Moody’s Sees Capital Controls Back on Azeri Agenda as Woes Mount

Moody’s Investors Service said Azerbaijan may be forced to reconsider some form of capital controls as the former Soviet Union’s biggest currency crisis shows no sign of letting up.

Tighter monetary policy has failed to “effectively” respond to a deficit of dollars in the banking system, with demand at foreign-currency auctions conducted by the state oil fund recently exceeding the amount offered by 14 times, Moody’s said in a report. That’s caused shortages severe enough that many lenders stopped selling dollars outright in recent days. A single bank visited in central Baku on Monday offered foreign currencies, selling no more than $200 per person as a queue grew to more than 250 people.

People queue outside an Azer Turk bank branch in Baku on Sept. 5.

Photographer: Zulfugar Agayev

“The current tight liquidity situation may lead to a reconsideration of some type of controls or else more transactions will be forced to take place in the parallel market,” Moody’s analysts including Kristin Lindow said in the report on Friday. “The restrictions on foreign-currency sales have led to the emergence of a parallel exchange market, which in our view speaks to the challenges the central bank faces to stem dollar demand and elevates risks of an accelerated depreciation in the official exchange rate.”

By raising the possibility of restricting flows of money across borders, Moody’s is underlining the intensity of the challenges facing the third-biggest oil producer in the former Soviet Union, which chose not to follow its regional peers like Ukraine and Belarus and opted against capital controls earlier this year. The currency crisis has erupted with renewed fury in recent weeks as demand by businesses and households soars and the manat continues to depreciate against the dollar.

Second Worst

The manat suffered the world’s biggest drop last year when it lost about half its value against the dollar in two devaluations. It’s down 2.4 percent in the past month, worse than the currencies of all ex-Soviet nations except Ukraine’s hryvnia.

The central bank, which burned through more than two-thirds of its reserves in 2015 to defend the manat as crude oil prices collapsed, raised its benchmark interest rate three times this year to the highest since 2008. Savers fled deposits in the national currency after the central bank loosened its dollar peg and announced a shift to a managed floating exchange rate in December. The share of dollar savings is now almost 80 percent of the total, according to S&P Global Ratings. 

Central bank Governor Elman Rustamov declined to comment on the situation on the foreign-currency market while attending a chess tournament Wednesday in the capital, Baku.

‘Sharp Devaluation’

“If it were not for this month’s referendum to amend the constitution, I think the government would have opted for another sharp devaluation of the manat,” Samir Aliyev, an analyst at the Center for Support to Economic Initiatives, a Baku-based research group, said by phone. 

A referendum on constitutional amendments, including a proposal to extend the presidential term to seven from five years, will be held on Sept. 26.

The sovereign wealth fund known as Sofaz offers only $50 million in auctions held twice a week, which hasn’t been enough to supply banks. The government’s options are to continue to draw down dollars from Sofaz and the central bank or to allow the manat to weaken, according to Aliyev. 

“If the panic on the market remains after the referendum, I think the government will go for the second option,” he said.

Absorbing Costs

Moody’s estimates that the government will spend the equivalent of about 13.6 percent of gross domestic product in 2016 to cope with the costs stemming from the banking industry. That compares with last year’s 4.6 percent of GDP to “to absorb the crystallization of contingent liabilities,” it said.

The central bank is pursuing targets that are “mutually exclusive” in the current situation, attempting to calm the exchange rate through foreign-currency auctions while also trying to steady the financial system with additional liquidity and keeping short-term rates stable, according to Sberbank CIB. 

For the currency market to regain balance, policy makers need to increase their benchmark rate by at least two to three percentage points and limit the amount of manat refinancing provided to banks, Sberbank CIB analysts including Alexander Golinsky said in an Aug. 25 report.

“The recent deterioration was mainly caused by authorities’ unwillingness to move to a more freely convertible exchange rate,” they said. “We believe decisive policy tightening from the central bank would stabilize the situation. Until this happens, the manat will likely remain under pressure and could continue to slide, especially if the positive oil price trend reverses.”