BENEFITING THE BANKS

Since July 1, Azerbaijan has reduced the maximum rates on insured bank deposits of the population in national and foreign currencies. This decision was made by the Board of Trustees of the Deposit Insurance Fund (ADIF). According to the decision, the maximum rate on insured bank deposits in national currency was reduced from 15 to 10%, and in foreign deposits - from 3 to 2.5%.

Objective reality

The ADIF decision was reasonable for several reasons. Primarily it is related to the current position on the interest rates of local deposits, both in national and in foreign currency. For most of the banks, average interest rates on individual deposits in national currency range from 8 to 11%, and in foreign currency - 1-3%.

These figures match the data of the Central Bank. As of June 1, 2019, the average interest rate on manat deposits of individuals was 10.24%, and in foreign currency - 2.62%. This is slightly higher than the limit set by the fund. However, average data is influenced by high interest rates on deposits for a period of 5 years and more - 12.59% and 5.01%. In addition, some banks need manats, and they are now ready to offer deposits at rates higher than 15%, i.e. not covered by insurance, as there will always be citizens who are willing to take the risk and make such a contribution for a higher income.

Secondly, today banks from the top 10 and even the top 15 are not very interested in attracting expensive deposits, because they have difficulty placing these funds. This is an objective reality. By attracting deposits at high interest rates, the bank has to raise interest rates on loans issued, which benefits neither the borrowers nor the bank, nor the economy as a whole. This is especially true for loans in foreign currency, since the lending conditions are quite tough. In addition, after the execution of a presidential decree to solve the issue of problem loans, banks received considerable reserves of liquidity. Banks already have short-term manat liquidity for ₼6b, which they cannot fully distribute. Therefore, large and medium-sized banks do not need additional volumes of deposits.

On the other hand, the interest rate limits adopted in 2016 did not have the expected effect. As of March 1, 2016, deposits in Azerbaijan reached ₼8.8b with the dollarization rate of 82.6%. As of June 1, 2019, the volume of deposits of individuals reached ₼8.6b with dollarization of 57.4%. In other words, despite the decline in dollarization by 25.2% in 41 months, it is still above 50%, and more than half of household deposits are still placed in foreign currency. At the same time, the volume of deposits in national currency grew by only 6.7% over the period because citizens are still afraid to transfer their deposits into manats given the constant and not always justified talks about expected devaluation. Therefore, investors are often not thinking about additional income, but about preserving their deposits and are ready to continue to keep funds in banks in foreign currency, even if their income is minimal.

The banking sector also agrees with the inevitability of reducing maximum rates on bank deposits. As one of the bankers noted, the system of insuring bank deposits needs to be improved. “The current system is more suitable for the crisis situation observed in 2015-2016. It does not fully meet market requirements and needs to be improved. Establishing the maximum limit on interest rates has been very effective in past years. But today it is desirable to start establishing the maximum amount of insured contribution. This will allow customers to be more careful when choosing a bank and further improve competition in the sector. Transition to the old system when the maximum size of deposits is determined will help to normalize the situation,” the banker said.

Since March 1, 2016, the insurance system has covered the entire amount of personal deposits (previously only the deposits of up to ₼30,000 were considered insured). The only condition is that the interest on the deposit should not be higher than the limits set by ADIF. This rule is valid until March 1, 2020.

At the same time, some believe that the extension of full deposit insurance will benefit the banks. “This decision is not made by the Central Bank and not by me, but I consider it relevant to extend full insurance of bank deposits of the population,” the Chairman of the Central Bank, Elman Rustamov, said even before the extension of full deposit insurance at the end of February.

Some bankers agree with the opinion. They note that "the extension of the current deposit insurance system for one year, until March 2020, also contributes to the further growth of deposits."

What is next?

The classic question is: what can we expect from the reduction of the maximum rate on bank deposits? Given the reduced discount rate of the Central Bank (8.25%), lowering the limit on interest rates can reduce interest rates on loans. Of course, it would be naïve to expect that lowering the limit on insured deposits lead to a sharp increase in lending activity. But potentially cheaper loans can help revive the economy and increase lending to both the public and the real sector.

In addition, we can expect that the process of de-dollarization of deposits continues, since at annual rate of 2.5%, depositors' interest in foreign currency deposits will further decrease.

In general, we can consider this solution as the beginning of changes in the deposit insurance system. On March 1, 2020, the term of extending the insurance system to all deposits, regardless of size, expires. Given the reduction in interest rates on loans covered by insurance, next year we can expect that full deposit insurance system is abandoned. This system was introduced in 2016 to revive banking activity that ended up in a financial pit after the devaluation of the manat in 2015. Now statistics show that the majority of banks have overcome the crisis, and therefore, the need for anti-crisis measures is eliminated. Therefore, we can expect significant changes in the deposit insurance system in 2020.

Banking sector also considers it necessary to continue the trend of lower interest rates on insured deposits, as well as the transition to other insurance models. “I believe that the trend of lower interest rates on insured deposits should be continued. In addition, it is possible to study international experience and apply other models of deposit insurance, for example, differentiated contributions of banks to the Insurance Deposits Fund, which will lead to a system that fully controls all processes,” the head of one of the country's largest banks notes. In his opinion, there are no two identical banks and two identical risk models, therefore it is wrong to use the same contributions.

“If a bank starts to inflate deposit rates for various reasons, then it should be responsible for that. The reasons may be different. Maybe the bank plans to actively lend to the market, and maybe it collects money to close the holes. That is why differentiation is required. If we see that the interest on deposits exceeds the average in the market, then the bank must pay large allowances,” the banker said. This would remove the commercial component and help “to speak the same language, which would reflect the development strategy and current state of the banks.”

Incidentally, back in 2017, a number of new products in the deposit insurance system were considered. In particular, it was planned to apply a differentiated insurance premiums, which could help abandon the upper limit on insured deposits in the future. Then, because the fund liquidated 11 banks, the process did not receive due development, but next year the fund may well re-introduce the system. But that's another story...