Previous Quarterly Editions
Expropriation Risk: 57 55 53 53 Political Violence Risk: 43 43 42 40 Terrorism Risk: 46 44 43 43 Exchange Transfer and Trade Sanction Risk: 54 54 54 53 Sovereign Default Risk: 45 44 43 44
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Despite government moves towards diversification, the hydrocarbon sector remains the main driver of the economy, with oil and gas production still accounting for more than 70% of government revenue and around 90% of exports. These figures will only increase as the country’s gas exports grow in volume and value. In an effort to move beyond hydrocarbons, the government has been investing heavily in tourism, agriculture and construction but the non-oil sector is unlikely to contribute more than 5% of GDP this year. The main hope now is the petrochemical sector, which the government hopes will yield higher margins by turning local crude into plastics for export. Developing economic relations with the neighbouring states while deepening Armenia’s isolation continues to be a key aspect of Baku’s strategy. To this end, the authorities have played down the tensions that have flared up with Georgia over the Davit Gareja monastic complex which straddles their border. Meanwhile, friction with Armenia continues despite the very marginal improvement in formal dialogue between Baku and Yerevan in recent months. Frequent violations of the ceasefire on the Nagorno-Karabakh line of contact continue, resulting in more deaths in June. With both countries increasing their military budgets again this year, a breakthrough in peace talks remains unlikely. Indeed, Azerbaijan is widening its range of arms suppliers and, in June, upgraded the standing of the ministry of defence industry. Also in June, the government announced that minimum wages and pensions would increase from September, the second rise this year. The new increases are expected to benefit 2.1 million people but cost the government an additional two billion dollars, raising renewed fears of inflation while putting more pressure on the manat. Official figures show inflation slowly coming down from a peak of 13% in 2017 to a forecast 4% next year, but independent estimates have it substantially higher. The current account balance remains healthy as oil prices stay firm, while a rise of 20% in gas output from Shah Deniz 2, the country’s most important offshore gas field, could push the current account surplus above 10% of GDP this year. State oil company SOCAR and its partners at the BP-led Azeri-Chirag-Gunashli (ACG) consortium are acquiring the stakes in ACG being sold by ExxonMobil (6.8%) and Chevron (9.6%), although ACG production was down slightly in the first half of 2019. April saw final approval for the Azeri Central East (ACE) platform, which will cost six billion dollars and should produce 100,000 barrels per day at peak levels in the mid-2020s. The government sees ACE as essential to prolonging the life of its main field and stabilising production levels.
Government efforts to attract investors through a series of reforms in areas such as tax, trade and credit have succeeded in improving the country’s ranking in the World Bank’s latest Doing Business report. However, the economy is still beset by opaque bureaucracy and dominated by a small group of government-connected companies that remains untroubled by a tame judiciary. In June, the UK Supreme Court refused the country’s largest bank, IBA, leave to appeal the decisions by the UK Court of Appeal and High Court that affirmed the rights of Russian lender Sberbank and asset manager Franklin Templeton as holders of IBA-issued Eurobonds. By delaying attempts to restructure IBA’s debt, the rulings have forced the government to postpone its hopes of selling some of the 90% of the bank that it still owns. The national airline cancelled an order for ten Boeing 737 Max jets in June, citing safety concerns.
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It is still difficult for civil society to operate in Azerbaijan, with journalists and human rights campaigners facing prosecution and prison. However, international attention appears to have encouraged Aliyev’s pardoning in March of over 400 people including 55 political prisoners ahead of the Nowruz holiday. The EU has consistently pressed the government over human rights issues as part of the comprehensive bilateral agreement that is being negotiated. The European Court of Human Rights (ECHR) has made two rulings against Azerbaijan so far this year that require it to pay compensation to citizens harmed by the state. Although the decisions of the ECHR are legally binding, the government often delays paying compensations to political activists in order to deny them the financial means to continue their activities.
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The government has become more selective in using the threat of terrorism for domestic purposes as it seeks to develop tourism as a key sector of the economy. Instead, it is seeking to shape and control a moderate Islamic narrative by introducing mandatory religious education at universities from 2020. The course will cover Islam as well as all major religions. Similar classes are also expected to be taught at primary and secondary levels. According to the state security service, as of late 2017, over 900 Azerbaijan citizens had joined the Islamic State.
At the end of July, a second consecutive monthly cut of 25 basis points reduced the central bank’s key rate to 8.25%, with the rate corridor narrowed to 6.25%-10.25%. The bank kept its annual inflation forecast at 4%, although indicating that 6% was possible. The manat has remained relatively stable since moving to a managed float at the end of 2017, propped up by gradually recovering oil prices and continuing interventions by the central bank. The full transition to the floating exchange rate regime is currently planned for 2020.
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With foreign lending accounting for almost 95% of government debt, a new policy was introduced last year that sets a ceiling for the ratio of government debt to GDP at 30% until 2025 and 20% thereafter. The government says that at present the ratio is 25%, although it admits that restructuring IBA will take it closer to 28%. Central bank figures show that reserves were up 6% to 50 billion dollars in the first half of the year. While Azerbaijan remains capable of borrowing externally despite a sub-investment credit rating, its international financing is increasingly concentrated in non-Western-led institutions, such as the Asian Development Bank. Western lenders remain concerned about the country’s banking sector, the state of governance, and the persistent dependence on hydrocarbons.
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