Azerbaijan: Financial Sector Assessment
Bolstered by strong hydrocarbon export revenues, the Government of Azerbaijan has been able to substantially increase budget expenditure in recent years. This has boosted growth in economic sectors outside oil and natural gas, and expanded opportunities for the country's financial institutions, which cater mainly to non-hydrocarbon sectors. Even so, total financial sector assets represent just 31% of gross domestic product, falling well short of the financial sector's potential to contribute to economic growth through savings mobilization and investment financing. Nonbank financial services may provide a particularly strong area for development, with banks still accounting for 93% of financial sector assets.
Financial sector development did suffer setbacks during the 2008-2009 global financial crisis. However, Azerbaijan's banks avoided serious damage, due to their limited exposure to credit from abroad, state support through banks for infrastructure projects, and direct state-support for large borrowers with payment difficulties. The sector has now entered the post-crisis period, with bank credit growing and the securities markets reviving. Growth is particularly strong in microfinance and insurance, albeit from a low base.
Potential areas for assistance
The following are potential areas for assistance.
External funding agencies have already provided substantial assistance for financial sector development in Azerbaijan. However, in view of low intermediation levels across all segments of the financial sector and its negative impact on overall economic and social development, additional support can be justified. Even the banking sector still needs additional assistance. The focus of financial assistance might, nevertheless, have to gradually shift to nonbank financial institutions and services.
Regulation and supervision
The government remains committed to bringing the policy, legal, regulatory, and institutional frameworks for the financial sector fully in line with international standards and good practices. Work under the Financial Sector Assessment Program, scheduled to resume in 2014, will allow discussion and operationalization of the objectives. This is particularly needed in banking, microfinance, and insurance. After the financial sector assessment, the government will likely need support from the broader donor community to achieve its objectives.
Bank privatization and state resource intermediation
Donor support might also be appreciated to prepare the ground for IBA privatization. The establishment of a dedicated development bank, if planned by the government to free commercial banks from policy lending functions, could be an area where the government would benefit from international knowledge transfer. The government should, of course, try to channel resources earmarked for nonhydrocarbon sector development as much as possible through private sector commercial banks into the economy.
Assistance to individual banks
There is still room for traditional trade finance and SME credit lines from external funding agencies, despite the improving access of Azerbaijan's banks to international market funding. However, donors might want to consider making more use of guarantees to leverage banks' access to foreign credit lines, syndicated loans, and capital markets. Direct financial assistance should perhaps increasingly be provided in the form of equity or quasi-equity, since capital is what many banks in Azerbaijan need most.
Accessbank and FINCA dominate the sector with a combined market share of nearly 50%. Both institutions are well established and capitalized, professional, and have proven access to foreign funds, even under crisis conditions. From a sector development point of view, it might therefore be better to more actively support smaller microfinance providers.
Insurance and leasing
The government's reforms in the insurance sector are going in the right direction. However, external support is needed to further strengthen regulation, build capacity for supervision, and conceptualize reforms to invigorate competition and improve the quality of services. Azerbaijan has no lead development partner in the area of insurance. External development agencies could help address remaining policy, legal, and regulatory constraints for leasing, which is still hardly used by either banks or nonbank financial institutions.
Finally, the importance of business climate reforms for financial sector development in Azerbaijan should not be underestimated. There is, for instance, scope for donor support in the areas of corporate governance and disclosure, bankruptcy procedures, and asset foreclosure, particularly for the implementation of existing laws and regulations.
- Executive Summary
- Sector Performance, Problems, and Opportunities
- Government Sector Strategy
- Potential Areas for Assistance
- Appendix: Key Projects of Major Development Partners