HIGH INTEREST RATES IN SMALL LOANS

By definition, microfinance is a system of loans intended to support the low-income section of the population in setting up or expanding private businesses. On the other hand, in the opinion of foreign experts, microcredit organizations are not only an accessible source of loans and technical assistance for businessmen, but also a means of cutting unemployment rates and creating new jobs.

Small loans for start-ups accustom borrowers to the habit of using money more efficiently, which eventually, should their business develop successfully, enables them to manage large loans as well. So, microfinance grants access to loans and other services to the owners of small and very small businesses.

In Azerbaijan, these services were introduced relatively recently, some 10 years ago, and are considered one of the problematic spheres of finance.

For the fair development of society

Both commercial banks and non-banking credit institutions are involved in the microcredit sector in Azerbaijan. Not only state-owned organizations like the National Fund for Enterprise Support, but also international organizations like FINCA, ADRA, USAID, Norwegian and Swiss funds and others, local credit unions and societies are involved in this sector. Sixteen microfinance organizations operate in the country, of which 14 are members of the Azerbaijan Microfinance Association (AMFA), which was established in 2001.

AMFA currently has 24 members (10 of them are banks), whose credit portfolios doubled in one year and, as of 1 July, exceeded $600 million. Half of the loans have been issued to the agriculture sector, 25% to trading companies, and so on.  AMFA has in excess of 290,000 customers.

In the opinion of US Ambassador to Azerbaijan Anne Derse, the microfinance sector plays an important role today in promoting the fair development of society: "The United States and USAID are working closely with the Azerbaijani Government and main donors on carrying out structural and macroeconomic reforms. Only last year, USAID allocated more than $20 million in financial, technical and training assistance for the microfinance sector," she said.

In the words of Deputy Prime Minister Ali Hasanov, there are microfinance organizations in Azerbaijan at present issuing credits to 80-90,000 internally displaced persons, impoverished families and refugees. The repayment rate is 99-100%. "I advise international donors to pay special attention to the microfinance sector. After all, microfinance financial institutions have been formed in Azerbaijan, and interest in them is growing fast, not only among the population, but also among various credit organizations," Mr. Hasanov noted.

He added that the state is interested in the development of the microfinance sector. "We reduced government licence duty from AZN 5,500 to AZN 120 to assist the newly established credit organizations," the deputy prime minister said (Interfaks-Azerbaijan).  The difference is considerable - more than 45 times.

It has to be said that, in the last decade, the non-banking credit institutions and commercial banks have issued microloans to small and medium-size businesses in Azerbaijan amounting to $1.18 billion. It is a substantial amount, but it would be wrong to call microloans a popular form of loan in the country, despite that figure.

High interest rates - fight against inflation?

As already mentioned, microloans are essentially intended for the low-income groups of population. However, the terms which creditors sometimes stipulate completely ignore the status of most borrowers. For example, high interest rates and significant collateral discourage many potential customers of microfinance organizations from taking out loans of this sort at the very outset.

In Azerbaijan, microloan interest rates often reach 3% a month. Although the heads of some microfinance organizations consider this normal in the current macroeconomic situation in the country, representatives of the "low-income" groups who want to borrow clearly disagree. The lenders propose to use as guidelines, not the developed countries of the world, where rates are 10 times lower and quite accessible, but the developing countries of the post-Soviet area, Asia, and the Balkans...  In addition, they point to the high rate of inflation and high rates of return on bank deposits.

There may be truth in what they say: in the first eight months of 2008, the inflation rate in Azerbaijan reached 21.3% and is set to grow further by the end of the year. And high lending rates are a widely used counter inflation measure, and this is common in our country. This is why we should probably not expect lower interest rates on microloans in the near future. But we should also remind readers that even when the annual inflation rate in the country was only 5-6%, microloans were issued at the same 3-4% interest rates. Apparently, this is not a question of inflation alone.

As for collateral, some microfinance institutions are already loosening their requirements and sometimes do not demand any collateral from creditors who apply for small amounts of money. At any rate, as international experts say, there is a need for improvements to the law in this sector in Azerbaijan.

In the meantime, representatives of the National Bank of Azerbaijan (NBA) say that they have already taken this recommendation into account, during development of the draft law 'On non-bank credit organizations'. The draft low might be passed during the autumn session of the Milli Maclis. NBA Deputy Chairman of the Board Rufat Aslanli said that final discussions are currently under way, before it is sent to Parliament.

"The draft law has five chapters, and the main reason for the lengthy, one year, process of discussions with ministries and departments is the use of terms which have not previously been used in Azerbaijani legislation," said Mr. Aslanli. He added that one of these terms was "security deposit," which refers to funds which the borrower deposits at the non-banking credit organization and which should not exceed the principal amount of the loan and the interest rate.

The draft law also defines the terms of administration and licensing of the non-banking credit organizations, prudent regulation of their activities and oversight by the NBA.

Insufficient funds for microfinance

So, with the adoption of the new law, at least some of the problems of the non-banking credit organizations might be resolved. At the same time, these organizations are also quite concerned about access to funds. "Despite the fact of great interest in Azerbaijan among financial institutions, funds are allocated stage by stage. This is why our organization, for example, cannot expand its regional branch of networks," Calal Aliyev, Chairman of the Board of one of these organizations, told R+.

AMFA Executive Director Jhala Haciyeva confirmed that the limit on access to foreign funding sources (which are cheaper and longer-term) and intense training of the personnel are the main problems of microfinance organizations. She also said that as the organizations grow, which also requires the attraction of investment, the need for highly qualified staff is increasingly pressing.

At present, microfinance organizations operate using external sources of funds. There are problems with borrowing by new organizations which do not have much experience yet. "And this is not at all linked to the international financial crisis, because it has not affected the microfinance sector," Haciyeva said. "The sector is more attractive for private investors because it shows transparently where the money goes and what interests it serves. This is why there are two types of investors in the microfinance sector - social and commercial."

Some commercial investors have tighter participation requirements, and social investors do not issue long-term loans, but their main advantage is in refinancing, which makes it possible for small microfinance organizations and newly established commercial banks to develop their portfolio.

In other words, despite the obvious high demand in Azerbaijan, cheap microloans are still an inaccessible method of supporting small and very small business. However, demand generates supply, and the microfinance institutions only have to apply themselves more to develop their own business, which will benefit the country from both the economic and social points of view.