PLAN B

Yet another economic crisis is challenging the world. It is even hard to say what is harder to bear - COVID-19 pandemic or the damage that all countries have to bear because of imbalance of payments and GDP. The collapse of oil prices has darkened the big picture, making the citizens of all oil-producing states panic.

Azerbaijan under pressure from both of these factors, but most of all, of course, the situation in the oil markets is worrisome: the consequences for the Azerbaijani currency of a sharp decline in black gold prices in 2015 are still fresh in my memory. However, the government assures: precisely because the lessons learned 5 years ago were well learned, this time a sharp decrease in oil revenues will be painless for the Azerbaijani economy.

Everything's under control

So, as the Minister of Finance of Azerbaijan Samir Sharifov quite rightly noted, "oil prices are always subject to recessions and increases, and this is an ongoing process. However, in connection with the spread of a new type of coronavirus in the oil markets, we are facing a completely new situation." On the one hand, there is a natural decrease in consumption due to the idleness of the largest enterprises and facilities. On the other hand, instead of combining powers to combat negative pressure of the coronavirus, oil producing countries began speculative games and demonstrating their power in the market. The summer season is coming, when oil consumption is also traditionally declining. In a word, the current picture is not inspiring. The only hope is that in a recession of the economies of almost all countries of the world, the entire world community is working hard to overcome the crisis.

For Azerbaijan, much will depend on how long the negative impact of external factors lasts. However, the experience of two devaluations in 2015 was not forgotten, and literally a few hours after reports of a drop in oil prices, queues of "dollar hunters" began to line up in front of currency exchange points. And the hype in this situation is worse than the reasons themselves that prompted it...

Fortunately, the government’s reaction seems rather encouraging. If in 2015 there was a certain uncertainty and a sluggish reaction to what was happening, this time the entire economic bloc of the government established operational contact with the public, explaining in detail why it is not worth panicking, but without hiding the negative impact of the situation in the national economy.

Just the day after the collapse in prices, the head of CBA, Elman Rustamov, made a statement that the government has the Plan B in case oil prices fall to $30-35 per barrel. "All precautions have been taken," he assured.

Moreover, on the same day, the government held an expanded meeting chaired by the Prime Minister of Azerbaijan, Ali Asadov, at which clear objectives for future actions were outlined.

As Mr. Asadov said, "Today our economy is more stable than during the 2014 crisis. Despite the negative trends in the world, the national economy is developing, Azerbaijan’s GDP growth in January-February 2020 reached 2.8%, inflation is 2.8%."

According to Economy Minister Mikayil Jabbarov, Azerbaijan’s economy has strong financial immunity and a "safety cushion" against any external shocks. The volume of strategic foreign exchange reserves exceeds GDP and six times the external public debt. The reserves are sufficient for continuous three-year financing of goods and services. That is, strategic foreign exchange reserves are five times greater than the volume of all manat in circulation, and 9 times more than the available money. "This is a fundamental condition for ensuring the balance of the foreign exchange market and maintaining macroeconomic stability," M. Jabbarov said.

The budget will stand

At the same time, all members of the government acknowledge that since current (March 10) oil prices on world markets are $18 per barrel cheaper than envisaged in the state budget of Azerbaijan for 2020 ($55 per barrel), which can affect economic indicators. A change in oil prices by $1 per barrel is already affecting the current account of the balance of payments of Azerbaijan by approximately $250 million per year.

State budget revenues will definitely decrease. According to Samir Sharifov, the main source of budget revenues are tax revenues, tax payments from SOCAR and companies operating under the production sharing agreements (PSAs). Most of SOCAR’s revenues are generated by revenues from the domestic market, since the bulk of oil from fields in which SOCAR is the operator is directed to refining and marketing on the domestic market. Therefore, lower oil prices will not affect its profit.

As for the companies operating under the PSAs, due to lower oil prices, their tax payments, which this year are envisaged at ₼730 million, can be reduced. "However, here the situation is quite normal. Since the decrease in these incomes is at the level of 1-1.3% of revenues projected in the state budget," S. Sharifov said.

So, will the parameters of the state budget be revised? No, because a new budget rule has been in effect since this year. Thus, budget revenues should not be adjusted depending on the volatility of prices in the oil market. According to the rule, the state budget is developed in such a way as to be able to accumulate strategic reserves at high oil prices and spend them when prices fall below the established level. Moreover, the used oil revenues should not exceed 30% of the country's net financial assets.

The average cost of Azerbaijani oil in the first months of 2020 exceeded $60 per barrel. In other words, it was higher than the budget cost, which allowed to increase tax and customs revenues and profits. Thus, the state budget revenues in January reached ₼1.8 billion and expenses – ₼1.4 billion manats, respectively (a surplus of ₼400 million). Higher oil prices allowed to increase reserves of SOFAR and CBA.

On the other hand, transfers from SOFAR also play an important role in budgeting - the fund has enough funds to fully implement them this year even with a decrease in its own income. The volume of SOFAR transfers to the budget in 2020 is only 15% of the fund’s reserves: "Even without taking into account the future revenues of SOFAR, we have the opportunity to carry out this transfer for another 7 years," Executive Director of the Centre for Analysis of Economic Reforms and Communications (CAERC) Vusal Gasimli said.

At the same time, according to SOFAR statement, regardless of decrease in revenues directly from the sale of oil, the fund will profit from managing its funds, since it only places them in assets with minimal risk indicators. "In addition, 12% of SOFAR’s assets are made up of gold, which plays the role of insurance during a period of uncertainty," SOFAR statement said.

In a word, the current state budget is insured against short-term foreign shocks and there will not be any serious influences. Moreover, as stated by Samir Sharifov, works on cost optimisation continues. "In connection with the epidemics of coronavirus in the world and in Azerbaijan, a reduction in certain international events and some business trips is expected. This savings will also be used effectively," Sharifov said.

Bottom line: the government assures that if the selling price of a barrel of oil remains below $40, then state budget revenues may fall by only 1.6% compared with the forecast, of which 1.3% will be the share of revenues from the oil and gas sector, 0.3% - non-oil sector.

Non-oil sector suffers

At the same time, not only the oil sector of Azerbaijan is suffering due to external factors. Coronavirus quarantine, closure of borders, etc. severely shook not only the tourism and service sector, but also affected the manufacturing businesses, trade sector, etc. Of course, this is a serious problem of global scale. Governments urgently take steps to save small and medium-sized businesses from bankruptcy, lower key rates, extend the terms of payments on business loans, reduce the tax burden, etc.

Most likely, adequate measures will be taken in Azerbaijan as well. As Minister Mikail Jabbarov said at a government meeting, in order to maintain the dynamics of economic growth, proposals to stimulate small and medium-sized enterprises will be prepared and submitted to the government. At the same time, measures to combat unfair competition and tax discipline will be strengthened.

According to the head of the State Tourism Agency, Kanan Gasimov, after the experience of other countries in connection with the current situation is studied and accurate calculations are made, the agency will turn to the government with certain proposals. "The state also keeps this process in the spotlight. We are working on the final support mechanisms. There may be issues of tax exemption and subsidies," Gasimov said.

Fate of manat and banks

Another important question is the fate of the national currency, manat, and the future of the banking sector? Today it is impossible to give a clear forecast, since a lot depends on how long the adverse situation in the world lasts.

However, unlike the situation in 2015, the reaction of the Central Bank to the excitement in the foreign exchange market was instant: CBA held additional auctions to sell the banks money in order to provide them with the necessary amount of foreign currency as necessary.

In addition, answering the prime minister’s question about the available opportunities to neutralize negative influences, the head of CBA E. Rustamov said that a sufficient amount of cash currency was brought into the country in advance and all the banks' needs for currency were fully met. "There are no restrictions for intra-bank conversion or the conversion of deposits of individuals and legal entities as much as banks can do. Nevertheless, we see queues in banks. We adopted a decision to extend the daily working hours of banks by an hour. In addition, the Central Bank and the financial and banking sector will operate on both Saturday and Sunday in normal business hours. Therefore, the citizens can exchange their funds at currency exchange points even on Sundays. On the other hand, on the instructions of the government, we will plan our work schedule on holidays, if necessary, the Central Bank and the banking sector will function," Rustamov said.

Commercial banks also expressed their satisfaction with the CBA reaction. According to President of the Association of Banks of Azerbaijan Zakir Nuriyev, "The Central Bank of Azerbaijan as a currency supplier fully satisfies the requirements of any bank. Today there is no fundamental reason for devaluation. Banks are required fulfil their functions in entirety, to provide services to customers within the framework of existing rules."

Also, from the beginning of 2020, SOFAR sold $1.8 billion at foreign exchange auctions, and plans to sell another $5 billion by the end of the year, which is a sufficiently large proposal to satisfy demand in the foreign exchange market.

Meanwhile, according to Vusal Gasimli, the balance of Azerbaijan's commercial banks is in the positive zone, which makes the banking sector more resistant to external shocks: "As a rule, in such situations, the possibility of increased dollarization is a concern. But Azerbaijan has a high level of dollarization. The dollarization level of deposits is currently 55%, although before the devaluation in early 2015, this indicator was 37%. This means that the potential for dollarization of deposits compared to five years earlier decreased by 1.5 times. Full deposit insurance and a higher rate on manat deposits are also a pacifying factor for the market," the head of CAERC said.

Either way, Azerbaijan has enough strategic foreign exchange reserves ($52 billion at the beginning of March) to respond if the influence of external negative factors drags on. At the same time, Elman Rustamov said that at present there is no question of using them.

"We have enough current reserves. State Oil Fund transfers do not change; they are fully determined by law. CBA has its own reserves. The Ministry of Finance has significant foreign exchange reserves. We will make full use of all these resources. I think the problem will end sooner than we expected. But do not forget that we have strategic currency reserves too," Rustamov added.

Temporary effect

Finally, the most important issue for the population is the growth of inflation in the consumer market. According to the government, there are objective factors for increasing prices, but they are temporary. "Due to the high spreading speed of coronavirus, certain temporary supply problems may arise. Different people can take advantage of this. The government will keep this issue under control. On the other hand, authorities will take very serious measures in relation to those who increase prices artificially, including currency speculators," CBA chairman said.

By the way, the government took a rather timely and significant step in this direction, having reduced the price of Premium Euro-95 and Super Euro-98 motor gas since March 13. This should indirectly serve as a signal of an adequate response to external factors for the entire consumer market.

World oil markets are going through the times of turbulence. Coronavirus is still progressing. Therefore, in the coming days and even months, the national economy will be under pressure from global negativity. Thus, the Cabinet of Ministers instructed the Central Bank and the State Oil Fund to continue taking measures to ensure stability of the foreign exchange market, and the Ministry of Finance to strengthen the financial stability of the state budget for 2020. According to Prime Minister Ali Asadov, the situation in the global economy remains difficult. "However, we are in control of the daily situation. Azerbaijan has enough financial resources to withstand the negative processes in the global economy and in the oil market. "

At the same time, we should not forget that it was the past crisis that boosted reforms in the non-oil sector of Azerbaijan and made serious positive changes possible. Maybe this temporary challenge will turn into some kind of longer-term good for all of us?