3 August 2020

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Or how the economy of the South Caucasus will be in the post-pandemic period

Author:

01.05.2020

Despite the observed growth of the coronavirus cases globally, many states have already decided to weaken quarantine measures to revive their economies seriously affected by the pandemic. This also concerns the three South Caucasian countries of Azerbaijan, Armenia and Georgia. 

 

Before the pandemic

Obviously, there are two key parameters that indicate how effectively the above mentioned countries are getting out from the most difficult economic situation in the recent history of these countries. These include the economic resources they had before the lockdown and the available resources they are going to use to determine the post-pandemic future of their national economies.

For decades, the Azerbaijani economy has been the largest in the South Caucasus. According to the data from the beginning of 2020, the total nominal GDP of Azerbaijan, Armenia and Georgia reached $76.8 billion, with Azerbaijan holding $47.6 billion of this volume (60%), Georgia - $15.9 billion (21%) and Armenia - $13.3 billion (19%), respectively. Azerbaijan also has the most significant foreign exchange reserves (more than $52 billion as of the beginning of 2020). For comparison, the foreign reserves of Armenia and Georgia reached $2.488 billion and $0.844 billion, respectively.

In addition, Azerbaijan’s industrial potential accounts for 41% of GDP (16.4% and about 20% of GDP in Georgia and Armenia, respectively). However, the industrial potential of Azerbaijan to a large extent depends on the production of the oil and gas. In recent years, the country increased the share of enterprises in related industries, as well as the share of non-oil enterprises focused on the production of deep processing products.

In general, the level of industrialisation in Azerbaijan is ten times higher than that of its neighbours, which makes the country closer to achieving the goals of the fourth industrial revolution. Certainly, the introduction of the AI-controlled automated digital production systems to the fuel and energy complexes, and the national economy as a whole, can decrease the dependency of GDP on power consumption. At the same time, this might increase the energy and economic efficiency of the energy sector and to deepen the diversification of the country's fuel and energy balance. The availability of a developed fuel and economic complex, its integration into the world economy makes this task quite achievable.

Georgia, in contrast, has developed a disproportionate structure of GDP. Industrial sector of the country shares the primacy with the trade sector (less than 17% of GDP), while the share of other industries does not exceed 10% of the national economy. In general, the structure of Georgian GDP looks the most balanced, while the real sector is not the core component of the national economy. Investments in the real sector have long remained at a fairly low level. The construction of the deep sea port of Anaklia could improve the investment climate in the country though. But the controversial situation around the project owner led to its actual freezing. Nevertheless, Georgia maintains close economic relations with its neighbours and continues to be quite an effective transport hub for the region, with a considerable share of its profits coming from the transit of the products of dozens of countries. In addition, according to various estimates, Georgian income from tourism runs for 7-9% of the national GDP, which significantly stimulates the development of the service sector, providing employment opportunities for the local population.

The main drivers of growth In Armenia, especially in the last decade, is the trade and services sector, which exceeds 55% of the national GDP and shows the most significant growth rates. Last year, Armenian authorities announced an 8% economic growth, the largest contribution to the national economy. According to experts, this was possible either due to eliminating, at least partially, the shadow economy in this sector, or inaccuracies in accounting. Remarkably, the growth indicators of retail sales match the ones of the national economy.

The struggle of the Armenian prime minister with the former authorities and the ‘nationalisation’ of the property of oligarchs helped withdraw their businesses from the shadows, in particular in the trade sector, where the experts observe an increasing number of employees registered in this sector. Another sector that contributes most to Armenian GDP is services. We can again see an increasing number of jobs opened in the sector recently, including in the sectors of accommodation and catering. But in industries representing the real sector of the economy, growth rates, on the contrary, have significantly decreased. Over the past two years, the volume of foreign direct investment (FDI) decreased. In 2018 and 2019, the decline reached a record 11.2% and 2.5%, respectively.

It is clear that the growth of the Armenian economy was largely determined by the indicators of purchase and sale and the growth in the volume of various services taken out of the shadows.

 

After the pandemic

Apparently, the coronavirus pandemic and its consequences will and have already made a negative contribution to the development of regional economies. In each particular country, the effect of consequences will be based on the characteristics of national economies. All three countries have developed and are implementing anti-crisis plans to overcome the effects of the lockdown.

According to the Georgian government, the negative implications of the pandemic on the national economy in 2020 will decrease GDP by 4%, with the state budget losing ₾1.8 billion. It is planned to cover the budget losses through borrowing. The projected volume of foreign assistance is $3 billion, and in general about ₾3.5 billion (slightly more than $1 billion) will be spent on anti-crisis measures.

The lockdown measures have hit the tourism industry, one of the most profitable sectors of the Georgian economy, the hardest. Although the country announced to completely lift the travel ban starting July 1, the country's income from tourism will decrease by about 65%, and it will take 1.5 years to reach the 2019 level. These estimates are provided by the Georgian company TBC Capital. According to the National Tourism Administration of Georgia, in 2019, the income from foreign tourists reached $3.3 billion.

According to Prime Minister G. Gakharia, the current situation urges the need to diversify the economy in the post-pandemic period. “In the fight against the virus, the effective opening of economic sectors, including agriculture, trade, construction, but primarily tourism, should become a prerequisite for Georgia as a tourism brand to position itself not only as a state with sea, mountains, wines, culture and cuisine, but also as a country safe from the virus,” Gakharia said.

Georgia seeks financial support from creditors to support the economy. Thus, the International Monetary Fund agreed to extend the Extended Financing Facility program, which provides $447 million to Georgia by the end of the year. In turn, the Asian Development Bank, European Bank for Reconstruction and Development, European Investment Bank, German Development Fund and the French Development Agency will provide Georgia $1.5 billion by the end of 2020. For a country with external debt already reaching $5.4 billion, this is a serious additional burden, but the government sees no other way.

Azerbaijan does not have large external debts and can counter the expected challenges thanks to its large financial reserves. Baku is also concerned about the future of the national economy in the post-pandemic period due to the problems caused by the lockdown and a decline in external revenue due to low energy prices. Azerbaijani economy is one of the three least affected economies of energy-exporting countries in the Middle East and Central Asia.

Azerbaijan’s total budget to combat the pandemic is about ₼3.5 billion. The government spent more than ₼3 billion to support the stability of national currency. Azerbaijan was the only state in the post-Soviet space that could maintain the macroeconomic stability and ensure the stability of the national currency, although the currencies of all oil exporting countries and countries with fully floating currencies underwent devaluation.

The fight against the consequences of the pandemic consists of two stages. Currently, the authorities are trying to prevent the deepening of the crisis and to maintain the national stability.  It is expected that the economic recovery begins in the second stage, which means access to markets that create cheap financial, light tax burden and increasing demand.

In the process of economic recovery, it is extremely important to speed up the process of digitalization of the Azerbaijani economy and increase the stability of economic relations with neighbouring and partner states. According to the World Economic Forum, in the next decade 70% of new values in national economies will be created with digital platforms. In recent years, the government of Azerbaijan implemented a series of state programs to withdraw paper cash from circulation. These should help transfer the traditional money exchange to digital exchange based on non-cash payment and create a foundation for converting the entire economy to digital format. In this context, the national programs of Azerbaijan focused on developing cashless payments, as well as the Azerbaijan Digital HUB program, designed to turn the country into a regional digital centre, show that the government created necessary conditions for the development of a digital economy in Azerbaijan. Back in 2018, President of Azerbaijan Ilham Aliyev noted: “The successful development of each state is based on technological support. We must introduce the state-of-art technologies in Azerbaijan. To achieve this, we must have a trained personnel and work hard to achieve these goals in the coming years.”

Amid the actions of the neighbouring countries, the plans and steps taken by the Armenian government to bring the country out of the crisis seem more contradictory. The indicators of the Armenian economy look even more gloomy. According to the forecast of the Central Bank of Armenia, in 2020, economic growth will be 0.7%. At the end of 2019, the Central Bank predicted economic growth for 2020 at 5.3%, with the government forecast for the same year equal to 4.9%. In other words, according to new estimates, the economic growth of Armenia may slow down by more than seven times.

The Fitch ratings look much worse. The agency revised its outlook for the long-term issuer default rating (IDR) of Armenia from stable to negative, and affirmed the IDR at BB-. Authors predict that the shock from coronavirus will slow down the growth of Armenian GDP from 7.6% in 2019 to 0.5% in 2020. According to experts, the Armenian economy is negatively affected by its dependence on commodities (lion’s share of the export) of the Russian economy (money transfers, trade and foreign direct investment) and tourism. All these sectors are expected to show a decline in indicators.

The 11 anti-crisis packages, which the Armenian government adopted both to support the population and businesses ($300 million) look like a drop in the ocean of problems of the Armenian economy. The situation is getting worse because the Armenian government does not revise its current military programs for arming the army and strengthening the occupation troops in Nagorno-Karabakh and the Azerbaijani territories around it, which also threatens to increase tension with Azerbaijan.

Under these conditions, if the Armenian economy ever regains a balance, Armenia’s exit from the crisis will look like leaping out of the frying-pan into the fire. Whether the Armenian leadership have plans in this regard is not worth consideration at all.



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