Given recent market turmoil and plunging oil prices, mounting pressure on the Azerbaijani manat (AZN) was no surprise. With foreign reserves dwindling and the currency still overvalued, in December the authorities devalued the AZN and moved to a managed float. If the market turmoil continues and oil prices fall further, then renewed AZN weakness is likely, as well as a risk of a balance of payments or fiscal crisis.
Azerbaijan's vulnerability stems principally from its dependence on hydrocarbons, which account for 95% of its goods exports, one-third of GDP and 60-70% of government revenues. The policy response has been good so far, allowing substantially greater exchange rate flexibility, promising a more austere 2016 budget and accelerating banking and other structural reforms. The economy also has some relative strengths in terms of substantial policy buffers and low government debt, but both of these are now being rapidly eroded.
Our baseline forecast assumes continued oil price weakness over the next two years, a gradual waning of market turmoil and implementation of a tighter 2016 budget. GDP is forecast to fall by 1.3% this year after rising just 1.1% in 2015. Notwithstanding the significant downside risks, GDP is expected to grow by 1.8% in 2017 and then 3.8% in 2018. Inflation is forecast to average 10.9% this year (after jumping to 13.8% in January due to the AZN devaluation) before slowing to 5.5% in 2017 and 4% in 2018. The current account is estimated to have moved into deficit in 2015, at 2.5% of GDP, and this will widen to some 14% of GDP this year. The fiscal deficit is also set to rise – on a consolidated basis, we estimate it at 5% of GDP in 2015 and 8% of GDP this year.
(Oxford Economics)
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