DEBT STONE

Excessive credit expansion during a long-term economic recovery, as a rule, serves as a factor that provokes banking crises. Indeed, this phenomenon leads to a deterioration in the quality of the loan portfolio, inflates the valuation of collateral loans and increases the credit risk. Simultaneously, rapid credit growth makes it difficult for the regulatory authorities to monitor the loan portfolio of banks as a result of its rapid change.

Credit expansion preceded banking crises in many countries over the past 20 years, including Japan, Latin America and Southeast Asia. Their experience suggests that the growth in lending, which is more than twice the GDP growth rate, can be considered a signal of the potential danger of a banking crisis.

Meanwhile, in recent years, the banking sector of Azerbaijan has achieved very high growth rates - 30-33 per cent. This dynamic is 5-6 times faster than the rate of growth in the national economy as a whole and 3-4 times faster than the dynamics of the development of the non-oil sector. Studies carried out by the Central Bank of Azerbaijan (CBA) showed that the main driver of this growth is not business lending but consumer loans, including loans to buy cars.

The Central Bank believes that such an "overheating" in the banking system is a negative indicator, which can lead to the emergence of so-called "financial bubbles", and this will affect the entire financial system and, above all, the deposits of the population and the income of shareholders.

In this regard, the regulator resorted to measures to "cool" the market. The basic requirement put forward by the CBA was not administrative but economic in nature and concerned more serious reservation on loans. In addition, the policy towards borrowers, their personality and level of income was clarified. This practice is widely used all over the world: applying for a loan to the bank, the borrower must prove his creditworthiness and stable income. The regulator also changed the conditions for issuing car loans in order to reduce risks.

The Central Bank believes that tighter regulation has yielded positive results. Consumer credits continued to grow this year, but the growth rate decreased by 2-3 times compared to the same period last year. If, within the first six months of 2013, new loans worth 882.3m manats were issued, in January-June this year - they totalled 605.2m manats.

As for car loans, there is also a significant decrease here, especially in the segment of used cars.

By changing the requirements, the Central Bank proactively informed banks and the public about the need to take more balanced steps. On the other hand, the CBA expresses satisfaction with the liberal nature of the market, the sufficient volume of supply and the fact that it has become easier to get a loan. But this does not mean that people should take from banks resources that exceed their income and that banks should take excessive financial risks. "Previously, control over the income of borrowers was softer, so loans were issued at higher interest rates. Now, customers who have remained on the market can be called "real" paying customers. Overall, the market was a market of banks, and now it is becoming a market of clients with a wider choice of products. Increased competition has caused a downward trend in rates," the CBA believes.

But no matter how rosy the forecasts of the regulator look, banking statistics stubbornly say something different. And it is obvious that the preventive measures were not enough to radically change the credit thinking of the banking system. Thus, in January-June this year consumer credits still accounted, according to the Central Bank, for 40.7 per cent of loans with an increase in volume by 31 per cent compared with the previous earlier.

The situation prevailing on the country's banking market also affects the customer base of banks. In six months the number of bank customers decreased by 521,000 units - almost to 4.8m. And this is due to the fact that in the new conditions, banks are willing to lend to old customers who have a good record and examine applications from new customers more closely.

Concern about processes in the banking sector has already been expressed at the highest level. For example, at an enlarged meeting of the Cabinet of Ministers dedicated to the socio-economic development of Azerbaijan in the first half of 2014 in early July, President Ilham Aliyev recommended that banks reduce the amount of consumer lending and direct the basic means into financing the real sector. The head of state issued an instruction to analyze the situation and prepare a major reform.

Of course, this statement was a powerful signal to the rest of the banking sector, and now many banks, including active participants on the market of retail banking services, are reviewing their credit policy and looking for ways to increase the attractiveness of business loans.

According to the chairman of the Board of Pasha Bank, Farid Axundov, the change in the policy of the Central Bank in lending increased competition in the corporate segment of the market. Along with the tightening of control over the implementation of all the necessary procedures for loans, the regulator recommended that the real sector be actively financed. As a result, during the time that elapsed since the beginning of the year, the situation on the market changed: competition in lending to small and medium-sized enterprises (SMEs) increased. "The same kind of active struggle for customers is under way in the corporate sector, in which several banks have started working actively. This is happening against the background of a relatively small number of corporate clients on the market as a whole," Axundov said.

And this, in turn, affected the figures for interest on loans. And if at the beginning of the year there was a slight decrease in interest on loans, today, given the strategic goal of diversifying the portfolio, banks are conducting more rigorous selection of customers and, accordingly, are no longer willing to sell their resources cheaply. As of 1 July 2014, the average interest rate on loans in national currency - the manat - in Azerbaijani banks amounted to 14.13 per cent against 14.05 per cent on 1 June of the current year and 14.21 per cent on 1 July 2013.

That is to say, as can be seen, the problem of high interest rates is still relevant. We must say that this topic is very actively discussed among economists, and experts at various levels offer their methods to regulate the situation until the introduction of the upper limit of the interest rate. But according to the head of the Association of Microfinance of Azerbaijan, Jala Haciyeva, the introduction of the upper limit will not solve the problem - on the contrary, access to financial resources will become more difficult. In regions where it will be unprofitable for the bank to operate at the maximum allowable rate, it will simply cease to function. As a result, residents of these regions will have much fewer opportunities.

Bankers themselves believe that the high cost of credits is due to the high demand for consumer loans with a low volume of supply (lack of financial resources) and high risks for consumer credits. Moreover, the expenses of banks are increasing due to the large volume of overdue loans as banks have to pay dividends on deposits while they are not receiving income from overdue loans. Marketing costs to retain customers against the background of growing competition are increasing. In addition, the issue of micro-credits requires more work and expenses (including appropriate remuneration for good staff) and high operating costs in the issuance and repayment of loans. Therefore, rates may be lower only for large business loans.

Taking into account all these factors, the CBA took another step in late July to provide the necessary support for the diversification of the national economy and increase the investment component, including credit activity in the real sector. The discount rate was lowered by 0.75 percentage points - to 3.5 per cent. At the same time, the parameters of the interest rate corridor changed - the maximum level of the corridor was reduced from 6 to 5 per cent and the minimum - from 0.5 to 0.1 per cent, while mandatory reservation norms on all deposits of banks were reduced from 3 to 2 per cent. The regulator is confident that this step will encourage banks to lower interest rates on loans and expand credit programmes. In any case, the monitoring of the market is still going on, and it may well be that the CBA will get new ideas to diversify and improve the structure of banks' loan portfolio.