INTERVIEW: Crisis Vindicates Armenia Central Bank’s Conservative Pol

Ben Aris in Yerevan

Business New Europe
VIEW_Crisis_vindicates_Armenia_central_banks_conse rvative_policy
July 22 2009

Armenia’s bankers used to curse the Central Bank of Armenia. Business
was booming and entrepreneurs wanted the bank to loosen the fiscal
reigns a bit so they could grow faster, but the CBA stuck to its
conservative regime based on the Dutch model of prudent growth and
caution. Then the world’s financial system fell to pieces last autumn
and as the dust settles, Armenia’s bankers and businesses find they
are amongst the few left standing in the region. The CBA’s policies
have been vindicated and the country’s banking sector is amongst the
world’s healthiest.

That’s not to say the country wasn’t affected. "In October 2008,
Armenia was seriously affected by the international crisis via a
downturn in trade," Arthur Javadyan, governor of the CBA, tells bne
in an exclusive interview. "The effect was immediate; for example,
construction production fell by 56% between January and May of this
year and things like retail turnover and brandy production also fell
on the back of falling demand, especially in Russia."

As the situation deteriorated in the first quarter, the CBA took
the dramatic decision to devalue the dram by about 22% at the start
of March, falling from 306 to the dollar to about 380. Since then,
it has recovered to 360, which the CBA considers to be its fair
value. "The economy has adjusted to the new exchange rate. There has
been a general decline in the world economy and this means that the
exchange rates have to be adjusted, but there is no pressure on the
currency now and the CBA has not had to intervene on the currency
market at all in the last three months," says Javadyan.

Expecting the economy to contract by some 7-8% at the start of this
year, the actual contraction of 15.7% in the second quarter came as a
shock. But since then, deals have been cut with both the International
Monetary Fund (IMF) and Russia to raise over a billion dollars in loans
and the economy had begun to stabilise by June. "The [international
financial institutions] stepped up to the plate as spring arrived and
implemented a growth promotion package that includes things like road
construction, earthquake zone protection, as well as credit lines for
[small and medium-sized enterprises] to lay the basis for strong growth
recovery in the medium term. We expect a 6-7% decline in the economy
as a whole for 2009, up to 9% – depending on which state organ you
ask – with growth of 1-1.5% returning in 2010," says Javadyan.

Bounce back

On the face of it, those numbers look awful, but Armenia remains in a
good position to bounce back relatively quickly thanks to the prudence
of the CBA and the relatively underdeveloped state of the economy. The
collapse of the construction sector was a severe blow, as it was one
of the most important engines of growth. Most of the banking sector’s
non-performing loans are overdue mortgages, but credits by banks to
the construction sector account for only 0.5% of their total loans,
says Javadyan. "The owners of construction companies are mostly tycoons
and they can simply wait until times get better again," says Javadyan.

Still, the CBA is working to put in place the institutions to support
the market, irrespective of how rich the company owners are, and
recently established a state mortgage agency together with the World
Bank’s International Finance Corporation to refinance mortgage loans,
which is designed to support the secondary market as well as the
construction industry.

The multilateral loans will be key in restarting economic growth
and Javadyan sees the crisis as a cathartic pause more than real
disaster. "The World Bank has given us a $700m loan, which will be
used on three programmes to build infrastructure that is designed to
help during the crisis and promote growth afterwards," he says. "There
is another $700m from the IMF under the standby programme, which we
will use to support the currency." And the Russians also kicked in a
$500m loan that will be used on infrastructural projects as well as
a refinancing of loans programme.

Most of the aid has been aimed at the banking sector. After running
a tight monetary policy until the devaluation, the CBA has since
significantly loosened its control and pumped liquidity into
the sector. Amongst other things, the banks were given access to
longer-term money after the repurchase agreement terms were extended
from one week to three months. And the CBA also pumped in more
liquidity by buying back treasury bills on the domestic exchange – the
most developed part of the domestic capital market – to return cash
to banks to the tune of AMD20bn ($55m) since April 1. More liquidity
was provided through dram forex swaps. In addition, the central bank
intends to create some new lending instruments, says Javadyan, using
part of the Russian money to further bolster the position of banks
with loans targeted at the agricultural and small business sectors
by pre-financing loans – the bank offer credits and once these have
been approved, they can apply to the CBA for refinancing.

Like elsewhere, NPLs are a growing problem, but as retail lending had
only just started in earnest, neither the banks nor the consumers
had enough time to run up big debts. "NPLs in the sector are about
6.5% now, which is good compared our neighbours and even the EU. But
consider that the capital adequacy ratio for the sector is over 27% –
well above the mandatory level of 12% – and the sector is in a pretty
comfortable position," says Javadyan.

The CBA does regular stress tests and has been anticipating any
problems. And it’s the CBA’s prudence that is largely responsible
for the lack of problems the sector enjoys today. "Still, the bank
sector is small, not very transparent and we still have problems
with corporate governance. More than 65% of the bank sector assets
are controlled by seven entities – mostly international banks, while
our oligarchs control only a few banks," says Javadyan. "So we should
continue to be very tough with the regulation of the bank sector and
I was at a recent meeting of the central bankers club where everyone
now seems to be going in this direction."