Gubad Ibadoghlu, Dr.

Senior Analyst

Economic Research Center

The departing year was notable for a series of economic developments. Let’s look at those worthy of attention.

It should be noted that forecasts of the Government of Azerbaijan about a 2% GDP growth in 2018 failed to come true. Under the latest data of the State Statistics Committee, the GDP grew by 1% over 11 months of the year, including non-oil GDP by 1.3%, while the figure for 2017 stood at 2.4%. In this context, two aspects of the GDP are worthy of attention:
1. This year’s economic growth is expected to be down from the forecast. Thus, GDP growth in Azerbaijan in 2018 was prognosticated by the World Bank and UN at 1.8%; by the International Monetary Fund-at 1.3%; and by Russian sources (Interfax, etc.)- at 2%.

2. Slowing of growth rates of non-oil GDP in 2018, as compared to its level in previous years is a testimony to the fact that problems in this area remain, while the state initiated various measures, including essential investments, etc., to maintain the paces of growth of non-oil GDP.
It was the slowing of non-oil GDP export growth rates that led to the reduction of this sector’s share in the export basket. Thus, according to the State Statistics Committee, in January-October this year as compared to the last the non-oil export rose in comparative prices by 1,7% and in actual prices by 10,9% against 22, 8% and 21, 1%

One of the main reasons of drop in paces of economic growth over the first 11 months of the year is the decrease in the volume of capital investments by 8,8% from a year earlier. It should be added that over the same period the oil production in the extracting sector rose by 0,2%; commodity gas by 4,9%, as well as crude oil prices rose at the world market which, in turn, played a great role in GDP growth.

Thus, essentially contributing to the achievement of positive results in the area proved to be new projects and prolongation of a contract on the development of ACG and “Shahdeniz-2” blocks.

Among successes of 2018 there was reduction in the inflation rates to 2, 3% and ensuring of manat rate stability against dollar. Given the above, assets of the banking sector increased in the departing year first ever since 2015.

At the same time, level of the banking credits and related deposits rose over the past 11 months from a year earlier. In the meanwhile, net banking revenues over January-October dropped by 2,5 times as compared to the first 10 months of the last year. For this reason the banks closed 50 branches in a bid to optimize expenditures.

The departing year was also notable for non-adoption of legal and regulating measures to solve the problem of problem credits. For this reason, as of November 1, 2018, the volume of outstand credits made up 1698, 6 mln manats, or 14% of total credit portfolio. Regretfully, despite proposals of experts to resolve the issue, none of them was backed by the government.

In 2018, discussions around the International Bank of Azerbaijan continued. No progress was attained on this track. Moreover, analysis of budget revenues for 2019 was indicative that the IBA would not be privatized in the year to come.

Among lost opportunities in 2018 there is Milli Majlis’ refusal of the Code of Competition and Cabinet of Ministers’ did not confirmed forms of “Income and property declaration.”

Thus, the departing year marked monopolism tendencies in economy, particularly, a dominating position of “Pasha holding” at the expense of weakening positions of other holdings. Measures to fight corruption failed to attain necessary results due to the refusal from the “Income and property declaration.”

The year 2018 saw the opening of the Complex of Baku International Marine Trade Port; Sumgayit plants on production of polypropylene and building ligature; a factory “Tabaretta” on tobacco production; Baku Non-ferrous and Foundry Company; Masally industrial complex. As a whole, the departing year was successful for the development of non-oil industry. The growth in the area made up 9, 1%. Also, volumes of plant cultivation rose by 6, %.

The year 2018 was also notable for progress in Trade and Wine Houses; “Azerbaijani Trade house” in Riga and Warsaw; “Azerbaijani Wine Houses” in the Chinese cities of Urumchi and Shanghai.

In 2018, the gas pipeline TANAP and oil refinery STAR (SOCAR Turkey Aegean Refinery) were put into operation.

Also, a “Convention on the Status of the Caspian Sea” was finally signed by Russia, Azerbaijan, Kazakhstan, Turkmenistan and Iran.

A high spot of the year was Exxon and Chevron companies’ intent to put up for sale their shares in the ACG deposit and leave Azerbaijan after 25-year long cooperation.

A celebrated case was Azerbaijan’s suspension in the Partnership “Open government” in the end of the year due to its inactive status therein, as well as application of sanctions against companies and banks involved in money laundering of Azerbaijani origin in Great Britain.

Among events to be expected in 2019 are intensification of inflation tendencies, rise in consumer prices, probability of fall in manat rate, growth of real wages of hired labor, amendments in economy and public finance management in terms of fall in oil prices.

“Debates” over the national budget of Azerbaijan for 2019 were over at Milli Majlis. Budgetary revenues were approved in the volume of 23bln 168mln manats, and expenditures - 25bln 190mln manats. Next year’s average annual inflation is forecast to make up 3,8%; manat rate in respect of USD at 1,7 manats; average sale price of crude oil at world markets at $60,0 per 1barrel.

It transpired, following an analysis of budget risks and macro-fiscal forecasting, including economy’ assessment from dependence on natural resources standpoint, that there are, at least, 19 weak points in the budget-2019. It should be remembered that rise in the number of weak points degrades the quality of budget for the next year; or in other words, it reduces expenditures effectiveness and their contribution to the economic growth. These points may be classified as follows:

1)No budget negotiation are held in Azerbaijan. This year’s budget discussions confirmed once again that organization and discussions of the budget in Azerbaijan is not a matter of the parliament but monopolized by a certain group in the executive power. Suffice it to recall that t

he budgeting process is still under absolute control of the Ministry of Finance and presidential administration while the participation of certain sectoral and linear ministries and other budget-financed government bodies is restricted. In other words, they are practically in no position to take part in budgetary discussions.

2)The role of parliament in the budgetary process is nominal. It must be remembered that this year’s budget discussions at the parliament were not different from similar hearings of the previous years. Instead, the budget was submitted to the parliament later but adopted quicker than the last year. As has been expected, some superficial changes were made in the budget after the parliamentary discussions. National budget revenues for 2019 were approved in the volume that exceeded by 251 mln from preliminary prognosis, or by 1,1% from approved revenues, and expenditures by 410 mln manats from preliminary prognosis, or 1,6% from approved expenditures. As a matter of fact, these indices are enough to make an appraisal of parliamentary’ role in the budgetary process.

3) "No result-oriented budget" has so far been drawn up. Like previous years, the budget-2019 was brought up for discussions without coding by programs, without budget classification. The essential point to remember in Azerbaijan is that no budgetary work based on specific results and their appraisal has so far been organized. For this reason, effectiveness of budgetary expenditures is blunted from year to year, and no monitoring is held for lack of indicators to measure it. This, in turn, makes it no possible to evaluate role and activity of related organizations in direct budgetary spending.

4) A newly adopted financial rule imposes no restrictions on oil revenues spending. Thus, Article 11-1.2 of the Law of the Azerbaijani Republic”Оn introduction of amendments in the Law of the Azerbaijani Republic "On budgetary system" dated July 29, 2018, s

ets an upper limit on consolidated budget expenditures. The limit has been set up in line with summarized forecast on oil, non-oil and other receipts that may be expended in the volume not more than 103% of expenditures of consolidated budget if the current year. For this reason, a balance between non-oil basic deficit of consolidated budget and non-oil GDP remains to be high. Thus, percentage ratio between non-oil budget deficit in 2019 and non-oil GDP is forecast to make up 30,8%. Note that higher deficit is a result of longstanding procyclical policy.

5)A price for oil per barrel included in the budget is too optimistic and unrealistic. Draft budget for 2019 debates were accompanied by drop in oil prices at world markets. According to December 1 reports, 1 barrel of Azerbaijani Brent crude oil at world markets cost $59.46. So, it’d be too optimistic to include a figure of $60Тin the budget. In the meantime, when drawing the national budget it is essential to forecast prices per barrel of crude oil on the basis of several scenarios to thus secure against external shocks and manage risks.

6) The budget is inadequate with financial potential of economy. Thus, despite the growth of a share of non-oil sector in GDP recently (a figure stood at 62, 8% in 2017), it is on the bottom in budgetary revenues which is clearly discernible in comparing this index with similar figures of post-Soviet countries. Thus, next year’s non-oil budget is forecast to make up $5,4 bln which means that non-oil budget of Azerbaijan in 2019 will constitute $551 per capita. In the meanwhile, non-oil budget of Georgia in 2019 is forecast to make up $1000 per capita. Differences between indices of Azerbaijan and former Soviet, rich in oil and gas republics’ are noticeable. Thus, if budgetary revenues of Russia are expected to make up $296 bln, or $2050 per capita in 2019 and revenues of Kazakhstan - - $31,5 bln, or $1711 per capita, budgetary revenues of Azerbaijan will constitute $13,5 bln, or $1377 per capita.

7)Budget dependence upon oil revenues is growing. Main sources of budgetary revenues formation are transfers from the SOFAR. Thus, a share of SOFAR receipts in the structure of predictable national budget revenues in 2019 is 49,1%; a share of the Ministry of Taxes is 31,9%; a share of the State Customs Committee is15,1%; a quota of other sources is 3,9%. In so doing, a share of the Ministry of Taxes in the formation of the budget revenues will drop from 40,7% in 2015 to 31,7% in 2019.

8)Budget revenue collection expenditures are growing from year to year. According to the Court of Auditors, expenditures of the Ministry of Taxes for collection of each 100,000 manats of budgetary revenues (including non-budgetary expenditures) made up 1,800 manats in 2017; 2,100 in 2018; and forecasted 3,100 manats in 2019. Also, expenditures for collection of 100,000 manats of budgetary revenues (including non-budgetary expenditures) in 2017 made up 3,000 manats; in

 2018 - 3,600 manats; and forecasted 3,800 manats in 2019.

9)No coherent policy of transfers from the SOFAR to the budget is pursued. It should be added that this year’s growth of transfers that fell from 2014 to 2018 will continue this tear as well. Thus, this year’s transfers from the SOFAR amount to 10.995 mln manats; next year’s figure will stand at 11.364 mln manats. In other words, in the next year’s budget a share of transfers from the SOFAR will make up about 50%. Besides, at the expense of SOFAR and AMOC payments, the volume of oil revenues in the budget-2019 will make up 13.700 mln manats which constitutes 59,1% of total revenue volume.

10)Regions’ contribution to the formation of budgetary revenues remains to be low. When adjusted for the fact that centralized revenues form 96,8% of total revenues in the national budget for 2019, a share of local revenues will make up 3,2%. As compared with anticipated budget-2018 implementation, the growth is forecast to take place (except for occupied regions) in towns as follows: Sumgait, Gyandja and Shirvan; in regions: Absheron, Neftchala, Salyan, Astara, Agdjabedi, Geychay, Barda and Qazakh. The recession in Baku, as well as regions: Sabirabad Udjar, Geranboy and Geygel.

11)Budget subsidies are growing. Next year’s budget provides for rise in the upper limit of financial aid (subsidies) from centralized expenditures of the national budget to regulate local expenditures. A figure for 2019 is forecast in the volume of 104,046,000 manats which is up 33471,000, or 47,4 % from this year. A specific weight of the amount in the structure of local expenditures is 12,4% which up 2,6 interest points from this year.

12)Non-oil budgetary revenues are reducing. Thus, if in 2015 non-oil receipts made up 5028,5 mln manats, in 2016 - 5405,6 mln manats, in 2017 - 5189,5 mln manats, and expected to make up 5 bln manats in 2018, next year’s receipts are expected to make up 5 bln manats, next year’s receipts to the national budget are forecast to make up 4980 mln manats. In the meantime, a period from 2015 – present was noted for non-oil GDP growth.

13)Growth rates of current budgetary expenditures exceed nominal growth rates of non-oil GDP. According to the budget-2019, growth rates of current expenditures are expected to exceed a nominal rates of growth of non0oil revenues by 4,6 in

terest points. Non-oil revenues from all sources are forecast to make up 9217,2 mln manats in 2019 which constitutes 93,2% of current expenditures. This implies that the budget having been drawn up with no regard for oil revenues is not enough for financing the current expenditures.

14)Debt service budgetary commitments are growing. A predictable amount to be paid by domestic national debt for 2019 is up 67,3% and expenditures to serve an external debt is up 0,2% from 2018. Approx. 10% of next year’s budgetary expenditures will be spent for payment of domestic and external national debts. FYI, 90% of predictable payments on domestic national debt fall on interest charges;72,2% of external national debt fall on principal debt payments.

15)Unfair distribution of budgetary expenditures. Of each 100 budgetary manats for 2019, 6 qapiks will be spent for ecology; 50 qapiks for science, 70 qapiks for subsidized housing and social mortgage, 1 manat 40 qapiks for culture and art; 4 manats 20 qapiks for public health; 5 manats 72 qapiks for management; 6 manats 41 qapiks for judicial power and law-enforcement and procurator’s bodies; 9 manats 20 qapiks for education; 9 manats 40 qapiks for national debt service; 10 manats 30 qapiks for social security; 12 manats 30 qapiks for defense; 39 manats 90 qapiks for construction.

16)Details of nearly half of budgetary expenditures are closed. Thus, in compliance with the next year’s budget, expenditures for industry, construction, mineral resources (a specific weight in the budget-2019 - 27,6%), defense (a share - 12,6%), services unrelated to basic items (a specific weight- 6,3%), economic activity expenditures (a share - 1,2%) are classified neither economically, nor functionally. This means that 47,7% of budgetary expenditures are closed. Neither public, nor MPs are aware of it.

17)Next year’s budget will accelerate inflation. The budget-2019 is described as follows: main sources of income increments in absolute terms will be typical (after SOFAR) for excises (201 mln manats), profit tax (income tax) of legal entities (137,4 mln manats) and receipts from paid services of budgetary organizations. In percentage terms the next year’s budget provides for growth in government fees– by 33,8%; excises – by 27,7%; receipts from paid services of budgetary organizations – by 25,6%. In all likelihood, the budget-2019 envisages that non-oil revenues have been forecasted with due consideration for increase in consumers’ expenses which is attainable due to rise in prices for import commodities. So, next year’s 3,8% inflation is impractical.

18)Closed budget will raise a level of corruption. Corruption risks are repeatedly increased owing to privacy of 47,7% of budget expenditures for 2019, refusal from discussion of their economic and functional classification, lack of transparency and accountability on budgetary spending. Note that the investment budget in the volume of 6,8 bln manats is subject to increased corruption risks because of closed expenditures.

19)Next year’s budget is uninsured against extraneous shocks and secondary risks. Next year’s anticipated fall in oil prices is expected to negatively affect payments into the budget-2019 from SOCAR and АМОC. Along with this, anticipated fall in oil prices may lead to SOFAR budget deficit. As a whole, the budget-2019 may be subjected to negative effects of this sort.