Index Trend Previous Quarterly Editions
Expropriation Risk: 56 ► Political Violence Risk: 60 ► Terrorism Risk: 40 ▲ Exchange Transfer and Trade Sanction Risk: 64 ► Sovereign Default Risk: 46 ►
Overall Risk Temperature TREND ►
Special topic: Protest intensity in 2022 and Q1 2023* 2022 Q1 2023Low Low High Medium
Cost-of-living protest risk in 2023* Low Medium
Azerbaijan has been grappling with high inflation, which rose from 12% at the end of 2021 to 15.6% in September and continued to hover at over 14% through December. Inflation abated slightly in January but is expected to average 13.1% by the end of Q1. The COVID-19 pandemic and the Russia/Ukraine crisis have put significant upward pressure on prices. The first is through border closures, which affected the flow of commodities and resulted in ‘sticky’ inflation even after the easing of border restrictions. The second through the disruption of the established supply chains, which has forced companies to ship goods around Russia, making imports more expensive. Rising global grain and energy prices have contributed to the double-digit increases in food and utility prices.
*Note: Protest intensity is calculated based on ACLED. Risk levels are calculated by WTW. Where data are missing no risk level will be displayed. For details of calculations, see the introductory essay.
The government sought to ease the crisis by supporting domestic grain producers through subsidies and consumers through value-added tax exemptions on wheat, flour, and bread. To reduce the impact of accelerating inflation on vulnerable groups, the government has introduced a series of fiscal policy measures, including rises in the minimum wage, pensions, and social assistance packages. However, official statistics reveal 2016-22, the living wage went up from 146 manats to 220 manats (an increase of 51%), while the prices of twenty essential commodities and electricity, gas, and water over the same period increased by more than 75%. Furthermore, in the working-age population of 4.9 million, only 1.7 million have official employment
contracts, illuminating the extent of the shadow economy and reducing the impact of the government’s fiscal measures.
The post-pandemic recovery of global energy demand and Europe’s intensified search for non-Russian sources of gas – following the Western reaction to the Russian invasion of Ukraine in February 2022 – have supported Azerbaijan’s strong economic activity. In line with the Memorandum of Understanding on Strategic Partnership in the Field of Energy between Azerbaijan and the European Union, signed in July 2022, Baku increased gas supplies to European countries via the Southern Gas Corridor to 11.4 billion cubic metres (bcm) in December (from 8.1 bcm in 2021).
This increase marked a significant diplomatic victory for the Aliyev government, which has successfully raised Azerbaijan’s international energy profile and considerably repaired the damage to political relations with the European Union inflicted during the Second Karabakh War. The mov also boosted Azerbaijan’s foreign exchange earnings – especially important as oil production from the country’s maturing fields declined by 5.2%. The 11.3% increase in gas production enabled a rise in exports, generating a large current account surplus and supporting government fiscal spending.
Although issues related to living standards, administration of justice, and property have caused some citizen resentment, the authorities have been largely successful at alleviating public expressions of social discontent. The victory in the Second Karabakh War, after nearly three decades of stalemate, has conferred vast political capital on the Aliyev government at home, while renewed energy dialogue with the West has enabled Baku to present itself as a beacon of stability in the region.
Energy exports will remain at the core of Baku’s relations with Europe, bringing in financial resources required to maintain public spending and stave off public discontent. The agile policy of manoeuvring, pursued consistently by both the current president and his father who preceded him in the post, has ensured a timely shift in focus from the extraction and evacuation of oil in the 1990s to the production and export of gas in the 2000s and, most recently, to the planned supply of green electricity to the European Union. Gas exports via Southern Gas Corridor are expected to rise to at least 20 bcm/annum by 2027, following the expansion of pipeline capacity and the launch of new fields.
The latest major gain for Baku has been the signing of an agreement in December 2022 to construct a 1,100-kilometre, 1,000-Megawatt electric cable from Azerbaijan to Romania as part of the wider EU effort to diversify energy sources away from Russia. The cable is expected to be the longest of its kind in the world and, although the results of the feasibility study are not expected until the end of the year, it is probable the project will benefit from EU financial support. The project presents new opportunities for Baku to tap into the European Union’s growing green energy demand as it seeks ways to carve out a longer-term role for itself in a future where its hydrocarbon exports decline.
Generating new lines of income will determine President Ilham Aliyev’s ability to continue to exercise power without encountering any
serious political opposition or social upheaval, and, ultimately, to ensure a smooth succession.
Expropriation Risk 56 (Significant) TREND ►
Expropriation risk for companies already operating in Azerbaijan remains low. However, new contracts will continue to go predominantly to Turkish firms, seen to represent the ‘brotherly nation.’ Following Turkey’s active support in the 44-day war against Armenia, Turkish construction, mining, and energy companies have signed dozens of significant contracts to assist in the reconstruction of Nagorno-Karabakh and adjacent regions. Kalyon Group and Cengiz Holding are among 30 Turkish companies operating in Karabakh. Both were awarded 30-year contracts (by presidential decree) to operate gold and copper mines.
Turkish companies are also building the USD100 million Dost (Friend) Agropark and the USD180 million Horadiz-Agband railway line (commissioning delayed from 2023 to mid-2024). In Baku, Turkish businesses have benefitted from lucrative contracts such as the construction of new central bank headquarters and the management of Azerbaijan’s national lottery (granted by presidential decree for ten years). Overall, the government remains outspoken about its intention to reward ‘friendly’ countries with contracts. The start of the construction by Emirati company Masdar of a 230-Megawatt Garadagh solar photovoltaic plant in December follows this trend.
Political Violence Risk 60 (Significant) TREND ►
A new, controversial media law was introduced in 2022, placing new constraints on media activities and coverage and increasing state control and regulation of the industry through tighter licensing and registration procedures.
Following public discontent, the draft law on political parties was revised and softened. The adopted version has reduced the required minimum number of founding members for a new party from 200 to 50 persons. The draft has abolished the prerequisite for all founding members to have lived in Azerbaijan uninterruptedly for the past 20 years. Nonetheless, the law will restrict the political terrain for the country’s 58 formally registered opposition parties given that under the new rules, the authorities will have the right to dissolve any party if its membership numbers drop below 4,500.
Moreover, to qualify for state registration, a new party must have at least 5,000 members. Activities of political entities that do not have state registration remain prohibited.
Terrorism Risk 45 (Medium) TREND ▲
Air-based entry has returned to pre-COVID levels, with more direct flights opening to and from Baku. However, land borders have remained sealed since mid-March 2020, partially alleviating terrorism concerns. In Baku and other major cities, the authorities continue to control the situation by precluding mass gatherings.
The escalation of hostilities with Armenia in September has marked the latest flare-up since the end of the Second Karabakh War. At least 105 Armenian soldiers and 71 Azerbaijani military personnel were killed over two days in incidents which Baku has characterised as “large-scale military provocations” and “acts of terrorism.” While the overarching aim of such statements has been to justify the attacks on the Armenian territory, the Aliyev government appears to be genuinely concerned about the need to create a ‘buffer zone’ along Armenia’s border with Azerbaijan, to minimise threats to border guards, soldiers, and military infrastructure.
Exchange Transfer and Trade Sanctions Risk 64 (Significant) TREND ►
The manat remains firmly pegged at 1.7 to the U.S. dollar. The pressure to support the manat disappeared in 2022 with the rapidly rising prices of Brent and Azeri Light. Having peaked in June at USD122/barrel, Brent prices fell to around USD72/barrel in March but remain within Azerbaijan’s comfort zone.
As of late November, Azerbaijan’s strategic foreign exchange reserves (formed from central bank reserves, the assets of state oil fund SOFAZ and treasury funds of the finance ministry) reached USD59.8 billion – a large increase from the already substantial USD52.1 billion in January 2022. Risks of a disorderly devaluation remain low.
Sovereign Default Risk 46 (Medium) TREND ►
Baku is well-placed to balance its budget as it needs an oil price of around USD53 per barrel. The additional revenue that Azerbaijan earns from high oil prices, resulting from Russia’s invasion of Ukraine and the efforts by Western states to sanction Russian hydrocarbons, and the gas revenue which Azerbaijan receives from gas exports, will continue to contribute to economic stability.
Azerbaijan remains capable of borrowing externally, but its international financing has been increasingly concentrated in institutions that are not Western led. Structural weaknesses in the economy persist and the financial system will remain fragile. However, given the shift in the geopolitical situation and increased demand for Azerbaijani gas and renewable energy, the country will benefit from investments in the energy sector as the European Union intensifies its efforts to diversify away from Russian gas.
