RISK RISKING

Azerbaijan's banking sector confidently lived through the global economic crisis and managed to recover, but there are still some problems and risks. This is the conclusion of the authors of a report by the international rating agency Fitch Ratings announced in late March.

Experts believe that the credit indicators of Azerbaijani banks have stabilized with respect to the height of the global financial crisis, and the current high oil prices maintain asset quality and liquidity in the sector. But at the same time, levels of loan impairment remain significant after the high rates of the pre-crisis growth, and the refund for problem loans is hampered by weak corporate governance and transparency in the corporate sector, as well as the continuing difficult situation on the market.

"The limited profitability and in many cases, moderate capitalization constrain the ability of banks to absorb losses, and the banking system remains highly exposed to the risk of some significant adverse changes in the price of oil," the agency says.

However, the presence of problems in the banking sector is well known in Azerbaijan: it recognizes that this sector is still unable to become the locomotive of Azerbaijan's economy ...

Rating opinions

Originally, rating agencies praised the behaviour of the Central Bank of Azerbaijan and the local banks amid the global crisis, and S & P called the policy of the CBA during the crisis "balanced and prudent". "The banking system of Azerbaijan survived the crisis quite easily. Unlike Russia, Kazakhstan and Ukraine, where even very large banks found themselves on the verge of default on their obligations, there were no bankruptcies in Azerbaijan," the agency's leading analyst Viktor Nikolskiy emphasized.

However, there were also shocks, of course, and to some extent, they still influence the development of the sector as a whole. A particular problem is overdue loans. For example, Fitch, based on studies of data from rated banks, says that the rate of problem loans (overdue by 90 days) stabilized at a high level of 14 per cent at the end of 2011. However, restructured loans and prolonged loans, which comprise no less than 11 per cent, indicate a potential for further recognition of loan impairment. In addition to the deficiencies in the operating environment, asset quality is also adversely affected by weak credit standards in banks. Increased competition for borrowers in small and medium-sized businesses and individuals also carries a risk of less stringent underwriting standards in this segment.

The agency notes that the weak internal capital generation through earnings (as evidenced by the profitability of assets in the sector at an average of 1 per cent in 2011) is likely to continue against the background of more moderate growth, further recognition of the impairment of loans issued in previous periods, increasing competition, and given the limited scale and high cost base of many banks.

According to Fitch forecasts, unless there are negative external shocks, the country's banking system will continue to recover slowly, which will be supported in general by comfortable liquidity due to the rapid growth in the base of retail deposits. In this case, the rating of the stability of Azerbaijani banks rated by the agency is currently in the "b" category or below, and Fitch does not expect any significant increases in the medium term.

Another rating agency, Moody's, commended in its report the increase in the share of Azerbaijan's private banking sector on the credit market. "The share of credit investments in the country's private banks increased to 64 per cent of the market in 2011 from 55 per cent in 2010. This is a positive trend for the private banking sector," the agency says. Scaling up operations in the country's private sector strengthened these banks and allowed them to attract new customers, improving their financial performance as a result, including profitability and efficiency. Thus, the share of private banks in Azerbaijan was 63 per cent of the total banking profit before tax in 2011, compared to 54 per cent in 2010.

In other words, the rating agencies also recognize positive developments in the banking sector of Azerbaijan and significant problems that hinder a qualitative growth in this sector of the economy.

What is good and what is bad?

However, as has already been mentioned, the latter is not denied in Azerbaijan either. For example, the state adviser on economic policy at the presidential administration, Vahid Axundov, said in a speech recently that Azerbaijan's banking sector is not yet the locomotive of the country's economy. "The banking sector has not yet been able to become the locomotive of the economy, and the economic activity observed today is mainly maintained by the budget. Bank loans are expensive and short-term," he said. According to him, to resolve these problems, it is necessary to create an attractive business environment and conduct large-scale and comprehensive changes. "The main challenges in the financial sector are effectively targeted use of public funds, serious examination of investment projects financed from the state budget, ensuring transparency in these processes, reduction of the non-oil budget deficit and keeping inflation within an optimal framework," Axundov says.

In the past year, 5,038.5 million manats were invested in the country's economy from budget funds (an increase of 52.8 per cent) and 897 million manats - from bank loans (an increase of 37.5 per cent).

Another tool to improve the situation in the banking sector could be the maintenance and development of the interbank credit market, including protection against external shocks. The advisor to the manager of the Baku Interbank Currency Exchange (BBVB), Zahid Mammadov, believes that the market for interbank loans is a unique tool for rapid resource mobilization in large quantities, which is why the problem of liquidity on this market is solved in the most natural way. As a rule, the main function of the interbank lending market is the regulation of bank liquidity.

However, despite the presence of problems, experts believe that a second wave of the global economic crisis will not have a major impact on the banking sector of Azerbaijan. The main reason is still the weak integration of local banks in the global market, which is why if there is a crisis, no strong import of risk is expected. In addition, according to the head of the Azerbaijan Bank Training Centre (ABTC), Cavansir Abdullayev, the sector has such a flexible and institutionalized regulator as the CBA. "Both the banks and the regulator have experience in crisis management. In addition, the country has reserves that exceed the size of the assets of all banks by three times, which will be sufficient to protect the sector," said Abdullayev. He is confident that the banking sector of Azerbaijan is stable, no large upheavals are observed in it and no "surprises" are expected.

It turns out that the existing problems to some extent play into the hands of the country's banking sector as a whole, helping to prevent external risks. Though, this way or another, as state adviser Axundov rightly pointed out, the global crisis once again made it clear that all aspects of balanced socioeconomic development should be reviewed, and there is a need to prove some of the concepts that were previously considered to be axioms.

"Optimal relationships and optimal trajectories are not static, they are constantly changing, and in accordance with the requirements of time, they take on new quality. This was once again confirmed by the global financial crisis. For example, the status and relations of the banking sector, the debt market, state intervention in socioeconomic processes and other issues are now the subject of sharp debate and are being re-assessed. This, in turn, will lead to changes in economic policy and new functional, institutional and other structural changes," Axundov said.

That's to say the problems existing in the banking sector today should also be resolved against the background of global changes and challenges and taking into account external risks. Here, not only the regulator of the market and its participants, but also researchers, scientists, theorists and foreign experts need to work together.