United States-Azerbaijan Economic Partnership
Like other USSR republics, before its independence, the economy of Azerbaijan was a part of the united economy complex of the Soviet Union. Azerbaijani SSR had a growing industry, dynamic agriculture, and service sector. When the Union collapsed in 1991, so did the economy in the former union republics, where the majority of enterprises discontinued their operations and economies faced a sharp fall. Yet, by 1992, Azerbaijan had already introduced its national currency into circulation.
Two years later, Azerbaijan signed its first international oil contract – Azeri-Chirag-Guneshli PSA. The number of international oil contracts reached twenty in the mid-1990’s. Azerbaijan simultaneously launched the privatization of state properties in 1995 and managed to halt the economic recession and grow the GDP. In 2006, Azerbaijan achieved the highest rate of economic growth – 35% – while the economy grew by 25% and was the fastest growing among former Soviet republics.
Today, 25 years later, Azerbaijan is the originator of the renowned Baku-Tbilisi-Ceyhan pipeline delivering Caspian oil to the world markets and is in the process of launching Southern Gas Corridor (SGC), a $40 billion mega-gas project stretching over seven countries and involving more than a dozen major energy companies with a sophisticated legal system in place. SGC will deliver the gas from the Shah Deniz gas field of the Caspian, which is comparable to Manhattan island in size and shape.
While the first two decades of Azerbaijan’s economic development were broadly based on commodities, the country is now largely focused on economic diversification with the new revitalized Trans-Caspian Trade and Transit route as a new mega-project that could potentially be of the same value and importance as BTC or SGC.
BTC and SGC linked the Caspian states to Europe while the new Trans-Caspian route will also connect North to South. The new International Sea Port of Baku and Baku-Tbilisi-Kars railway will be the main segment of the historical Silk Road. This makes Azerbaijan the new shortcut between China and the E.U. where trade turnover is more than 1.5 billion Euros per day.
Economic benefits for American companies
Azerbaijan is the largest trading and business partner of the U.S. as well as the largest recipient of U.S. exports in the region. American companies invested more than $10 billion in Azerbaijan’s economy over the past few years, with overall investments reaching $230 billion.
Major American construction, development and operation companies, contractors, service providers and investors have been largely involved in every single large and medium-sized project in Azerbaijan since 1992. While BP was the leading company in the BTC pipeline, U.S. firms ConocoPhillips and Unocal (merged with Chevron in 2005) were also part of the consortium. Hundreds of mostly Texas-based American companies have been providing materials, technology, and services to Azerbaijan oil industry since 1995.
U.S.-sourced materials and U.S. employees and contractors are materially and deeply woven into the construction, development, and operation of the Southern Gas Corridor. In fact, over 20 major third-party American contractors (e.g. Baker Hughes, Bechtel, Cameron, Emerson, GE, KBR, Schlumberger, and Siemens) with contracts totaling over $2 billion are working on the pipeline at the moment.
There are 235 U.S. companies registered in Azerbaijan as “contractor of public projects.” With exports totaling $434 million in 2016, the U.S. had a trade surplus of $291 million with Azerbaijan.
Meantime, Azerbaijani individual and public investments in the U.S. are also growing. The State Oil Fund of Azerbaijan (SOFAZ) has invested $6.5 billion in the American economy and $16.5 billion in USD denominated financial securities. The fund has invested in real estate funds managed by giants like Blackstone, Starwood, Prudential Global Investment Management and AXA Investment management. SOFAZ maintains a close relationship with Wall Street, cooperating and trading with many financial institutions and was recently ranked the number six most transparent and accountable sovereign wealth fund by DC-based Petersen Institute of International Economics.
Azerbaijan’s SilkWay Airlines also recently purchased ten new Boeing 737 aircrafts worth $1.1 billion, which supports at least 12,000 workers in the U.S.
Why Azerbaijan remains economically important and attractive?
Azerbaijan is a strategic ally in the region with similar views about regional development, pertaining to the economy, military strategy and security. The two countries have been partners in all of the major energy projects, where American investors have always been protected and obligations met.
For a very long time now, Azerbaijan has maintained a stable environment for business investment. The country remained stable through all of the political turbulence over the world and is still in the top five countries for the best conditions to start a business per the “Doing Business” report. The country also holds 37th place in the world and 1st place among CIS countries for the economic competitiveness, according to the report of Davos World Economic Forum.
One notable fact about Azerbaijan is that not a single contract has been modified since 1994 when Contract of the Century was signed. This is considered a remarkable achievement in the oil and gas world as promises were kept to investors and partners when the oil was $120 per barrel and promises were kept at a low of $27 per barrel. This is especially significant when the entire economy of the country was dependent on oil exports for a long time.
Today is a good time to enter the Azerbaijani market from an investor’s standpoint. As the boom-day is relatively in the past, there is a good chance to deploy capital into an economy that has good long-term fundamentals. While two major devaluations of 2016 shook the economy, the country is coming out of the devaluation dry patch well and is forecasted to grow by 1.5% in 2017. Overall, GDP is on a positive trend and was $35 billion in 2016. There is already growth in 2017, the main driver of which is the non-oil sector.
The regional position of Azerbaijan, with direct access to Iran, Russia and Turkey and easy access to China and Europe, puts it at a pivotal crossroads. In other words, potential investors will not have challenges to reach any market, especially when the country is already in favor of globalization. Also, the main privilege for investors doing business in Azerbaijan is its status as export-oriented FDI. The possibility of goods, hydrocarbons and services to flow through Azerbaijan is enormous and is likely to become a “game changer” in the region. Furthermore, there are free trade agreements with other CIS countries, which can offer easy transportation of goods from China through Central Asia to Azerbaijan and further to Europe.
What are the challenges?
Azerbaijan’s key challenge for long-term growth is its heavy reliance on oil and declining production in the world of low oil prices. What clouds the medium-term prospects are policy uncertainty and vulnerabilities in the financial and banking sector. Azerbaijani economy is also largely import-dependent with 70 percent of food and almost 100 percent of medicine, cars and clothes coming from abroad, which creates an additional challenge.
Bold reforms are needed to facilitate the growth of the private sector and to strengthen the labor market. At the moment, the private sector remains constrained due to limited macroeconomic policy coordination despite some progress on the structural reform.
Although economic diversification is a priority, it will still remain a time-consuming business for Azerbaijan. While the country made certain progress in the structural reforms, inconsistent application of regulations, legal disputes related to trademark registration, licensing and certification related issues remain a problem to solve. Many local companies do not have properly audited accounts, which makes it harder to attract foreign investment or partners.
Legal considerations should also be taken into account when analyzing non-oil investments. Oil and gas is the only industry regulated by PSA agreements, where lawsuits are considered at international courts. All the other foreign investment disputes are regulated primarily by domestic legislation, specifically Law on Protection of Foreign Investment, Law on Investment Activity, Privatization Law, Law on Banks and others, although a number of international treaties and agreements also play a certain role. International treaties generally prevail over local law.
Since mid-2014, the country has taken certain actions to streamline the process of launching a business, making it possible to register a new company within one day. However, other time-consuming requirements continue to undermine overall regulatory efficiency.
American leadership can have a huge impact on how American businesses and investors perceive Azerbaijan. Over 60 speakers that presented during the recent Annual Conference of the U.S.-Azerbaijan Chamber of Commerce (USACC) in Washington, DC in March 2017 also reinforced this important message. Speakers representing the think-tank community, academics, scholars, government officials and business leaders highlighted the importance of increasing economic and business interactions with Azerbaijan.
Azerbaijan is a relatively small country by geographical size but it has always held leading positions in terms of competitiveness, stability and economic power with world-class infrastructure. Since the very first days of independence, Azerbaijan granted thousands of contracts to American companies in oil and gas, construction, agriculture, aviation and other industries and has protected over $200 billion of U.S. investments so far.
The U.S. exported only $434 million worth of goods to Azerbaijan in 2016. However, there is a potential to increase these numbers by five to six times more in the next decade. Azerbaijan has undergone significant changes over the past two years, as the economy transitioned from a resource-based to productivity-based model, which is reflected in the “New Strategic Road Map”, initiated by President Aliyev. U.S. companies can sell their innovations, products, and services and take advantage of liberal policies and laws.
Azerbaijan has also always offered its infrastructure and resources to Western companies and markets starting with Baku-Tbilisi-Ceyhan in 2015, Southern Gas Corridor in 2014 and the Trans-Caspian Trade and Transit route today. The U.S. national interest in Azerbaijan’s diversified economy would help realize the huge potential for greater East-West and North-South trade and business. Higher-level official engagement from the U.S. side is necessary and important to bolster the cooperation through regular policy reviews and strategic concepts.