On December 6, S&P affirmed Azerbaijan's 'BB+/B' credit ratings with a stable outlook, highlighting the country's fiscal and external buffers amid declining oil production.

During the announcement, S&P Global Ratings affirmed its 'BB+/B' long- and short-term foreign and local currency sovereign credit ratings on Azerbaijan, maintaining a stable outlook. S&P stated that the outlook reflects expectations that Azerbaijan's fiscal and external reserves would cushion the economy against possible terms-of-trade shocks, even as oil production declines.

S&P noted a possible downgrade if Azerbaijan's fiscal balances deteriorate significantly due to faster-than-expected declines in oil production. Conversely, a potential upgrade could follow sustained fiscal and current account surpluses along with reduced geopolitical risks.

S&P emphasized that Azerbaijan's ratings are supported by substantial fiscal and external positions underpinned by the State Oil Fund of Azerbaijan (SOFAZ). By the end of 2024, liquid assets available to the government are forecasted to reach nearly 80% of GDP, with general government debt stabilizing at 20% of GDP through 2027. While fiscal and current account surpluses are projected for 2025-2026, S&P anticipates a shift toward balance by 2027, linked to declining oil production and moderating oil prices. Oil and gas remain pivotal to Azerbaijan's economy, comprising around 40% of GDP and 80% of exports. S&P highlighted the 2015 oil price shock, which led to a government deficit increase of 7 percentage points of GDP, a 14-point drop in the current account, and a significant manat devaluation.

Azerbaijan's fiscal prudence, reflected in its sizeable SOFAZ assets, mitigates these vulnerabilities. However, S&P warned that these assets alone cannot fully shield the economy from sustained declines in hydrocarbon prices. The agency also noted that the gradual decline in oil production from aging oil fields poses a long-term challenge. Institutional effectiveness remains a key constraint on Azerbaijan's rating, with political power concentrated around the president and limited flexibility in monetary policy.

S&P observed that Azerbaijan's efforts to diversify its economy away from hydrocarbons have been limited. Although non-oil sectors such as transportation and construction have recently grown, the overall economy remains highly dependent on oil and gas. Oil production, averaging 0.58 million barrels per day (mbpd), is expected to stabilize at this level through 2027, following years of decline from 0.79 mbpd in 2019. Foreign oil firms operating in Azerbaijan are making targeted investments to counter production declines, but long-term trends point to further reductions. Gas production, meanwhile, has stabilized at approximately 36-37 billion cubic meters annually, with key production sites such as the Shah Deniz II and Absheron gas fields supporting this output.

S&P acknowledged potential future gas production increases through projects like the next phase of the Absheron field, potential gas extraction from the Azeri-Chirag-Guneshli (ACG) oilfield, and development of the Umid, Babek, and Karabakh gas fields. However, these projects remain in planning and would require years to materialize. The South Caucasus Pipeline is already operating near capacity, and increased exports to Europe would necessitate expanded infrastructure and agreements with European buyers.

Beyond hydrocarbons, Azerbaijan is pushing for renewable energy development, particularly solar, wind, and hydropower. Ongoing projects include a Black Sea electricity cable to facilitate exports of green energy to Hungary and Romania. In November 2024, during the COP29 conference hosted in Azerbaijan, SOCAR Green and UAE-based Masdar signed a $670 million financing deal for 760 megawatt-hours of new solar capacity. S&P highlighted that the economic impact of these projects would likely extend beyond its four-year forecast horizon.

S&P emphasized that Azerbaijan's institutional setting remains weak despite sound fiscal policies to preserve hydrocarbon windfalls. Political power is heavily centralized under President Ilham Aliyev, who has led the country since 2003. In February 2024, a snap presidential election saw Aliyev's re-election, followed by early parliamentary elections in September, both of which were comfortably won by pro-government forces.

On the geopolitical front, S&P noted that Azerbaijan's relations with Armenia remain tense. Following a one-day military offensive in September 2023, Azerbaijan seized full control of the de-facto Nagorno-Karabakh region, triggering a mass exodus of ethnic Armenians to Armenia. Although peace talks are ongoing, points of contention remain, including Azerbaijan's demand for Armenia to renounce any future claims to Karabakh and establish an unimpeded corridor to Nakhichevan, both of which face resistance from Yerevan. S&P warned that unresolved tensions could pose economic and social risks to both countries.

Regarding fiscal flexibility, S&P highlighted Azerbaijan's strong fiscal and external asset positions. The country is projected to maintain twin fiscal and current account surpluses from 2024 to 2026, gradually moving toward balance by 2027. The general government net asset position is expected to remain around 50% of GDP through 2027, bolstered by SOFAZ's liquid assets. SOFAZ is seen as a vital buffer against economic shocks, with S&P estimating Azerbaijan's net external asset position to remain at about 70% of GDP through 2027.

For 2024, S&P forecasts a general government surplus of 5.4% of GDP, supported by high-income returns on SOFAZ's asset portfolio. The government's debt-to-GDP ratio is projected at 13%, most of which is domestic debt. Additionally, Azerbaijan's government debt includes guarantees for loans issued by AqrarKredit, a state-controlled non-banking credit organization that absorbed the non-performing loans of the International Bank of Azerbaijan (IBA) during its 2017 restructuring.

While S&P acknowledged Azerbaijan's transparency in SOFAZ's financial reporting, it noted that the Central Bank of Azerbaijan (CBAR) lacks operational independence. Azerbaijan's monetary policy remains constrained, as the CBAR intervenes in the foreign exchange market to support the manat's peg to the US dollar at AZN 1.7 per $1.0.