Azerbaijan: Country ProfileCountry Profile | 04 Jul 2014

Azerbaijans economy will grow at a moderate but somewhat slower pace in 2014. Public spending is being scaled back while expansion in the oil industry is slowing. Consumer spending and growth in the non-oil sector are the main drivers. The non-oil sector will continue to be a driving economic force in the medium term but its dynamism will wane, owing to constraints in production capacity. Energy production could pick up again in several years if oil exploration is successful.

KEY POINTS

Real GDP will grow by 5.0% in 2014 down from 5.8% in 2013. Public spending is being scaled back while expansion in the oil industry is slowing. Growth of the non-oil sector (expected to be at least 9% in 2014) will be the main driver. Real GDP grew by 3.2% in the first quarter of 2014 compared with the same period in 2013.

The budget deficit for 2014 is put at 2.6% of GDP. It is expected to fall to 2.0% in 2015. A modest programme of fiscal consolidation began in 2014 but there are concerns that current spending plans will undermine the governments goal of achieving fiscal sustainability by 2018. The non-oil deficit is well above the level which is thought to be sustainable in the longer term.

Real growth of private final consumption was 11.1% in 2013 and gains of 11.0% are forecast for 2014. Public spending and remittances provide considerable support for private consumption. Bank lending is rising by more than 20% per year with around 40% of the loans going to households.

The non-oil sector will continue to be a driving economic force in the medium term but its dynamism will wane, owing to constraints in production capacity. Non-oil activities are expected to grow by 5-6% per year in the remaining years of this decade.

Chart 1 Real GDP Growth and Per Capita GDP: 2006-2015

Source: Euromonitor International

Note: Data for 2014 and 2015 are forecast. GDP per capita are in constant 2013 prices

FACTS

Area

86,600 square kilometres

Currency

Manat (M = 100 qapik).

Location

The Republic of Azerbaijan lies in the eastern Transcaucasian region, bordering the Caspian Sea from Grozny to Baku. It includes the autonomous provinces of Nagorny-Karabakh and Nakhichevan.

Capital

Baku

GOVERNMENT

Page 1 of 8

Head of State

Ilham Aliyev (2003)

Head of Government

Artur Rasizade (2003)

Ruling Party

New Azerbaijan Party (NAP)

Political Structure

Azerbaijan gained its independence in August 1991. The president is elected by the people for a five-year term. The National Assembly has 125 members elected for a five-year term in single-seat constituencies.

Last Elections

Elections to the National Assembly took place in November 2010. The ruling New Azerbaijan Party (NAP) took 73 seats while independents won 39 seats. Most of these independents are thought to be aligned with the NAP. The remaining seats were divided among several small opposition parties. Presidential elections were held in October 2013. Aliyev was returned to office with 84.5% of the vote. His nearest rival, Jamil Hasanli, received 5.5% of the vote. European observers described the poll as seriously flawed.

Political Stability and Risks

Azerbaijans ruling elite is divided, with several clans (largely organised along regional and patronage relationships) competing for control over substantial funds to be skimmed from the oil business. Income distribution is highly inequitable. Violence and rebellion in the ethnically Armenian enclave of Nagorno-Karabakh and the autonomous region of Nakhichevan remain close to the surface. Much of the countrys economic wealth is concentrated in Baku. The capital is already home to more than a quarter of the national population and internal migration continues at a furious pace.

International Issues

Uncertainty over the Caspian Seas legal status hinders oil and natural gas development. Azerbaijan, Iran, Kazakhstan, Russia and Turkmenistan have failed to agree on a plan to divide up the seas resources, including the oil-rich seabed.

Government Finance

Funded by oil export revenues, the government has pursued an expansionary fiscal policy for several years. The budget deficit for 2014 is put at 2.6% of GDP. It is expected to fall to 2.0% in 2015. A modest programme of fiscal consolidation began in 2014 but there are concerns that current spending plans will undermine the governments goal of achieving fiscal sustainability by 2018. The non-oil deficit is well above the level which is thought to be sustainable in the longer term.

With oil production expected to show little or no growth over the medium term, the ratio of the non-oil deficit to non-oil GDP is not sustainable. The IMF has recommended a target of 17% for this ratio by 2017 but authorities do not want to begin a process of consolidation before 2015.

Public debt amounted to AZN7,937 million in 2013, equivalent to 13.8% of GDP. In 2013, the real value of public debt rose by 23.7%.

Government expenditure on economic services accounted for 30.5% of the total in 2013 followed by spending on social security and welfare (25.2%).

Chart 2 Public Debt: 2006-2013

Page 2 of 8

Source: Euromonitor International

Note: Data are in constant 2013 prices

ECONOMY

Economic Structure and Major Industries

Agriculture employs 36.8% of all workers. About half of all households are dependent on farming as their primary source of income. Output is expected to rise in 2014 as two large irrigation projects reach completion.

The oil and gas sector is the economys backbone. Exports of crude oil and oil products make up most of Azerbaijans exports and account for more than a third of budget revenues. Gas production will rise significantly during this decade. Recent agreements with a western consortium include the construction of pipelines to facilitate the delivery of Azeri gas to Europe beginning in 2018.

The manufacturing sector accounts for 4.4% of GDP and employs 4.6% of the work force. A number of heavy industries that were established more than 20 years ago make up the bulk of the sector. The more important of these are steel, aluminium and cement. Policy makers are trying hard to diversify the sector. They plan to invest US$3.5 billion in information and communications technology over the next 10 years. The real value of gross manufacturing value added grew by 8.4% in 2013.

The service sector makes up 32.8% of GDP. Growth in the sector is driven by the wholesale and retail trade. Banking is dominated by two state-owned banks which together account for more than half of the entire industrys assets. Altogether, the banking systems assets are equivalent to less than 30% of GDP, a much lower ratio than in Russia or Kazakhstan.

Overview of the Economy

The economy enjoyed double-digit real GDP growth for several years driven by oil and gas production and exports. Real GDP per capita more than doubled between 2003 and 2010. Growth in non-oil GDP was also brisk with output rising by around 15% per year during this period. However, the economy contracted in 2011 when the oil industry faltered. Growth returned in 2012 and the economy grew by 5.8% in 2013 as the energy sector rebounded. The non-oil sector has also performed well, growing by about 9% (close to its potential) in 2013. Construction, agriculture and services all recorded strong gains in 2013.

The government has run an expansionary fiscal policy for several years. Azerbaijans financial reserves are substantial, exceeding the countrys external debt. Monopolies in the distribution sector, especially among state-owned enterprises, have taken advantage of the strong economy to raise prices excessively.

Foreign Trade

In 2013, exports accounted for 43.2% of GDP, down from 62.6% in 2008. Exports (in dollars) fell by 2.6% in 2013 as lower global prices reduced oil exports. A fall of 5.0% is expected in 2014.

Azerbaijans excessive reliance on oil exports exposes the country to considerable volatility. Similarly, the limited development of the non-energy sector has led to the rapid growth of imports as disposable incomes and private consumption rise.

The EU is the major market for Azerbaijans exports, accounting for 48.3% of the total in 2013. Energy exports represented 93.8% of the total in 2013.

The current account surplus was 16.7% of GDP in 2013. It has narrowed in recent years as imports of oil equipment and consumer products rise.

Chart 3 Total Foreign Trade: 2006-2013

Page 3 of 8

Source: Euromonitor International

Economic Prospects

Real GDP will grow by 5.0% in 2014 down from 5.8% in 2013. Public spending is being scaled back while expansion in the oil industry is slowing. Growth of the non-oil sector (expected to be at least 9% in 2014) will be the main driver. Real GDP grew by 3.2% in the first quarter of 2014 compared with the same period in 2013.

Prices are expected to rise by 3.0% in 2014 after inflation of 2.5% in 2013. Upward pressure on prices comes from government spending increases and capacity constraints in the non-oil sector. The target range of the central bank is 5-6%.

Azerbaijans strategic geographic location has fuelled the governments hope to turn Azerbaijan into a transportation hub for the entire Caucasus and Caspian regions. A railway from Baku to the Turkish city of Kars, is under construction, and five new international airports are planned to complement the one already operating in Baku.

Real growth of private final consumption was 11.1% in 2013 and gains of 11.0% are forecast for 2014. Public spending and remittances provide considerable support for private consumption. Remittances (in dollars) rose by 10.2% in 2013. Bank lending is also rising by more than 20% per year with around 40% of the loans going to households.

Unemployment was 5.1% in 2013 and it will remain at that level in 2014. The jobless rate in urban areas is double that of rural areas. Skills shortages are another persistent problem. Wages in the public sector continue to rise at a brisk pace.

Many workers are dependent on the informal sector for jobs. The extent of the reliance on the informal sector is suggested by the fact that actual income per capita is known to exceed considerably the official level. The countrys national accounts also underline the importance of the informal economy. In most years, aggregate consumption exceeds GDP by 3%-5% according to the State Statistical Committee. However, the true figure is estimated to be closer to 17%-20%.

Chart 4 Real GDP Growth: 2006-2015

Source: Euromonitor International

Note: Data for 2014 and 2015 are forecast

Evaluation of Market Potential

The non-oil sector will continue to be a driving economic force in the medium term but its dynamism will wane, owing to constraints in production capacity. Non-oil activities are expected to grow by 5-6% per year in the remaining years of this decade. Energy production could pick up again in several years if oil exploration is successful. New gas fields should come on line by 2018.

The World Bank puts the potential rate of growth at 6.6%. In the longer term, economic

Page 4 of 8

diversification will have to be pursued more vigorously. Agriculture, manufacturing, telecommunications and tourism all have potential for growth. The development of small and medium sized enterprises will be a crucial part of the diversification process but at the moment these firms account for less than 10% of output and an insignificant share of employment.

BUSINESS ENVIRONMENT

By most measures, Azerbaijans business environment is one of the strongest and most reliable in the Central Asian region. Nonetheless, many parts of the economy are still dominated by the state. State-owned enterprises often operate as monopolies in their respective markets. They set high prices, restrict output and wield considerable market power when purchasing inputs. The decision to privatise the International Bank of Azerbaijan is expected to strengthen competition among banks. The central banks recent decision to boost lending to small and medium-sized enterprises should boost the rate of growth in the medium term.

Employment regulations have been modernised, improving labour flexibility and the regulatory environment has been relaxed. If Azerbaijan is to become a successful exporter, it needs to reduce both formal and informal barriers to trade.

Policy makers are struggling to bring legislation in line with the WTO accession requirements. The pace of reform is especially slow in the non-oil sector. The judiciary is inefficient and lacks independence. Corruption and limited access to finance are major problems.

Table 1 Indicators of Business Environment: 2014

Ease of doing business rank (out of 189) 70

Starting a Business

Time (days) 7

Procedures (number) 3

Dealing with construction permits

Time (days) 212

Procedures (number) 28

Getting Electricity

Time (days) 241

Procedures (number) 9

Registering Property

Time (days) 11

Procedures (number) 4

Employing workers

Standard workday in manufacturing (hours) 8

Paid annual leave for a worker with 1 year of tenure (in working days) 15

Tax rate

Total tax rate (% profit) 40

Labour tax and contributions (% of commercial profits) 24.8

Time (hours per year) 214

Payments (number per year) 18

VAT (%) 18.0

Exporting

Documents for export (number) 9

Time to export (days) 28

Cost to export (US$ per container) 3,540

Page 5 of 8

Importing

Documents for import (number) 11

Time for import (days) 25

Cost to import (US$ per container) 3,560

Protecting investors

Strength of investor protection index (0-10) 6.7

Resolving Insolvency

Time (years) 2.3

Cost (% of estate) 8

Source: Euromonitor International based on the World Bank

Note: Data is sourced from the World Banks Doing Business 2014. Doing Business presents quantitative indicators on business regulations and the protection of property rights - and their effect on businesses, especially small and medium-size domestic firms. The data for all sets of indicators in Doing Business 2014 are from June 2012 until June 2013 (except for paying taxes data which refers to JanuaryDecember 2012). Rankings are based on data sets across 189 countries.

ENERGY

Azerbaijans proven crude oil reserves are estimated to be 7.0 billion barrels. Most of these reserves are located offshore in the Caspian Sea. Oil production totalled 42.5 million tonnes of oil equivalent in 2013. The Azeri-Chiraq-Guneshi offshore oil field accounts for about 90% of all oil exports. The state-owned oil company (SOCAR) is responsible for all oil and natural gas resources and operates the countrys two refineries.

Azerbaijan also has 0.9 trillion cubic metres of natural gas. Exports are from the Shah Deniz field. This offshore field is thought to be one of the worlds largest discoveries in more than 20 years. Production began in 2006 and in 2013 the country produced 14.2 million tonnes of oil equivalent. The government intends to invest US$224 million over the next 10 years to increase production. Output is expected to double by 2025.

Chart 5 Primary Consumption of Energy (% of total): 2013

Source: Euromonitor International

SOCIETY

Population

Azerbaijans population was 9.4 million in 2013 and it will gradually rise in future. Population growth, however, has been decelerating in recent decades. Fertility and birth rates have been gently falling since 2008 and the downward trend will continue through 2030.

The median age of population was 30.8 years in 2013. Azerbaijani society is steadily ageing. In 1980-2020, the share of those 65+ will rise from 5.4% of the total to 7.2%.

The ageing of the population presents a long-term challenge for government finances. In response, the government has begun to boost the retirement age in incremental steps. In 2009, the retirement age for men was 62 years while that of women was 57. By 2016, retirement for men will be raised to 63 years while women will have a retirement age of 60 years.

Chart 6 Age Pyramid in 2013 and 2030

Page 6 of 8

Source: Euromonitor International

Income and Expenditure

In 2013, savings amounted to 4.3% of disposable income. The ratio will rise to 4.7% in 2014.

Consumer expenditure per capita has been rising at a moderate pace for several years. In 2013, it was AZN2,567 (US$3,272). In 2014, the indicator will grow by 9.6% in real terms. Spending on clothing and footwear should rise rapidly over the course of this decade, boosted by the growing popularity and presence of shopping centres.

Total consumer expenditure (in real terms) will rise by 11.1% in 2014. In the period 2013-2030, total consumer expenditure will grow at an average annual rate of 5.7%. It will increase by a cumulative value of 157% during that period. Total consumer expenditure will be 43.7% of GDP in 2014.

Disposable income per capita amounted to AZN2,700 (US$3,442) in 2013. In 2014, disposable income per capita is forecast to grow by 10.1% in real terms.

During the period 2013-2030, total disposable income will increase by a cumulative 171% in real terms growing at an average annual rate of 6.0%.

Chart 7 Per Capita Annual Disposable Income, Spending and Savings Ratio: 2006-2013

Source: Euromonitor International

Statistical Summary 2008 2009 2010 2011 2012 2013

Inflation (% change) 20.9 1.6 5.7 7.9 1.1 2.5

Exchange rate (per US$) 0.82 0.80 0.80 0.79 0.79 0.78

Lending rate 19.8 20.0 20.7 19.0 18.3 18.2

GDP (% real growth) 10.6 9.4 4.6 -1.6 2.2 5.8

GDP (national currency millions) 40,137.2 35,601.5 42,465.0 52,082.0 54,743.7 57,708.2

GDP (US$ millions) 48,851.8 44,288.4 52,847.3 65,915.5 69,680.2 73,556.5

Population, mid-year ('000) 8,851.2 8,960.0 9,054.4 9,173.1 9,298.6 9,424.0

Birth rate (per '000) 17.2 17.0 18.3 19.2 19.6 19.3

Death rate (per '000) 6.0 5.9 5.9 5.9 6.0 6.0

No. of households ('000) 1,863.5 1,895.9 1,913.8 1,939.8 1,967.9 1,996.7

Total exports (US$ millions) 30,586.3 21,096.8 26,476.0 34,494.9 32,634.0 31,776.4

Page 7 of 8

Euromonitor International 2014

Total imports (US$ millions) 7,574.7 6,513.9 6,745.6 10,166.5 10,417.5 11,155.6

Tourism receipts (US$ millions) 191.0 379.0 657.0 1,287.0 1,444.1 1,728.1

Tourism spending (US$ millions) 343.0 405.0 781.0 1,689.0 1,840.4 2,142.7

Urban population ('000) 4,652.2 4,741.3 4,774.9 4,829.5 4,888.7 4,951.1

Urban population (%) 53.0 53.1 53.1 53.0 52.9 52.9

Population aged 0-14 (%) 20.8 20.0 19.4 19.3 19.6 20.2

Population aged 15-64 (%) 72.3 73.2 73.9 74.1 73.9 73.5

Population aged 65+ (%) 6.9 6.8 6.7 6.5 6.4 6.3

Male population (%) 49.4 49.5 49.5 49.6 49.6 49.7

Female population (%) 50.6 50.5 50.5 50.4 50.4 50.3

Life expectancy male (years) 70.8 70.9 70.9 71.2 71.3 71.4

Life expectancy female (years) 76.1 76.1 76.2 76.5 76.6 76.7

Infant mortality (deaths per '000 live births) 11.3 11.4 12.3 12.6 12.4 12.2

Adult literacy (%) 99.7 99.8 99.8 99.8 99.8 99.8

Imports and ExportsMajor export destinations 2013 Share (%) Major import sources 2013 Share (%)

Europe 59.7 Europe 73.5

Asia-Pacific 25.6 Asia Pacific 16.1

Africa and the Middle East 8.4 Africa and the Middle East 4.4

North America 4.0 North America 3.6

Other countries 1.9 Latin America 2.0

Australasia 0.5 Australasia 0.3

Page 8 of 8