On 12 January, the Central Bank of Azerbaijan (CBA) eventually opted for a fully free-floating system for the manat, after having moved, last year already, to a floating system within an exchange rate corridor. Moreover, existing soft currency controls are expected to be eased too. Since then, the manat, which had tumbled by 100% in 2015 via a double devaluation and by a further 15% last year, has depreciated by around 10% against the USD. Such decision had become inevitable in front of high pressures on the manat and as the CBA’s currency interventions to defend it substantially shrank foreign exchange reserves (by 2/3 compared with the end of 2014). The rapid deterioration of the liquidity situation even required the financial contribution from the large SOFAZ sovereign oil fund. Since an extra USD 4 billion will be transferred to the CBA this year to ease potential liquidity pressures, the SOFAZ is expected to record a second successive annual deficit.   

Impact on country risk

The manat’s continued depreciation is raising risks for the highly dollarised Azerbaijani banking sector which is burdened by heavy bad loans. In the coming months, the manat is expected to remain on a downward trend against a strong USD before gradually stabilising. The oil-driven economy is indeed hit by a decreasing oil production – structurally and as a result of the temporary cut following the OPEC deal – and lower oil prices. The rebound in prices is forecast to bring GDP growth into a slightly positive area this year after a sharp recession in 2016, but is far from the required level to balance the budget. Besides, the evolution of foreign exchange reserves, currently at an adequate 3 months of import cover, will depend on an uncertain oil price level and might thus fall further. Interest rates and inflation – especially of food and energy prices exacerbated by the manat’s decline – are likely to stay in double digits. Faced with heightened risks of social unrest, Azerbaijani authorities will try to keep public spending high while planning to diversify the economy away from oil, particularly towards gas and other industries such as manufacturing. Meanwhile, though the latest CBA move and SOFAZ liquidity support are likely to favour economic adjustments and somewhat improve investor confidence, future economic developments will still much depend on the oil price level. In this uncertain climate, Credendo’s ratings should stabilise at 4/7 for the short-term political risk and at the highest C/C category for the commercial risk in the coming months.

Analyst : Pascaline della Faille, p.dellafaille@credendo.com