDP, incomes of the non-oil sector go down and the main reason of this tendency is the conditions created for business. The government should take measures to stimulate business and unite private and state sectors, which will lead not only to growth of proceeds, but will also ensure access of private sector to the financial resources,” said WB representative.

Fitch Agency is also confident that devaluation is a neutral moment for the sovereign credit profile. It will promote budgetary and foreign corrections, which will positive during oil price reduction. A sharp rise of a real effective exchange rate of manat as a result of reduction of Russian ruble and Turkish Lira rates in 2014-2015 would have had a negative effect on the measures to develop non-oil economy in Azerbaijan should it continue. This has a great risk for appearance of conditional obligations especially in the banking sector, though a very strong state balance of Azerbaijan guarantees a significant reserve of durability.

There are no alternative versions in the economists’ evaluations of devaluation. Everyone is confident that it was inevitable and aimed at solution of the budgetary problems of the country in 2015 and it requires careful steps in the entire financial system. In this context devaluation was initiated from the top.

But suddenly another version of devaluation comes to the surface. Everyone, who is sure that the reason of devaluation was not economic problems, but profiteers, should have liked it. The banks have been called the profiteers. CBA suddenly announced that devaluation of the national currency has been deliberately provoked by the Azerbaijani commercial banks and they have achieved that with the second attempt.

According to the CBA’s statistics, the banks twice provoked flight of the clients from the assets in the national currency – once in November 2014 and then in January 2015. If last December year they failed to achieve devaluation, unlike Russia, then on February 21, 2015 devaluation of Azerbaijani currency has taken place.

As the country lacks both exchange and open currency market, one can trace speculative attacks on manat based on the indirect index of rates of physical persons’ deposits. In November 2014 and January 2015 the rates of the foreign currency deposits exceeded the rates of manat deposits by over 0.5% a year. In November 2014 the gap was 0.57% in favor of hard currency and devaluation was avoided, but in January 2015 the gap reached 0.64% and attack on manat has succeeded.

In January 2015 the banks have seen that their depositors decided to convert their assets into USD, not taking into consideration the losses and they started actively spreading news about the citizens’ behavior first of all in Baku. This “historical” return to the source looks rather strange against the background of devaluation of the national currency. However, none of the banks have been named. Possibly, this has been done to explain president’s words that on certain days before the devaluation up to $500 million has been purchased a day. Or maybe this is an attempt to justify powerful currency interventions at the market.

The attempts to find a culprit are twice surprising with the CBA’s statistics, according to which the banks continued being pumped with centralized financial resources. In 2014 CBA increased re-financing of the banks by 2.26% and it ensured 17.87% of bank credits (18,017,400 AZN). But in January 2015 CBA increased re-financing of the banks by 5.06% (refinancing by CBA ensured 18.77% of the bank credits). Therefore, by February 1, 2015 the volume of re-financing totaled 3,383,200 AZN against 3,220,400 AZN against last year and 3,149,300 AZN by January 1, 2014. It is unclear whether it was inflation or the economic growth, but one can say for sure that CBA’s interest was again focused on the banks.

In the current situation it is very important for the CBA to complete consolidation of the banks as soon as possible. Majority of banks has already “closed” new demands to the minimum size of authorized capital. It seems like licenses of some banks should have been withdrawn, but CBA has given banks one more month to increase their authorized capital. As a whole, the process has come to completion. By February1, 2015 aggregate capital of the banks of the country totaled 4,325,500 AZN (absolute record) against 4,269,700 AZN and 3,426,200 AZN by January 1, 2014. In January 2015 average aggregate capital of the bank in the country increased by 1.24 million AZN – from 94,882,000 to 99,122,000 AZN.

If in January 2015 the deposit rate went down, in February the situation has changed. The banks seemed to be frightened that the population will withdraw its capital. Right after the manat devaluation the Azerbaijan Deposit Insurance Fund (of course with CBA’s instruction) said that the rate of insured deposits increases from 9% to 12%. A little later the Fund has announced virtual amnesty of the placed deposit accounts. This was actually a sign to increase interest rate of the bank deposits. One of the closest to CBA banks – Republic – was the first one who reacted to this decision and increase deposit rates by 3.5% (13.5% for 36-month deposits). The banks’ intention to hold the deposits is very high and some banks, such as Bank of Baku, are even ready to pay the newly introduced dividend tax for the new depositors.

The banks’ position is understandable: they should support deposit base of the banks. However, growth of deposits against the background of grown rates fully crosses out the hopes for reduction of credit rates, which the real sector of economy desperately needs today. It is unclear how CBA is going to solve this situation. The re-financing rate is still 3.5%.

Meanwhile, there could be problems with foreign loans. In particular, if the bank’s rating goes down, the cost of the debt will go up and it should be returned in the more expensive currency. There is also a problem for the banks with the currency resources. President of Capital Bank has recently said that in April 2015 International Bank of Azerbaijan (IBA) must return about $160 million to the western creditors. According to another information, on February 27, 2015 IBA received $270 million worth of subordinated credit from CBA.

This to a great extent explains the growing interest in the Islamic banking. There is lot of pragmatism and idealistic expectations here. On the one hand it is considered as a new source of funding, because the banks of the Islamic world with huge capital, including Islamic Development Bank (IDB), are ready to help Azerbaijan. This market is getting bigger and its volume already totals over $1 trillion. On the other hand, this type of credit is considered as a milder one as compared to the conventional banks, because the banks share responsibility and risks with the borrower. In this semi-crisis situation, which is currently at the credit market, use of this type of crediting could appear to be very productive.

The results of this activity are already obvious. IBA has felt the growing interest in this type of banking activity and tries to take upon itself the function of a locomotive to develop this type of crediting in the CIS member-states. This is a right decision. They say that about ten banks are ready to switch to this type of crediting. But IBA will continue holding its leading positions, though one should count on small banks here too.

While trying to respond to this growing interest in the Islamic banking, the Institute of Economy of the Azerbaijan Academy of Sciences jointly with the Turkish TIKA has held a wide-scale conference entitled “Islamic Funding: Current State and Future Expectations.”