Georgia: Coping with a Credit Crunch

As international attention focuses on Georgia's post-war economic recovery, questions are being raised about the impact of a potential domestic credit crunch on business growth.

The government claims that economic growth this year could slow to 5-6 percent; in 2007, the Georgian economy expanded by 12.4 percent, according to official figures. Prime Minister Lado Gurgenidze has reportedly stated that Georgia will require some $3-$4 billion in assistance to keep its economy afloat, according to a press release from the office of US Senator Richard Lugar, an Indiana Republican.

That has raised questions about the government's ability to meet its obligations on $2.37 billion in foreign debt, and about the overall health of its domestic banking system.

A $500 million Eurobond issue this past April is the most immediate concern. Under the terms of the deal, the government must make its first interest payments in October. Prices for Georgia's Eurobond fell by 5 percent after war with Russia broke out on August 8, after an earlier 5 percent dip as world financial markets soured.

Georgian observers, however, maintain that the government will not default on the bonds, the first such international debt ever issued by Georgia. "I am sure the Georgian government will take some other loan, but will pay off its Eurobonds for sure. It is a matter of honor since this is the first-ever government debt issued on the international market," said independent economic expert Demur Giorkhelidze.

In August, citing instability related to the war with Russia, Standard and Poor's knocked down Georgia's credit rating from a B to a B+, and Fitch from a B+ to a BB-. Both services said that the outlook on the ratings is "negative."

Demonstrating that the country has the funds to back up its obligations, as well as the economic energy to keep growth rates high, will be crucial to restoring those previous ratings.

To maintain domestic confidence in the economy, the National Bank of Georgia pumped some $190 million into the Tbilisi Interbank Currency Exchange to maintain the lari against the dollar in the wake of the war, according to Giorgi Laliashvili, head of the National Bank's Currency and Monetary Operations Department.

On August 7, on the eve of the war, the rate stood at 1.41 to the dollar; just over a month later, on September 12, the lari's position had slightly improved to 1.407 lari against the dollar.

Nonetheless, Georgian banks lost roughly 10 percent of their deposits in the two weeks since August 8, according to National Bank of Georgia President Davit Amaglobeli. He contends that that figure is not alarming since the National Bank had adequate reserves to cover the withdrawals. Under National Bank regulations, commercial banks must keep 13 percent of their total deposits with the National Bank.

"To help banks, the National Bank of Georgia opened up the reserves, but banks used only half of their reserves. That's why banks will be able to make use of a similar amount of money, without NBG intervention, if this emergency reoccurs," Amaglobeli said.

One investment banker, however, disagrees. Levan Surguladze, managing director of CFS [Caucasus Financial Services] Investment Bank, argues that the deposit withdrawal rate came as a hit for Georgia's relatively small banks, which had already struggled with one liquidity shortage this past May. To cope, the banks relied not only on National Bank support, but also on restricting credit services to customers, he said.

The National Bank's Financial Supervisory Agency, which monitors financial sector activity, called a halt to any new loans or credit card services between August 11 and August 18 to give banks a chance to build up their cash reserves. The Russian occupation of Gori in central Georgia disrupted transportation along the country's east-west highway and, with it, commercial banks' collection of cash from regional bank branches.

Only overdrafts and debit card services were permitted during this period. All forms of Internet banking were blocked in an attempt to foil potential hacker attacks on Georgian banks' websites.

Although local banks maintain that they have no liquidity crisis, the credit squeeze is expected to continue. Vakhtanbg Butskhrikidze, president of TBC Bank, one of the leading Georgian commercial banks, predicts that his bank's credit portfolio will expand by only 15 percent in 2008, instead of an earlier forecasted 40 percent.

"[A]fter this war, we cannot go towards bigger growth than 15 percent," Butskhrikidze told EurasiaNet. By November 1, the bank also expects to increase interest rates on both loans and deposits by 1 percent, he added.

Some experts believe that any increase in the cost of loans could bankrupt many small and medium-sized companies. According to the latest data from the National Bank of Georgia, business loans currently average 22.2 percent. Short-term consumer loans carry a 28.5 percent interest rate, while long-term loans with a maturity date of more than one year stand at 20.1 percent. Bank deposits carry an average interest rate of 9.4 percent.

"[Loan interest] rates are not supposed to decrease and against the backdrop of high interest rates ? businesses will face a real risk of ? going bankrupt," projected economist Giorkhelidze. "Banks have to undertake a milder strategy for loan restructuring, delaying payments, and so on. Otherwise, they may have to deal with unfinished projects and also sustain a loss."

International School of Economics Executive Director Eric Livny agrees that small companies could undergo reduced access to cash in the short-term, but believes that the government may eventually use outside funding to create special business lending programs to reduce risks for banks.

The European Bank for Reconstruction and Development has already opened a $7.5 million credit line for TBC Bank and appealed to other financial institutions to support the Georgian banking sector. It plans to allot $120 million to the Georgian banking sector by the end of the year.

Other economic assistance programs - albeit as yet loosely defined - have sparked further optimism.

The International Monetary Fund has pledged a $750 million credit line, and the World Bank, is reportedly considering a $300-$350 million credit infusion, according to Giorgi Pareishvili, the head of Galt & Taggart Securities, an investment bank.

The sums come on top of $1 billion in pledged economic development and humanitarian assistance from the US, and a promised 2 million euros about $2.83 million) and 1 million euros (about $1.42 million) from the German government and European Union, respectively.

"Taking into account that this is not a loan or an investment, it is direct financial support, that's big money to keep the economy of such a little country as Georgia from sinking [further]," commented CFS Managing Director Surguladze.

Some observers, however, worry that the sums could merely boost inflation, and have called for the cash injections to go to production-capable economic sectors. Inflation currently stands at 9.8 percent. National Bank representatives, however, affirm that the annual target of 8 percent is still within reach.

For now, though, the international credit lines themselves are enough for optimism.

Forecast Pareishvili: "We will go out of this situation much stronger than we were when we fell into it."