LIGHTENING THE DEBT BURDEN

The procedures for obtaining loans are complex, the repayment terms short, the costs high and the demands for loan guarantees have increased - this is the verdict brought in by the World Bank [WB] and the IMF [International Monetary Fund] a month and a half ago following the results of a second assessment of Azerbaijan's financial sector. According to the studies, the limited access to finances is the main impediment to the development of small- and medium-sized enterprises (SME) in the country. 

A few days ago, the Central Bank of Azerbaijan (CBA) took a decision which some experts have assessed as a first step towards liberalising the situation in the bank loan sphere. Directly opposite evaluations were also voiced moreover…

The loan stone round your neck

Today, when Azerbaijan, like other hydrocarbon-exporting countries, is experiencing difficulties owing to the drop in income earned from oil exports, and the economic decline in Russia is having a negative effect on the prospects for growth throughout the entire region, the speeding up of diversification of the economy is a priority for Azerbaijan's government. You see, encouraging the growth of the private sector and competitiveness, as well as providing incentives for creating new and high-paid jobs may realistically reduce the impact of external risks and lessen the country's dependence on the oil sector.

In order to achieve these aims, the country's financial sector has to grow and opportunities need to be expanded to correlate with the demands of the economy. International experts believe that access to financing is the key to the growth of small- and medium-sized enterprises and to job creation, but there are restraining factors here. The share of private sector loans in the country's GDP is 31 per cent (based on the results for 2014) which is a rather modest result compared to countries with a similar-sized economy.

At the present time, approximately two-thirds of the micro-, small- and medium-sized enterprises have bank accounts, but only 13.5 per cent have access to credit. Roughly three quarters of these enterprises have never applied for loans. According to a survey carried out by the World Bank, of 516 of the country's enterprises involved in agriculture, industry, business, tourism and services, 91.9 per cent of micro-enterprises, 81.9 per cent of small enterprises and 72.7 per cent of medium-sized enterprises have never taken a loan; 7.9 per cent of micro-enterprises, 14.8 per cent of small enterprises and 20 medium-sized enterprises have had just one loan. Only 3.3 per cent of small enterprises and 7.3 per cent of medium-sized enterprises have had two or more loans.

Thus, it will be possible to achieve an increase in economic growth rates by making it easier for entrepreneurs to get loans. For comparison's sake, we would like to note that the difference in the annual interest rates that borrowers are charged in Azerbaijan and Europe is something like 15-20 per cent.

The banks justify this difference by the higher cost of attracting capital. There is a certain grain of truth in this, for, you see, the interest paid out on the population's manat deposits this year has grown as much as 12-16 per cent, and as much as 8 per cent for foreign currency deposits. But it is also true that the banks are earning quite a lot from this raised margin and the high operating charges (in relation to European figures) levied on loans. In this case, the main reason for the higher cost of loans is the inadequate competition among banks in the Azerbaijani economy.

The problem of the high interest rates on bank loans in Azerbaijan is continuing to be a pressing one, especially as it has been like this over the last two to three years. In order to resolve it, the members of parliament have even put forward proposals on granting the Central Bank additional powers to cap interest rates on bank loans by administrative means. The experience of countries which have employed this practice (capping interest rates on loans) has shown that the steps taken there have created conditions for the shadow economy to flourish. Shadow banking in those countries accounts for as much as 30-50 per cent of the banking sector. This is precisely why the Central Bank has rejected expansion of its powers, since it does have sufficient resources and levers to regulate this issue by economic means alone.

Over the period from 2003 to 2014 the Central Bank's bank rate was reduced from 15 to 3.5 per cent in order to influence the market.

Moreover, the devaluation carried out in the country on 21 February 2015 brought about a deterioration in the banks' situation, and today they are thinking less about reducing the interest rates on loans. At the present time, the banks are puzzling over ways to retain their incomes, not to mention how to boost their profits. The problem of loans remaining unrepaid is increasing, which is making the banks pursue a cautious policy with regard to the granting of new loans.

An unexpected decision

Against this backdrop, however, the Central Bank has decided to employ another of its "levers". It has sent a letter out to all the banks and credit organisations informing them of the capping of bank charges up to 1 per cent for banking services when arranging customer loans; in a number of banks bank charges have been as much as 7-10 per cent.

The Central Bank explains this instruction by the high bank charges levied by some banks, which do as a result lead to an increase in the actual annual interest rate on consumer credit, and at times this raises the average annual interest rate throughout the banking sector.

We would like to note that the amount of bank charges relating to loans depends on the length of the repayment term, the extent of the consumer credit and is on average from 3 to 7 per cent.

For the moment it is hard to say how the banks will react to this and how they will make up for lost income. Discussions are continuing, both within the banks themselves and have also begun with the Central Bank. Taking into account the fact that these costs also include expenditure on life insurance for the borrower, the banks will now have to ponder this issue.

The director of the Azerbaijan Bank Training Centre, Cavansir Abdullayev, believes that the charges for arranging a bank loan are considerably higher than in other countries. Whereas abroad the interest rate itself on loans varies from 5 to 7 per cent, in our country such interest rates only apply to bank charges. "Over the last three years the country's Central Bank has called upon the banks to reduce both their charges and their interest rates on loans. Some banks did heed the Central Bank's recommendation, but it was not a generally popular move. Therefore the Central Bank was forced to resort to administrative measures," he said.

This decision will have a negative impact on the banks' incomes from bank charges. In order to partially compensate for possible losses, the banks may increase the interest rates on loans, C. Abdullayev thinks.

Moreover, it was not long before the banks reacted by raising interest rates on loans. Literally on the very same day, one of the major private banks took an interim decision on lowering bank charges to 1 per cent, as the Central Bank had instructed, but raised the basic interest rate on loans at the same time.

As was noted at the bank, taking into account the fact that the bank charges were low and the interest rates on loans were competitive, for a bank this decision by the Central Bank will not cause any problems. At the same time, at the bank they are convinced that compensating for bank charge losses by boosting other forms of income will in any case have an impact on the interest rate on loans.

Moreover, some banks will not have to make any changes at all since their bank charges did not exceed 1 per cent.

So, capping the bank charges at 1 per cent will allow customers to determine which loan conditions are the most advantageous. It is hardly likely that the banks will make serious changes to loan interest rates, since they will be afraid of incurring the "ire" of the ombudsman.

Taking into account the fact that, in the view of Vuqar Bayramov, the chairman of the Centre for Economic and Social Development, this decision of the Central Bank will boost competition among the banks. "Whereas some banks previously attracted clients with somewhat misleading advertisements, this practice will now be stopped. Before this, the banks were able to raise the interest rates on loans by levying high bank charges. So, if a customer were to take a loan of 10,000 manats, and the bank charges on it were 8 per cent, i.e. 800 manats, then, although he was granted 10,000 manats, interest would already be levied on a sum of 10,800 manats. All this has led to an increase in the interest rate on loans," V. Bayramov said. 

Thus, the Central Bank is also trying to reduce the growing risks, which largely take the form of a growth in the consumer loan portfolio. This, in its turn, increases the risks to the security of the clients' and the depositors' funds in these banks.

Taking into account the fact that these restrictions are not only being extended to consumer loans, it will be more profitable for the banks to grant more loans to businesses, something which has been  especially recommended over the last few years. This means support for further boosting the economy as a whole.