Azerbaijan’s economy surged 15x between 1999 and 2012 in nominal US$ terms and 4x in real terms. Over US$ 40bn in foreign investments into energy exploration, development, and transportation generated a 13% annual average growth rate over that period. With an expansionary fiscal policy, with a 22x increase in public expenditures since 1999, growth has filtered into improvements in welfare and a reduction of poverty from 49% in 2001 to just 6% in 2012. Annual current account surpluses of over 25% of GDP from 2006 onwards have resulted in average annual fiscal surpluses of 10% since 2007. This has allowed for the accumulation of strong reserves in the State Oil Fund (SOFAZ) and the central bank (CBAR), which, as at end-2012, jointly held US$ 46bn in assets, or 67% of GDP. The country’s demographics are also favorable, with a relatively young population. This, combined with the government’s commitment to improving human capital, we believe, sets a strong platform for Azerbaijan’s economic welfare.
The economy shifted from relative diversification and low per-capita income (US$ 583) in 1999 to oil dependency and 12.8x higher average per-capita income (US$ 7,491) in 2012. A new phase in Azerbaijan’s economy started in 2011 as oil production started to decline and the country shifted its emphasis back to economic diversification. Lower oil production has placed a greater emphasis on the development of non-oil sectors, which is reflected in the government’s policy paper, “Azerbaijan 2020: Look Into the Future” (Vision 2020). The document calls for per-capita GDP to double by 2020 on the back of non-oil GDP growth to US$ 13,000 in 7 years and for the country to join the high-income group of countries. It also stresses the importance of improvements in education and institutional development.
Azerbaijan is dependent on the oil and gas sectors but diversification is high on the agenda. By the end of 2010, the oil and gas sectors accounted for 50% of output, 95% of exports, and 78% of consolidated fiscal revenue. The downside of this dependency was on full display when oil output fell from 50.8mmt in 2010 to 43.4mmt in 2012. As oil revenues declined in 2012 with expenditures continuing to rise, the State Oil Fund’s savings rate – the amount of oil revenue saved – decelerated from a peak of 60% in 2008 to 25% in 2012.
Gas production offers significant upside prospects. In 2012, Azerbaijan produced 26.8 bcm of natural gas, up from 5.6 bcm in 2000. The second stage of the Shah Deniz project is expected to add another 16 bcm to current output, resulting in 43 bcm total by 2020. At the current prices, additional gas output will provide revenue of 10.6% of the current value of oil produced.
The early signs of diversification are positive. The planned doubling of per-capita GDP requires annual 7% non-oil GDP growth (10.4% growth in 9M13). Non-oil sectors have been experiencing a boom in recent years, growing 9% on average annually from 2010 to 2012. Non-oil exports doubled in the six years from 2006 and increased another 13% in the first half of 2013. The government has already approved the “Education Development Strategy” and budget with lower transfers from SOFAZ compared to the previous year. Progress has also been made on the establishment of industrial estates with the Chemical Industrial Park in Sumgayit and the Balakhani Eco-Industrial Park already operational. Special economic zones for export promotion are in the pipeline, with the first planned at Heydar Aliyev International Airport.
Meanwhile, inflation remains subdued as a reflection of global food prices. Inflation came in at 1.0% and 2.3% in 2012 and 2013, respectively. The currency also remains stable, with the central bank pursuing an exchange rate policy within a US$-linked corridor.
The strong fiscal buffer and external surplus provides a cushion against global market volatility. Azerbaijan’s C/A surplus is set to remain strong, in our view, which will feed international reserves. Azerbaijan’s combined international reserves of 67% of GDP with marginal public debt of 10% should support the sovereign’s credit ratings. Most importantly, Azerbaijan has announced its willingness to diversify its economy through targeted policies and infrastructure investment, which positions the country well to reduce oil dependency and to generate solid economic growth from the non-oil sector.
