Azerbaijan's structural dependence on oil has brought upon us a miraculous growth record over the 2004-2012 period. Baku - the capital city - is a remarkable location and I am truly enjoying my time here. But, most of material things we see (construction) is tangible for very wrong reasons. The economy has no real comparative advantage, no industry, no services. Most of the non-oil sector is just one huge asset price bubble in the real estate sector. Construction is fueled by oil inflows, which is obviously a depletable resource.
Moreover, one of my papers (book chapter, to be precise) once showed that countries which build their growth models on one key source of growth (such as oil, financial innovation, exports) usually suffer prolonged and painful crises when facing a negative external shock. Over-reliance on 1-2 factors, or in other words lack of proper diversification across industries and other dimensions, leaves you vulnerable when the key factor takes a hit. Furthermore, because macroeconomically you are tied to your growth factor, monetary policy now has to protect that factor, even if this contradicts the actual mandate and strategy of the central bank. Here is the abstract of the paper:
Basically, those who are monitoring the Azerbaijani story, would notice that everything the abstract is talking about is incredibly relevant. Our problems lie much deeper than just overvalued manat or some sort of currency miscalculations. They are systemic, prolonged, and ultimately leading to a dead end, as the paper demonstrates. Economic diversification is the single most important answer to the question of economic independence. We already have our political freedom. It's finally time to struggle for the economic one.Despite the indisputable fact that the 2008 Global Financial Crisis, the continuous debt overhang, and the everlasting Eurozone problem, constituted the most substantial economic downturn since the Great Depression, this slowdown has not necessarily been equally destructive for all parts of the world. This chapter proposes a case study of four relatively small and open economies which differ in their respective growth design. In each of the four economies growth has been historically heavily financed either by natural resources, influx of foreign investments, external debt, or exportation. Azerbaijan has been chosen to represent the “resource-driven”, Singapore – “investment-driven”, Hungary – “debt-driven”, and Switzerland – “export-driven” model of economic development. A supposedly very broad narrative converges naturally into just a few main talking points. Narrowly designed economic models leave nations dangerously dependent on their respective key factors of growth. Under systemic negative shocks, the factor of dependence impedes policy making and contributes to multiple structural problems that prevent sustainable recovery. Industrial diversification appears to be the chief differentiating factor for success and at least one of the key solutions to systemic financial crises. Monetary policy often becomes restricted by the path imposed by the choice of the growth design; protection of the growth regime becomes a priority for monetary policy makers, either directly or indirectly. Exchange rate management evolves into a key instrument of monetary policy-making in small open economies under large negative external economic shocks.
This also means that standard economics can explain pretty much every aspect of the debate in Azerbaijan - even despite the fact that some people argue that Azerbaijan's economic model is "unique" and cannot be explained by conventional theories. So, I am still waiting for the time when our serious academic economists, who have been educated abroad at reputable economic institutions, will be given the green light to actually have a say on big policy affairs. Maybe economics is better left to be managed by, you know, actual economists?