Azerbaijan faces a unique opportunity to propel itself into the ranks of a sustainable higher middle income country. Its remarkable success in reducing poverty from 49 percent in 2001 to 16 percent in 2008 was largely driven by very high growth rates which averaged more than 20 percent for the period. This was complemented by a strong rise in wages and transfers, and a well-targeted social benefit system. However, much of the rapid growth stemmed from a large increase in oil and gas revenues which are now likely to plateau over the coming decade and decline thereafter. A key driver of economic growth may therefore not be available. At the same time, while Azerbaijan weathered the global economic crisis relatively well, the crisis has underlined the need for a diversified economy, market-based policies, and strengthened social services and support. As the Government prepares to meet these emerging needs and challenges, this World Bank Group strategy seeks to support the country in this endeavor.
This Country Partnership Strategy (CPS) for Azerbaijan covers the four year period from Fiscal Year 2011 to Fiscal Year 2014 (FY11-FY14). It is a joint IDA/IBRD/IFC strategy, which builds on the complementarities of the IFC and the Bank. The last Country Partnership Strategy for Azerbaijan was discussed by the Board in November 2006 (Report No. 37812-AZ) and the CPS Progress Report in April 2008 (Report No. 42935-AZ). The CPS for Azerbaijan for FY11-FY14 has been prepared under the circumstances of a rapid increase in income and decrease in poverty, but also the global economic crisis from which the country has emerged relatively well. But the drivers of growth and poverty reduction that served the country well in the recent past may not be available in the future, and the post-crisis world offers new challenges. This CPS therefore focuses on those areas where development needs are likely to be the strongest, Government demand and commitment is visible, and the Bank’s advantage is clear.
Country Context
In recent years, Azerbaijan’s GDP has risen sharply and poverty has fallen dramatically, led by increasing oil revenues. Oil sector growth was enabled by large off –shore investments that took place since 1995, and the construction of the Baku-Tbilisi-Ceyhan pipeline and Trans Caucasus Gas Pipeline which both came on stream in 2006, supported by growing oil prices. Driven by the natural resource boom, Azerbaijan’s GDP growth has averaged over 20 percent per year and GNI per capita (according to the World Bank’s Atlas method) rose dramatically, from $1,270 in 2005 to $4,820 in 2009. Poverty dropped from about 49 percent in 2001 to 16 percent in 2008 (latest LSMS survey). Public investments and the increased wealth of households have also led to double digit growth in the non-oil sectors. With a very low level of external debt to GDP (11 percent) and growing international reserves, it has achieved a remarkable level of creditworthiness in a short period of time. Azerbaijan will fully graduate from IDA in FY11. Azerbaijan’s challenge is now to maintain its development momentum and to transform itself into a sustainable upper middle income economy.
The Government’s development program can be derived from a mix of sources:Â The foundation is laid out in the “State Program on Poverty Reduction and Economic Development 2003-2005” (SPPRED) and the subsequent “State Program on Poverty Reduction and Sustainable Development 2006-15” (SPPRSD) which together represent the country’s Poverty Reduction Support Program (PRSP). Broad development goals include maintaining macroeconomic stability, creating enabling conditions to improve income generating opportunities, improving the quality and access to basic health and education services, improving infrastructure, and strengthening the social protection system to better protect vulnerable groups including Internally Displaced People (IDPs). Since then, these broad goals have been complemented by a number of more specific strategies. These include the Government’s “Regional Development Program” covering 2009-2012 and supplemented by action programs in a number of specific sectors. More recently, the 2009 financial crisis appears to have heightened the Government’s resolve to transform itself into a diversified, globally-integrated competitive economy.
The design of the CPS reflects the key challenges facing Azerbaijan in the medium term. It is tightly focused on achieving results in two key areas: (i) building a competitive non-oil sector and (ii) strengthening human and social services. These two pillars constitute independent developmental objectives but, at the same time, they are mutually re-enforcing. Further, a key lesson from the last CPS is that public investments grew faster than institutional capacity could improve, thus resulting in opportunities for rent seeking and slowing implementation. Therefore, a cross-cutting filter for all activities will be improving governance and institution-building, without which it will be difficult to achieve sustainable results. In addition, IFC and the Bank will play complementary roles whereby IFC’s advisory and financial services for the private sector will reinforce the Bank’s lending and analytical and advisory services in the public sector.
For the full CPS period the Government has requested a total IDA/IBRD lending envelope of about $1 billion. Actual funding would be back loaded based on the principle of starting out modestly and deciding lending volumes based on performance. Over FY11-12, lending is anticipated to amount to about $300 million in IBRD, plus about $80 million in IDA in FY11. FY11 is the last year of IDA, after which Azerbaijan will become IBRD-only. Funding levels in FY13-14 could be of similar amounts (or larger), depending on the Government’s demand and performance, and IBRD's lending capacity. The lending level and program for the last two years of the CPS will be confirmed at the time of the CPS Progress Report. In addition to new lending, the CPS period is expected to see accelerated disbursements under existing projects. IFC will seek to increase its investment program significantly to about $200 million during this CPS period and will continue to complement its investment program through advisory services to strengthen the financial sector, improve the business enabling environment and foster stronger corporate governance practices. The new CPS has a number of distinctive features. First, the focus will be on accelerating the implementation of existing operations. Second, new operations will be undertaken selectively in areas where there is clear Government’s demand and ownership and a strong record of institutional capacity. Finally, the Bank will rebalance activities towards more analytical work and policy dialogue.
The key risk facing Azerbaijan over the next few years is the political economy challenge involved in building a competitive economy. Decision making within Azerbaijan is fragmented, and while there is general support of reform at the highest levels of the government, there are also many vested interests. The forward movement has been rather cautious and not always linear. To mitigate the risk of reforms being deterred and/or delayed, the Bank will seek stronger positioning in its policy dialogue and invest greater effort into preparing the ground for reforms through more country and sector analytic work, disseminated broadly within society, before providing investments in particular areas.
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