How Russia-Ukraine war affects Azerbaijan's mortgage market Analysis by Khazar Akhundov

Having experienced a noticeable decline during the pandemic crisis, Azerbaijan's mortgage market has maintained positive growth dynamics since early 2022. Furthermore, the positive dynamics are noticed despite the pressures of a number of factors, including imported inflation, rising building material prices, and a decrease in house construction investment.

Despite the difficulties, the country's Mortgage and Credit Guarantee Fund (MCGF) completed the first half of the year with a profit of 17 per cent, its assets and interest income increased, the volume of budget financing of social mortgages doubled, and in general, the issuance of housing loans increased by 2.1 per cent over seven months. The MCGF has recently been actively developing a house rental plan with a buy-out option, which has significantly increased the cost of funds under the lease instrument.

The Russian-Ukrainian war and the sanctions confrontation, which have repeatedly intensified the global energy and food crises, have spun the flywheel of inflation, provoking a tightening of monetary policy and an increase in the discount rate in Russia and a number of other member countries of the Eurasian Economic Union (EAEU). All of the above has had a very negative impact on the financial and macroeconomic stability of post-Soviet countries, and, in particular, in the first half of 2022, there was a noticeable decline in mortgage markets not only in howling Ukraine but also in Russia, Belarus, Kazakhstan, Kyrgyzstan. The slowdown in government programmes of preferential mortgage lending forced developers to suspend construction at the pit level in anticipation of further changes in the market. Imported inflation, exchange rate instability, and increased unemployment in a number of countries have also had a negative impact on the financial capabilities of citizens of the EAEU states, and it is becoming increasingly difficult for them to service mortgage loans. Alas, the rapid growth of prices for building materials also had a negative impact on the construction and real estate markets: soaring prices for electricity, gas and oil hit manufacturers of cement, construction chemicals, polymer pipes, paint and other products primarily in the EU countries. And importers of building materials and developers in the CIS have a shortage of materials and components for domestic production - they are no longer imported from Europe at the same prices or are not supplied at all (for example, to the Russian Federation and Belarus). All this goes into the cost of construction, thereby increasing the cost of buying housing on credit.

The Azerbaijani real estate market and the construction sector also faced a number of negative factors against the background of the war in Ukraine and anti-Russian sanctions. These processes are most clearly observed in the domestic building materials market, where wood, rebar, roofing materials, flooring, metal structures, aluminium profiles and numerous other products imported in considerable volume from Russia and Belarus have significantly increased in price, while supplies from Ukraine, in fact, have stopped. On the other hand, the Azerbaijani construction market has been experiencing a chronic lack of liquidity in recent years: many capital-intensive projects in Baku's centre have been frozen due to a decrease in market demand for luxury housing. The strengthening of fiscal control and the tightening of building regulations also resulted in the freezing of a number of projects, while the pace of construction of budget new buildings after the pandemic is not so high. In contrast to the pre-pandemic time in the country's primary housing market, state-funded projects to expand streets, demolish dilapidated low-rise blocks and panel five-story buildings have decreased to a minimum in Baku, which in the past played the role of a driver supporting the activities of housing cooperatives. In general, according to the State Statistics Committee, in January-June 2022, capital investments in housing construction in the republic amounted to 387.1 million manats [$227.7 million]. This indicator is noticeably behind the statistics for the first half of 2021, and the probability that by the end of this year it will be possible to exceed the bar of 1.029 billion manats [$605,315] - the total amount invested in housing construction last year is very small.

Fortunately, unlike the EAEU member states, Azerbaijan's currency and banking markets have maintained a high level of crisis resilience - due to the growth of the non–oil sector, the surplus of the balance of payments and the positive balance in foreign trade. Monetary and financial stability aided in maintaining a high level of stability in the mortgage fund's operations: this is evidenced by the fact that, unlike many CIS neighbours, in Azerbaijan in the first half of this year, the level of solvency of mortgage lending participants was relatively high, and the expected credit loss decreased by 37.7 per cent, to approximately 630,000 manats [$370,588]. It is no less significant that, despite the decline in the pace of housing construction in the commercial sector, the scale of social construction through the State Housing Construction Agency LLC MIDA increased in the first half of the year, which, coupled with a twofold increase in budget financing of social mortgages, contributed to the preservation of positive indicators in Azerbaijan's mortgage market. In particular, in January-July 2022, the MCGF received 71.3 million manats [$41.9 million] from the state budget to finance social mortgages – twice as much as in the corresponding period last year. A social mortgage with its preferential 4 per cent per annum, the initial payment of 10 per cent and 30-year instalment payment of debt is the most popular product of the Fund, and the growth of budget financing has had a very positive impact on its performance in the current difficult period.  Moreover, social mortgage loans are most advantageously combined with the purchase of housing in budget apartment complexes built by LLC MIDA. We are talking, in particular, about large-scale projects for the construction of social housing in Baku's Yasamal and Surakhani districts, about new beginnings in Sumgayit, Ganja, Lankaran, and now in the Karabakh region, where 14.4 million manats [$8.4 million] have been allocated through MIDA for the construction of six houses in Fuzuli city. Apparently, social mortgages and the purchase of housing in the MIDA system will remain the mainstream of housing finance for a long time, especially since there have been positive developments in this segment. Thus, opportunities have been provided for obtaining a preferential mortgage (at a rate of 4 per cent) for media representatives and a number of categories of medical workers. Parliament is also studying proposals to subsidise or even completely cancel the first (10 per cent) instalment on a preferential mortgage for certain categories of citizens.

In general, during the seven months of this year, the MCGF achieved very good financial indicators: its profit increased by 17.2 per cent, assets increased by 18.9 per cent, and interest income also increased by 17.4 per cent. Meanwhile, the Fund successfully placed bonds and at the end of August was able to attract an additional 25 million manats [$14.7 million] from the market, and in seven months of this year refinanced loans in the amount of 193.6 million manats [$113.8 million] with an increase of 6.1 per cent. All this combined contributed to the fact that the MCGF maintained financial stability and was able to attract the necessary amount of funds to increase commercial mortgage lending: during the reported period, the Fund's agent banks issued mortgage loans in the amount of 235.2 million manats [$138.3 million], which is 2.1 per cent higher than the corresponding figures of 2021. For comparison, for the whole of last year, housing loans totalling 356.2 million manats [$209.5 million] were provided through the MCGF.

It is noteworthy that this year the MCGF has achieved notable success in a relatively new direction - the system of housing leasing, which provides for the lease of real estate on certain conditions, followed by its redemption and registration of ownership. There has also been a positive trend in this direction: the mechanism for renting apartments with the right to buy was tested at the end of 2019, but at first, this new scheme did not gain popularity among the population, not to mention the low demand during the pandemic. So, by June 2021, a little more than 900 apartments were sold under the leasing scheme. And by the end of August this year, the number of rented apartments with the right to buy exceeded 2,200, and their number is growing dynamically. Currently, apartments under the leasing scheme are offered in Khatai district, in Khirdalan, and, according to the Fund, an electronic system for choosing apartments will be opened from September 9.

The popularity of leasing schemes is growing, as a real estate tenant does not need to collect many years of savings for the first instalment in the bank in order to get a mortgage loan and become a homeowner. The buyer pays only monthly rent payments, and at the end of the contract, they are taken into account when buying out real estate and registering it as property. It is not surprising that the growing demand encourages the MCGF to increase the leasing supply: as of July 1 of this year, the value of the rental housing fund amounted to 223.056 million manats [$131.2 million], which is almost 22 per cent higher than the same period last year.