Baku Calling

Azerbaijan’s Economic Challenges

Azerbaijan has started to diversify its oil-based economy by first diversifying the hydrocarbon industry itself.

Azerbaijan’s post-soviet economic woes were largely alleviated in 2005-06, when hydrocarbon revenues finally began to accrue as a result of the contract signed in 1994 between the government of Azerbaijan and a foreign consortium led by BP.

This contract allowed for the large-scale extraction and export of offshore oil and gas reserves in the Caspian Sea.

This period of economic growth lasted for roughly a decade, during which time the country’s year-on-year GDP growth once came close to 35%—an all-time high for the Caucasian country, and a rate almost unparalleled in the economic annals of the world.

Good things, alas, do not last forever.

In the wake of the great oil market fall of 2014-16, Azerbaijan’s GDP growth slowed down, the country’s currency, the Manat, lost as much as 50% of its exchange value.

The Azerbaijani economy on the whole showed signs of stalling.

The warning signs that hydrocarbon revenues could be as much a curse as a blessing sparked a nationwide debate about the necessity of diversification.

And so, diversification efforts began to take hold in the nation’s oil and gas industry: Azerbaijan is now trying to ramp up its petrochemicals and natural gas exports instead of solely relying on crude oil—which is a common steppingstone toward true economic diversification for oil-based economies.

Although natural gas prices have some degree of correlation with crude oil prices, the natural gas market is less prone to volatility, especially for countries that supply major gas pipelines and hold long-term contracts with the buyers.

As for petrochemicals, exporting these added-value, oil-based products is as good as exporting any non-oil commodity.

Three different petrochemical plants producing polypropylene, urea, and high-density polyethylene came into service in 2018-19, while new plants are already either under construction or in the planning stage, including one that has BP as its main investor.

All this will push up petrochemical exports to USD241 in 2019 (estimated) from USD190 in 2018. Non-crude oil exports in general, meanwhile, will exceed USD2 billion by the end of 2019, whereas the figure was USD1.7 billion in 2018.

There have been even more impressive breakthroughs in the natural gas industry. In 2018, the Trans-Anatolian Natural Gas Pipeline (TANAP) which connects Azerbaijan’s sizable Shah Deniz gas field to western Turkey was finally linked to the Trans Adriatic Pipeline (TAP) near the Turkish-Greek border.

The symbolic welding of the two pipelines marked the completion of the Southern Gas Corridor initiative, enabling Azerbaijan to export its natural gas to Georgia, Turkey, Greece, Albania, and Italy, among other countries along the corridor that the pipeline may soon branch out to.

Natural gas from the Shah Deniz field will first reach Italy around 3Q2020, according to Luca Schieppati, managing director of TAP.

However, exports to other countries, including Turkey, are already in progress through the South Caucasus Pipeline, with an annual delivery of over 6.6 billion cubic meters to Turkey’s state owned oil and gas corporation, BOTAÅž.

Azerbaijan has also set the stage for its transformation to a post-oil economy by launching a sovereign wealth fund in 1999—a fund that redirects the nation’s oil and gas revenue to infrastructure projects and other productive enterprises, thus guaranteeing economic prosperity after the inevitable depletion of hydrocarbon reserves.

The state oil fund of the Republic of Azerbaijan (SOFAZ) currently owns over USD42 billion of assets which is an all-time high, showing a 10% growth since 2018. Aside from cushioning the blow of economic crises, the fund supports Baku’s efforts to finally overcome its dependence on petrodollars.

With the help of SOFAZ, it is certain that the diversification efforts should soon go beyond the hydrocarbon sector itself, engaging industries such as agriculture, tourism, and banking, where Azerbaijan has notable potential.

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