Baku, Azerbaijan, Dec. 22
By Azad Hasanli - Trend:
Azerbaijan's move to a floating exchange rate regime for the manat will assist the sovereign's fiscal and external adjustments to lower oil prices and protect buffers, said Fitch Ratings.
Azerbaijan's Central Bank moved on Dec. 21 to a floating rate for the country's national currency - the manat.
"But exchange rate adjustments are not risk free," noted the ratings agency. "The manat's fall will hurt the already fragile banking sector, which could crystallise contingent liabilities for the sovereign."
"The sharp exchange rate adjustment eases the oil shock's fiscal impact by boosting the local-currency value of oil revenues and a floating currency should help stabilise reserves," the Fitch analysts believe.
The ratings agency also said that gross reserves fell around 18 percent in the first nine months of the year, partly through defending the currency following an earlier devaluation in February.
"The approval of a tight 2016 budget on December 7, which included a sizeable spending cut, is also consistent with our belief that the authorities are committed to making the adjustments to capital spending and tax revenue that will ensure the preservation of buffers," said the message.
The agency's analysts also believe that the devaluation of manat will hurt the banking sector, which has large amounts of foreign-currency denominated loans.
"In the medium term, the devaluation will have a negative impact on banks' asset quality, as loan dollarization is high," added Fitch's analysts. "The share of dollar-denominated loans in the sector was around 50 percent at end of 3Q15 and will probably rise above 60 percent following today's [Dec. 21] move."
"Because most of the country's borrowers do not have access to foreign currency revenues, their debt service capacity will be impaired," the agency further noted.
"We expect that some banks will not meet minimum prudential capital adequacy ratios at end-2015," Fitch said. "However, there is a track record of regulatory forbearance being available for the banking sector after February's devaluation and we believe that forbearance is likely to be extended in some form."
Fitch also said liquidity support to the banking sector should be available from the central bank, in case of need.
"The central bank already introduced a currency swap arrangement with the banks to bolster local-currency liquidity this year," said the agency, adding that the banking sector's small size allows the government to provide support as needed.