Azerbaijan: Towards Green Growth Issues Note September 2022 © 2022 International Bank for Reconstruction and Development / The World Bank 1818 H Street NW, Washington DC 20433 Telephone: 202-473-1000; Internet: www.worldbank.org This work is a product of the staff of the World Bank Group. The findings, interpretations, and conclusions expressed in this work do not necessarily reflect the views of The World Bank, its Board of Executive Directors, or the governments they represent. The World Bank does not guarantee the accuracy, completeness, or currency of the data included in this work and does not assume responsibility for any errors, omissions, or discrepancies in the information, or liability with respect to the use of or failure to use the information, methods, processes, or conclusions set forth. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgment on the part of World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. Nothing herein shall constitute or be construed or considered to be a limitation upon or waiver of the privileges and immunities of the World Bank, all of which are specifically reserved. Rights and Permissions The material in this work is subject to copyright. Because The World Bank encourages dissemination of its knowledge, this work may be reproduced, in whole or in part, for noncommercial purposes as long as full attribution to this work is given. Please cite the work as follows: “The World Bank. 2022. Azerbaijan: Towards Green Growth, Issues Note. © World Bank.” All queries on rights and licenses, including subsidiary rights, should be addressed to World Bank Publications, The World Bank Group, 1818 H Street NW, Washington, DC 20433, USA; fax: 202-522-2625; e-mail: pubrights@worldbank.org. Cover photo: Jamila Aliyeva / Getty Images. Used with permission; reuse requires further permission. Inside pages: Shutterstock, Unsplash, and The World Bank. Azerbaijan: Towards Green Growth Contents ACKNOWLEDGMENTS........................................................................................................................................................... i ACRONYMS AND ABBREVIATIONS.................................................................................................................................... ii ABSTRACT............................................................................................................................................................................ iv EXECUTIVE SUMMARY......................................................................................................................................................... v Azerbaijan is striving toward a greener growth model, but faces many challenges.................................................... v Addressing existing and future challenges, and opportunities for going green in a timely manner is key for sustaining growth..................................................................................................................................................... vi Now is the time to act on the most promising development and decarbonization goals......................................... viii INTRODUCTION..................................................................................................................................................................... 1 CHAPTER 1: THE CONTEXT FOR GREENING FUTURE ECONOMIC GROWTH...............................................................4 1.1. Economic achievements to date came at a cost............................................................................................................4 1.2. Upcoming challenges reinforce the need for sustainability.......................................................................................11 CHAPTER 2: GREEN GROWTH AS A PLATFORM FOR ECONOMIC DIVERSIFICATION..............................................19 2.1. Identifying new growth poles.......................................................................................................................................... 20 2.2. Human capital development and green growth......................................................................................................... 23 2.3. Energy and energy use sectors...................................................................................................................................... 24 2.4. Water....................................................................................................................................................................................27 2.5. Transport.............................................................................................................................................................................27 2.6. Blue economy..................................................................................................................................................................... 28 CHAPTER 3: INTEGRATED APPROACHES TO FOSTER GROWTH AND CLIMATE RESILIENCE................................31 3.1. Adaptation – why and how...............................................................................................................................................31 3.2. Agriculture and sustainable use of land resources....................................................................................................31 3.3. Forest sector and ecosystem services......................................................................................................................... 38 CHAPTER 4: STRATEGIC UNDERPINNINGS AND INSTITUTIONS FOR GREEN GROWTH........................................ 41 CHAPTER 5: GETTING READY FOR THE FUTURE.......................................................................................................... 46 REFERENCES....................................................................................................................................................................... 54 ANNEX 1. METHODOLOGY.................................................................................................................................................57 ANNEX 2. DIFFERENT DIMENSIONS OF POTENTIAL FOR JOBS CREATION.............................................................. 59 ANNEX 3. SIMULATION OF CBAM’S POSSIBLE IMPACTS ON AZERBAIJAN’S ECONOMY...................................... 62 ANNEX 4. CLIMATE RISKS IN AZERBAIJAN.................................................................................................................... 69 Azerbaijan: Towards Green Growth List of Figures Figure 1: Azerbaijan’s Real GDP and GDP per Capita Growth, 1995-2021............................................................................5 Figure 2: Azerbaijan’s Real Non-Oil/Gas GDP Growth and Oil Price, 2000-2021...............................................................6 Figure 3: Azerbaijan’s Exports-to-GDP, 1999-2019................................................................................................................... 7 Figure 4: Azerbaijan’s Export Composition by Commodity, 2020..........................................................................................8 Figure 5: Azerbaijan’s Export Composition by Country, 2021.................................................................................................8 Figure 6: Azerbaijan’s GDP Structure (Supply Side), 1995-2020...........................................................................................9 Figure 7: Natural Capital per Capita............................................................................................................................................ 12 Figure 8: Dynamics of Natural Capital per Capita, $ 2018.................................................................................................... 12 Figure 9: Modeled Real Exports of Oil to EU if Azerbaijan Doesn’t Act, $ Billion...............................................................13 Figure 10: Modeled Real Exports to EU in 2030, Selected Sectors, Deviation from ‘Baseline’....................................... 14 Figure 11: Annual GDP and GHG Emissions Growth, 1991-2017............................................................................................16 Figure 12: Greenhouse Gas Emissions by Sector, 2019 (Million Tons CO2-eq.)...................................................................16 Figure 13: Sources of Air Pollution................................................................................................................................................18 Figure 14: GHG Emissions and Value Added Per $1 Million Investment.............................................................................. 22 Figure 15: Jobs Creation and GHG Intensity of Value Added Per $1 Million Investment in Selected Sectors with Less GHG Intensity of Value Added in Azerbaijan.......................................................................... 23 Figure 16: Fish Catch (Tons).......................................................................................................................................................... 29 Figure 17: Number of Boats Engaged in Fishing, 2019........................................................................................................... 30 Figure 18: Azerbaijan’s Employment by Sector and Year....................................................................................................... 32 Figure 19: Azerbaijan’s Value-Added Per Worker by Sector and Year................................................................................. 32 Figure 20: Changes in Net Primary Productivity in Non-Cropland Regions, 2000-2013.............................................. 34 Figure 21: Land Use......................................................................................................................................................................... 34 Figure 22: Land Use Land Change Transitions from Current to the Optimal Production Value, Azerbaijan............. 36 Figure 23: Land Use Land Change Transitions from Current to the Optimal GHG Reduction, Azerbaijan................. 36 Figure 24: Natural Capital in Forest and Ecosystem Services ($/Ha), 2018..................................................................... 39 Figure 25: Timber Unit Rent ($/M3), 2018................................................................................................................................. 39 Annex 3 Figures Figure A 1: Modeled Real GDP, Deviation from ‘Baseline’ EDIT AXIS.................................................................................... 64 Figure A 2: Modeled Emissions, Million Tons CO2-eq............................................................................................................... 64 Figure A 3: Modeled Real Exports of Oil to EU, Azerbaijan Doesn’t Act, $ Billion............................................................. 65 Figure A 4: Modeled Real Exports of Oil to EU, Azerbaijan Acts to Achieve NDCs, $ Billion........................................... 65 Figure A 5: Modeled Real Exports to EU in 2030, Deviation from ‘Baseline,’ $ Million.................................................... 66 Figure A 6: Modeled Real Exports to the EU in 2030, Select Sectors, Deviation from ‘Baseline’................................ 66 Figure A 7: Modeled Real Output in 2030, Selected Sectors, Deviation from ‘Baseline’................................................ 68 Figure A 8: Modeled Employment in 2030 for Select Sectors, Deviation from ‘Baseline’.............................................. 68 Azerbaijan: Towards Green Growth List of Tables Table 1: Grid/Rise Benchmarking for Azerbaijan......................................................................................................................10 Table 2: Azerbaijan’s Oil and Gas Reserves.................................................................................................................................11 Table 3: Short and Long-Term Benefits of Various Green Growth Measures.................................................................... 20 List of Boxes Box 1: Country Preparedness for Low-Carbon Transition......................................................................................................15 Box 2: Potential for Low Carbon Hydrogen (LCH) Industry in Azerbaijan.......................................................................... 26 Box 3: Khojasan Lake Urban Regeneration................................................................................................................................37 Box 4: Institutional Mandates for Sustainable Development............................................................................................... 42 Box 5: Climate Budget Tagging and International Experience............................................................................................. 44 Box 6: Japan’s Hydrogen Future.................................................................................................................................................. 48 Box 7: Sovereign Wealth Fund...................................................................................................................................................... 50 Box 8: UK Public Finance Ecosystem..........................................................................................................................................51 Azerbaijan: Towards Green Growth Acknowledgments This Issues Note was produced by a core team led by Saša Eichberger (Senior Environmental Specialist, Task Team Leader), Gulana Enar Hajiyeva (Senior Environmental Specialist, co-Task Team Leader), Wei-Jen Leow (Senior Financial Specialist, co-Task Team Leader), Adriana Jordanova Damianova (Policy and Operations Advisor, Consultant), Elena Strukova Golub (Senior Environmental Economist), Kristina Govorukha (Consultant), Devika Singh (Consultant), Fuad Humbatov (Consultant), and Fuad Bagirov (Consultant). Green Growth is a cross-sectoral topic, this paper is a product of a collaborative effort of teams from the World Bank Global Practices and the International Finance Corporation (IFC) working in Azerbaijan. Substantial and valuable inputs were provided by (in alphabetical order) Parviz Ahmadov (ET Consultant), Elvira Anadolu (Senior Health Specialist), Karina Baba (Economist), Daniel Besley (Senior Climate Change Specialist), Olena Bogdan (Economist), Richard Damania (Chief Economist), Hasan Dudu (Senior Economist), Boris Janjalia (Corporate Governance Officer), Joern Huenteler (Senior Energy Specialist), Hadji Huseynov (Senior Infrastructure Specialist), Moulay Driss Zine Eddine El Idrissi (Lead Economist, Health), Smita Misra (Senior Water Supply and Sanitation Specialist), Evgenij Najdov (Senior Economist), Yasemin Orucu (Senior Energy Specialist), Mirey Ovadiya (Senior Social Protection Specialist), Remi Pelon (Senior Mining Specialist), Haocong Ren (Senior Financial Sector Economist), Jason Daniel Russ (Senior Economist), Himmat Singh Sandhu (ET Consultant), Sirma Demir Seker (Senior Economist), Nijat Valiyev (Senior Infrastructure Specialist), and Rufiz Vakhid Chirag-Zade (Senior Agribusiness Specialist). This Note was prepared under the guidance of Sebastian Molineus (Regional Director for South Caucasus), Sarah Michael (Country Manager for Azerbaijan), and Kseniya Lvovsky (Practice Manager for Environment, Natural Resources, and Blue Economy in Sustainable Development Department in Europe and Central Asia), and with the assistance of Grace Aguilar (Program Assistant) and Vusala Asadova (Senior Program Assistant). Review and contributions by Alexander Johannes Huurdeman (Senior Gas Specialist), Klas Sander (Senior Environmental Economist), Andrea Liverani (Lead Specialist), Laurent Debroux (Sector Leader), Craig Meisner (Senior Economist), Anjali Acharya (Senior Environmental Specialist), Thomas Farole (Lead Economist), and Jason Daniel Russ (Senior Economist) are gratefully acknowledged. Nigara Abate (Consultant, SCAEN) and Elarefbellah Kaal (Consultant, SCAEN) prepared the note for publication. The World Bank would like to acknowledge the assistance—in the form of interviews, meetings, expert opinion, data, and knowledge — of the experts at the line ministries of the Government of Azerbaijan (the Ministry of Finance, the Ministry of Ecology and Natural Resources, and the Ministry of Economy), the Central Bank of Azerbaijan, the State Oil Company of Azerbaijan Republic (SOCAR), University of Economics (UNEC), Sustainable Growth and Green Economy Center under the UNEC, non-government organizations (NGOs), and the Azerbaijan representations of the EU Delegation, Asian Development Bank (ADB), Swiss Economic Cooperation Organization (SECO), European Bank for Reconstruction and Development (EBRD), and the United Nations Development Program (UNDP). Azerbaijan: Towards Green Growth i Acronyms and Abbreviations ADB Asian Development Bank ALMP Active Labor Market Policy AQUASTAT FAO’s Global Information System on Water and Agriculture AUM Assets Under Management BE Blue Economy BIG-E Batumi Initiative on Green Economy CBAM Carbon Border Adjustment Mechanism CBT Climate Budget Tagging CCDR Country Climate and Development Report CDC Colonial Development Corporation CO2 Carbon Dioxide CoED Cost of Environmental Degradation CWON Changing Wealth of Nations DAC Development Assistance Committee EBRD European Bank for Reconstruction and Development ECA Europe and Central Asia EFI Equitable Growth, Finance and Institutions Global Practice EFTA European Free Trade Association EGD European Green Deal ENVISAGE Environmental Impact and Sustainability Applied General Equilibrium ESG Environmental, social and governance ETS Emissions Trading System EU European Union FAO Food and Agriculture Organization G20 Group of Twenty GBD Global Burden of Disease GDP Gross domestic product GFDRR Global Facility for Disaster Reduction and Recovery GGSF Green Growth Strategic Framework GHG Greenhouse gas GRID Green, Resilient, Inclusive Development GTAP Global Trade Analysis Project IEA International Energy Agency IMF International Monetary Fund LCH Low Carbon Hydrogen Azerbaijan: Towards Green Growth ii LT-LEDS Long-Term Low Emission Development Strategy ug/m3 Microgram per cubic meter MENR Ministry of Ecology and Natural Resources MoE Ministry of Economy MoF Ministry of Finance MTEF Medium Term Expenditure Framework NAP National Adaptation Plan NDC Nationally Determined Contributions NGO Non-Governmental Organization OECD Organization for Economic Cooperation and Development PM Particulate Matter PMI Partnership for Market Implementation Program R&D Research and development SDG Sustainable Development Goals SECO Swiss Economic Cooperation Organization SME Small and Medium Enterprise SOE State-Owned Enterprise SOCAR State Oil Company of Azerbaijan Republic SOFAZ State Oil Fund of Azerbaijan SOFI State-owned Financial Institutions SSC State Statistical Committee of the Republic of Azerbaijan t Metric Tons TSA Targeted Social Assistance Program UK United Kingdom of Great Britain and Northern Ireland UKEF United Kingdom Export Finance UN United Nations UNDP United Nations Development Programme UMI Upper-Middle Income U.S. United States USEPA United States Environmental Protection Agency VA Value Added WHO World Health Organization £ British pound $ United States dollar Azerbaijan: Towards Green Growth iii Abstract The welfare and economic growth of Azerbaijan’s development trajectory based on fossil fuel extraction has come at the expense of the environment, other non-oil industries, and human capital growth. Due to its lack of economic diversification, the country is highly vulnerable to transition risks, volatility of fossil fuel markets, and climate change. This note, produced in support of Azerbaijan’s ambition for green growth, identifies how increased climate action and greening of a number of sectors have the potential to spur diversification of Azerbaijan’s economy, contribute to addressing sector- and country-specific environmental challenges and goals, reduce greenhouse (GHG) emissions, address the identified physical and transitional climate risks and vulnerabilities, and strengthen long-term climate resilience of the country. Investments in resource efficiency, sustainable intensification of agriculture, better land use and urban planning, water and waste management, switching to cost-effective renewable energy, and research on low-carbon hydrogen and Caspian maritime space are the green measures that can have an immediate positive impact on Azerbaijan’s economy and the environment. The first stage in identifying areas for wealth development will be a comprehensive green growth and asset diversification strategy, informed by detailed sectoral analysis and supported by capable institutions. Once mobilized by public sector interventions through policies to enable and incentivize green investments and green finance instruments, private enterprises will take the lead in relocating capital to green supply chains, creating jobs and building human capital while increasing the focus on innovation and efficiency. Cutting system leak emissions in the oil and gas industry could contribute significantly to reducing GHG emissions at lower costs. Enhancing the environmental performance of enterprises will be made possible by promoting eco-efficient policies and investments in cleaner production and technologies. Beginning now and leveraging this transition to green growth and diversification through the use of public resources and revenues from fossil fuel exports, Azerbaijan can mitigate certain short-term difficulties and promote long-term sustainable growth to ensuring a cleaner environment and economic prosperity. Azerbaijan: Towards Green Growth iv Executive Summary Azerbaijan is striving toward a petroleum-derivative products) was rising, in the greener growth model, but faces timeframe from the late 1990s to the 2000s, many challenges.   agriculture as a share of GDP fell from 25% to 6.5%, the share of manufacturing was halved, and services Azerbaijan has joined the global pursuit for dropped from 50% to less than 33% of total GDP. In sustainable development by making a strategic 2018, the oil and gas sector accounted for over 50% choice to invest in a clean environment and reduce of the country’s exports and 30% of its GDP (World its greenhouse gas (GHG) emissions. The country is Bank, 2021). This established form of economic charting new directions to overcome the current limits growth could be drastically affected when oil reserves of its fossil fuel-driven economy. Azerbaijan’s new eventually run out. The International Energy Agency macro-economic policy framework includes a change (IEA) estimates that the country’s oil reserves will last in the economy’s medium- and long-term ‘driving another 25 years, while production from onshore fields forces’ toward sustainability and diversification. (the oldest fields in the Absheron Peninsula) will slow Public finance is adapting to the changing conditions, down to just 3% of the total current output (IEA 2021). underscoring the central importance financial Meanwhile, the country’s renewable natural resources institutions have in low-carbon development. The have yet to be fully developed. The share of renewable Central Bank of Azerbaijan (CBA) has developed an natural capital, including forests and cropland, has action plan focused on embedding sustainability not increased substantially over time, although the and climate risk into public and private financing renewable natural capital could potentially provide mechanisms. The macroeconomic framework will also greater ecosystem services and rent capture. Another support the implementation of emerging priorities1 untapped opportunity that can be leveraged to for meeting the national commitments to the United help offset some of the transitional green growth Nations’ 2030 Agenda for Sustainable Development, constraints is the offshore marine renewable energy in as well as the ambitious targets of the Nationally the Caspian Sea. Determined Contributions to the Paris Agreement. Azerbaijan’s most recent strategic development plans The combined effects of the global economic take the global low-carbon development trends into slowdown from the pandemic and the war in Ukraine consideration as well as long-term challenges for oil call for a realistic estimation of the challenges and a economies. transition timeline while charting Azerbaijan’s green path. The decarbonization pathways supported by Azerbaijan’s transition away from a high dependence low-carbon policies, financing, and near-term targets on fossil fuels needs a plan for a gradual phaseout. adopted by Azerbaijan’s main trading partners like While the share of exports and GDP from extractives China, the EU, Georgia, India, Israel, and Türkiye will industry (crude and refined oil, gas, and other affect the structural transformation of Azerbaijan’s 1 President of the Republic of Azerbaijan 2021 and Republic of Azerbaijan 2022-2026 Socio-Economic Development Strategy. Azerbaijan: Towards Green Growth v economy. The EU’s ambition is to reduce fossil fuel benefits; (ii) contribute to addressing sector- and consumption in all member countries, and the EU country-specific environmental challenges and countries account for over 45% of Azerbaijan’s oil and goals; and (iii) address the identified climate risks gas exports,2 followed by Türkiye with 18.8%. Due to and vulnerabilities and strengthen climate resilience. the large share of fossil fuel exports and resource rents Such sectors include integrated approaches in water in its GDP, Azerbaijan is highly exposed3 to transition management, agriculture, land use and forestry, as risks and market volatility, while at the same time, well as a broader context of developing blue economy the country’s resilience4 to such changes is low due and coastal areas of the Caspian Sea, to the lack of economic diversification and weak Addressing existing and future preparedness overall, including human capital. As an oil-dependent and carbon-intensive economy, the challenges, and opportunities for key question for Azerbaijan is what adaptive strategy going green in a timely manner is key the country will pursue for its industries and sectors for sustaining growth that will bear the brunt of these challenges. Moreover, To support the Government in pursuing the national the confluence of recent economic and geopolitical priority of a clean environment and green growth, challenges indicates the need for Azerbaijan to this study has used several innovative diagnostic strategically address the risk of transition shocks tools to assess the priority areas and opportunities and determine the new, green growth poles — sectors for action. These include the Green, Resilient and with the potential to attract and significantly Inclusive Development (GRID) diagnostic tool to boost sustainable green growth, contribute to identify opportunities to improve growth and economic decarbonization and climate resilience, and create jobs. development; a natural capital accounting to estimate While the war in Ukraine has led to a short-term the contribution natural resources have on the increase in demand for oil and gas, the long- nation’s wealth; the Global Trade Analysis Project term global ambition, however, continues to be a 10 (GTAP 10) database to quantify the impacts of significant reduction of the dependence on fossil fuels green investments; and the Environmental Impact and cutting GHG emissions. These developments mean and Sustainability Applied General Equilibrium that, while in the immediate future Azerbaijan will (ENVISAGE) model, focused on a Carbon Border certainly gain from its untapped gas resources, as the Adjustment Mechanism (CBAM) simulation to global energy mix shifts from fossil fuels to renewables estimate the impacts that the CBAM instrument and new technologies emerge, kick-starting a green will have on Azerbaijan’s exports to the EU. The main development trajectory in a timely manner will be findings and recommendations of these analyses have a winning proposition. Taking early action to untie been developed with inputs from several rounds of Azerbaijan’s revenue dependence from oil and gas will stakeholder consultations and are summarized below. reduce the uncertainties and related risks, including A timely start of the transition to green growth in the associated future costs. face of a near-term increase in the global demand for oil and gas will help Azerbaijan make incremental In addition to the transition risks, Azerbaijan’s progress on its future low-carbon outlook. The EU, economy is exposed to the physical impact of climate one of Azerbaijan’s largest trading partners, has change.5 Addressing the related risks on time and in mobilized enormous support to reduce the oil and gas a strategic manner will bring multiple benefits. The dependency of its member states. The EU has proposed diversification efforts towards greener growth need CBAM along with its ambitious policy package to consider the anticipated impacts of climate change to accelerate the green transition before 2030. on different sectors and aspects of life, notably the Simulations of the impact of CBAM’s introduction risks as well as the potential opportunities they bring. indicate a decreasing demand for oil, which could As this study indicates, in the context of Azerbaijan, potentially impact Azerbaijan’s exports by $2.5 billion green growth and climate action in several sectors has by 2035 under the baseline scenario.6 The planned the potential to (i) bring mitigation and adaptation pace and structure of the EU CBAM implementation 2 OEC 2020 https://oec.world/en/visualize/tree_map/hs92/export/aze/all/show/2020/. 3 Index composed of four indicators: (1) Carbon intensity of manufacturing exports, (2) Committed power emissions as a proportion of current annual power generation, (3) Fossil fuel export as a proportion of GDP, and (4) Expected resource rents as a proportion of GDP. Source: Peszko et al. 2020. Also adopted as the Transition Risk Indicator by IMF https://climatedata.imf.org/pages/fi-indicators. 4 Index composed of 11 indicators, including position on global oil supply cost curve and 10 indicators of economic resilience to external shocks. Source: Peszko et al. 2020. Also adopted as the Transition Risk Indicator by IMF https://climatedata.imf.org/pages/fi-indicators. 5 Detailed overview of physical climate change risks is provided in Annex 4. 6 Detailed analysis of CBAM simulation is provided in Annex 2. Azerbaijan: Towards Green Growth vi over the next 10 years calls for Azerbaijan to GDP. Water scarcity is severe for the whole country, strategically adjust its hydrocarbon-intensive economy and soil erosion - affecting 42% of its territory – is and diversify investments into green and blue sectors. the likely cause of lower land productivity (by 1.2%) If Azerbaijan acts to decarbonize the economy and and consequent losses in GDP. Material productivity achieve its Nationally Determined Contributions (NDC) is lower than in peer countries, and energy and targets, it could potentially secure higher revenues emissions intensity is higher across most energy use from oil exports to the EU to over $200 million per year sectors. Climate change will likely negatively impact from the late 2020s, while also potentially increasing the vitality of the natural assets, and yet Azerbaijan’s non-oil exports and creating further potential for environmental expenditures are 20 times lower than development. those in EU countries. This includes expenditures related to water resource use and protection, air Economic diversification through greening and protection, land recultivation, and waste disposal, adopting low-carbon and climate change policies which are also areas critical for adaptation to can support Azerbaijan in meeting its international climate change. There are major challenges yet to commitments and national development goals. At be resolved, but as a first step, investing in systemic the COP26 meeting in Glasgow, Azerbaijan announced changes, adaptation measures to strengthen the target of 35% to 40% reductions of GHG emissions climate resilience and environmental improvements, by 2050 compared to 1990 levels, and the country protection of natural capital, asset diversification, and is working on an NDC update and developing a long- decarbonization will help Azerbaijan sustain its natural term Low Emission Development Strategy (LEDS). resource base. To address the physical risks of climate change the country is currently drafting a national adaptation Azerbaijan can gain multiple benefits from improved plan that envisions nature-based resilience measures land management, particularly regarding forest, in agriculture and improved management of coastal grassland, and arable land. These benefits translate areas and water resources. As this study shows, into improved biodiversity protection without a in addition to energy, there is a strong mitigation reduction in monetary returns and include lowering potential in Azerbaijan’s largest sectors beyond oil overall GHG emissions through carbon storage, & gas – mining, trade, construction, and agriculture. contributing to the efforts to meet NDC targets and Greening the economy will be needed to meet the environmental goals. Azerbaijan currently achieves NDC targets and to strengthen climate resilience, and around 69% of the full GHG sequestration potential a greener Azerbaijan would also be consistent with that is possible to gain on the same surface without the national socio-economic goals and the regional any loss of agricultural revenues. Despite being a small development vision which promotes more economic share of the economy, agriculture accounts for 57.6% cooperation with its neighbors. Importantly, adopting of land use, more than half of which is permanent low-carbon policies can cushion some near-term pastureland. However, land degradation from soil effects of low-carbon policies in other countries and erosion affects 42% of Azerbaijan’s territory. This is major markets. partially due to heavy precipitation and flooding, but also from overgrazing by livestock (SSC 2021). Based Compared to other upper-middle-income countries, on the World Bank’s assessment of land use and Azerbaijan suffers environmental losses, lower land change transitions from current to Pareto max material and land productivity, water scarcity, and a production value, Azerbaijan could maximize its carbon higher intensity of emissions. The GRID assessment sequestration by an additional 116 million tons of CO2- points out the country’s insufficient progress in eq, the equivalent of about 1.5 years of the country’s reducing environmental pressures and protecting the emissions (at 2018 levels). These gains could be value of natural capital. In Azerbaijan, ambient air achieved by reallocating approximately 85% of grazing pollution from fine particulate matter (PM2.5), mainly land, with a majority of it returned to natural land and caused by windblown dust and fossil-fuel sources, the rest split between irrigated and rain-fed cropland. contributes 10% to 18% to the non-accident mortality. This is above the average in the Eastern and Central Employment creation will be driven by asset Europe region, and according to Global Burden of diversification and a higher demand for skilled jobs in Disease7 estimates, the welfare loss corresponding several new sectors with the potential for greening. to this mortality range is equivalent to 3% to 12% of Human capital development is an acknowledged priority 7 Global Burden of Disease 2019. Air Pollution Exposure Estimates http://ghdx.healthdata.org/gbd-2019. Azerbaijan: Towards Green Growth vii of Azerbaijan. Market-led changes and smart policies territories; and (v) clean environment and the across entire value chains, switching to new energy country’s green growth. Azerbaijan aims to create new sources, more renewable energy, low carbon-intensive economic opportunities in the liberated territories not production, and introducing material circularity will only for itself but also for the region. In this regard, facilitate the green transition. There is a potential rehabilitation, reconstruction, and reintegration of the for job creation in less carbon-intensive sectors of liberated and conflict-affected areas in a sustainable Azerbaijan’s economy: mostly in service sectors, manner will be one of the country’s main development health, and education. The analyses indicate that while priorities in the coming years. investments in reducing GHG emissions in Azerbaijan’s Technology and innovation are the preconditions for a industry sector can create jobs, investments in low-GHG shift towards a low-carbon economy. While this is an sectors hold even greater potential for value-added and implicit priority in the vision for national sustainable low carbon jobs creation per $1 million of investment. development, Azerbaijan’s economy remains Moreover, they will help address multiple objectives highly dependent on oil. Making systemic changes simultaneously: decarbonization, greening of the towards creating a sustainable and green economy economy, developing human capital, and improving the begins by assessing the risks of price volatility, cost quality of life. competitiveness, and testing the market’s appetite for A comprehensive green growth and asset transitioning technologies. For example, Low Carbon diversification strategy, followed by policy Hydrogen (LCH) can play an important role in the interventions, is key to fostering Azerbaijan’s future international competitiveness of Azerbaijan’s sustainable future, cleaner environment, and green exports as the world markets increasingly seek growth. Targeted public sector interventions may energy resources with low carbon intensity. Given the provide incentives and help create a reliable policy significant renewable resources (e.g. offshore wind), and regulatory environment for steering the economy natural gas availability, Carbon Capture and Storage towards a greener path. Investments in human capital (CCS) potential, well-developed infrastructure, and development for the emerging green sectors would proximity to key markets, Azerbaijan could develop a stimulate private investments in green and less LCH economy and become an important producer of polluting technologies. The Central Bank of Azerbaijan LCH and its derivatives. Furthermore, the simulations (CBA) has already developed an action plan for a indicate Azerbaijan can tap into a wide range of sustainable finance roadmap, a key step in supporting environmental and public health benefits by boosting the green growth agenda. While a full analysis of investments with the potential to create a new wave green finance instruments for Azerbaijan is yet to be of green, high-skilled, well-paid jobs. By doing so, conducted, it is likely that asset diversification could Azerbaijan could deliver on its NDC commitments also produce welfare gains. and most importantly, avoid recreating the oil-driven growth path while moving towards greener economic Now is the time to act on the diversification. most promising development and decarbonization goals The medium-term outlook of Azerbaijan is bound to follow the traditional supply/demand fluctuations Azerbaijan is navigating a development phase marked of oil and gas markets and regional geopolitics. by post-pandemic, post-conflict impacts and an In the long run, however, a strategic orientation evolving geopolitical landscape. Acknowledging towards green economic diversification will steer the these global trends and challenges, the Government development of the non-oil sector. The Government of Azerbaijan has set the country’s long-term of Azerbaijan acknowledges that action on climate development on the path to socio-economic and change should be based on the introduction of clean environmentally sustainable development based on technologies, encouraging the use of clean energy five pillars that correspond to its national priorities for sources, remediating contaminated areas, and 2021-2030. Aligned with Azerbaijan’s commitments reducing waste. In this regard, selected priorities under the 2030 Agenda, these priorities include: (i) include the creation or development of a high-quality a steady and growing competitive economy; (ii) a ecological environment, spaces for green energy, and society based on inclusiveness and social justice; (iii) building smart cities and villages based on national competitive human capital and space for modern development strategies and priorities and SDG 11.8 innovations; (iv) great return to the liberated 8 National Coordination Council on Sustainable Development of the Republic of Azerbaijan 2021. Azerbaijan: Towards Green Growth viii Green economic development as a central theme of comprehensive green growth framework backed this Issues Note emphasizes economic and social by sectoral analyses and supported by competent gains for the entire economy as well as specific institutions, regulations, incentives, and public sectors. finance will be the first step in identifying sectors for wealth generation, unlocking their potential, and While some potential ‘greening’ measures may be creating opportunities for spearheading the transition easier to implement and bring quick results and local towards greener growth. Moreover, there is a need for benefits, others target long-term results and require consistent and credible climate policies in support of complex development and long implementation. For both mitigation and adaptation. An important element example, in the context of Azerbaijan, investments in of the framework will be mainstreaming NDC targets resource efficiency (e.g. energy demand management, and adaptation climate actions in sector development energy efficiency) and in sustainable intensification of strategies. Implementation of the strategies will agriculture, better land-use and urban planning, and require knowledge and institutional capacity to water and waste management are green measures formulate actions for mitigating transition shocks (e.g., that deliver immediate benefits. Also, fostering the improving the population’s living conditions, training, switch to competitive renewable energy choices such and skills development to facilitate the delivery of as solar and wind can bring immediate economic and green jobs) all of which, in the long term, would help environmental benefits, including through mobilizing develop the human capital necessary for green growth. private investments. On the other hand, carbon pricing, fuel and electricity subsidy reforms are designed to Stepping up Private Sector-led Green Growth shift consumer/investor choices in favor of green and If low carbon policies are in place, businesses will renewable options that derive fiscal merits. These lead the way in relocating capital to green supply measures take time to work, and their net benefits chains. New green products and markets will emerge. are limited by other costs. Conversely, erosion Incentivizing the private sector to invest in green control and reversing the degradation of forests and businesses will bring multiple benefits and a stronger natural ecosystems may not produce large short- focus on innovation and efficiency. The public sector’s term benefits, but they are essential for sustaining a role in leveraging private sector financing in green resilient green economy over the long term, and there growth includes, among others, low carbon policies can be distributional gains if local communities derive and green financing instruments. Following this route jobs and incomes as part of restoration programs. The will potentially create jobs, increase private spending, World Bank has developed a Sustainability Checklist9 and bring economic spillovers to other industries that can guide a stakeholder-driven process to from private green investments, while also bringing prioritize the sectors and green measures most likely innovation and efficiency through private sector to deliver economic benefits and that are deemed engagement. Such an approach could result in scaling appropriate for the country. Future consultations with up private green investments that, over time, surpass stakeholders on country-specific aspects of green public spending in green growth. In addition to low growth, as well as targeted research in cross-cutting carbon policies, Azerbaijan can build on its academic topics and deep dives into sectors, will inform the and scientific potential in the extraction industry, development of a prioritization matrix for Azerbaijan. which provides a comparative advantage for venturing While deeper analyses are forthcoming, the highlighted into green innovations, including carbon capture and areas and priorities below, if implemented, can kick- storage, renewables, and hydrogen technologies. start greener growth while also addressing country- specific development challenges. Supporting Decarbonization Solutions through Green Financing Addressing the Bottom Line: Policy Development and Institutional Capacity for Green Growth Public support for green investments could change the framework conditions and bring stability to the Azerbaijan can demonstrate the ability to deliver capital markets and financial institutions. In the short on its priorities by introducing public policies that term, public finance will be critical when confronting are informed by research and adequate pricing key social and environmental challenges. It could also of environmental and climate externalities (e.g., play a powerful market-shaping role as it does not face green taxation, green financial instruments). A 9 The methodological note is available https://thedocs.worldbank.org/en/doc/223671586803837686-0020022020/original/ SustainabilityChecklistforAssessingEconomicRecoveryInvestmentsApril2020.pdf. The use of the checklist is described https://blogs.worldbank.org/climatechange/planning-economic-recovery- covid-19-coronavirus-sustainability-checklist-policymakers. Azerbaijan: Towards Green Growth ix pressure to deliver short-term returns. The Central gas-powered controls used to manage oil-field valves Bank of Azerbaijan (CBA) has already launched the and pressure and flow systems (which regularly Azerbaijan Sustainable Finance Action Plan (2022- release methane) and introducing new controls 2025) which sets ambitious actions, including (i) skill and new technologies (e.g., using compressed air and capacity development in sustainable finance within instead of gas). Additional measures to stop leaks the CBA and other industry associations; (ii) climate at production and transport facilities may include and ESG risk assessments, disclosure, and reporting mounting leak-detection equipment on planes and within economic and financial sectors; (iii) developing a using satellites and drones. Old/abandoned wells sustainable finance taxonomy; (iv) creating climate and in oil and gas fields can leak methane and other ESG risk management, and internal control systems; pollutants that contribute to climate change and poor (v) devising incentive mechanisms to enhance public- air quality, and heighten health and environmental private mechanisms and sustainable finance products, risks. In countries with similar problems, regulators stimulate local investors, and mobilize donor financing. are looking at emission reduction opportunities All of these actions are steps in the right direction using the most up-to-date information and towards minimizing market uncertainties around technologies to address leakages with added greening the growth while also reducing transition benefits such as restoring surface locations (e.g. costs. Introducing Climate Budget Tagging (CBT) and oil-lakes, contaminated lands), and revitalizing land expenditure tracking in public financial management in areas with high economic potential. The Absheron can be another important milestone in addressing Peninsula is such an area with high demand for land Azerbaijan’s climate-related policy ambitions and goals.10 development. A government-sponsored program that integrates plugging abandoned wells as part of the Creating Green Job Opportunities and Building the revitalization of coastal areas under a national BE Necessary Human Capital development program could provide multiple socio- Employment creation during the transition towards economic benefits, including employment. A dedicated greener growth will be driven by higher demand for program with funding (green finance instruments skilled jobs in several new sectors. Investments in included) could alleviate the responsibility of oil and increasing renewable energy production and switching gas companies for their decades-old production to new energy sources (e.g. LCH), developing low equipment. carbon-intensive production and introducing material Realizing the opportunities to build a cleaner, circularity may create numerous opportunities resilient and future-fit economy and healthy living for expanding the job market. Innovation and new conditions requires a stronger focus on sustainable technologies in the Blue Economy (BE) sectors (new consumption and production. Promoting policies and established sectors) may also create more for eco-efficiency and investments in cleaner employment opportunities. Areas for further research production and technologies will help enhance the on opportunities for BE to contribute to job creation environmental performance of enterprises and include Azerbaijan’s potential as a transport hub, the prevent pollution and the associated degradation. cleaning, rehabilitation, and green development of This involves reducing or eliminating waste at coastal areas, and reducing sea pollution from offshore the source by modifying production processes, drilling. The importance of human capital aspects of promoting the use of non-toxic or less-toxic green growth calls for a comprehensive analysis of this substances, implementing conservation techniques, topic, including skills development, impacts on labor and reusing materials rather than putting them markets, health and education, etc. into the waste stream. Investments in sustainable Acting on Low-hanging fruits and Greening the Economic consumption and production will provide an added Sectors value by accelerating the clean energy transition and Cutting emissions from system leaks in the oil and the pace for meeting climate action goals. gas sector could contribute significantly to reducing Sustainable use of renewable natural capital, GHG emissions at lower costs and will support including land and water for agriculture and forestry, Azerbaijan’s NDC commitments. On a per unit of is a pathway to advancing economic efficiency, GDP basis, Azerbaijan is among the largest producers climate resilience, and environmental sustainability. of fugitive emissions from natural gas production in Land use and land management focused on the world. Priority measures include phasing out the safeguarding land productivity and the value of 10 World Bank 2021a. Azerbaijan: Towards Green Growth x natural capital and ecosystem services will provide the Azerbaijan’s rich natural endowment can support a population with multiple economic and social benefits. timely transition to a low carbon economy, cleaner Leveraging the new technologies can contribute to environment, and green growth. In the face of proper valuation of biodiversity, ecosystems, and their imminent challenges, kick-starting the transition economic and health impacts. There is an opportunity towards green growth sooner rather than later, will to enhance the productivity and job creation in reduce multiple uncertainties and costly measures Azerbaijan’s agriculture and forestry. Advancing land in the future. Creating new, greener sources of regeneration and productivity, land use management, growth that can substitute dependence on oil and chemical pollution prevention, and technologies to gas (rather than simply adding them on the margin) decarbonize agricultural processes will increase not will be a long and challenging process, requiring only green development potential, but also their political will, significant investments, including into climate adaptation potential. institutional and human capital development, and reforms. Utilizing public resources and revenues from The Caspian Sea offers multiple opportunities and fossil fuels exports to leverage this geostrategic newer pathways for green solutions in the blue shift towards decarbonization and diversification space, but this will take time and effort. Azerbaijan’s can offset some of the near-term challenges and Caspian maritime space could provide more value- enable future sustainable growth. added to the economy by sustainably expanding the established sectors such as tourism and aquaculture, and boosting new green sectors such as offshore renewable energy. Opportunities that could be explored in new BE sectors include blue biotechnology and blue bioeconomy for plant-based alternatives to plastics and other petrochemical applications; marine renewable energy, including floating offshore wind, wave and tidal energy and floating solar photovoltaic energy; and maritime security and surveillance focusing on digitalization and technological innovation. An integrated approach based on the value and potential of the Caspian marine and coastal capital and tailored to deliver new economic and social infrastructure, ecosystem regeneration, and optimized performance of existing assets could serve multiple purposes. This includes cleaning and regenerating polluted coastal land, reducing untreated effluents into the marine environment, and opening new opportunities for growth where sea meets the land. However, determining what, where, and how Azerbaijan’s BE potential can grow will need further assessment. A transition to BE that is clean, green, sustainable, and inclusive will require significant investments and policy changes over time. While ‘Green’ investing is becoming the new normal in a decarbonizing world, Azerbaijan could fast track the policies that facilitate green/blue investments to reinforce sustainable opportunities in BE and market- led low carbon development in the blue space. Azerbaijan: Towards Green Growth xi Introduction During the last two decades, Azerbaijan’s economic which will take an in-depth look at current carbon growth has been driven by physical capital emissions and will model a potential low-carbon accumulation financed from oil and gas export rents. emissions path across the entire economy. The oil and gas sector contributed to more than 90% Azerbaijan joined the global pursuit of mitigating of export revenues. This growth model, however, led climate change by ratifying the Paris Climate to the depletion of non-renewable resources and Agreement in 2017 and committing to Nationally the proliferation of environmental stresses on land, Determined Contributions (NDC) to that international water, air, and ecosystems, thus posing serious risks agenda. In addition, Azerbaijan made a voluntary to future wealth formation and people’s well-being. commitment to green economy actions in the Batumi The substantial contribution of the oil and gas sector Initiative on Green Economy (BIG-E) Actions by extends far more widely. It has altered Azerbaijan’s Azerbaijan till 2030 aiming to contribute to sustainable structure of the economy creating long-term development. Nonetheless, Azerbaijan’s greenhouse challenges. Stagnating human capital development gas (GHG) emissions have risen by 19% since 2010 has translated to the shortage of skilled labor faced by and have already exceeded the 2030 Nationally the private sector. Azerbaijan’s main challenges going Determined Commitment target.11 Azerbaijan is not forward are to utilize its oil revenue for a greater public on track to meet its near-term emission goals.12 As of good and for future sustainable growth, including 2019, carbon dioxide (CO2) accounts for over 70% of tackling pollution and protecting the value of its the GHG emissions in Azerbaijan.13 Fugitive emissions, natural capital. like unintentionally released methane from the oil The 21st century marks a global change in search of and gas industry, are estimated at 13.8% of the total solutions to reduce the dependency on fossil fuels GHG emissions. Azerbaijan’s energy intensity fell from bearing serious environmental consequences. Oil- 6.93kWh in 1995 to 0.91kWh in 2010 and averaged rich economies are coming under pressure to reduce 1.13kWh from 2010 to 2018.14 CO2 productivity the ecological footprint of the oil and gas industry increased more than threefold in 2000–2010 and on natural resources and human health. Azerbaijan has since stabilized at this level. This is largely due to has responded to these global developments in its a slower increase in CO2 emissions compared to the most recent strategic development plans and goals. increase in GDP. In support of these endeavors, this Issues Note is The government policies recognize that continued highlighting some of the important considerations dependence on oil and gas is a serious transition and possible areas of intervention as a prelude to the risk, in addition to the impacts of the EU carbon Country Climate and Development Report (CCDR), 11 EU 2021. 12 The country has voluntarily pledged (NDCs) to reduce GHG emissions by 35% in 2030 compared to its 1990 level. But since 2010, energy demand has risen rapidly, partly because urbanization increased and energy demand from the transport sector tripled. 13 Ritchie et al. 2020. 14 Ibid. Azerbaijan: Towards Green Growth 1 border adjustment mechanism (CBAM).15 The Azerbaijan’s primary goal is asset diversification. The new macro-economic policy framework toward forthcoming Azerbaijan Systemic Country Diagnostics macro-economic stability includes a change in (SCD) states that regional and international experience the medium and long-term ‘driving forces’ of the highlight the importance of diversifying a country’s economy toward sustainability and diversification. asset base to sustain growth in the long run and The framework will support the implementation of diversify the economy away from fossil fuel resources. emerging priorities16 of particular importance for In resource-rich countries, successful diversification in meeting the national commitments to the United terms of production and exports takes time. A focus Nations’ 2030 Agenda for Sustainable Development on the diversification of assets could be feasible and centered around: (i) sustainably growing a competitive effective in the shorter term — international experience economy; (ii) society based on dynamic, inclusive associates higher labor productivity and lower output and social justice; (iii) competitive human capital volatility with a balanced mix of capital assets (World and modern innovations space; (iv) great return to Bank, 2022b). territories liberated from occupation; and (v) clean Greening Azerbaijan’s economy would take a series environment and the country’s ‘green growth.’  of steps. An important step would be to understand The recent global and regional dynamics call for a the specific challenges in the complex environment realistic estimation of the scale of challenges and a where increasing volatility is the only consistent timeline for charting Azerbaijan’s green development characteristic of the oil/gas price trajectory. Along the path. The impacts of deep decarbonization and way, decarbonization actions would be accompanied structural transformation of Azerbaijan’s economy by subsequent/overlapping demand and supply will depend on how and when its main trading shocks and market adjustments, often causing fossil partners will decarbonize. In the medium term, trading fuel prices to vary between historical highs and lows. partners, like the EU, Japan, and the U.S., may start Maintaining a decarbonization trajectory in such a addressing carbon leakages and/or limit access to volatile market environment will require different policy their technologies, finance, and trade for countries tools that take the uncertainty of green transition into that do not follow a decarbonization path. The key account while estimating the benefits of green growth question for Azerbaijan, as an oil-dependent country and diversification. with high carbon intensity, is what adaptive strategy A complete emissions inventory for the oil and the country will pursue for industries that will be gas industry is essential for establishing a clear affected. This could entail developing new sources of emissions baseline across the vast value chains green energy, advancing research and development (e.g., sources, concentrations, and magnitude of to tap new market niches in the emerging green emissions). This will help determine and monitor global economy. In the long term, timely provisioning the actual emissions intensity across the productive for the uncertainties regarding how and when the assets, which can vary greatly due to technical and green transition will reach a tipping point would help operational characteristics. Another important Azerbaijan to position itself in relation to its main challenge is to develop a clear understanding of the trading counterparts. As the pandemic fades out, the range of decarbonization solutions, and their maturity situation with fossil fuel markets has turned fluid given and economics, to assess their feasibility across the the recent geopolitical developments. On the one hand, economic sectors. high demand may ramp up oil and gas production; on the other hand, high energy prices may catalyze the This Issues Note examines Azerbaijan’s economic global efforts to decarbonize and meet global climate development and natural resources context, aiming goals. Azerbaijan will benefit from the swing in oil and to support the Government in pursuing the national gas prices due to geopolitical challenges. However, priority of a clean environment and green growth. It recognizing that in the medium-term, higher prices will discusses important considerations and possible areas push up the global investments in clean energy and of interventions related to green diversification, and then rethinking how to accelerate Azerbaijan’s green indicates topics that call for further analytical deep transformation would be a winning proposition for the dives and separate targeted research. The Issues Note country in the long run. identifies sectors with potential for diversification, decarbonization, and loosening the grip of oil and gas 15 Financial penalties under CBAM will begin in 2026 for direct emissions from the production of certain industrial products imported into the bloc. The second phase of CBAM will cover indirect emissions in electricity used in production, which will heighten the financial impact on exporters of covered products. 16 President of the Republic of Azerbaijan 2021 and Republic of Azerbaijan 2022-2026 Socio-Economic Development Strategy. Azerbaijan: Towards Green Growth 2 dependence, and it indicates possible policy avenues. Mechanism (CBAM) simulation to estimate impacts on However, it does not engage in deep analyses of these Azerbaijan’s oil exports in trading with the EU, based on sectors and the cost of green diversifying, nor their different transition scenarios. More information on the risks and effects on the sector competitiveness. Such methodology can be found in Annex 1. analytical work may fall under the purview of the The objective of the Issues Note is threefold: first, to upcoming CCDR, which will use the findings of this assess the potential impacts of the global green Issues Note to inform potential priority sectors. transition on Azerbaijan’s oil-dependent economy and Findings and recommendations provided in this Issues the effects of the specific decarbonization efforts of its Note are informed by stakeholder consultations main trading partners; second, to look at the country- with the Government of Azerbaijan and by multiple specific sustainable development co-benefits of a diagnostic tools. The paper uses the Green, Resilient chosen path towards a more resilient growth model; and Inclusive Development (GRID) diagnostic tool to and third, to identify diversification opportunities identify opportunities to improve growth and economic supported by accumulated financial resources and development; natural capital accounting to estimate potential benefits in specific sectors. This analytical the contribution of natural resources to the wealth approach could be extended in further studies, of the nation; the Global Trade Analysis Project 10 primarily CCDR but also other targeted research. The (GTAP 10) database to quantify the impacts of green overarching objective of the Issues Note is to inform investments; and the Environmental Impact and the dialogue with the Government of Azerbaijan on Sustainability Applied General Equilibrium (ENVISAGE) areas and opportunities for facilitating green growth. model, focused on the Carbon Border Adjustment Azerbaijan: Towards Green Growth 3 Chapter 1: The Context for Greening Future Economic Growth The global transition towards greener economies same time. Greening is also in line with the country’s creates new opportunities for Azerbaijan to overcome actions on climate change, yet potentially generating the limits of a fossil fuel-dependent growth model additional economic benefits. By pursuing economic and build long-term prosperity in a sustainable and diversification guided by ‘greening,’ the country would inclusive way. A global shift toward low-emissions advance the national socio-economic development economies is underway, driven by changes in market strategy18 and pave the way to becoming a high- preferences and supported by policies involving income country in the future. incentives and penalties. As historical events have Globally, post COVID-19 pandemic economic recovery shown and the analyses of future scenarios indicate,17 has been stalled by the war in Ukraine. While in without more economic diversification and with the short run the impact on oil and gas markets will the hydrocarbon sector continuing to dominate the depend on the response by consumers, businesses, and economy, Azerbaijan will be in a vulnerable position – governments, in the medium run the dynamics will be more so than other oil exporters with more diversified determined by the governments’ actions to reduce the economies. The country will face challenges with future pressure on their economies and consumers. It is hard job losses, economic contraction, and stranded assets to predict which way the situation will go, but it is likely that come along with the global low-carbon transition. that energy security and affordability in Europe will As a signal of change, the European Union (EU) — take center stage. Such uncertainties may slow down an important trade partner of Azerbaijan — has the global green transition but will give a new impetus embarked on ambitious and long-term plans and to the EU Green Deal in support of investments in policies for green transition embodied in the European climate-neutral technologies, low-carbon hydrogen Green Deal, including introducing border tariffs on industry, biochemicals, or decarbonized materials. In imports of carbon-intensive products (CBAM). the face of these developments, Azerbaijan can benefit In the face of this global green transition, Azerbaijan from putting efforts into creating a full set of options could build its resilience by using the opportunity to boost the capacity of its economy to grow greener to diversify its economy. While the hydrocarbons and build buffers to counter the long-term headwinds sector has been a pole of growth, some segments of global oil and gas market dynamics. of the economy remain less developed where the benefits of growth have not been realized. Azerbaijan 1.1. Economic achievements to date can reinvigorate the non-oil sector, including its came at a cost non-oil natural resources. There are opportunities to Azerbaijan’s economic development has been tied rebalance the development towards a ‘greener’ and to oil and gas exploration and its associated export more inclusive economy and to improve livability at the revenue. During the last two decades, Azerbaijan has 17 Drops in oil prices in 2014–2016 caused economic contraction in Azerbaijan. Analyses of the impacts of global decarbonization and instruments (carbon border adjustments in major markets) indicate a decreased demand for oil. 18 President of the Republic of Azerbaijan 2021 and Republic of Azerbaijan 2022-2026 Socio-Economic Development Strategy. Azerbaijan: Towards Green Growth 4 invested heavily in the exploration and production of oil qualify as an economic recession. Even with the return and natural gas (Figure 1 and Figure 2). A strong surge of favorable terms of trade in 2017, the economy only in oil price from $19 per barrel (2001) to $130 per barrel managed to sustain an average growth of 0.4% per (2008) delivered an unprecedented economic growth year between 2015 and 2019. of 24% per annum during the 2005-2008 period. The country has weathered the economic storms Economic growth has increased substantially, with per with relative success. During the last two decades, capita GDP increasing from $209 in 1993 to $7,891 Azerbaijan has managed to sustain oil production in 2014.19 The slump in global energy demand in the and develop an emerging gas sector, which boosted a subsequent 2010-2014 period impacted Azerbaijan’s modest acceleration in domestic demand. Azerbaijan’s major export market in OECD countries, causing economy grew by 2.2% in 2019, its best performance growth to drop to 3.2% per year on average. Since then, since 2014, before the COVID-19 pandemic and oil income has fallen to $4,221, largely following declining price decline caused another economic contraction energy prices.20 The oil prices completed this cycle of 4.3% in 2020.21 Since then, recovery has been slow. by collapsing in 2014, thus triggering an economic Oil price is a constant factor in Azerbaijan’s economic contraction of 4.2% in 2016 — a dip sharp enough to performance, and will continue to weigh on the pace of recovery. Figure 1: Azerbaijan’s Real GDP and GDP per Capita Growth, 1995-2021 40 30 20 10 0 -10 -20 1997 2007 1995 1996 1998 1999 2000 2001 2002 2003 2004 2005 2006 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 GDP Growth (annual %) GDP per capita growth (annual %) Period Average 19 World Bank 2022a (forthcoming). 20 Ibid. 21 Ibid. Azerbaijan: Towards Green Growth 5 Figure 2: Azerbaijan’s Real Non-Oil/Gas GDP Growth and Oil Price, 2000-2021 20 120 15 100 10 80 US$ / bbl Percent 5 60 0 40 -5 20 -10 0 2000 2007 2001 2002 2003 2004 2005 2006 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 Non-energy GDP growth Brent oil price (RHS) Source: World Bank 2022a (forthcoming). Azerbaijan Country Economic Memorandum. Growth in the oil and gas sector has come at the exports in the late 1990s to over 90% in the 2000s. In expense of other sectors. Between 1995 and 2007, oil contrast, during the same timeframe, agriculture as and gas production jumped from 10% to 54% (Figure a share of GDP fell from 25% to 6.5%, while the share 3) of GDP.22 By the end of the energy super-cycle in of manufacturing was halved, and services dropped 2008, energy exports accounted for almost half of from 50% to less than 33% of total GDP.23 Nonetheless, GDP. The extractives industry (crude and refined oil, agriculture remains an important sector for poverty gas, and other petroleum-derivative products) was alleviation and inclusion, employing 36% of the total the dominant export category, rising from 50% of workforce and 42% of the female workforce. 22 World Bank 2022a (forthcoming). 23 Ibid. Azerbaijan: Towards Green Growth 6 Figure 3: Azerbaijan’s Exports-to-GDP, 1999-2019 60 50 40 Percent 30 20 10 0 2001 2011 1999 2000 2009 2010 2019 2002 2003 2008 2012 2013 2018 2005 2015 2006 2016 2004 2014 2007 2017 Total Exports Energy Exports Non-energy Exports Source: Staff calculations based on UN Comtrade and World Bank WDI data. Ninety-five percent of Azerbaijan’s export revenues oil, Russia mostly imports agricultural produce and come from oil and natural gas, with EU countries plastics, with oil imports accounting for only ~5% of the accounting for over 45% of the total country’s total.26 In contrast, Azerbaijan’s imports are primarily exports24 (Figure 4 and Figure 5). Italy is the single machinery, nuclear reactors, vehicles and equipment, largest importer of Azerbaijani exports, accounting for pharmaceutical products and iron and steel and 42%, with over 99% of imports coming from mineral related products, cereals and plastics. China, Germany, fuels, oils and distillation products amounting to $9.1 Japan, Russia, Türkiye, Ukraine, and the U.S are the billion.25 Türkiye and Russia are close seconds, and major trading partners for imports into Azerbaijan. while 79% of Türkiye’s Azerbaijani imports are from 24 Trading Economics. https://tradingeconomics.com/azerbaijan/exports-by-country. 25 Trading Economics. https://tradingeconomics.com/azerbaijan/exports/italy. 26 Trading Economics. https://tradingeconomics.com/azerbaijan/exports/russia. Azerbaijan: Towards Green Growth 7 Figure 4: Azerbaijan’s Export Composition by Commodity (2020) Total: $13.8B Tomatoes Other Crude Petroleum Petroleum Fruits 1.45% Gas Other Nuts 0.96% Apple and... 0.85% 0.24% 0.24% Tea Filled Fruits 0.45% Raw Gold Aluminium 0.45% 0.35% Raw... 1.53% Raw Cotton 0.95% Raw... 0.57% 0.53% 15.9% 0.15% Can... 0.15% Raw... 0.15% 0.25% Refined Electricity Fruit... Petroleum 0.51% 0.20% 67.2% 2.11% Acyclic Alcohols 0.42% Source: OEC 2020. World Trade Data. Figure 5: Azerbaijan’s Export Composition by Country (2021) Europe Asia Spain Italy Tunisia Portugal Germany 26% Georgia 70% Africa 3.0% Americas 1.7% Croatia Türkiye Israel Russia $261 USD $2.31B USD $4.62B USD $6.93B USD $9.24B USD Source: Trading Economics: Azerbaijan Exports. https://tradingeconomics.com/azerbaijan/exports. Azerbaijan: Towards Green Growth 8 The development of the non-oil and gas economy has opening up another source of export revenue in 2018 been neglected and growth in the non-oil and gas with the completion of the Southern Gas Corridor. sectors has not decoupled from energy prices, as Though this has reduced its exposure to oil, it did little shown in Figure 2. In the 2010s, the country invested to wean the country from dependency on hydrocarbons heavily in natural gas exploration and extraction, in general. Figure 6: Azerbaijan’s GDP Structure (Supply Side), 1995-2020 100% 90% 80% 70% Percent of GDP 60% 50% 40% 30% 20% 10% 0% 2000 2008 2006 2009 2003 2005 2004 2002 2020 2007 2001 2010 1998 1996 1999 2018 2016 2019 1995 2013 2015 2014 2012 1997 2017 2011 Agriculture Mining Manufacturing Construction Services Source: Original calculations for this publication based on SSC data. Note: Current prices. Past decades of oil-based growth have come at the Water scarcity is severe in Azerbaijan, and soil erosion expense of the environment and other sustainability — affecting 42% of its territory — is the likely cause of indicators. Beyond GDP and growth rates, a holistic lower land productivity (by 1.2%) and consequent losses snapshot of the country could be produced by in GDP. Material productivity is lower than in peer examining other socio-economic indicators. The GRID countries, and energy and emissions intensity is higher (Green, Resilient and Inclusive Development) approach across most energy use sectors. Climate change will proves useful for this purpose. A summary of the likely impact these indicators negatively. On the coping GRID results for Azerbaijan is presented in Table 1 side, Azerbaijan’s environmental expenditures are 20 and highlights the areas needing improvement when times lower than in the EU countries. compared to other Upper Middle-Income countries. Azerbaijan: Towards Green Growth 9 Table 1: GRID/RISE Benchmarking for Azerbaijan Indicator Key sources and main issues Benchmark AZE ECA / UMI Air pollution emissions PM2.5 PM2.5% pop exposed above WHO (25ug/m) 95.3 56.6 UMI Defined as the portion of a country’s population living in places where mean annual concentrations of PM2.5 are greater than 25 micrograms per cubic meter.  Mortality rate attributable to ambient and household 76.5 72.8 UMI air pollution (per 100,000), including acute respiratory infections (estimated for all ages); estimated above 25 years: cerebrovascular diseases in adults, ischemic heart diseases in adults, chronic obstructive pulmonary disease in adults, and lung cancer in adults. Welfare cost of premature Total non-accidental mortality from ambient air pollution (% 7 5 ECA deaths from PM2.5 GDP equivalent 2019)  Municipal waste Solid waste generation (tons per capita) 0.3 0.3 UMI Inadequately managed waste (% of total waste generated) 100.0 49.5 Material productivity Material productivity is expressed as the amount of economic 1.5 2.9 EU27 output generated (in terms of GDP) per unit of materials consumed Total materials / Non-energy materials, US dollars/ kilogram, 2019 Land degradation and soil Estimated annual absolute land productivity losses (%) due to 1.2 1.1 ECA erosion severe soil erosion % change in real GDP due to severe soil erosion -0.024 -0.045 ECA Agricultural land productivity ($ per hectare of ag land) 636 695 UMI Agriculture value added per worker ($ per worker) 2198 8353 UMI Water scarcity and Water quality, nutrients, salts, chemicals (SDG 6.3.2) -2.7 -2.8 UMI quality  Wastewater treatment capacity (% of wastewater produced) 3.8 13.5 UMI Productivity of water use ($ per m3 water withdrawals) 3.7 16.1 UMI Mortality rate attributable to inadequate water supply, 1.7 2.6 UMI sanitation and hygiene (per 100,000) Total environmental Expenditures mostly to water resource use/protection, air 0.1% 2% EU27 expenditures (% GDP)  protection, waste disposal, land recultivation 0,1% of GDP in 2019 as reported by the SSC, 2020. The State Statistical Committee of the Republic of Azerbaijan. Environment in Azerbaijan, Statistical Yearbook. Baku. Table 13.5. Natural hazards and Natural disaster risk to assets (% of GDP) 0.3 0.6 UMI disasters risks Natural disaster risk to well-being (% of GDP) 0.4 0.9 UMI Population exposure from disasters (% of total population 0.1 1.3 UMI exposed) CO2 emissions per sector Energy Energy: Building, Electricity, Heat, Transport, 664.0 258.0 ECA Fugitive (tons CO2-eq. / million $ GDP) Energy sources: Oil (42%), Natural gas (40%), Electricity (15%) Electricity CO2 emissions in electricity (tons CO2-eq. / million $ GDP) 303.0 114.0 ECA Source: Original table for this publication. Azerbaijan: Towards Green Growth 10 GRID analysis confirms that economic achievements developed. IEA has estimated that the country’s oil in Azerbaijan have come at a cost, while new reserve will last about another 25 years27 (Table 2), challenges of global green transition are on the with production from onshore fields (including the horizon. Azerbaijan has accumulated financial earliest production fields in the Absheron Peninsula) resources to start moving away from an oil-based slowing down and accounting for just 3% of total economy and could use opportunities coming with output (IEA 2021). The oil and gas sector provides the global demand for green innovations to address the major share of natural resource rents, which environmental challenges. The future sustainable collectively accounted for 30% of GDP in 2018 (World development goals could be addressed together with Bank 2021). The share of renewable natural capital, social and economic objectives. The next sections including forests and cropland, has not increased unveil particular challenges, opportunities and policy substantially over time and has yet to command a needs in Azerbaijan that are closely linked to green larger share of natural wealth. A breakdown of natural growth and diversification priorities. capital components is shown in Figure 7 and Figure 8. Limitations to the potential of renewable natural 1.2. Upcoming challenges reinforce capital are tied to the lack of a sustainable approach the need for sustainability to natural resource management and to resource Azerbaijan’s oil reserves will eventually run out. degradation due to weak environmental practices in Meanwhile, its renewable natural resources and the extractive industries. other alternative energy sources are yet to be fully Table 2: Azerbaijan’s Oil and Gas Reserves According to IEA (2021), Azerbaijan’s oil reserves will last another 25 years. (in million barrels of oil equivalent) Liquids Gas Recoverable Wood Mackenzie 18,025 8,525 BP 21,520 24,045 Produced 14,520 4,095 Remaining reserves 2020 Wood Mackenzie 4,105 4,430 BP 7,000 19,950 Production 2019 (SSC) 280 252 (in years) Reserve life Wood Mackenzie 15 18 BP 25 79 Source: IEA 2021. 27 According to bp Statistical Review of World Energy 2021 (https://www.bp.com/content/dam/bp/business-sites/en/global/corporate/pdfs/energy-economics/statistical-review/bp-stats-review- 2021-full-report.pdf0, Azerbaijan has proven oil reserves of 7,000 million barrels of crude oil (bbls), which corresponds to a reserves-over-production life (R/P) of 26.7 years. The proven gas reserves are 88.4 trillion cubic feet (tcf) or 14,737 barrels of oil equivalent (boe), corresponding to a reserves-over-production life (R/P) of 96.9 years. Azerbaijan: Towards Green Growth 11 Figure 7: Natural Capital per Capita Natural Capital, 2018 40.000 Millions, constant 2018 USD 30.000 20.000 10.000 0 Azerbaijan Türkiye Malaysia Kazakhstan Europe & Central Asia Oil, natural gas, coal, metals and minerals Pasture land Crop land Protected areas Fish eries Mangroves Forests, ecos ystem services Forests, Timber Source: World Bank 2021: CWON Figure 8: Dynamics of Natural Capital per Capita, $ 2018 4.000 3.000 US$ 2018 2.000 1.000 0 1995 2000 2005 2010 2015 2018 Metals and minerals Protected areas Pasture land Crop land Forests, eco system service Forests, timber Oils Natural gas Source: World Bank 2021b: CWON. Azerbaijan: Towards Green Growth 12 Despite current market fluctuations, the remaining Azerbaijan’s economy overall, as well as on individual oil reserves will not provide the same revenue sectors, under different policy responses from and economic drive in the medium- to long-term. Azerbaijan and other countries. The scenarios also Azerbaijan’s major export markets are already shifting investigate what might happen under different CBAM away from carbon-intensive products. Global fossil fuel coverage, if the US adopted a similar mechanism, and production would need to start declining after peaking if Europe and Central Asia (ECA) countries respond within the next decade. Although the war in Ukraine to the CBAM with carbon pricing. In the baseline is increasing market volatility, the long-term global scenario (NDC and EGD implementation), Azerbaijan’s demand for fossil fuels will be weakening, with studies oil exports to the EU reduce by $2.5 billion by 2035 showing that the impact on Azerbaijan’s oil revenue (Figure 9). This is because, while oil exports are not will begin as early as the current decade. However, directly regulated under the first phase of CBAM, Azerbaijan could consider it as an opportunity to use oil demand suffers a large drop as the EU cuts its accumulated Sovereign Fund resources to increase emissions under their NDCs. Under the first phase of productivity and diversify its economy, building CBAM (Current Proposal) where only a list of non- resilience to external shocks. oil products is regulated, the impact on oil exports is largely the same. Oil exports may even recover Azerbaijan’s oil exports to the EU are expected to marginally as the EU substitutes covered imports with decline as the EU continues to cut carbon emissions domestic production and consumes marginally more in line with its Nationally Determined Contributions oil. When border measures are eventually extended to (NDCs), but the negative effects can be alleviated include petroleum products (under the second CBAM if Azerbaijan advances its own carbon abatement phase - Expanded CBAM) the loss in export revenue measures. Analysis has been conducted of the effects will be larger. Azerbaijan could potentially recoup some on Azerbaijan’s oil exports as the EU en bloc carries of the lost oil revenue by advancing its own NDC and out its low-carbon transition plans, and the demand for qualifying for some exemption. A summary of modeled fossil fuels declines. The modeling scenarios explore results is provided in Annex 3. the impact the EU low-carbon transition will have on Figure 9: Modeled Real Exports of Oil to EU if Azerbaijan Doesn’t Act, $ Billion 2030 2020 2028 2026 2029 2033 2035 2034 2023 2032 2025 2024 2022 2027 2031 2021 19 18 17 16 15 Current Proposal Expanded CBAM All ETS, US Baseline Source: Original calculations for this publication. Azerbaijan: Towards Green Growth 13 Figure 10: Modeled Real Exports to EU in 2030, Selected Sectors, Deviation from ‘Baseline’ Metals nec CBAM goods, narrow Ferrous metals Petroleum coal products Agriculture Mineral products nec Chemical products Machinery and equipment nec Metal products -40% -30% -20% -10% 0% 10% Current Proposal Expanded CBAM US All ETS, US Source: Original calculations for this publication Under the current EU CBAM scenario, oil exports from Carbon-based trade barriers at the EU border (CBAM) Azerbaijan will be reduced along with the baseline could have a substantial effect on Azerbaijan’s non- scenario (Figure 8). They may recover marginally oil sectors. Under the first CBAM phase implemented as the EU substitutes covered imports with exports in 2023–2025, Azerbaijan’s exports to the EU will face production and consumes marginally more oil with the substantial declines. Exports of non-ferrous metals second phase (Expanded CBAM scenario Figure 10). products, mostly aluminum, could fall by nearly 35% This oil export impact could be higher if the US adopts in 2030, and of ferrous metals between 4 and 40%. CBAM as well. In the last scenario, Azerbaijan’s oil export Importantly, this could happen before the introduction could increase by about 3%. If CBAM is introduced by of further tightening of EU border measures. Azerbaijan the EU only, the impact on oil export is not significant, could potentially recoup some of the lost revenue especially under the current proposal. by advancing its own NDC and qualifying for some When border measures are eventually extended exemptions. When Azerbaijan meets its NDC, a to include petroleum products under the expanded reduction in non-oil exports is modeled at some $200 CBAM, the loss in overall export revenue will be larger. lower under the expanded CBAM scenario. (A summary Although the EU’s production of petroleum products of modeled results is given in Annex 3.) will expand, resulting in higher EU demand for crude oil These potential impacts underline the importance of and improving the outlook for Azerbaijan’s EU exports, diversification towards ‘greener’ sectors and assets. they would still not achieve the same level as under the CBAM analysis provides some hints of which industries equivalent CBAM scenario where Azerbaijan meets its might benefit from a low carbon future. The model NDC (‘Expanded CBAM). If Azerbaijan acts to meet its shows that exports to the EU of some higher value- NDC, it will reduce the carbon intensity of non-oil export, added products (like motor vehicles and machinery) increasing its comparative advantage. Acting to achieve which can be important for green growth and Azerbaijan’s NDC could limit the reduction of non-oil diversification, could see potential gains. Under these export to the EU, while securing higher revenues from circumstances, this is an opportunity to consider new oil exports to the EU. (A summary of modeled results is growth areas, given that Azerbaijani producers could given in Annex 3.) become more competitive in industries where they have lower carbon intensity than EU producers. In the short Azerbaijan: Towards Green Growth 14 term, the impact of border measures can be mitigated but seems less resilient than the Gulf countries, given if Azerbaijan applies its own national climate policies Azerbaijan’s underdeveloped infrastructure, a lack and carbon abatement measures to reduce its national of investments in non-oil sectors, and limited human emissions footprint, as per the country’s NDCs. capital. Besides, in a new era of market volatility, Azerbaijan will face uncertainties in demand for fossil As Azerbaijan starts preparing for the upcoming fuels and a growing cost of capital to attract new global ‘green’ shift, its preparedness for low-carbon investments under greening global financial markets transition can be assessed from two perspectives: its situation. exposure, and its resilience to the transition. As history has shown, Azerbaijan is highly exposed28 to transition As a result of structural economic problems, risks and market volatility, given the large share of fossil economic growth in Azerbaijan has not decoupled fuel exports and resource rents in its GDP. At the same from GHG emissions growth. Both economic indicators time, the country’s resilience29 to such changes is low converged, with a significant increase in GHG emissions due to the lack of economic diversification and weak from 2003 to 2011. Azerbaijan’s most GHG-intensive preparedness overall, including human capital. Various sectors are the electricity and heat (14.21 million ton), fossil fuel producing countries were included in a study30 transport (8.51 million ton), buildings (8 million ton) and reviewing how they would fare in a carbon-constrained fugitive emissions (7.45 million ton) (Figure 12). All these world, based on their exposure and resilience (Box 1: sectors are fossil-fuel based. Fossil fuel combustion is Country Preparedness for Low-Carbon Transition). associated with air pollution and generates another Azerbaijan’s exposure is comparable to Kazakhstan’s source of risk — health risk, which is sizable in and established exporters like Qatar and Saudi Arabia, Azerbaijan. Box 1: Country Preparedness for Low-Carbon Transition Iraq 1.0 Libya High exposure Qatar Brunei Darussalam Kazakhstan Kuwait Saudi Arabia Oman Nigeria Vietnam Iran, Islamic Rep. Venezuela, RB Azerbaijan Guyana Equatorial Guinea Algeria Botswana Russian Federation Congo, Rep. South Africa Combodia 0.5 Ukraine United Arab Emirates China Ghana Indonesia India Norway Malaysia Bolivia Egypt, Arab Rep. Angola Australia Colombia Côte d'Ivoire Bangladesh Mozambique Canada Poland Thailand Türkiye Namibia Argentina Korea, Rep. United States Mexico Malawi Chile Germany Japan Philippines Brazil Mongolia Pakistan Sweden France Italy Uganda Tanzania United Kenya Kingdom Low exposure 0 0.5 1.0 High resilience Low resilience Note: Red dots - countries most exposed to an LCT; orange dots -countries moderately prepared for an LCT; green dots - countries well prepared for an LCT. 28 Index consisting of four indicators: (1) Carbon intensity of manufacturing exports, (2) Committed power emissions as a proportion of current annual power generation, (3) Fossil fuel export as a proportion of GDP, and (4) Expected resource rents as a proportion of GDP. (Peszko et al. 2020) was also adopted as the Transition Risk Indicator by IMF: https://climatedata.imf.org/pages/fi-indicators. 29 Index composed of 11 indicators including position on global oil supply cost curve and 10 indicators of economic resilience to external shocks (Peszko et al. 2020) was also adopted as the Transition Risk Indicator by IMF: https://climatedata.imf.org/pages/fi-indicators. 30 Peszko, G., van der Mensbrugghe, D., Golub, A. et al. 2020. Azerbaijan: Towards Green Growth 15 Figure 11: Annual GDP and GHG Emissions Growth, 1991-2017 100 30% 20% 80 Annual % change 10% 60 Mt CO2-eq. 0% 40 -10% 20 -20% -30% 0 2009 2003 2005 2007 2001 1999 1993 1995 2013 2015 1997 2017 1991 2011 GDP growth GHG growth GHG (Mt CO2-eq.), right axis Source: World Bank data 2021. Figure 12: Greenhouse Gas Emissions by Sector, 2019 (Million Tons of CO₂-eq.) Electricity and heat 14.21 million t Transport 8.51 million t Buildings 8 million t Fugitive emissions 7.45million t Agriculture 7.24 million t Waste 4.21 million t Manufacturing & Construction 2.39 million t Industry 1.58 million t Other fuel combustion 1.21 million t Aviation and shipping 1.07 million t Land-use change and forestry -1.92 million t 0t 2 million t 6 million t 10 million t Source: World Bank data 2021. Azerbaijan: Towards Green Growth 16 Azerbaijan’s energy-intensive economic model has of air pollutants need to rest on a holistic approach, contributed to deteriorating air quality and related such as measures for energy efficiency improvements health impacts (Figure 13). Ambient air pollution from across all sectors, accelerated adoption of renewable fine particulate matter (PM2.5) contributes 10% to energy and fuel switching in end-use sectors to replace 18% to non-accident mortality, which is above the dirtier fuels. Windblown dust is the main source of average in the Eastern and Central Europe region. pollution in urban areas where the combination of According to Global Burden of Disease31 estimates, airborne particulate matter and industrial pollutants the welfare loss corresponding to this mortality can expose large numbers of the population to toxic range is equivalent to 3% to 12% of GDP. The sources aerosols. Coordinated measures to restore and of particulate matter pollution are given in Figure 13. enhance natural systems to control arid conditions, Fossil fuel-based sources contribute about 45% of such as reducing soil erosion and maintaining land the total air pollution, and windblown dust accounts cover, would help address land degradation issues for half of the total pollution. Positive health benefits and combat desertification. Global research on air would result from measures to address some of these quality and health impacts estimates that up to 19% leading factors of poor air quality. Deterioration of of mortality attributable to PM2.5 can be avoided by air quality and ​climate issues often display feedback reducing fuel combustion.32 loops. Actions for reducing GHG emissions and control 31 Global Burden of Disease 2019. 32 McDuffie, E.E., Martin, R.V., Spadaro, J.V. et al. 2021. Azerbaijan: Towards Green Growth 17 Figure 13: Sources of Air Pollution PM2.5 Sectoral Source Contributions PM2.5 Combustion Fuel-Type Source Contributions Malaysia 12 5 17 14 6 17 16 15 10 24 22 30 Türkiye 16 18 8 8 6 3 8 22 6 5 23 17 31 25 Kazakhstan 10 9 5 5 4 6 43 7 5 9 10 54 22 Azerbaijan 9 9 6 7 8 2 5 49 3 0% 20% 40% 60% 80% 100% 8 5 15 56 17 Agriculture (& waste burning) Energy (coal, other) 0% 20% 40% 60% 80% 100% Industry (coal, remaining) Transport (road and non-road) Residential (coal, biofuel, other) Commercial Total Biofuel Total Coal Oil and Gas Total Dust and Fires Other Other Combustion Waste International Shipping Other Fire Anthropogenic Fugitive Combustion Windblown Dust and Industrial Dust (AFCID) Other Sources PM2.5 Total Attributable Mortality Estimates Population Weighted Annual Average PM2.5 (ug m-3) Azerbaijan 23,9 Malaysia 6 4 18 6 41 25 Kazakhstan 19,0 Türkiye 13 9 5 13 39 21 Türkiye 26,1 Malaysia 16,2 Kazakhstan 12 5 4 5 40 35 Central Asia 27,5 Azerbaijan 3 5 4 5 58 26 Total Attributable Mortality (Deaths) 0% 20% 40% 60% 80% 100% Azerbaijan 7590 Chronic Obstructive Pulmonary disease Type II Diabetes Kazakhstan 9606 Lower Respiratory Infections Lung Cancer Ischemic Heart Disease Stroke Türkiye 41149 Malaysia 9619 Central Asia 60999 60,000 Source: Original analysis for this publication based on McDuffie et al. (2021).33 An effective climate and environmental policy This could lead to growth in human capital, renewable would embed a combination of various instruments. natural capital (such as ecosystem services used in These include energy and carbon pricing, emission agriculture, the renewable energy sector, and tourism), trading systems, energy efficiency and air quality physical capital (such as factories and infrastructure), standards, green finance, and programs of targeted and institutional capital. Spillover effects include support, among others. Adjusted to the economic increased innovation in companies, investments in new circumstances of a particular country, these would technologies, and diversification of asset portfolios. gradually create a system of incentives and norms At the same time, domestic and international pushing market actors to redistribute wealth from corporations and private consumers will generate economic sectors with relatively low productivity production demand in new sectors. and decreasing competitiveness toward new sectors with higher productivity and more relevance in a decarbonized and cleaner world. 33 The ‘Total Dust and Fires’ category is the sum of windblown and anthropogenic fugitive, combustion, and industrial dust, agricultural waste burning, and other fires. Azerbaijan: Towards Green Growth 18 Chapter 2: Green Growth as a Platform for Economic Diversification The development of non-oil sectors has begun but benefits are limited by other costs. Conversely, erosion will take time and resources to grow to a scale control and reversing the degradation of forests and comparable to the hydrocarbon sector. Embedding natural ecosystems may not produce large short- policy actions for sectors such as renewable energy, term benefits but they are essential for sustaining a Blue Economy (BE), water management and tourism resilient green economy over the long term (there can that support resilience to climate change impacts will be distributional gains if local communities derive jobs mitigate the low-carbon transition risks and pave the and incomes as part of restoration programs). Many way for diversification. While a concerted and long- green policies are also ‘climate-smart.’ Though the term effort to cultivate areas of promise and the full potential varies from country to country, the economic benefits of asset diversification will take years to show benefit of climate-smart actions alone in global terms full results, the policies to support the transition must is in the range of $26 trillion through 2030.The World be taken now. If chosen selectively, they can also reap Bank has developed a Sustainability Checklist34 that short-term benefits and mitigate any negative effects can guide a stakeholder-driven process to prioritize on growth. the sectors and green measures most likely to deliver economic benefits, and that are deemed appropriate Green growth principles can help guide sector for the country. Future consultations with stakeholders prioritization and the process of economic on country-specific aspects of green growth are diversification. The green growth model gives priority forthcoming to develop a prioritization matrix for to sustainable practices that also deliver local and Azerbaijan. short-term benefits (Table 3). In promoting green goals, for example on resource efficiency, options like energy demand management, energy efficiency, and switching to competitive renewable energy choices such as solar and wind can bring immediate economic and environmental benefits, including through mobilizing private investments. Investments in sustainable intensification of agriculture, better land-use and urban planning, and water and waste management are green measures that deliver immediate benefits. Carbon pricing, fuel and electricity subsidy reforms are designed to shift consumer/investor choices in favor of green and renewable options that derive fiscal merits. But they take time to work, and their net 34 The methodological note is available https://thedocs.worldbank.org/en/doc/223671586803837686-0020022020/original/ SustainabilityChecklistforAssessingEconomicRecoveryInvestmentsApril2020.pdf. The use of the checklist is described https://blogs.worldbank.org/climatechange/planning-economic-recovery- covid-19-coronavirus-sustainability-checklist-policymakers. Azerbaijan: Towards Green Growth 19 Table 3: Short- and Long-Term Benefits of Various Green Growth Measures Measures that bring short-term greening benefits Measures that bring long-term greening benefits • Environmental remediation - Ready to implement and • Carbon pricing/Carbon tax labor-intensive measures • Higher cost low-carbon energy • Improved forest/natural resource maintenance and management • Enforcement of air and water quality regulations • Sustainable intensification in agriculture and • Reforestation and reducing forest pressures/ climate-smart agriculture Enforcement of forest management regimes • Improving water resources management (water quality • Coastal zone management and protection of natural and storage, sanitation, waste management) areas of significant biodiversity value • Reducing electricity system losses • Fisheries catch management • Energy demand side management • Prevent Illegal fishing • Energy efficiency retrofits • Enabling/improving access to green financing • Incentives for green startups and job creation. • Green/Smart infrastructure projects • Low-emission public transport Source: Original elaboration for this publication. Economic diversification through greening can also renewable energy and production of low-carbon support other national goals and international hydrogen35 that could be exported to Europe in the commitments, helping with alignment to climate future. policy. One rationale for adopting some low-carbon and climate change policies today is that it can 2.1. Identifying new growth poles cushion some near-term effects of low-carbon policies Azerbaijan’s labor market is dominated by in other countries, as was shown in Chapter 1. A shift employment in the agriculture and service sectors, to low-carbon energy and a focus on efficiency will be while most of the GDP is produced in oil-dependent needed to meet the target of 35% to 40% reductions in sectors. The share of employment in the agricultural GHG emissions by 2050, as recently committed at the sector was 36% of total employment in 2019.36 COP26 meeting in Glasgow. For its adaptation goals, Agriculture has a low value added per worker in the country is currently drafting a national adaptation Azerbaijan, with the GDP created by agriculture plan that envisions nature-based resilience measures reaching less than 6% of the total that same year (pre- in agriculture and improved management of coastal COVID). Employment in services absorbs 50% of the areas and water resources. Further ongoing actions total, while disproportionally contributing to 42% of include updating NDC and developing a long-term Low GDP in 2019. In industry, only 15% are employed, and Emission Development Strategy (LEDS) considering 49% of GDP is generated. Most of this GDP is created two scenarios, the first is aimed at achieving a 35% in the oil and gas sectors (about 37% in 2019). In the reduction (real scenario), and the second one targets a past decade, Azerbaijan has not seen a reallocation 40% reduction (best scenario). In addition to supporting of employment across sectors, which has also these objectives, a greener Azerbaijan would also be contributed to a large gap in productivity between consistent with the national socio-economic goals and sectors, when productivity in agriculture is 10 times the regional development vision which promotes more less than in industry.37 economic cooperation with its neighbors. The European Green Deal includes financing for the transition from Areas with green growth potential within the brown to green by supporting oil- and gas-exporting current economic structure and sector clusters countries to diversify, and increase the share of could be identified using two criteria: a) higher 35 The EU has developed a definition of when hydrogen is low carbon (lifecycle CO2 emitted per kg produced). More can be found in Baker McKenzie (2022) The Recognition of Low-carbon Hydrogen in the EU https://www.bakermckenzie.com/en/insight/publications/2022/02/recognition-of-low-carbon-hydrogen-in-the-eu. 36 World Bank 2022b. 37 Ibid. Azerbaijan: Towards Green Growth 20 decarbonization potential in the most productive There is strong decarbonization potential in sectors with higher value added, and b) better jobs Azerbaijan’s largest sectors beyond oil & gas – potential. The growth potential of these sectors is mining, trade, construction, and agriculture. These analyzed by applying a modeling framework based sectors are among the top five contributors to GDP, on a Global Trade Analysis Project (GTAP) database with agriculture and trade employing over 55% of that describes international trade patterns and links the population. Decarbonization potential by sector individual countries and regions.38 This approach is assessed by looking at: (i) Value Added (VA) per $1 provides useful insight regarding optimal resource million of investment; and (ii) GHG emissions of each allocation within the current economic structure. sector per $1 million of investment. This approach is employed to prioritize investments in sectors with Sectoral GHG emissions and the potential for their the highest potential for reducing emissions while reduction are important considerations when creating value added. Agriculture (including forests identifying areas with green growth potential. and fisheries), water, electricity and gas, mining, and Carbon emissions in Azerbaijan are dominated by transport are identified as the five sectors with the electricity and heat, which account for 14.21 million highest GHG intensity per value added40 (Figure 14), tons of CO2-eq. of total GHG emissions.39 Following which signifies an opportunity to invest in greening, electricity and heat, other large contributors to GHG low-carbon and climate-smart technologies in these emissions are transport, buildings, manufacturing, and sectors.41 Besides, greening these sectors could construction. Emissions from land-use change and reduce the intensity of GHG emissions while reversing forestry have been consistently negative since 1990 as environmental degradation, and is an important carbon sequestration from land has been increasing. country-specific development priority. Investments Azerbaijan’s current nationally determined commitment in green and climate-smart technologies could be is to reduce GHG emissions by 35% by 2030, relative costly, but are feasible in the medium-long term while to 1990 levels. This would require a reduction of about focusing on asset diversification in the short term. 9% relative to 2018 levels, equivalent to a reduction of about 4.72 million tons of CO2-eq. per year. 38 The study uses the data for economic sectors of Azerbaijan from the latest reference year of the GTAP database. Data for the employment, income, and emission multipliers are from the GTAP-POWER database Version 10. It describes the global economy in 2014 via I-O tables. Each country, including Azerbaijan, is presented with values of production and intermediate and final consumption of commodities and services described with a standard input-output (I-O) model. In Taheripour et al. (2021), the I-O model for each country, including Azerbaijan, has been expanded to include a set of data covering economic sectors and inter-sectoral linkages aiming to analyze the investment multiplier effects on employment, value-added, GHG emissions, and air pollution. The model captures the increase in sectoral demand as a consequence of exogenous increase in sectoral investments. Growth potential is measured per million dollars spent on supply-side investments. Since the model relies on the structural coefficients of various sectors of the economy at a point in time, it is limited by a rigid economic structure that only links existing sectors of the economy and ignores the possibility of factor substitution. Moreover, new sectors with high innovation potential are left outside of this static approach. 39 Our World in Data: https://ourworldindata.org/co2/country/azerbaijan. 40 Data for the employment, income, and emission multipliers are from the GTAP-POWER Database Version 10. 41 Further analysis could consider benchmarking GHG intensity of VA production in these sectors in Azerbaijan compared to other countries with similar socio-economic characteristics in the EU and ECA. Azerbaijan: Towards Green Growth 21 Figure 14: GHG Emissions and Value Added per $1 Million Investment 40,000 Agriculture, Forests, Fishery 60,000 GHG emissions (metric tons CO2-eq) Financial Services Health 500 Electricity, Gas Real Estate Information & Communication 40,000 Construction Education 0 Housing Public Administration 100,000 200,000 300,000 Water 20,000 Electricity, Gas Mining Education Trade Public AdminHealth Financial Services Transport 0 Information Construct Real Estate 200,000 400,000 600,000 800,000 Value Added % contribution to GDP 0-2 2-5 5-8 8-11 35 Source: Original estimations for this publication based on data from the GTAP-POWER Database Version 10 and from SSC. Note: The colors and sizes of the points on the plot reflect the sectoral importance/ contributions to the country’s GDP. Significant job creation potential in sectors with (combined contribution to gross VA is under 15%), but lower GHG intensity in Azerbaijan could be achieved these sectors also create a favorable environment for along with assets diversification. Currently, more jobs better jobs creation in other economic sectors via asset in Azerbaijan per $1 million of investments are created diversification. Besides, investments in these sectors in brown sectors (electricity, gas, agriculture, water). have high employment multipliers while reducing the Asset diversification with a particular focus on human overall carbon footprint of Azerbaijan’s economy, capital accumulation, and strengthening of market advancing Sustainable Development Goal #9, where infrastructure, is one of the key drivers of growth that one of the target’s metrics is Carbon Dioxide Emissions can enhance TFP growth in Azerbaijan. 42 Consequently, per Unit of Value Added. Further details regarding there is a potential for green job growth in Azerbaijan’s different dimensions of job creation potential, including lesser GHG intense service sectors such as financial direct and indirect jobs, jobs creation potential by services, health, education, information and gender and skill and jobs creation potential per $1 communication, and real estate (Figure 15). These are million of investment are included in Annex 2. valuable sectors to the economy of the country as well 42 World Bank 2022b. Azerbaijan: Towards Green Growth 22 Figure 15: Jobs Creation and GHG Intensity of Value Added Per $1 Million Investment in Selected Sectors with Less GHG Intensity of Value Added in Azerbaijan 5.0 Transport GHG intensity of Value Added (metric tons CO2-eq) 4.0 Health 3.0 Trade Financial Services 2.0 Real Estate Information & Communication 1.0 Construction Education Public Administration 0.0 Housing 0 10 20 30 40 Jobs created per $1M investment % contribution to GDP 0 to 2% 2 to 5% 5 to 8% 8 to 11% Source: Original estimations for this publication based on SSC data and the database for Taheripour (2021). Note: The colors and sizes of the points on the plot reflect the sectoral importance/ contributions to the country’s GDP. Although not considered in this model, the innovative 2.2. Human capital development and potential of emerging green sectors and their value green growth for green growth is described in the literature (e.g. see Batini et al. 2021; O’Callaghan et al. 2021).43 Facilitating an effective transition to green jobs Green investments in renewable energy and nature- requires targeted employment programs (e.g., based solutions have high economic multipliers, reskilling and upskilling of workers, social services, meaning that every dollar of green investments can intermediation, and matching services). Green generate more than a dollar’s worth of increase in GDP. transition affects labor markets by generating winners Alternatively, equal brown investments in fossil fuel and losers. The impacts of the green transition on energy generate less than one dollar in GDP increase. employment will depend on the ability of workers to Combined with assets diversification, emerging green adapt their skills and switch across sectors. Therefore, sectors could boost Azerbaijan’s economy. flexible labor markets and flexible skill mixes are important to alleviating the negative impacts of The following sections summarize the green growth the transition. Programs for motivating workers in potential and issues for a selection of sectors. They self-learning to absorb social skills integrated with propose initial policy considerations for steering them technology for the future would mitigate transition on a green transition path. The sectors are chosen shocks (macroeconomic, health etc.) Adaptive skills because of the availability of data, while some other and socio-emotional skills are very important to sectors with high diversification potential are not smooth the transition and help reintegrate workers covered. To identify such sectors in a comprehensive who lose their jobs and also equip them with new skill way would require further and deeper analysis, sets for the green sectors. including market assessment for potential products, cost, competitiveness, etc., which is beyond the scope There are sectors and activities that offer significant of this note. prospects for green job creation. A transformation 43 Batini, N. et al. 2021. Azerbaijan: Towards Green Growth 23 of the economy towards less polluting and more undernourishment has fallen in recent years, poorer resource-efficient activities will require structural parts of the population still spent over 60% of their changes in consumer preferences and production income on food as of 2011, leaving their nutritional processes. These structural changes will in turn affect intake exposed to swings in food prices. The sharp skills demanded in the labor markets. For instance, food price rises of the summer of 2010 necessitated the green transition could have a direct effect on the VAT exemptions from the government in order to keep agricultural sector which employs the majority of cereal prices (a staple) within an affordable range; this workers in Azerbaijan. The agricultural sector is known suggests that poorer Azerbaijanis may be vulnerable to to have very low productivity levels. Climate-smart the more frequent food supply shocks that may occur agriculture would boost sector productivity and open in the coming decades. opportunities to access key export markets. Adapting Transition impacts on the labor market will to ‘green’ production patterns (less polluting, biological require mitigation measures in many sectors, agriculture) protects workers in the agricultural including health. During the transition period, sector, and it boosts human capital development some workers will lose their jobs and face fragility through the development of new skills. For this and economic difficulties. Offering comprehensive reason, developing agriculture policies to encourage health financial protection systems would not only climate-smart production and higher productivity, and moderate risks related to catastrophic expenditures reducing negative externalities through innovation and but also promote access to and use of health technology adoption, could be a win-win proposition care services, including mental health support. in the short term. Nonetheless, during the transition, The transition could cause a significant shift in introducing short-term social protection measures for workers’ roles and skills in the health sector too. Since affected agricultural workers would be essential. many green jobs require workers to learn how to Transition challenges reveal that socioeconomic design, manage,build and maintain new technologies, resilience is extremely low among the poor. In addition the health sector, as an industry, also needs to develop to preparing those people for new jobs through Active new skills to be better adapted and aligned with Labor Market Programs (ALMPs), vulnerable people strategies against climate change. These new skills should be protected by social assistance and targeted can be used to apply new technologies in health care services during the transition period. Fortunately, facilities to minimize resource use in their operation Azerbaijan has recently increased spending on social and adopt green medical waste management. protection policies and programs, and has well- Due to the complexity of this topic and sectoral developed tools for social protection, consisting of both interconnections, there is a need for more targeted contributory and non-contributory benefit programs. research to inform planning and policy making. Building on the existing system, especially coverage of the social safety nets, can be expanded to include 2.3. Energy and energy use sectors the population who are at risk of poverty/vulnerability By fostering the diversification and low-carbon during the transition period. The World Bank is transition of the energy sector, Azerbaijan planning to conduct a survey about the Targeted would benefit from increasing energy efficiency, Social Assistance Program (TSA), the largest social decarbonizing power generation by integrating more assistance program in Azerbaijan. Further areas of renewables into the grid, electrifying molecular research will assess the likely impacts on poverty and energy demand where possible (e.g. electric vehicles) inequality and different policy options to mitigate the and decarbonizing hard-to-abate sectors through effects of the green transition. the use of hydrogen and derivatives (e.g. ammonia). Increasing energy efficiency is acknowledged as the Climate change impacts food security and most cost-effective way to reduce demand, save consumption in Azerbaijan in various ways. The costs, improve energy security and reduce emissions. population engaged in non-irrigated farming already Although the government is already investing in the has the lowest productivity levels and cannot resort energy sector and fostering exploration through to irrigation in response to higher temperatures, increasing cooperation with renewable energy meaning their food availability and consumption companies, Azerbaijan has barely begun realizing its patterns are likely to be impacted. Even in irrigated extensive potential for renewable energy, particularly areas, the potential reduction in water availability and wind and solar energy. Realizing this, the Government more frequent droughts and extreme temperatures has set a target of increasing the share of renewable could reduce crop yields. Although the prevalence of Azerbaijan: Towards Green Growth 24 energy to 30%44 by 2030, from the current level of Public sector intervention and strong policy signals 7% of energy generation. An initial assessment by the will be needed to incentivize the private sector to World Bank reveals that Azerbaijan could develop up invest in renewable energy and unlock commercial to 7.2 GW of offshore wind capacity by 2036, out of capital flows more broadly. The government is a total estimated technical potential of 35 GW for pursuing legislative and policy reforms in several areas. fixed foundation and 122 GW for floating foundation The law on Renewable Energy and Energy Efficiency offshore wind technologies. Further work by the World was adopted in 2021. The draft Electricity Market Bank Group is underway to produce a roadmap for Law has reached the final stages of enactment, offshore wind energy that will identify potential sites, which will provide a sound basis for the Market economic viability, network connectivity and possible Reform Roadmap supported by the World Bank. The onshore and offshore environmental impacts. Parallel government is currently working on establishing and investments should be pursued in traditional onshore operationalization of the Energy Efficiency Fund as wind and solar PV. Much of this is contingent on the described in the Energy Efficiency Law. The national effective implementation of renewable auctions45 and climate strategy (under preparation) could provide PPAs for renewable energy, which remains in progress. additional momentum for the energy transition, as it Renewable integration to the grid will play a crucial role would help unlock climate finance to accelerate the in realizing this potential. Energy efficiency should also clean energy transition, open up the markets, create be more strongly pursued in order to reduce absolute new jobs, bring innovation and spillovers into other electricity demand. industries. The Nationally Determined Contribution (NDC) aims to reduce GHG emissions to 35% or even In parallel, different options should be explored 40% below the 1990 level by 2030.46 The Azerbaijan to decarbonize the energy supply more broadly, government is in discussions on joining the World especially low-carbon hydrogen. Domestically Bank’s Partnership for Market Implementation produced natural gas currently provides for 98% Program (PMI) to foster NDC implementation. Policies of the electricity generation and should serve as a regulating end-use are also urgently needed, including transitional fuel, ensuring grid stability and providing efficiency or emission standards for the industry, baseload power, until alternate solutions are ramped buildings, and transport sectors. Private investors up. Initial analyses indicate that with its large offshore bringing capital and technology for green buildings, wind potential, Azerbaijan has the potential for electrified transport, and value-added manufacturing future production of low carbon and green hydrogen. will bring an additional boost. Removing current Hydrogen is expected to find markets in electrified barriers to new entrants and enabling access to transport, industries, and heating, and for export under finance will also help induce investments and promote future scenarios. Related scientific and engineering a more market-oriented behavior among state expertise for a future hydrogen industry could be enterprises. Importantly, while fuel subsidy reforms drawn from the gas industry, and the government and carbon pricing that create incentives should be indicated an interest in working on developing a implemented to spur investors and consumers to lower national hydrogen strategy (Box 2). energy consumption and shift to cleaner alternatives, these policies need to be implemented carefully to avoid the potential exacerbation of energy poverty. Azerbaijan’s sovereign wealth fund can help plan for the future and leverage more support for diversifying from hydrocarbons. 44 Ministry of Energy of the Republic of Azerbaijan 2022. 45 Pursuant to Presidential Decree No. 1209 of May 29, 2019 “On the acceleration of the reforms in the energy sector of the Republic of Azerbaijan,” the law on “Use of renewable energy sources in power generation” was issued in 2021. The law defines the main principles of state policy relating to power generation from renewable energy. 46 Azerbaijan First Intended Nationally Determined Contribution (INDC). https://unfccc.int/sites/default/files/NDC/2022-06/INDC%20Azerbaijan.pdf. Azerbaijan: Towards Green Growth 25 Box 2: Potential for Low Carbon Hydrogen (LCH) Industry in Azerbaijan Low Carbon Hydrogen can play an important role in the future international competitiveness of Azerbaijan’s exports as the world markets increasingly seek products with low carbon intensity. Given the significant renewable resources, natural gas availability, Carbon Capture and Storage (CCS) potential, infrastructure and proximity to key markets, Azerbaijan could become an important producer of blue, green and turquoise hydrogen, jointly known as LCH, and its derivatives, and develop a LCH economy. Blue hydrogen production has the technology maturity, the scale and the relatively low natural gas prices (if we treat the price hike associated with the current international crisis in the region as temporary) to be economically produced today, if a cost on carbon were introduced. Green hydrogen has significant potential in countries with vast renewable energy resources such as Azerbaijan and is expected to become competitive over time in terms of scale and cost. Turquoise hydrogen technology is less mature and therefore more costly, but it is attractive as it transforms natural gas into hydrogen while producing black carbon (not requiring CCS). The size of infrastructure investments required to develop a LCH economy will be huge but can be managed by developing supply-demand hydrogen hubs/clusters much like what’s being done in Europe and the US, and by initially using the existing gas infrastructure (by blending hydrogen into natural gas, and repurposing gas pipelines), before building a dedicated hydrogen infrastructure. Global interest in low-carbon hydrogen is ballooning as an avenue for greenhouse gas emission cuts to existing hydrogen producing plants (with fossil fuels as feedstock) and other industries in need of decarbonizing. Hydrogen investments are expected to see an average annual growth of 61% between 2020-2025, reaching $23.6 billion (Rystad). Hydrogen demand is expected to grow between 4 and 6 times by 2050. Still, hydrogen only needs to grow at half the pace that natural gas did in the 1960-70’s. A detailed study of the potential for the development of a hydrogen value chain in Azerbaijan (production, transportation domestic demand as well as export opportunities) is indeed a necessity. In addition, a roadmap for policy and investment actions needs to be developed. The pre-planning phase (2023-2025) of a Roadmap for the development of a low carbon hydrogen economy would have to assesses the key governance actions necessary for the establishment of a hydrogen economy in Azerbaijan. Priority actions for the development of LCH in Azerbaijan would include: • Establish and operate hydrogen (H2) national excellence center or department to attend to all H2 related matters • Develop the legal and regulatory framework for H2 production, transport, and storage • Develop consistent H2 standards covering quality, GHG intensity, safety, and technology • Phase out direct fossil fuel subsidies to aid blue H2 development, and bring in new subsidies for green H2 • Set targets and provide incentives for the conversion from fossil fuel use to H2 use in the industrial and transport sectors • Set up monitoring, verification and reporting systems (MRV) and set targets for decarbonization of the gas value chain • Set up carbon pricing mechanisms such as Emissions Trading System (ETS) or Carbon Tax • Incentivize investments in R&D for LCH technologies, and developments along the LCH value chain • Identify areas requiring (human) resource build up and areas with existing competence that can be further developed • Establish international cooperation to facilitate capacity building and knowledge exchange • Develop market design and operating rules for trading of LCH (including derivatives like ammonia) and associated technologies • Promote Azerbaijan as an LCH provider (fuel and associated technologies) in the international arena • Sign bilateral agreements with countries which will import H2 These pre-planning actions can help boost demand, scale up supply and establish H2 valleys, infrastructure etc. in the subsequent phases of a roadmap. Azerbaijan: Towards Green Growth 26 2.4. Water management policy. Raising the efficiency of water use in the largest group of water users irrigated Investment in climate-smart irrigation, water agriculture — will be key. Annually 54% of the supply, and sanitation is key to supporting total renewable freshwater resources available are further sustainable growth. Pollution prevention withdrawn, of which 74% is used for agricultural measures will also directly contribute to enhancing water needs. Consumption by households ranks third water resources. Among the highest investment at just 4%. The economic productivity of water use priorities would be the inefficient irrigation network in agriculture is estimated at $4 / m3, lower than in and inadequate drainage causing large areas of other countries,47 and is a major factor in Azerbaijan’s waterlogging, rising groundwater, and subsequent low ranking in the food security index.48 Nature and salinization of agricultural lands. Official statistics ecosystem-based solutions can be considered in lieu of suggest that on average, about 26% of all total grey infrastructure as part of green growth, and they freshwater abstraction is accounted for as network would strengthen resilience to weather shocks. losses (State Statistical Committee of Azerbaijan 2020). Treatment of polluted surface water for 2.5. Transport domestic use adds significant cost to the utilities and In 2018, Azerbaijan recorded a total of 172,400 tons the economy. A lack of sewage treatment systems in of air pollutant emissions, out of which 16,700 tons the regions and the Greater Baku area has affected were carbon dioxide (CO2) emissions. The transport, the quality of ground water and of the receiving water storage and communication sectors accounted for bodies and the Caspian Sea. To deal with upstream 23.7% of total air pollutant emissions and 4.7% of pollution and domestic effluent, the government has total CO2 emissions in the same year.49 Within the doubled the sewage treatment capacity over the transport sector, the road sub-sector is by far the past decade. Additional investments into water and largest contributor (about 91%) to the CO2 emissions wastewater treatment (including World Bank -financed followed by the domestic aviation and maritime projects) are also planned. To continue supporting sectors.50 As emissions from transport are rapidly future growth, a long-term program of capacity growing, Azerbaijan’s Intended Nationally Determined expansions and enforcement of pollution prevention Contributions (INDC) call for the promotion of electric plans is needed, as well as measures to mitigate mobility, electrification of railway lines, development investment risks in water-efficient technologies and of public transport, improvement and expansion of the climate-smart agriculture, including by enabling scope of Intelligent Transport Management System, public-private partnerships in the sector. etc. While measures have been introduced to address Ensuring sustained and reliable water access will the issue of polluting emissions from the transport require complementary management measures. sector (to address an aging vehicle fleet, set and The government has embarked on water security enforce more stringent fuel and emission standards, assessments and sector performance assessments to incentivize non-motorized transport and electric inform the priorities for the sector. There is a need to vehicles, improve low-emissions public transportation augment water storage and aquifer recharge capacity. and urban mobility, etc.), the current respective River flows need to be kept at above minimum levels government policies still don’t seem to be sufficient.51 to maintain a healthy riverine ecology. Management Development of non-motorized modes of measures need to include water extraction rates transportation (NMT) and pursuing a modal shift and water use efficiency. Domestic and commercial from road to railway are the emerging priorities for water tariffs are one of the instruments for promoting reducing polluting emissions and greening mobility efficiency and their level is not sufficient to incentivize in Azerbaijan. They also have the potential to green behavioral change and efficient water resource the future growth of this important sector. Despite allocation. the recent progress on NMT achieved through ‘The Climate change aggravates water scarcity and State Road Safety Program for 2019-2023,’ the elevates the risk of conflicts among water users, institutional framework for NMT in Azerbaijan remains which needs to be factored into the resource extremely fragmented and there is a lack of norms and 47 The data is from FAO Aquastat (2021); metric — ‘water use efficiency’ — tracks the value added in $ per volume of water withdrawn in cubic meters, by a given economic activity over time. It considers water use by all economic activities, with a focus on agriculture, industry, and the service sector, assessing to what extent the economic growth depends on the use of water resources. 48 Global Food Security Index 2021. 49 OECD/ITF 2020. 50 Ibid. 51 World Bank 2018. Azerbaijan: Towards Green Growth 27 standards. Important policy recommendations for the projects, but also supported by a rich biodiversity development of NMT formulated in the recent World resource of the Caspian Sea, digitalization of urban Bank study52 call for the recognition of the important development and investment in human capital. status of NMT as a major green urban mobility mode The Caspian Sea is connected to the Black Sea by and for the need to address issues that are impeding the Don and Volga rivers, which makes Azerbaijan a NMT development. Promotion of the modal shift from crucial connecting country between Asia and Europe roads to railways holds a strong potential to address and East and West transport corridor. The Caspian air pollution and GHG emissions, and “electrification of Sea creates multiple advantages for Azerbaijan to railway lines and the transition to alternative current build and develop economic ties through the maritime system in traction” is among the measures foreseen economy. The growing mobility of the population and by the Azerbaijan NDCs. While most rail operators connectivity of the region and Azerbaijan’s nature in the region are witnessing a decline in the share of and cultural heritage create new opportunities for passenger traffic, ADY, the national railway company, economic development outside the oil and gas sector, achieved a significant increase with a total of 3.9 especially in tourism and fishery, fueling Azerbaijan’s million passengers transported in 2019. Despite the Blue Economy (BE). Strategies and policies to develop policy priorities established, however, the share of the blue space using an ecosystem approach will offer railways in freight transportation continues to decline. multiple green solutions. However, these opportunities Overall, during the last two decades it has dropped could be realized only after cleaning and rehabilitating from 20% in 2000 to about 6% in 2019.53. During the the coastal areas, plugging the abandoned wells, same period the modal share of road transport has reducing pollution to the sea from oil and gas drilling respectively increased from 50% to 66%. Thus, the and transportation, and green redevelopment of realization of the targeted modal shift in the freight coastal areas. USEPA has estimated that every year sub-sector has thus far not been achieved, and requires the abandoned wells emit as much GHG as 21 mil additional efforts to improve rail infrastructure (e.g. vehicles on the road. They also estimated that plugging rehabilitation, electrification) and services, the overall abandoned wells could reduce GHG at a cost well within efficiency of the railway and logistics system, better the range of other climate policy options – roughly $67 enforcement of axle load control, and other policy to $170 per ton of CO2-eq. GHG reduction. Integrated measures pathways for implementation of green solutions will 2.6. Blue economy offer opportunities for alleviating the stressors to the marine environment, strengthening the resilience of Azerbaijan’s Caspian maritime economy has marine and coastal systems and developing of the BE significant economic potential beyond the potential. In the medium term, significant benefits of established sectors, which include offshore oil and BE could exceed the required investment cost, including gas production, shipping, and fisheries. Baku Alat both cleaning and development needs. However, port is the most strategic part of Azerbaijan’s logistics comprehensive research will be necessary to determine infrastructure for the transportation of raw materials further what, where and how Azerbaijan’s BE potential and finished products from China and Central Asia can grow. to Western markets. The Caspian shore continues to attract investments and people. Nearly one-third of Azerbaijan can tap into the blue-green benefits of the Azerbaijan’s population lives in the coastal districts, Caspian Sea as another source of economic growth. and about 85% of the country’s GDP is generated in The Caspian region is rich in biological resources this region, mostly in mining, shipping, construction and serves as the world’s largest spawning ground and trade associated with oil and gas exploration. for sturgeon. BE has a high potential for green jobs At the same time, the Absheron Peninsula is home to creation, with the fishing sector standing out as a vibrant urban economy centered around the Greater generating the most jobs per $1 million of investments. Baku with a rich cultural value that could be a cradle The regional sturgeon industry, which produces up of an emerging green economy with a significant to 85% of the world’s caviar, has been an economic diversification potential linked to private-sector mainstay of the Caspian Sea Basin for centuries.54 innovations. The infrastructure of a green economy Overfishing and pollution are the two main reasons for could be based on recent and planned infrastructural the Caspian Sea’s declining fish stocks. Overfishing is driven by demands from local consumers and 52 World Bank 2019. 53 SSC 2020. 54 UNDP-CEP Report http://www.caspinfo.net. Azerbaijan: Towards Green Growth 28 international demand for black caviar. Improved To realize BE opportunities in the Caspian Sea, management of fish stock and effective regulations environmental and sustainable resource management could address the obvious issue of “too many boats issues need to be prioritized at the regional level. chasing too few fish.” There is considerable evidence to Discrepancies in fish catch and catch quota, from the suggest that pollutants55 from petrochemical products, FAO and the International Commission on Aquatic industrial discharges, and untreated municipal Resources of the Caspian Sea (ICARCS), point to over- wastewater – and other stressors of the coastal fishing (Figure 16). ICARCS defines and distributes ecosystem – are impacting the marine ecosystem.56 the catch quota to major commercial fish species This exacerbates the problem of overfishing, which between Iran, Kazakhstan, Russia, Azerbaijan and has already led to declining fish stocks (e.g. sturgeon Turkmenistan. To sustain the fishing industry, a and other commercial fish species). Azerbaijan has total allowable catch (Figure 16) should be set and untapped opportunities for inland aquaculture which enforced to protect the biodiversity of the Caspian could grow into a cohesive green growth alternative. Sea, as well as to regulate the transboundary impact Currently, inland commercial fishery activities are of overfishing. Science-based regulation of fish stock concentrated on four larger waterbodies: the Kura will allow an increase in the value of Azerbaijan’s blue River, Lake Sarysu, and the Mingachevir and Shamkir resources and protect their significant potential to reservoirs. Yet, without further research it is difficult support the diversification of the national economy. to evaluate the green co-benefits of expanding However, climate change will have strong impacts on inland fisheries in Azerbaijan’s water bodies. There the Caspian Sea and the coastal areas, which must be are significant greening opportunities in establishing analyzed in detail and managed in order to sustain the models of sustainable fishing, the benefits of which are potential of BE (Annex 4). (a) restoring essential ecosystems in the Caspian Sea, and (b) promoting alternative livelihoods through sturgeon aquaculture ─ an industry with huge economic potential. Source: FAO 2020, SSC 2020. Figure 16: Fish Catch (tons) 2500 7000 6000 2500 5000 2000 4000 3000 1000 2000 500 1000 0 0 2010 2018 2016 2019 2013 2015 2014 2012 2017 2011 Total FAQ Total SSC 55 UNEP 2002. 56 Jafari, N. 2010. Azerbaijan: Towards Green Growth 29 Figure 17: Number of Boats Engaged in Fishing, 2019 from 6 to 9 meters length to 5 meters total 0 100 200 300 400 500 600 700 boats without boats Total engine with engine Source: SSC 2020. Azerbaijan: Towards Green Growth 30 Chapter 3: Integrated Approaches to Foster Growth and Climate Resilience 3.1. Adaptation – why and how can deliver on several development priorities in Azerbaijan. However, to inform the creation of country- In addition to the transition risks, Azerbaijan’s specific green growth criteria (e.g. green taxonomy) economy is exposed to the physical impact of climate and propose policy interventions there is a need for change. Addressing the related risks on time and in targeted analytical work about the short-, medium-, a strategic manner will bring multiple benefits. The and long-term physical and transitional impacts of awareness of the importance of resilient societies is climate change in Azerbaijan and how they would increasing after the experience with the COVID-19 affect the economy and social systems. The following pandemic. Globally, climate change has the potential to sections summarize the potential for an integrated cause multifaceted impacts on countries and societies approach that can steer growth while strengthening of a comparable magnitude,57 and climate resilience58 climate resilience and generating environmental has become an important and growing subset of benefits in some sectors. Other areas (e.g. green cities) system-level resilience. Thus, the diversification efforts also offer opportunities for green and resilient growth towards greener growth in Azerbaijan need to consider and need to be explored in more detail. the anticipated impacts of climate change on different sectors and aspects of life, notably the risks as well as 3.2. Agriculture and sustainable use the potential opportunities they bring. An overview of of land resources climate-related risks and vulnerabilities for Azerbaijan The agriculture sector is a major employer, but it is provided in Annex 4. Climate Risks in Azerbaijan has not been able to reach its full potential. There is Multiple benefits from adaptation, named as ‘triple significant scope for higher productivity and value dividend’ by the Global Commission on Adaptation59 addition, the gains of which could be shared across need to be considered when prioritizing actions a large number of workers in the form of better jobs for green growth. For example, in the context of and higher incomes (Figure 18 and Figure 19). The Azerbaijan, the green growth and climate action sector is constrained by a host of factors, including prioritization of activities may consider the following farming practices. This has been recognized by the criteria (i) both mitigation and adaptation benefits are Strategic Road Map on the Production and Processing of feasible; (ii) potential for contribution to addressing Agricultural Products (2016) which presented holistic sector- and country-specific environmental challenges sector reforms via commercialization and reorientation and goals; and (iii) potential for addressing the towards markets and exports, value-addition and identified climate risks and vulnerabilities and agro-processing, import-substitution, and the adoption strengthening climate resilience. Adaptation actions of environmentally sustainable agriculture. 57 According to World Economic Forum (2021), environmental and climate-related risks are accounting for four of the top-five risks by likelihood and three by impact. 58 Climate Change Adaptation is the process of adjusting human systems and societies to the impacts or expected impacts of climate change, and Climate Resilience is the capacity of a system to cope with, or recover from, climate change impacts, while retaining the essential components of the original system. Strengthening the resilience of a system to withstand climate-related shocks or stressors is where adaptation and resilience intersect. 59 The first dividend is avoided losses through climate informed adaptation investments that are targeted to reduce future losses. The second dividend comes from the economic benefits through reducing risk, increasing productivity, and driving innovation through the need for adaptation. The third dividend comes from the social and environmental benefits derived from adaptation investments. See Global Commission on Adaptation (2019) https://gca.org/report-category/flagship-reports/. Azerbaijan: Towards Green Growth 31 Figure 18: Azerbaijan’s Employment by Sector and Year 3.00 2.50 2.00 million persons 1.50 1.00 0.50 0.00 Agriculture Industry Services 2010 2015 2019 Source: World Bank 2022a (forthcoming). Figure 19: Azerbaijan’s Value-Added per Worker by Sector and Year 50000 constant 2015 USD per worker 45000 40000 35000 30000 25000 20000 15000 10000 5000 0 Agriculture Industry Services 2010 2015 2019 Source: World Bank 2022a (forthcoming). Azerbaijan: Towards Green Growth 32 One of the impediments to achieving higher Reversing the degradation of Azerbaijan’s scarce land agricultural productivity is the sub-optimal irrigation resources and investing in climate-smart agriculture system and water resource management. Around that also builds climate resilience will be important 1.4 million hectares of the country’s arable land are to fully realize the potential of the country’s natural irrigated (SSC 2020) but irrigation systems are resources. Agriculture accounts for 57.6% of land use, plagued by water delivery issues, including high water more than half of which is permanent pastureland. losses and poor or no drainage. This has led to high Forests account for just under 14% of land cover, a levels of salinization and water logging. Irrigated number that has been steadily creeping upwards agriculture is also highly susceptible to the impacts since independence when it was around 10%. Land of climate change, with drought frequency being a degradation from soil erosion affects 42% of the prominent production risk. Shortfalls in irrigation and territory of Azerbaijan.64 Soil erosion can potentially seasonal runoff variations during the April-November reduce land productivity by 1.2% and generate 0.024% period are estimated to be responsible for crop loss of losses in GDP annually.65 Heavy precipitation and over 60% for irrigated areas in some southern regions, flooding are responsible for most of the land erosion in while the Eastern Lower Kur basin experiences over Azerbaijan. Since 1978, over 500 km2 of Azerbaijan’s 20% crop loss.60 coastal areas have experienced flooding. Every other year, around 300 km2 of land is affected by flooding, Climate Smart Agricultural (CSA) technologies can with up to 1 million m3 of soil getting eroded. Between address productivity issues while enhancing resilience 2000–2007, damages from flooding and erosion alone and reducing emissions. Modern technologies for cost Azerbaijan $490 million.66 Erosion and landslides climate change adaptation (such as modern irrigation damage important infrastructure and affect crop technologies, drought-resistant seeds and livestock, yields. Many areas experiencing soil erosion (indicated and others) do exist in Azerbaijan to a very limited by changes in primary productivity) are adjacent extent, and only on large farms. Farmers in Azerbaijan to important croplands (Figure 20 and Figure 21). are not well prepared to respond to the impacts of These include the mountainous areas of the Greater climate change.61 Azerbaijan is actively seeking62 and Caucasus impacted by frequent floods, and where participating in international cooperation63 in water a loss of forest cover in the Shinchay, Kishchay, resources management also to address the need for Girdimanchay, Pirsaat, and Gozluchay areas have been improving water use in the country’s growing agriculture known to cause soil erosion. sector, among other priorities. 60 Industrial Economics Incorporated. 2013. Reducing the Vulnerability of Azerbaijan’s Agricultural Systems to Climate Change: Impact Assessment and Adaptation Options. Prepared for the World Bank. 61 Industrial Economics Incorporated. 2013. Reducing the Vulnerability of Azerbaijan’s Agricultural Systems to Climate Change: Impact Assessment and Adaptation Options. Prepared for the World Bank. 62 AzerNews 2022. 63 Turan Information Agency 2022. 64 World Bank. 2012. The Republic of Azerbaijan: Climate Change and Agriculture Country Note. 65 MENR estimates for 2011 are used as a benchmark year in Sartori et al (2019). 66 Ibid. Azerbaijan: Towards Green Growth 33 Figure 20: Changes in Net Primary Productivity in Non-Cropland Regions, 2000-2013 Guba-Khachmaz Shaki-Zaqatata Ganja-Gazakh Daglig-Shirvan Absheron Kalbajar-Lachin Aran Yukhari-Karabagh Nakhchivan Lankaran Average percentage change % > 60% > 0% - 25% > 40% - 60% > -10 - 0% > 25% - 40% < -10% > 15% - 25% Source: Original analysis for this publication (GRID benchmarking 2021). Figure 21: Land Use Shrubs Closed forest, evergreen needle leaf Herbaceous vegetation Closed forest, decideous broad leaf Cultivated and managed vegetation/agriculture (cropland) Closed forest, mixed Urban built up Closed forest, unknown Bare / sparse vegetation Open forest, evergreen needle leaf Snow and Ice Open forest, decideous broad leaf Permanent water bottles Open forest, mixed Herbaceous wetland Open forest, unknown Moss and lichen Source: Copernicus Global Land Service (Buchhorn et al. 2020). Azerbaijan: Towards Green Growth 34 Azerbaijan currently achieves only 70% of the Figure 23, these gains are achieved by reallocating full economic production potential of land use in approximately 85% of grazing land, with a majority crop production, livestock, and forestry, given the of it being returned to natural land, and the rest observed level of pressure on natural resources. split between irrigated and rainfed cropland. In the Land use efficiency could be improved largely through highlands in the north and south of the country, most intensification of crop lands, and also converting of that natural land must be returned to a state of grazing land to cropland (Figure 22 and Figure 23). natural forest, whereas the lowlands in the center Significant improvements could be made in biodiversity of the country and near Baku are most productive and carbon storage without any reduction in monetary as natural vegetation and grasslands. About 40% of returns. Maximizing carbon sequestration which remaining croplands are intensified through irrigation holds economic production value constant would lead investments (where sustainable and economical) and to an increase of 116 million tons of CO2-eq. being increased use of modern inputs. Such changes would sequestered, which is equivalent to about 1.5 years help Azerbaijan make progress towards its NDC. of Azerbaijan’s GHG emissions in 2018. As shown in Azerbaijan: Towards Green Growth 35 Figure 22: Land Use Land Change Transitions from Current to the Optimal Production Value,67 Azerbaijan Croplands: 2,870,441 Croplands: 3,695,303 Intensified crops: 1,689,071 Intensified + BMPs: 7 Grazing: 2,823,636 Grazing: 1,734,487 Forestry: 211,626 Forestry: 184,726 Natural: 1,108,804 Natural: 1,360,637 Source: Original estimations for this publication. Note: Based on 2018 levels. Numbers shown are hectares. Minor land uses (e.g., urban, mixed use) are not included. Figure 23: Land Use Land Change Transitions from Current to the Optimal GHG Reduction, Azerbaijan 800,000 Croplands: 1,714,768 Croplands: 3,695,303 Intensified crops: 1,373,860 Intensified + BMPs: 199,472 Grazing: 422,630 Grazing: 2,823,636 Forestry: 93,117 Forestry: 211,626 Natural: 4,035,522 Natural: 1,108,804 Source: Original estimations for this publication. Note: Based on 2018 levels. Numbers shown are hectares. Minor land uses (e.g., urban, mixed use) are not included. 67 Optimal level in this model corresponds to the Pareto max which is a theoretical maximum of economic efficiency of resources and goods allocation in the economy, and no change can be made without making someone worse off. Azerbaijan: Towards Green Growth 36 Box 3: Khojasan Lake Urban Regeneration Due to a lack of municipal wastewater infrastructure around the Khojasan Lake (almost 30% of households have no sewage network connections), all effluents are directly discharged to the lake at its northernmost point. Unabated pollutants are mainly concentrated in the north, northwest, and northeast areas of the lake, infiltrating the soil and affecting the shoreline ecology. The total inflow to the lake comprises domestic sewage from nearby residential areas and industrial units, rainwater mixed with sewage water, residual water from small oil extraction plants, direct precipitation, and surface runoff. Eco/Biodiversity Benefits: Preserving the urban lake ecosystem will increase the landscape’s aesthetic value, provide recreational services, and free up additional land for housing and economic activities. Health Benefits: It could also help mitigate local climate extremes in urban areas, decrease risks for public health associated with contaminated ambient air, volatile pollutants, and contaminated ground and surface water. Regional Tourism Benefits: It would improve neighborhood living conditions, while potentially creating jobs and new business opportunities and thereby increasing the area’s development potential and property value. The implementation of the remediation plan is estimated to generate a seven-year burst of economic benefits in and around the Khojasan municipality area, and will increase permanent and temporary jobs and wages. Azerbaijan: Towards Green Growth 37 Landscape restoration and land rehabilitation in the regulating functions. Accordingly, the main forestry polluted areas of Azerbaijan is another component of activities are concentrated on forest protection and the efficient land use that is a prerequisite for urban reproduction, and logging is conducted mainly for rehabilitation. While reversing environmental damage sanitary care of the forests as well as plantation is important for agriculture and ecosystems’ health, it management. The unit rent per cubic meter of timber brings other important benefits to land value and living (Figure 25) has decreased since 2010, signaling conditions. The case of the Khojasan Lake regeneration reduced economic use of forest rents from timber over illustrates the potential environmental and economic the expected lifetime of the present timber stock. The benefits of remediation of land and urban lakes (Box 3: causes are likely tied to adjacent land degradation and Khojasan Lake Urban Regeneration). Here, remediation land-use conversion (World Bank 2021), which could and regeneration programs can directly benefit be addressed by environmental policies. According local communities. An estimated 5–6% of the cost of to SSC, forest cover has stabilized at 12% since 2005 remediation and regeneration works can potentially with no significant further loss in the forest cover.68 accrue to communities as wages. The implementation Logging for fuelwood roughly halved between 2000 phase will boost gross domestic product (GDP) of the and 2016 (World Bank 2020). Yet studies show the project area by an estimated 5–7% per year during value of natural capital (forests and ecosystem the seven-year environmental remediation period, services) per hectare of forest cover in Azerbaijan being considering the spinoff effects generated by wages and considerably lower than for peers such as Türkiye, consumer purchases. though slightly higher than for Kazakhstan (Figure 24). Although timber reserves have grown by 18% from While there is considerable scope for efficiency 2000 to 2018 (SSC 2021), the natural capital value of improvements in Azerbaijan, the challenge lies in timber resources per hectare of forest cover is smaller finding the right policy mix to deliver these gains. For compared to its ecosystem services (Figure 25). Azerbaijan, solutions can be categorized into those that encourage shifts away from livestock grazing to the intensification of agriculture, and those that catalyze the desired land-use changes and urban land regeneration. In practice, there are no simple policy panaceas, and hybrid approaches need to be guided by cost, feasibility, distributional concerns and the effectiveness of each policy instrument. Regardless of whether Azerbaijan pursues a path of maximizing economic production or environmental benefits, one of the clear results of the analysis is that there is a need to transition from grazing to both natural vegetations/ forests, and intensified agriculture. Livestock grazing in Azerbaijan is both economically less efficient than crop production and also responsible for significant soil erosion that reduces critical ecosystem services like flood protection and land fertility. Also, addressing legacy pollution is a critical first step for urban development on the Absheron peninsula and unveiling the benefits of BE in the coastal area. 3.3. Forest sector and ecosystem services The forest sector has multiple opportunities for green growth, climate action, and ecological benefits. There is potential for better rent capture from forestry and forest services in Azerbaijan. The forests are state property and managed with a special focus on watershed services, soil protection, and climate- 68 SSC 2021. Azerbaijan: Towards Green Growth 38 Figure 24: Natural Capital in Forest and Ecosystem Services, 2018 ($/ha) 12000 10000 8000 6000 4000 2000 0 Azerbaijan Türkiye Malaysia Kazakhstan Forests, ecosystem services 2018 $/ha Forests, timber 2018 $/ha Source: World Bank 2021b; Forest cover (ha): FAO GFW 2021. Note: Natural capital in millions, constant 2018 USD. Figure 25: Timber Unit Rent ($/m3), 2018 35 450 400 30 350 25 300 20 250 U$$/m3 (Malaysia) U$$/m3 15 200 150 10 100 5 50 0 0 2000 2009 2002 2003 2008 2005 2006 2004 2001 2007 1998 1996 1999 2010 2012 2013 2018 2015 2016 1995 2014 2017 2011 1997 Azerbaijan Kazakhstan Türkiye Malaysia Source: World Bank 2021b. Azerbaijan: Towards Green Growth 39 The value of non-wood forest products and and improving rural livelihoods. Optimum and efficient services also needs to be captured. The state forest sustainable utilization of forest resources will improve fund accounted for 1,213,700 ha in 2017, with only 2% the resilience of forest ecosystems against the impacts of the forest fund territory assigned to a recreational of climate change and other natural disasters. area (World Bank 2020). The value of these services Enhancement of ecosystem services in Azerbaijan is estimated at $72.6 per hectare, which is lower than could be achieved using different policies to incentivize the ECA average value of $162 per hectare (Siikamäki sustainable use of renewable natural resources. PES et al 2015). There are tangible economic benefits schemes or conservation land tenders, which incentivize from forests to be captured for recreational use and the restoration of forests in the Greater and Lesser ecotourism. Green policies to halt land degradation, Caucasus, are worth exploring. In addition to the carbon that affect forestry and restore healthy ecosystem and biodiversity benefits that they can generate, they services, also have other benefits. Forests also support can also help capture tangible economic benefits from carbon sequestration potential, and enhancing this forests for recreational use and ecotourism. Other function would help Azerbaijan achieve its NDC policy instruments like land-protected area zoning and targets while enhancing the resilience of mountainous land taxes based on land use could also generate the landscapes. Implementing Nature-Based Solutions desired land-use change results, but may have harmful for adaptation, with high economic and employment distributional consequences for landowners. multipliers, will also contribute to building resilience Azerbaijan: Towards Green Growth 40 Chapter 4: Strategic Underpinnings and Institutions for Green Growth Moving the economy on a greener path will foster Socio-Economic Development for 2019-2023. multiple socio-economic benefits but sustaining them Pursuant to the ratification of the Paris Agreement, will require stronger institutions and effective policy Azerbaijan has communicated the Nationally coordination. Green growth can reduce the burden on Determined Contributions (NDC) in 2015. The NDC land, air and water resources while creating expanded established a GHG emission reduction target at 35% opportunities for gains in productivity, quality of life by 2030 in selected sectors of energy, agriculture, and social equity69 (OECD, 2011). Continued economic transportation, and land use. The NDC is currently growth, as an imperative for Azerbaijan, is translated being updated within the scope of the UNDP in the national socio-economic development strategy implemented EU4Climate Project, envisioning an (Azerbaijan 2030 National Priorities for Socio- increase in the target to 40% by 2050; however, the Economic Development) and has the potential to proposed update is pending a formal commitment unlock additional opportunities for sustainable growth. from the government. Another strategic document This includes innovations and technology development under development is the National Adaptation Plan and more jobs to become part of the national ‘green (NAP) which sets specific and time-bound actions in growth’ strategy. Of imminent importance will be line with adaptation priorities and an updated NDC. capacity development for assessing the economic and In coordination with the NDC update, the Long-Term social impacts and incorporating measures in each Low Emission Development Strategy (LT-LEDS) is being sector affected by the green transition to mitigate developed, which will define new sectoral abatement short terms risks. strategies until 2030 and 2050. The strategies Azerbaijan’s Vision 2030 transpires the spirit of elaborate on the scenarios considering abatement the 2030 Agenda for Sustainable Development. As effectiveness and cost-effective analysis. To achieve the overarching strategic document, it declares five these ambitious GHG reduction goals, Azerbaijan needs national priorities for the socio-economic development to gradually launch a total of about 1,500 MW of newly of Azerbaijan, including the ‘clean environment and installed renewable energy capacity from 2021-2030.70 green growth’ (Priority #5). The main goals under this Shifting the development focus away from the dominant Priority are (i) ‘high-quality environment,’ and (ii) ‘green oil and gas sector is an important paradigm shift energy zones,’ envisioned to be achieved through the supporting the national climate change agenda. This introduction of environmentally friendly technologies, transformation was embraced by the State Strategy use of renewable and alternative energy sources, waste for the Use of Alternative and Renewable Sources for recycling and rehabilitation of contaminated areas. 2015–2020, which determines areas where renewable The Azerbaijan Vision 2030 is followed by drafting and alternative energy sources could be introduced for the Strategy for the Socio-Economic Development for the generation of heat and electricity. This was followed 2022-2026 which also builds on the State Program for 69 OECD 2011. 70 Ministry of Energy of the Republic of Azerbaijan 2021. Azerbaijan: Towards Green Growth 41 by the adoption of the Law on the Use of Renewable which stipulates the respective mitigation measures. Sources in Electricity Generation in 2021, which The Law71 states the main public policy objectives as establishes a mechanism for attracting private (foreign) follows: (i) ensuring the reliability and security of the investments in industrial development. Such mechanisms energy system; (ii) ensuring competitive economic envision, among others, auctions on renewable energy development through efficient use of energy resources; sources for which the rules are being developed with (iii) creating a favorable environment for the efficient support from EBRD. This law establishes a framework in use of energy resources, encouraging investment line with the respective legislative acts and regulations in energy efficiency measures and high-efficient to be further developed. For example, while the Law technologies; and (iv) strengthening cooperation introduces the concept of an Auction of the Producer of between energy producers, transmitters, distributors, Electric Energy, the details that differentiate it from the suppliers and consumers, as well as state bodies public procurement process are not defined. Tariffs for (institutions) and local self-government bodies. renewable energy are envisioned, however the difference Given multiple challenges surrounding low-carbon between regular tariffs and related government subsidies development, stronger and more proactive policies are not considered. The Law mentions the Atlas of and institutions aligned with national development Renewable Energy Potential to be developed for each priorities could effectively support the green administrative unit (rayon) of Azerbaijan. Once developed, transition. Transformative policies that move away this Atlas will be an important tool for long-term planning from top-down approaches could have significant of energy generation and area-specific economic profile firepower for the private sector’s uptake of green and opportunities. technologies. This includes policies promoting an The Law on Rational Use of Energy Resources and enabling environment that fuels market changes and Energy Efficiency was developed and adopted in 2021, incentives for firms and the whole economy to reach along with the draft Action Plan on Energy Efficiency their ‘green’ potential. Box 4: Institutional Mandates for Sustainable Development The Ministry of Ecology and Natural Resources (MENR) is a National Designated Agency (NDA) for the United Nations Framework Convention on Climate Change (UNFCCC). Following the ratification of the UNFCCC in January 1995, the government established the State Commission on Climate Change (SCCC)72 in 1997. Its composition was reconsidered and approved in 2020, with Prime Minister chairing and heads of selected state agencies included as members. The mandate of the Commission is to coordinate the efforts of various stakeholders towards the implementation of a country’s commitments under the UNFCCC. There is the SCCC Permanent Secretariat under the MENR, which started its operation in March 2022 with the purpose of monitoring the implementation of the NDCs and administrating decisions of the SCCC. The Secretariat closely follows up with all agencies assigned with the implementation of NDCs, analyzes their reported performance and provides regular updates to the SCCC. There is also the Climate Change Center under the Hydrometeorological department of MENR, which coordinates the GHG inventory process, through GHG sectoral data collection and analysis. The National Coordination Council on Sustainable Development and the Ministry of Economy lead the voluntary national reporting on SDGs for Agenda 2030 through consultation with various stakeholders including the Parliament, line ministries, public institutions, NGOs, private sector, and academic institutions. The Ministry of Industry and Economy (MIE) is responsible for formulating and implementing the state economic policy and regulations, including, inter alia, management of government assets, development of public investment programs (PIP), determining directions and activities for socio-economic development, and support to private businesses and entrepreneurship. The MIE, along with MENR, is a designated Focal Point for the EU-funded EU4Environment program which is designed to support Azerbaijan in pursuing its path of green transformation and unlocking opportunities for greener growth. Within the MIE, a Coordination Council on Sustainable Development of Azerbaijan has been established to determine and streamline the directions for the socio-economic development for the period 2022-2026. Prepared under the EU4Energy project and with support from the International Energy Charter (IEC). 71 72 SCCC members: Ministries of Finance; Economy; Agriculture; Health; Ecology and Natural Resources; Foreign Affairs; Transport, Communication and High Technologies; and National Academy of Sciences; SOCAR; Azerenergy OJSC; and Amelioration and Water Management OJSC. Azerbaijan: Towards Green Growth 42 Greening the financial system is key to the green make decisions and allocate capital to align with the transition. In setting the public investment programs goals of climate risk management and mobilization (PIP), the MIE closely coordinates with the Ministry of green finance and to stimulate the development of of Finance (MoF) which is responsible for setting the instruments and markets. medium-term fiscal targets and assigning costs to Climate Budget Tagging (CBT) and expenditure sectoral public expenditures. The MoF has recently tracking could be an important milestone in adopted a Medium-Term Expenditure Framework addressing Azerbaijan’s climate-related policy (METF), which should enable the MoF to provide ambitions and goals. The CBT and result-based realistic estimates for costing the green budget and budgeting are currently piloted by MoF in three sectors linking expenditure allocations to government policy – Environment, Education and Agriculture. Along with priorities and moving to results-based budgeting. public finance, aligning the private financial sector Starting from this year, results-based budgeting with national sustainability and green growth goals is began to be implemented in three pilot areas, namely a short-term priority to scale up and speed the green Environment, Agriculture and Education. In an effort transition. Introducing CBT may be hampered by the to ensure that climate financing is well reflected lack of expertise in MoF, and lack of transparency in the state budget, the MoF has identified the in the budget process. Introducing clear measurable implementation of the Climate Budget Tagging as one targets and performance indicators for green of the medium-term fiscal policy priorities. investments that are consistent throughout the entire program implementation, and the accountability of The transition to a carbon-neutral and climate- eligible beneficiaries, could facilitate the greening of resilient economy provides banks and investors public and private finances (Box 5). For instance, since with opportunities in green finance. There is both 2014 Indonesia has introduced mitigation budget a need as well as an opportunity for the financial tagging (Low Emission Budget Tagging and Scoring sector to support efforts by firms to re-align their System – LESS) in key ministries to track resources business models by funding private sector initiatives, spent on achieving the national emission reduction innovations, and the adoption of green technology. To target of 26% by 2020 while the Philippines has realize these opportunities, the right framework would mandated CBT in national budget submissions for all need to be put in place so that the financial sector can government entities in FY2015. Azerbaijan: Towards Green Growth 43 Box 5: Climate Budget Tagging and International Experience Climate budget tagging (CBT) builds on the OECD’s Development Assistance Committee (DAC) Rio markers as well as the MDB’s Joint Methodology for reporting on international flows of climate finance. The UNDP and the World Bank have supported the development of many of the climate budget tagging methodologies through their work on Climate Public Expenditure and Institutional Reviews. There are three essential design elements to climate budget tagging methodologies: definition of climate-relevant expenditures, definition of appropriate coverage, and estimation of climate-relevant spending. There are two distinct approaches to the definition of climate-relevant activities and expenditures. Objective-based definitions distinguish climate-relevant activities on the basis of their intended impact. Most of the countries following this approach have applied the definitions used in the Rio markers. Policy-based definitions limit climate-relevant activities to those that are specifically referenced in national climate change policy documents. Almost all methodologies cover both central government recurrent and investment budgets, though some countries tag expenditures in a limited number of key institutions. Some countries have extended their tags to local governments. Some include transfers to state-owned enterprises (SOEs). Only one country has tagged climate-relevant tax expenditures. Countries have followed one of three approaches to the estimation of climate-relevant expenditures: limiting tagging to programs that have climate change as a primary objective; estimating the expenditures associated with the climate-relevant elements, components, or activities; and applying climate-relevance weights to estimate the fraction of program or project expenditure that is climate-relevant. All of these approaches require informed judgments to assign the proportion of expenditure classified as climate-relevant. Tagging methodologies are generally developed by central finance or planning agencies, often in coordination with specialized environment and climate change institutions. Responsibility for the application of climate change tagging is almost always delegated to line ministries and agencies. Some countries have put validation mechanisms in place to review tagged expenditures, confirm their climate relevance, and reduce the risk of ‘greenwashing’—that is, the exaggeration of the climate relevance of programs and projects. Expenditures are generally tagged during budget preparation and in this way provide information on allocations. Rarely do they cover actual expenditures. Even where tagging is integrated into financial management systems, expenditure reports are rarely presented or analyzed. Source: World Bank 2021a. Azerbaijan: Towards Green Growth 44 Recognizing the implications of climate change for to the role of commercial financial institutions and the the financial sector, the Central Bank of Azerbaijan central bank as regulator/supervisor, Azerbaijan also has started to develop a strategy, while important has major government programs supporting access work lays ahead towards achieving the objective of to finance, which could be aligned with climate and greening the financial sector. The strategy which CBA environmental objectives. The main agencies include is currently developing would set out the overarching the Azerbaijan Mortgage and Credit Guarantee Fund objectives of sustainable finance development aligned (AMCGF), the Entrepreneurship Development Fund with the country’s vision for economic development (EDF) and the Agrarian Credit and Development Agency until 2030. It would include action plans to embed (ACDA). principles of sustainable finance in the financial sector, Coordination among the institutions on emerging including banking, insurance, and capital markets, and priorities is critical for meeting the national take advantage of the opportunity to develop products commitments to the United Nations’ 2030 Agenda for and service and improve intermediation. Great Sustainable Development. Monitoring the impact of emphasis is placed on stakeholder engagement, both in transition outcomes through measurable, comparable, the public and private sectors. In February 2022, CBA and timely indicators commensurate with the national also became the newest member of the Sustainable emission reduction targets is key to ensuring that Banking and Finance Network, which is a platform green transition is effectively taking place. Developing for knowledge sharing and capacity building on the necessary capacity for evaluation will allow the sustainable finance for financial sector regulators and government to adjust transition directions and policies industry associations across emerging markets, with in response to changing dynamics using new evidence 70 member institutions from 47 countries. In addition and data. Azerbaijan: Towards Green Growth 45 Chapter 5: Getting Ready for the Future Azerbaijan is entering a strategic development phase to that, the EU has published the Hydrogen and Gas determined by the post-pandemic and post-conflict Markets Decarbonization Package75 (2021), which puts environment. Acknowledging the global trends and forward policy measures required for supporting the challenges, the government of Azerbaijan has set the creation of an optimum and dedicated infrastructure country’s long-term development on a pathway toward and markets for the development of a hydrogen socio-economic and environmental development based industry. This course of action in the global arena on five pillars of the national development priorities could fuel Azerbaijan’s impetus to use its comparative for 2021-2030. These priorities are aligned with advantage from decades of experience in the fossil Azerbaijan’s commitments under the 2030 Agenda. fuel industry and ratchet up scientific research and The government is committed to encouraging clean technology development to become a leader in green technologies and using clean energy sources, recycling, hydrogen. and remediation of contaminated areas. In this regard, Undoubtedly, Azerbaijan’s long-term socio-economic selected priorities include a high-quality ecological vision is aligned with sustainability. To realize this environment and spaces for green energy and building vision, developing a strategy that would create a new smart cities and smart villages based on national wave of green and well-paid jobs and taking action to development strategies and priorities and SDG 11.73 align policies, institutions, and finance around it should Azerbaijan aims to create new economic start now. A set of recommendations summarized opportunities in the liberated territories not only below can help kick-start the green transition and for itself but also for the region. In this regard, facilitate addressing country-specific challenges. rehabilitation, reconstruction, and reintegration of the (i) Addressing the Bottom line: Policy Development and liberated and conflict-affected areas will be among the Institutional Capacity for Green Growth main directions of Azerbaijan’s development path in the coming years. Identifying and developing non-oil sector candidates as alternative drivers of economic wealth will take High and volatile oil and gas prices and market time and resources. On the positive side, Azerbaijan disruptions are likely to increase the pressure and has a rich natural resource endowment - other than accelerate the global transition toward renewable fossil fuels - that can sustain economic growth energy and faster adoption of low-carbon fuels. The during the transition. Efficient and sustainable use expectations are that green hydrogen will become a of land, water, forests, and marine resources has the cost-competitive fuel towards the end of the decade. potential for a higher contribution to future growth and Nonetheless, it is widely recognized that the transition wealth generation. There is also significant potential to a hydrogen economy requires all sources of hydrogen for developing the national human capital and also that can be characterized as low carbon.74 Attuned 73 National Coordination Council on Sustainable Development of the Republic of Azerbaijan 2021. 74 IEA. 2021. Global Hydrogen Review 2021. IEA, Paris. https://www.iea.org/reports/global-hydrogen-review-2021. 75 The review and revision of the Gas Directive 2009/73/EC and Gas Regulation (EC) No 715/2009 is referred to as Hydrogen and Gas Markets Decarbonization Package. https://ec.europa.eu/commission/presscorner/detail/en/ip_21_6682. Azerbaijan: Towards Green Growth 46 innovation as sources of growth, as the country is renewables in electricity generation), conducting accelerating its efforts to promote research and analyses of potential focus areas in support of development and digitization. For the transition to achieving NDC targets and policies targeting the most green growth, Azerbaijan needs public support and urgent climate vulnerabilities and increasing resilience policies informed by adequate pricing of environmental (e.g. reducing fugitive GHG emissions, developing and climate externalities (e.g. green taxation), scientific a low-carbon hydrogen industry, treating water research and innovation. Implementation of green scarcity and quality, and climate-smart agriculture) growth policies also needs the support of knowledge should be among the highest priorities. Alignment and institutional capacity to implement actions for of climate actions with the national development mitigating transition shocks (e.g., improving the strategies (Azerbaijan 2030: National Priorities for population’s living conditions, training, and skills Socio-Economic Development) and their contributions development to facilitate the delivery of green jobs), to building human and natural capital, mobilizing all of which, in the long term, would help develop the the private sector and supporting innovation and necessary human capital for green growth. digitization, should all be considered as well. A comprehensive green growth strategy, supported (ii) Stepping up Private Sector-led Green Growth by low carbon policies, regulations, incentives, and Putting public policies in place that enable private finance could create opportunities for spearheading sector growth into green markets will bring multiple the green transition in Azerbaijan. Strategizing benefits, innovation, financing, and a stronger focus and prioritizing the investment needs of non-oil and on efficiency. The potential for job creation, private gas sectors will, in the long run, contribute to the spending, and economic spillovers to other industries higher value-added that these sectors bring to the from private investments in green businesses will economy. Investments in human capital development surpass the public spending in the green transition over for the emerging green sectors would direct private time. Private investments will drive new poles of growth investments to green and less polluting technologies. like the Blue Economy (BE), healthcare, and services. Targeted public sector interventions will provide With the right policies and incentives over time, in incentives and create a reliable policy and regulatory sectors where capital financing requirements are the environment for steering the economy on a greener highest, such as green energy and smart infrastructure, path. Defining and applying green growth targets the role of the private sector is indispensable. to the whole spectrum of public sector operations Azerbaijan could further accelerate technology will become a positive influence and spur a shift development and innovation and venture into towards more environmentally friendly products and new markets. Green technologies will help achieve solutions. One example of defining and applying such environmental improvements at lower costs and open green growth targets is through green procurement. up business opportunities and markets. The creation As a major buyer of goods and services, the public of new products, processes and methods would be sector will influence service providers and suppliers fundamental to creating green job opportunities and to be more sustainable and encourage private increasing productivity. Azerbaijan’s academic and companies to grow their capabilities to thrive in the scientific potential in the extraction industry provides low-carbon economy. As sustainability becomes a key major opportunities for green innovations, which consideration in procurement decisions, the companies include, among others, technologies for renewable will start factoring in sustainability-related policies energy, carbon capture and storage, heating and and practices when bidding in government tenders. cooling in buildings, and hydrogen technologies. Despite Implementation of the NDCs would benefit from some progress, Azerbaijan’s current level of innovation mitigation actions across carbon-intensive sectors is insufficient to achieve its ambition for economic and from prioritizing public sector support based diversification. An important opportunity is to bolster on green transition targets. The increased pace of funding for innovation. This calls for short-term policy international climate action calls for a stronger focus changes to remove existing barriers. Typical barriers to on mitigation and adaptation in Azerbaijan. Even innovation include financing, information asymmetries, though achieving current NDC targets is already the uncertainty of future policy strategies, and trade challenging, the updated NDC and future commitments barriers. For instance, high-tech, high-investment, and are expected to increase the ambition of the country’s initially risky solutions like hydrogen will only get off climate action even more. Therefore, accelerating the ground if the government puts a high enough price existing climate action (e.g., increasing the share of on carbon (see Box 6 on Japan’s hydrogen strategy). Azerbaijan: Towards Green Growth 47 Box 6: Japan’s Hydrogen Future Hydrogen can be widely used in various sectors (power generation, industry, and transportation etc.). It is a key technology to achieving carbon neutrality. Japan was the first in the world to formulate the ‘Basic Hydrogen Strategy’ and possesses advanced technology in multiple fields. Europe and Korea, among others, have also established strategies and are following suit. Wider utilization and application of hydrogen is expected while global decarbonization takes place in various fields such as electric power generation (fuel cell, turbine), transportation (automobile, shipping, aircraft, railway, etc.) and industries (steelmaking, chemical, petroleum refining, etc.). Large-scale hydrogen power generation using turbines is one of the options for power sources in the era of carbon neutrality, which may also contribute to the stabilization of systems as a balancing capacity. Future launches of international hydrogen transactions are expected as Germany and other countries are showing interest in importing hydrogen. Japan is ahead of the curve and estimates that 10% of hydrogen will be traded in the international market in 2050. The size of the trading market is anticipated to be up to ~55 million tons per year (~5.5 trillion yen per year). Japan has built one of the world’s largest electrolyzers in the world and possesses the underlying technologies. Technology development aiming at further enlargement of the hydrogen markets is underway in companies in European countries. The government of Japan continues to work on R&D and verification of the innovative technologies related to utilization, transportation, and production of hydrogen through cross-thematic efforts. It also is actively implementing verification of hydrogen utilization in various fields, mainly in locations, including Fukushima, where hydrogen production facilities have already been developed, and in ports, coastal areas, airports, and other facilities for which a large hydrogen demand is anticipated. Source: Government of Japan. 2020. Green Growth Strategy Through Achieving Carbon Neutrality in 2050. (iii) Supporting Decarbonization Solutions through Green Financing Public support for green investments will bring The State Oil Fund of the Republic of Azerbaijan stability in the capital markets and financial (SOFAZ), the sovereign wealth fund established in institutions. Private investors need new public 1999, accumulates and preserves Azerbaijan’s oil policies to benefit from green investment and gas revenues for future generations. SOFAZ is opportunities. Overcoming the perception of excessive an extra-budgetary fund that was established to private investment risk in low carbon projects requires ensure intergenerational equality with the country’s the support of new policies based on more ambitious oil wealth and serves to accumulate and safeguard oil market-led principles and guidelines including revenues for future generations.76 The main objective the environmental, social, and governance (ESG) of SOFAZ is to preserve macroeconomic stability in principles to foster green investments. Creating a new the country, while it could also be used to decrease institutional ecosystem, including developing a green hydrocarbon dependency. Currently, it also serves to public taxonomy to distinguish between green and ensure intergenerational equality, finances major social dirty economic activities, is a way to minimize the risk and infrastructure projects to benefit society, and of greenwashing. The green taxonomy is an agreed- supports socio-economic progress within Azerbaijan. upon framework for what constitutes green / climate SOFAZ is governed by a Supervisory Board headed by change projects in a specific country context. It can the Prime Minister of Azerbaijan, and its investment minimize the uncertainty of what counts as ‘green’ and portfolio is managed based on Rules on Managing the help the financial actors make informed decisions. The Foreign Currency assets of SOFAZ. In 2018, SOFAZ development of a national taxonomy through careful ranked 10th among the 100 most significant, resilient, planning, extensive consultations, collaboration, and impactful asset owners and public executives. As and technical expertise would open new investment of 2022, SOFAZ had $45.26 billion in Assets Under opportunities and reduce investors’ transaction Management (AUM).77 See Box 7 for Saudi Arabia’s costs. Another important step for greening the public sovereign wealth fund example for using the sovereign finances will be introducing Climate Budget Tagging wealth fund resource to diversify its economy and (CBT) and starting to monitor and track climate- reduce dependency on fossil fuels. related expenditures in the national budget system. 76 International Forum of Sovereign Wealth Funds n.d. 77 SOFAZ 2022. Azerbaijan: Towards Green Growth 48 Develop a Roadmap for expanding the Green Finance benefit from growing markets for green-certified opportunities. The Roadmap will be informed by products) while using limited public finance to leverage a review of the enabling environment for financial green private investment will go a long way toward instruments for private sector engagement in green steering green growth led by the private sector. The projects, which continue to gain momentum worldwide example of Saudi Arabia shows how the sovereign (e.g. guarantees for low-carbon and climate-resilient wealth fund can finance the low-carbon transition, fuel infrastructure, green credit lines to promote energy modernization in the agricultural sector, and invest in efficiency, and renewable energy among SMEs), human capital and poverty reduction programs (Box 7). particularly with a focus on identifying the barriers and In the long term, new fiscal rules will be necessary success factors determining environmental outcomes, for the gradual replacement of or substitution and how trade-offs are managed. Further research for government spending on climate and the could be geared towards formulating more practical environment. Worldwide, the Green / Sustainability ‘hands-on’ guidance for the development of action / Blue bonds have mobilized financing for green plans that expand green finance in Azerbaijan. investments and spearheaded the implementation of In the short term, public finance will take center stage the green growth agenda. Green finance instruments when confronting the key social and environmental conforming to internationally recognized standards, challenges. Yet public finance could play a powerful such as the International Capital Market Association market-shaping role as it does not face pressure to (ICMA’s) Green Bond Principles (GBPs) are recognized deliver short-term returns, meaning it can provide by institutional investors, who have been the lower-cost and longer-term financing, prioritize wider strongest backers of green bonds. This also calls for social objectives, and take a different approach to risk an accelerated and strategic use of public resources. and reward. Developing a range of policy reforms and In recent years, the UK has established a range of new regulations to promote climate change mitigation State-owned Financial Institutions (SOFI) and their and adaptation and improved environmental leading role in funding a rapid transition to net-zero. performance to create an enabling policy environment See Box 8 for the UK example. for private climate investments (e.g., green value chain development, capacity building programs, using environmental certification and labels to access and Azerbaijan: Towards Green Growth 49 Box 7: Using Sovereign Wealth Funds for Economic Diversification An expected fall in hydrocarbon reserves and revenues has motivated countries to diversify their economies by developing non-hydrocarbon sectors and by producing goods and services, other than hydrocarbons and their derivatives, which can be traded with the rest of the world. Addressing the issue of economic diversification, policy efforts should be directed to restructure wealth-sharing channels, making them more transparent, economically efficient, and socially equitable, removing constraints of expanded public services, government employment, and exclusive business contracts. Generating sustainable economic growth in a post-hydrocarbon future requires a competitive, dynamic private sector. Saudi Arabia, for example, shows that an increasing non-oil private sector contribution to GDP (in 2018 totaling just 40%) is a viable approach to assure positive economic growth, even at falling contributions of the oil sector (see Figure below). Public Investment Fund (PIF) is Saudi Arabia’s sovereign wealth fund. Established in the 1970s, it is designed to uncover new growth potentials by investing in international and domestic projects and companies supporting the advancement of 13 priority sectors (see Table below). PIF value in 2020 assets under management (AUM) was $0.4 trillion, compared to Norway’s ($ 1.2 trillion) and Azerbaijan’s SOFAZ ($ 0.04 trillion) sovereign wealth funds’ size. Unveiled in 2021, the PIF’s second Vision Realization Program (VRP), implemented in 2021–2025, unfolds new opportunities for non-oil GDP growth and economic diversification within four themes for domestic investment in all 13 sectors: (i) create industries at scale, (ii) unlock resources potential, (iii) diversify revenue sources, and (iv) improve quality of life. PIF’s increasingly diversified portfolio is a key driving factor in the country’s economic growth. Until 2025, it will contribute $0.32 trillion to non-oil GDP through the companies in its portfolio and create 1.8 million new direct and indirect jobs. Under VRP, the PIF will continue its progress towards its 2025 goal of S$1.07 trillion in AUM and its 2030 goal of $2 trillion in AUM. Oil and non-oil sectors contributions to growth 10 8 6 4 2 0 -2 Q2-2019 Q1-2019 2011 2010 2012 2013 2018 2015 2016 2014 2017 Non-oil contribution to growth, percentage points Oil contribution to growth, percentage points GDP growth, percent Source: World Bank Group. 2019. “Economic Diversification for a Sustainable and Resilient GCC,” Gulf Economic Update 5: 10. PIF’s investment focus sectors: Construction / Financial Services/ Entertainment, Leisure, Real Estate Development Investment and Sports Aerospace and Defense Metals and Mining Renewables and Utilities Food and Agriculture Healthcare Retail and Consumer Goods Automotive Transport and Logistics Information and Communications Technology Azerbaijan: Towards Green Growth 50 Box 8: UK Public Finance Ecosystem The Green Investment Bank (GIB) was established in 2012 to address market failures in the renewable energy finance market, and was privatized in 2017. There are several other SOFI at the sub-UK level, including the Scottish National Investment Bank, the Development Bank of Wales, and various local authority-led initiatives; however, this report focuses on the major UK SOFI. UK Infrastructure Bank (UKIB) was established in 2021 to replace the loss of access to the European Investment Bank (EIB) and “help tackle climate change and promote economic growth across the regions and nations of the United Kingdom.” British Business Bank (BBB) was established in 2012 with a mission to “make finance markets work more effectively for SMEs.” To date, the Bank’s core programs have supported nearly £8 billion of finance to almost 94,800 smaller businesses. UK Export Finance (UKEF) was established in 1919 as the Export Credits Department. UKEF is the UK’s export credit agency. It helps UK exporters by “providing attractive financing terms to their buyers, supporting working capital loans and insuring against buyer default.” UKEF’s maximum financial commitment is £50 billion. CDC Group was established in 1948 as the Colonial Development Corporation. CDC is the UK’s development finance institution. It “helps solve the biggest global development challenges by investing patient, flexible capital to support private sector growth and innovation.” The Group has investments in over 1,200 businesses in emerging economies, mostly in Africa and Asia, with total net assets of £6.5 billion and a portfolio of £4.7 billion. Source: Source: Macfarlane, L. and Kumar, C. 2021. (iv) Creating Green Job Opportunities and Building the (v) Acting on Low-hanging fruits and Greening the Necessary Human Capital Economic Sectors Employment creation will be driven by the higher Reducing fugitive emissions from oil and gas demand for skilled jobs in several new sectors and has significant potential to lower Azerbaijan’s green growth initiatives, across the entire value GHG emissions profile, which may have been chain switching to new energy sources, more underestimated. Methane emissions are a significant renewable energy, low carbon-intensive production, driver of human‐induced climate change, and given and introducing material circularity. There will its high fugitive methane emissions (over 50% of be opportunities for expanding the job market in total methane emissions),78 Azerbaijan can play an BE sectors (new and established sectors) where important role in methane mitigation efforts. To do so innovation and adoption of new technologies will raise efficiently, it will require more accurate information the importance of analytical skills, such as science, about the state of emissions, a monitoring system, mathematics, and programming along with demand and a set of common-sense mitigation measures, for mechanical skills and equipment maintenance and which will need to be widely implemented. Cutting repair. Activities that curb pollution, GHG emissions, emissions from system leaks is especially important, and the use of fossil fuels in favor of more renewable and measures could include phasing out the gas- sources and increased energy efficiency and recycling powered controls used to manage oil-field valves will be at the center of new BE sub-sectors, like marine and pressure and flow systems, which regularly biotechnology, ocean energy, provision of ecosystem release methane, and introducing new controls and services, and aquaculture, among others. All areas technologies (e.g., using compressed air rather than for green / blue job creation will have a common gas). These measures are not costly and are well within denominator — integration based on innovation, the capabilities of Azerbaijan’s industry. Removing the reducing user conflict, and maximizing sector barriers to accurate calculation of methane emissions synergies. from the oil and gas industry involves finding the sources of emissions, which would help to identify effective mitigation technologies. Current technology 78 Our World in Data: https://ourworldindata.org/emissions-by-sector#methane-ch4-emissions-by-sector. Azerbaijan: Towards Green Growth 51 has been improving, and the industries are able to economic efficiency and environmental sustainability. acquire measurement tools for the first time to achieve Land use and land management influence economic the spatial and temporal granularity needed to have outputs, natural capital, and resulting ecosystem impactful solutions to address fugitive emissions. processes that provide flows of ecosystem benefits to people (‘ecosystem services’). Taking advantage of the Reducing methane leaks from old/abandoned new technologies will contribute to the proper valuation wells in oil and gas fields is a win-win solution to a of biodiversity, ecosystems and their economic and decades-old problem that creates environmental and health impacts, and consequences of landscape health risks and has a meaningful effect on reducing change, as well as to the definition of alternative GHG emissions. In countries with similar problems, management practices. regulators and industry officials are looking at emission reduction opportunities by using the most up-to-date (vi) Blueing the Caspian Economy information and technologies to address leakages and restore surface locations, revitalizing land in Another opportunity for green transition is the areas that have high economic potential. Absheron Caspian Sea maritime sector with its established and Peninsula is such an area with high demand for land emerging sectors. The Caspian Sea offers multiple development. A government-sponsored program that economic opportunities and newer pathways for green integrates plugging abandoned wells and revitalizing solutions in the blue space, but this will take time, coastal areas as part of a national BE development effort, and cross-sectoral cooperation to realize them. program could provide multiple socio-economic The sectors where new opportunities exist include: benefits, including employment. A dedicated program (i) blue biotechnology and blue bioeconomy for plant- with funding could alleviate oil and gas companies’ based alternatives to plastics and other petrochemical responsibility for decades-old production facilities and applications; (ii) marine renewable energy including aid future remediation costs. floating offshore wind, wave, and tidal energy and floating solar photovoltaic energy; and (iii) maritime Azerbaijan can address environmental challenges security and surveillance focusing on digitalization and human health risks by promoting sustainable and technological innovation to help transform the consumption and production and by shifting its maritime sector. The BE concept creates a framework current development trajectory towards low carbon for integration of efforts for responsible use and development. Promoting policies for circularity, eco- stewardship of the maritime resources in support of efficiency, and cleaner production will help enhance the growth. An integrated approach based on the value environmental performance of enterprises, including and potential of the Caspian marine and coastal pollution prevention and industrial ecology. This capital and tailored for delivering economic and social involves reducing or eliminating waste at the source infrastructure, ecosystem regeneration, and optimizing by modifying production processes, promoting the use the performance of existing assets could serve multiple of non-toxic or less-toxic substances, implementing purposes including job creation. This includes cleaning conservation techniques, and reusing materials rather and regenerating the polluted coastal land, preventing than putting them into the waste stream. Promoting untreated effluents into the marine environment, investments by focusing on shifting traditional waste- and opening new business opportunities where sea producing industrial processes to closed-loop systems, meets the land. However, determining what, where, where wastes become inputs for new processes, will set and how Azerbaijan’s BE potential can grow will need Azerbaijan’s economy up on a greener trajectory. This further research and planning. A transition to BE that includes smart redesign of manufacturing processes is clean, green, sustainable, and inclusive will require that use less energy, reject less waste, and substitute significant investments over time. The ‘green’ investing non-polluting inputs instead of using more traditional is becoming the new normal in a decarbonizing world, chemical processes. An added value of investments in and Azerbaijan may fast-track public policies which sustainable consumption and production is accelerated facilitate green/blue investments to reinforce the clean energy transition to meet climate goals. opportunities for market-led low carbon development One of the priority areas for green growth is the in the blue space. sustainable use of renewable resources, including land and water for forestry and agriculture. In In (vii) Strengthening the analytical capacity and toolkit to Azerbaijan, this dimension could be explored for support Green Growth potential win-win approaches to advance both Augmenting the analytical capacity and tools for key Azerbaijan: Towards Green Growth 52 policy development institutions will be needed for and built environment and climate, innovations, a successful green transition. This includes natural and green design and products will help to lower the capital valuation, wealth accounting, and nature- implementation cost and enhance the green benefits based solutions as part of the systemic approach to across the economy. Expanding science-based policy mainstream sustainable development in key sectors solutions for low carbon development will allow of the economy. The most immediate analytical tasks Azerbaijan to get the most out of analytical tools and include investigating distributional and macro-fiscal to apply a multi-functional approach to low carbon co- impacts of green transition, modeling decarbonization benefits across sectors. scenarios, estimating adaptation needs and cost, The upcoming Country Climate and Development market assessment of more promising diversification Report (CCDR) that will build on this Green Growth options, and prioritization/sequencing of actions. study will deepen the analysis in priority areas with Adopting the concept of modeling, quantifying, and the objective of bolstering support to Azerbaijan in optimizing potential synergies between natural capital charting its long-term green growth path. (land, water resources, and biodiversity), the natural Azerbaijan: Towards Green Growth 53 References AzerNews. 2022. Azerbaijan urges int’l organizations to promote access to UN Water Convention. Azerbaijan. 2030. National Priorities for Socio-Economic Development approved by the order of the President of the Republic of Azerbaijan. https://president.az/en/articles/view/50474. Batini, N., Di Serio, M., Fragetta, M., Melina, G. and Waldron, A. 2021. Building Back Better: How Big Are Green Spending Multipliers? https://www.imf.org/en/Publications/WP/Issues/2021/03/19/Building-Back-Better-How- Big-Are-Green-Spending-Multipliers-50264.. Dasgupta, S., van Maanen, N., Gosling, S.N., Piontek, F., Otto, C. and Schleussner, C.F. 2021. Effects of climate change on combined labour productivity and supply: an empirical, multi-model study. The Lancet Planetary Health 5(7): e455-e465. EU. 2021. EU4Climate: NDC Preparation and Implementation in Eastern Partnership countries. https://eu4climate.eu/download/ndc-preparation-and-implementation-in-eap-countries/. European Commission. 2021. Carbon Border Adjustment Mechanism. https://ec.europa.eu/taxation_customs/green-taxation-0/carbon-border-adjustment-mechanism_en Eurostat. 2021. Environmental Protection Expenditure Accounts. https://ec.europa.eu/eurostat/statistics- explained/index.php?title=Environmental_protection_expenditure_accounts#National_expenditure_on_ environmental_protection. FAO. 2021. Aquastat. https://www.fao.org/aquastat/statistics/query/index.html;jsessionid=0B083EF31837D67C24EE10B3F4701480. FAO. 2021. Fisheries and Aquaculture Information and Statistics Branch. GFDRR. 2017. Disaster Risk Profile: Azerbaijan. https://www.gfdrr.org/en/publication/disaster-risk-profile-azerbaijan. Global Burden of Disease. 2019. Air Pollution Exposure Estimates. http://ghdx.healthdata.org/gbd-2019. Global Commission on Adaptation. 2019. https://gca.org/report-category/flagship-reports/. Global Food Security Index. 2021. Azerbaijan. https://impact.economist.com/sustainability/project/food-security-index/Country/Details#Azerbaijan. GTAP. 2021. GTAP 10 Data Base. https://www.gtap.agecon.purdue.edu/databases/v10/index.aspx. Azerbaijan: Towards Green Growth 54 Hammer, S. and Hallegatte, S. 2020. Planning for the Economic Recovery from COVID-19: A sustainability checklist for policymakers. Development and a Changing Climate. World Bank Blogs. https://blogs.worldbank.org/ climatechange/planning-economic-recovery-covid-19-coronavirus-sustainability-checklist-policymakers. IMF Working Papers. 2021(087). O’Callaghan, B.J. and Murdock, E., 2021. Are We Building Back Better? Evidence from 2020 and Pathways for Inclusive Green Recovery Spending. https://www.unep.org/resources/publication/are- we-building-back-better-evidence-2020-and-pathways-inclusive-green. Industrial Economics Incorporated. 2013. Reducing the Vulnerability of Azerbaijan’s Agricultural Systems to Climate Change: Impact Assessment and Adaptation Options. Prepared for the World Bank. International Trade Administration. 2021. Azerbaijan – Country Commercial Guide. https://www.trade.gov/country-commercial-guides/azerbaijan-agriculture. Jafari, N. 2010. Review of Pollution Sources and Controls in Caspian Sea region. Journal of Ecology and the Natural Environment Vol. 2(2): 025-029. https://academicjournals.org/journal/JENE/article-full-text-pdf/DFE86623286. Kjellstrom, T., Briggs, D., Freyberg, C., Lemke, B., Otto, M., Hyatt, O. 2016. Heat, Human Performance, and Occupational Health: A key issue for the assessment of global climate change impacts. Annual Review of Public Health 37: 97–112. Macfarlane, L. and Kumar, C. 2021. Greening Public Finance the UK’s Public Finance Ecosystem and the Net Zero Transition. The New Economics Foundation. https://neweconomics.org/2021/09/greening-public-finance. McDuffie, E.E., Martin, R.V., Spadaro, J.V. et al. 2021. Source Sector and Fuel Contributions to Ambient PM2.5 and Attributable Mortality across Multiple Spatial Scales. Nat Commun 12, 3594. https://doi.org/10.1038/s41467-021-23853-y. Ministry of Energy of the Republic of Azerbaijan. 2020. The Use of Renewable Energy Resources in Azerbaijan. https://minenergy.gov.az/en/alternativ-ve-berpa-olunan-enerji/azerbaycanda-berpa-olunan-enerji-menbelerinden- istifade. National Coordination Council on Sustainable Development of the Republic of Azerbaijan. 2021. Main Messages for the 3rd VNR of Azerbaijan. Naumann, G., Alfieri, L., Wyser, K., Mentaschi, L., Betts, R. A., Carrao, H., Spinoni, J., Vogt, L. and Feyen, L. 2018. Global Changes in Drought Conditions Under Different Levels of Warming. Geophysical Research Letters 45(7): 3285–3296. https://agupubs.onlinelibrary.wiley.com/doi/10.1002/2017GL076521. OECD. 2011. OECD Green Growth Studies: Energy. https://www.oecd.org/greengrowth/greening-energy/49157219.pdf. Peszko, G., Van der Mensbrugghe, D., Golub, A., Ward, J., Zenghelis, D., Marijs, C., Schopp, A., Rogers, J.A., and Midgley, A. 2020. Diversification and Cooperation in a Decarbonizing World: Climate Strategies for Fossil Fuel- Dependent Countries. Climate Change and Development. Washington, DC: World Bank. https://openknowledge.worldbank.org/handle/10986/34011 License: CC BY 3.0 IGO. Pollin, R. 2016. Global Green Growth for Human Development. 2016 UNDP Human Development Report Think Piece. Republic of Azerbaijan. 2017. Intended Nationally Determined Contribution (INDC) of the Republic of Azerbaijan. Information to the United Nations Framework Convention on Climate Change (UNFCCC). https://unfccc.int/sites/default/files/NDC/2022-06/INDC%20Azerbaijan.pdf. Sadat, A. P., Bozorg, H. O., and Miguel, A. M. 2013. Climate Change Impact on Reservoir Performance Indexes in Agricultural Water Supply. Journal of Irrigation and Drainage Engineering 139(2): 85–97. Azerbaijan: Towards Green Growth 55 Santamouris, M., Cartalis, C., Synnefa, A., and Kolokotsa, D. 2015. On the Impact of Urban Heat Island and Global Warming on Power Demand and Electricity Consumption of Buildings. Energy and Buildings 98: 119–124. Sartori, M., Philippidis, G., Ferrari, E., Borrelli, P., Lugato, E., Montanarella, L. and Panagos, P. 2019. “A linkage between the biophysical and the economic: Assessing the global market impacts of soil erosion.” Land Use Policy. 86: 299–312. Siikamäki, J., Santiago-Avila, F. J.; and Vail, P. 2015. “Global Assessment of Nonwood Forest Ecosystem Services: Spatially explicit meta-analysis and benefit transfer to improve the World Bank’s forest wealth database”. Profor. info Working Paper. https://www.wavespartnership.org/sites/waves/files/kc/Global%20Assessment%20of%20Non- Wood%20Forest%202-25-16%20(1).pdf State Oil Fund of the Republic of Azerbaijan (SOFAZ) 2022. Investment Results for the First Quarter of 2022. https://www.oilfund.az/storage/uploads/gjqrpakyhj.pdf. State Statistical Committee of the Republic of Azerbaijan (SSC). 2020. “Environment in Azerbaijan.” Statistical Yearbook. https://www.stat.gov.az/menu/6/statistical_yearbooks/. State Statistical Committee of the Republic of Azerbaijan (SSC). 2021. “Environment in Azerbaijan.” Statistical Yearbook. https://www.stat.gov.az/menu/6/statistical_yearbooks/source/environment_2021.zip. Taheripour, F. Chepeliev, M., Damania, R., Farole, T., Lozano G., and Russ, J. 2021. Putting the Green Back in Greenbacks: Opportunities for a Truly Green Stimulus. World Bank Group. Sustainable Development, Office of the Chief Economist, https://openknowledge.worldbank.org/handle/10986/36053. Tebaldi, C., and Lobell, D. 2018. Differences, or lack thereof, in wheat and maize yields under three low-warming scenarios. Environmental Research Letters 13: 065001. The Ministry of Energy of the Republic of Azerbaijan. 2021. Socio-economic Development Strategy for 2021–2025. https://minenergy.gov.az/az/xeberler-arxivi/2021-2025-ci-illere-dair-sosial-iqtisadi-inkisaf-strategiyasinin- hazirlanmasi-ile-bagli-teqdim-edilecek-sened-razilasdirilib. The New Climate Economy. 2018. The 2018 Report of the Global Commission on the Economy and Climate. https://newclimateeconomy.report/2018/. UNEP. 2002. Trans-boundary Diagnostic Analysis for the Caspian Sea (Volume 2). The Caspian Environmental Programme, Baku, Azerbaijan. https://wedocs.unep.org/bitstream/handle/20.500.11822/9726/-Transboundary_ Diagnostic_Analysis_for_the_Caspian_Sea-2002Caspian_TDAVolumeTwo_2002.pdf.pdf?sequence=3&isAllowed=y. Welsby, D., Price, J., Pye, S. et al. 2021. Unextractable Fossil Fuels in a 1.5 °C World. Nature 597: 230– 234. https://www.nature.com/articles/s41586-021-03821-8. World Bank Group. 2022. Azerbaijan Country Economic Monitor. World Bank Group and Asian Development Bank. 2021. Climate Risk Country Profile: Azerbaijan. https://openknowledge.worldbank.org/handle/10986/36383. World Bank Group. 2020. Proposed Sustainability Checklist for Assessing Economic Recovery Interventions. https://thedocs.worldbank.org/en/doc/223671586803837686-0020022020/original/ SustainabilityChecklistforAssessingEconomicRecoveryInvestmentsApril2020.pdf. World Economic Forum. 2021. The Global Risks Report 2021, 16th Edition. Insight Report. https://www3.weforum.org/docs/WEF_The_Global_Risks_Report_2021.pdf. Azerbaijan: Towards Green Growth 56 Annex 1. Methodology The assessments use a methodological approach for provide robust evidence of gaps and achievements diagnostics and combine several desk-based analytical on the path to GRID. tools to help develop the baseline and from that, determine priorities for Azerbaijan’s Green Growth Natural capital accounting to estimate the contribution transition. Benchmarking of different development of natural resources to the wealth of the country paths is conducted against the UMI or ECA countries’ comparators, namely with those advancing green Natural capital accounting, reflected in the Changing transition through the sustainable use of natural Wealth of Nations (CWON) database, integrates resources (minerals, land, water and clean air, and natural resources and economic analysis, providing a biodiversity), reduction of greenhouse gas (GHG) broader picture of development progress than standard emissions, strengthened resilience to climate change, measures like GDP. The scope of the analysis tracks the and a focus on market openness and technological key sources of natural capital wealth of the country innovation to stimulate new industries and jobs. that are reported in the national statistics and global databases. Annual estimates of stocks and flows are A Green, Resilient and Inclusive Development (GRID) presented in $ and expressed as a percentage of GDP. diagnostic is used to provide a snapshot of Azerbaijan The 2021 CWON accounts for natural capital elements on the green transition pathway (see below), Natural relevant to Azerbaijan and includes ecosystem services Capital Accounts (NCA) is used to estimate the such as agricultural land (calculated annually for each contribution of natural resources to national wealth, of 10 major crops), forest timber, forest ecosystem and a hybrid of the cost of environmental degradation services (three of which are valued at the grid cell level), (CoED) and macro modeling is applied to estimate and minerals (mine-level data on production costs for socio-economic impacts of climate policies and each mineral). The cost of air pollution, which affects environmental degradation on the population’s well- the welfare of the population, although not included being. The study synthesizes and presents the results in CWON, could be estimated as well. Finally, this of the diagnostics based on several desk-based approach allows an exploration of how the volume and analytical tools: composition of wealth have changed over time and an assessment of the potential risk of fossil fuel and GRID diagnostic to provide a snapshot of Azerbaijan’s mineral assets declining in value from a policy change positioning on the green transition pathway to a low-carbon energy transition. The RISE (Resilience, Inclusion, Sustainability, Hybrid of CoED and macro modeling to estimate the Effectiveness) framework presents a tailored way socio-economic impact of environmental degradation to identify the challenges preventing countries and potential of green investments from achieving Green, Resilient and Inclusive CoED or macro modeling depending on data Development (GRID). Green transformation will availability: modeling at the national level can be require governments to make hard choices among used to derive an estimate of degradation costs at multiple facets of ‘better growth’ or GRID, especially an economy-wide level. For example, reductions of in the context of limited green investments in the agricultural and forestry productivity, impacts on fiscal space due to other priorities. RISE is designed labor force from air pollution, asset damages by floods, to provide the information necessary for better- among others, have both direct and indirect effects. informed policy and investment decisions and to The former is estimated using the CoED approach. assess trade-offs. By identifying ‘pinch points’ using The latter works through changes in prices of all a variety of methods, the approach assures that the commodities reflected in the ENVISAGE model (GTAP results are robust against a variety of sensitivity 10 Powerbase and ENVISAGE – see Annex 2). Data for tests. Benchmarking is used to compare a country’s the employment, income, and emission multipliers are performance across the RISE indicators to determine from the GTAP Power database Version 10. It describes where major development roadblocks lie and identify the global economy in 2014 in the form of I-O tables. opportunities to improve growth and livelihoods. Each country, including Azerbaijan, is presented with Benchmarking involves comparing indicators against values of production, and intermediate and final target values and values in countries at a similar consumption of commodities and services described level of development. Collectively, these comparisons Azerbaijan: Towards Green Growth 57 with a standard input-output (I-O) model. In Taheripour based on the GTAP 10 Power database. Simulations et al. (2021), the I-O model for each country, including cover the period 2014–2035, where 2014 is the base Azerbaijan, has been expanded to include a set of data year. Baseline projection for the years 2014–2035 covering economic sectors and inter-sectoral linkages covers all variables of the model, including industry aiming to analyze the investment multiplier effects outputs, the trade in commodities, relative commodities on employment, value-added, GHG emissions, and air prices, aggregate economic categories, energy use, pollution. The model captures the increase in sectoral and GHG emissions. Baseline assumes that countries demand as a consequence of the exogenous increase in reduce their emissions in line with their NDC until 2030 sectoral investments. Growth potential is measured per as part of the Paris Agreement. Emissions reduction million dollars spent on supply-side investments. Since is partly facilitated by assumed exogenous technical the model relies on the structural coefficients of various change, such as energy efficiency improvements and sectors of the economy at a point in time, it is limited expansion of renewables in the generation of electricity. by a rigid economic structure that only links existing Where these exogenous changes are insufficient, an sectors of the economy and ignores the possibility of endogenous price of emissions (a carbon price) is factor substitution. Moreover, new sectors with high determined to facilitate further emission reduction. innovation potential are left outside of this static The price of emissions invokes substitution of energy approach. for capital (and therefore, further energy efficiency improvement), substitution of fuels for electricity, For the assessment of the EU CBAM’s impacts on substitution of more carbon-intensive fuels for less Azerbaijan’s economy, the simulation uses the Global carbon-intensive fuels, and changes in the power CGE model ENVISAGE specifically tailored to analyze generation sector’s technology mix. climate change mitigation policies. The modeling is also Azerbaijan: Towards Green Growth 58 Annex 2. Different Dimensions of Potential for Jobs Creation The study generated the information on the potential Azerbaijan, has been expanded to include a set of for jobs creation per $1 million of investment in data covering economic sectors and inter-sectoral every sector of Azerbaijan’s economy. Data for the linkages aiming to analyze the investment multiplier employment, income, and emission multipliers are from effects on employment, value-added, GHG emissions, the GTAP Power database Version 10. This database and air pollution. The model captures the increase in describes the global economy in 2014 in the form of I-O sectoral demand as a consequence of the exogenous tables. Each country, including Azerbaijan, is presented increase in sectoral investments. Jobs potential in with values of production, and intermediate and final different sectors of Azerbaijan’s economy is presented consumption of commodities and services described in different dimensions: direct versus indirect, gender, with a standard input-output (I-O) model. In Taheripour and skills level. et al. (2021), the I-O model for each country, including Direct/Indirect Jobs per $1 Million of Investment Fishing Water Healthcare Machinery/Equipment Gas Transport, other Warehousing Electricity, gas Construction Chemicals/Rubber Processed Food Minerals/Metals Trade Petroleum Textiles/clothing/leather Forestry Dwellings 0 5 10 15 20 25 30 35 40 45 Jobs, direct Jobs, indirect Source: Original calculations for this publication. Azerbaijan: Towards Green Growth 59 Jobs by Gender per $1 Million of Investment Fishing Electricity, transition Water Finance/Insurance Healthcare Education Machinery/Equipment Electricity, other Gas Electronics Transport, other Communication Warehousing Tourism Electricity, gas Transport, air Construction Transport, water Chemicals/Rubber Public Administration Processed Food Wood/Paper Minerals/Metals Mining Trade Rice Petroleum Livestock Textiles/clothing/leather Crops Forestry Animal products Dwellings 0 5 10 15 20 25 30 35 40 45 Female Jobs Male Jobs Source: Original calculations for this publication. Azerbaijan: Towards Green Growth 60 Jobs by skill per $1 Million of Investment Fishing Electricity, transition Water Finance/Insurance Healthcare Education Machinery/Equipment Electricity, other Gas Electronics Transport, other Communication Warehousing Tourism Electricity, gas Transport, air Construction Transport, water Chemicals/Rubber Public Administration Processed Food Wood/Paper Minerals/Metals Mining Trade Rice Petroleum Livestock Textiles/clothing/leather Crops Forestry Animal products Dwellings 0 5 10 15 20 25 30 35 40 45 Low Skill High Skill Source: Original calculations for this publication. Azerbaijan: Towards Green Growth 61 Annex 3. Simulation of CBAM’s Possible Impacts on Azerbaijan’s Economy The EU plans to introduce a CBAM to prevent carbon emission reduction opportunities relative to that of leakage and support the mitigation ambitions of the competitors, opportunities to divert exports to other EU and other countries.79 Under the current proposal, countries, and the ability for exporting countries to the CBAM will be linked to the EU Emissions Trading robustly measure and report emissions. System (EU ETS), requiring importers to purchase In order to quantify the potential impact of the CBAM certificates to cover emissions embodied in imported on Azerbaijan’s economy and that of other countries goods. The CBAM price will mirror the EU ETS permit in Europe and Central Asia (ECA), the ENVISAGE price but will be reduced for products that are subject model that utilizes GTAP 10 database80 is applied. The to carbon pricing in their country of origin. This modeling scenarios explore the impact of the EU CBAM provides an opportunity for countries to implement on the overall economy, as well as on individual sectors, domestic carbon pricing, effectively reclaiming under different policy responses from Azerbaijan and government revenues that would otherwise be payable other countries. It also investigates what might happen to the EU. It is proposed that the CBAM price will also under different CBAM coverage, if the U.S. adopted a be adjusted to account for any free allocation of EU similar mechanism, and if ECA countries respond to the ETS permits that the EU industry receives in sectors CBAM with carbon pricing. The scenarios modeled and subject to CBAM. discussed in this report are outlined in Table A 1. The embodied emissions will be determined based on the carbon intensity of production of the covered commodities in exporting countries based on a robust MRV system. Where robust emissions measurement, reporting and verification (MRV) is not in place, a default value, equivalent to the worst-performing 10% of EU installations, is used. This means that producers in countries that can demonstrate relatively low emissions intensity of production will face lower CBAM costs, while those without MRV systems will pay a higher default rate. Under the current proposal, the CBAM will come into full force in 2026, with a transitional phase from 2023–2025, during which importers will report the embedded emissions in the covered products. It will cover Scope 1 (direct) emissions from certain products in the Iron and steel, cement, fertilizers, electricity, and aluminum sectors. The European Commission has signaled that it will likely expand sectoral coverage of the CBAM to other emissions-intensive, trade exposed (EITE) products such as glass, chemicals, petroleum and other fossil fuels, and perhaps other metals, and to Scope 2 (electricity use) emissions. The CBAM would act like an increase in tariffs imposed by the EU, with tariffs based on products’ emissions intensities. The impact on each country will ultimately depend on many factors, including the elasticity of demand, the level of cost pass-through to consumers, each country’s emissions intensity and 79 European Commission 2021. 80 https://www.gtap.agecon.purdue.edu/databases/v10/index.aspx. Azerbaijan: Towards Green Growth 62 Table A 1: Modeled Scenarios Short name Description All countries take action to meet NDCs Baseline All countries reduce emissions in line with NDCs. No CBAM is introduced. Current proposal As under ‘Baseline,’ but CBAM introduced in EU & EFTA, with obligation to buy permits from 2026, covering Scope 1 emissions for certain products in iron and steel, aluminum, cement, fertilizers and electricity in line with the current proposal. Countries’ domestic carbon prices credited towards CBAM charges. Free allocation is accounted for in the CBAM price applied. Expanded CBAM As under ‘Current proposal,’ with coverage extended to all chemicals, all non-ferrous metals, petroleum and coal production (embedded emissions during processing, not on the carbon content of fuels), extraction of asphalt bitumen and iron ore, and glass. Scope 1 and Scope 2 emissions are included. US As under ‘Expanded CBAM,’ but with the US also imposing a CBAM on the same emissions scope, from 2026. No free allocation is included for the US CBAM. All ETS, US CBAM applied to Scope 1 and Scope 2 emissions for all products in all ETS sectors by both the EU & EUFTA and the U.S. ECA countries do not take further action to meet NDCs  Baseline, No NDC in Non-EU/EUFTA countries in Europe and Central Asia (ECA countries) take no further action beyond ECA current measures, so may not meet NDCs. All non-ECA countries reduce emissions in line with NDCs. No CBAM is introduced. No NDC As under ‘Baseline, No NDC in ECA’, but CBAM introduced with coverage aligned with ‘Expanded CBAM’. Emissions intensities for each country’s outputs The simulations revealed minor impacts on are derived from GTAP data and could deviate from Azerbaijan’s GDP and emissions from the EU CBAM actual emissions intensities. The model reflects an introduction. The model forecasts Real GDP in 2030 improved competitiveness for countries with less to be marginally lower than under the baseline if the emissions-intensive production versus those that are CBAM is implemented as currently proposed (0.004%) more emissions-intensive. However, importers will only (Figure A 1). This remains the case even with an be able to use their actual emissions intensity if there expanded CBAM (0.009%) or the U.S. adopting a similar is robust MRV. For example, if exporters in Azerbaijan mechanism (0.015%). Under all scenarios emissions are not able to provide robust emissions intensity reach nearly 51 million tons of CO2-eq. in 2035 (Figure numbers, their products may be subject to a higher A 2). Emissions in 2030 are forecast to be between CBAM cost (reflecting the EU default value) than is 0.08% and 0.26% lower with the CBAM in place: a simulated. saving of 0.040.13 million tons of CO2-eq. Azerbaijan: Towards Green Growth 63 Figure A 1: Modeled Real GDP, Deviation from ‘Baseline’ EDIT AXIS 2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 2035 0.02% 0.02% 0.01% 0.01% 0.00% -0.01% -0.01% -0.02% -0.02% -0.03% Current Proposal Expanded CBAM US All ETS, US Figure A 2: Modeled Emissions, Million Tons of CO2-eq. 2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 2035 51.0 50.5 50.0 49.5 49.0 48.5 Current Proposal Expanded CBAM US All ETS, US Baseline Azerbaijan: Towards Green Growth 64 Figure A 3: Modeled Real Exports of Oil to EU, Azerbaijan Doesn’t Act, $ Billion 2021 2031 2027 2024 2022 2023 2025 2032 2034 2033 2026 2029 2035 2028 2020 2030 19 18 17 16 15 Current Proposal Expanded CBAM All ETS, US Baseline Figure A 4: Modeled Real Exports of Oil to EU, Azerbaijan Acts to Achieve NDCs, $ Billion 2030 2024 2028 2026 2029 2033 2034 2035 2020 2023 2025 2032 2022 2027 2031 2021 19 18 17 16 15 Expanded CBAM Baseline, No NDC in ECA No NDC Baseline Azerbaijan: Towards Green Growth 65 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 2035 Figure A 5: Modeled Real Exports to EU in 2030, Deviation from ‘Baseline,’ $ Million Oil exports to EU Non-oil exports to EU 200 100 0 -100 -200 -300 Expanded CBAM Expanded CBAM - No NDC Baseline, No NDC Figure A 6: Modeled Real Exports to the EU in 2030, Select Sectors, Deviation from ‘Baseline’ Metals nec CBAM goods, narrow Ferrous metals Petroleum coal products Agriculture Mineral products nec Chemical products Machinery and equipment nec Metal products -40% -30% -20% -10% 0% 10% Current Proposal Expanded CBAM US All ETS, US Azerbaijan: Towards Green Growth 66 Azerbaijan’s oil exports are at risk even though they Non-oil exports to the EU are lower if Azerbaijan are not covered by the CBAM. The modeling forecasts does not act to meet its NDC (Figure A 5, ‘No NDC’, that under all scenarios, even without the CBAM, ‘Baseline, No NDC in ECA’). Non-oil exports to the Azerbaijan’s oil exports to the EU face substantial EU under these scenarios are modeled to be around declines in the coming decades (Figure A 3). These $200 million lower than comparable scenarios where exports represent around 49% of Azerbaijan’s total Azerbaijan meets its NDC. goods export value. Under the ‘Baseline’ scenario, Azerbaijan’s exports to the EU of goods covered by where countries, including the EU, achieve their the CBAM face substantial declines (Figure A 6). Nationally Determined Contributions (NDCs), a Exports of ‘Metals nec,’ mostly aluminum covered reduction in demand for fossil fuels could see the under all CBAM scenarios, could be nearly 35% lower value of Azerbaijan’s oil exports to the EU decline by in 2030 than under the ‘Baseline’ scenario. Exports of $2.5 billion by 2035.81 Moreover, the EU CBAM is not ‘Ferrous Metals,’ also mostly covered under all CBAM expected to have a substantial impact on oil exports to scenarios, could be 4% to nearly 40% lower compared the EU. Conversely, under most scenarios, the CBAM with the ‘Baseline.’ Similarly, under scenarios where is expected to have a slightly positive impact on oil petroleum products are covered, these exports could export. There are two main factors at play: increasing be between 3% and 12% lower (‘Expanded CBAM,’ ‘US,’ demand from the EU as the EU’s own production of ‘All ETS, US,’ ‘Others Act, Azerbaijan Not’). For covered EITE products becomes more competitive (particularly products, exports to the EU tend to be most affected in scenarios where petroleum products are covered by when other countries in ECA respond to the expanded the CBAM); and the relative ambition of Azerbaijan’s CBAM with carbon pricing (‘Others Act, Azerbaijan NDC compared with other oil exporters may mean their Not’). The modeling found very limited opportunities for exports face lower CBAM charges. Increased exports Azerbaijan to divert lost exports to other countries. to the EU are partly offset by lower exports to other countries. Under the EU CBAM, exports to the EU of some higher value-added products (like motor vehicles If Azerbaijan acts to achieve its NDCs, it will reduce and machinery) that are important for the green the impact on oil export to the EU. An even greater growth perspective and diversification could see and earlier decline in Azerbaijan’s exports to the EU is gains. Azerbaijani producers become more competitive simulated if Azerbaijan does not take action to meet relative to EU producers who face higher input costs. its NDC, (‘No NDC,’ ‘Baseline, no NDC in ECA’). There For example, when the CBAM is applied to Metal are two main drivers of this outcome: the EU imports imports, the input costs (which are covered under slightly less oil in total, and the contribution of some the CBAM) for EU manufacturers of Metal products other ECA countries like Russia and Kazakhstan to the increases, and Azerbaijan’s output becomes more EU’s oil supply will increase. When the CBAM expanded competitive. to cover petroleum products (for ‘No NDC’ scenario), the EU’s production of petroleum products became The modeling found the loss of exports flowed more competitive, resulting in higher EU demand for through to lower output and employment for the crude oil. This improves the outlook for Azerbaijan’s affected sectors (Figure A 7 and Figure A 8). Metals EU exports, but they would still not achieve the same (mostly aluminum) are the most affected, due to the level as under the equivalent CBAM scenario where high proportion of the sector’s production that is Azerbaijan meets its NDC (‘Expanded CBAM’). Acting to exported. The lost output in this sector would be worth achieve Azerbaijan’s NDC could secure higher revenues around $24–35 million in 2030, depending on the from oil exports to the EU of over $200 million per scenario. Changes in exports and output also impact year from the late 2020s – whether or not the CBAM is employment following similar trends, although in some implemented (see Figure A 5).82 scenarios the impact on employment in ferrous metals is larger than the impact on output (Figure A 8). All modeled $ figures used in this note are constant 2014 $. 81 The most direct comparisons are: ‘Expanded CBAM’ (oil exports over $135 million higher than ‘Baseline’) with ‘No NDC’ (oil exports $68 million lower than ‘Baseline’); and ‘Baseline’ with ‘Baseline, No 82 NDC in ECA’ (oil exports $247 million lower than ‘Baseline’). Azerbaijan: Towards Green Growth 67 Figure A 7: Modeled Real Output in 2030, Selected Sectors, Deviation from ‘Baseline’ Metals nec Ferrous metals CBAM sectors, narrow Petroleum & coal products Agriculture Mineral products nec Chemical products Metal products Machinery and equipment nec -10% -8% -6% -4% -2% 0% 2% Current Proposal Expanded CBAM US All ETS, US Figure A 8: Modeled Employment in 2030 for Select Sectors, Deviation from ‘Baseline’ Metals nec CBAM sectors, narrow Ferrous metals Petroleum & coal products Agriculture Mineral products nec Chemical products Metal products Machinery and equipment nec -12% -10% -8% -6% -4% -2% 0% 2% Current Proposal Expanded CBAM US All ETS, US Azerbaijan: Towards Green Growth 68 Annex 4. Climate Risks in Azerbaijan Climate physical risks that reflect a potential impact analysis85 of wheat and maize yield for the most of rising temperature and changing precipitation ambitious 1.5-degree pathway shows that between patterns are high in Azerbaijan, a mountainous, arid a 5–6% decline in agricultural output can be country. These risks are associated with increased expected. As up to 80% of Azerbaijan’s agricultural frequency and intensity of natural disasters (floods, output is rain-fed, the overall impact on total food droughts, landslides, heatwaves), and with the production is likely to be more negative than the economy and population’s increasing vulnerability estimate suggests. Climate impacts will cause to resource scarcity due to aridity and associated greater variability in precipitation and increase the impacts on productivity. Those risks affect assets, probability of drought and long-term water stress publicly traded securities, private and public for irrigation systems. Extreme heat is expected investments, and companies. The financial system is to be more frequent, with one study suggesting under stress due to multiplying recovery costs, and an increase of 16% in water demand by 2030 in the private sector will bear additional expenses to eastern Azerbaijan.86 maintain the current level of productivity, undermining c. Coastal Vulnerability: As of 2015, Azerbaijan’s the capacity to invest in future growth. Adaptation to coastal areas were home to approximately 4 climate change based on robust optimization is part million and included the country’s largest cities of a green growth strategy that will build resilience and 75% of its industrial resources. The economy of to climate risks for the population, economy and the capital Baku is tied to the Caspian marine and infrastructure. Adaptation and resilience building in coastal resources and contributed approximately agriculture should be addressed first, as it is the sector $39 billion (71%) of the country’s GDP in 2015. A most affected by climate risks and provides livelihoods projected Caspian Sea level decrease of 4-5 m for a significant part of the population. by the end of 21st century will lead to a 23–34% Climate physical risks in Azerbaijan are listed below: reduction of the sea’s surface area while likely increases in average temperatures in the coming a. Floods and droughts. Azerbaijan already experiences decades will have socio-economic impacts on the frequent flooding. The parts of the country at urban economy of Greater Baku. greatest risk of floods are in the central and south-eastern regions,83 while some parts of the d. Heat Islands: urban centers: The effect of urban heat country, such as the south slope of the Greater islands (UHI) from urban expansion will elevate Caucasus, experience mudflows caused by temperature peaks. Though there is a lack of flooding.84 Azerbaijan’s water resources depend research on the extent of the UHI effect in Baku, primarily on two key river basins, that of the Kur there is evidence that city residents are suffering and Aras rivers, and their future hydrology will ill health from extremely high temperatures in the determine fluvial flooding trends. Severe flooding summer months. Research for the period from like what occurred in Azerbaijan in 2003, when April to September 2003–2006, indicates that a 30,000 people were affected and over $70 million temperature increase of 1.5°C in Baku correlates in damage resulted, could become more frequent. with an increase in first-aid calls and a 20–34% rise The probability of droughts is predicted to increase in health incidents. Annual heat-related mortality as well, which would further reduce agricultural has been increasing at 4% on average since 1990, productivity. and resulted in 120 deaths in 2019.87 Besides the impact on public health, damage to productivity in b. Impact on Agriculture and Water Stress: Climate the service sector economy is likely, both through change will have direct effects on crop growth direct impacts on labor productivity and supply processes via changes in temperature and rainfall, (up to 18.6% in Asia88), as well as also through the and indirect effects such as changes in soil organic additional health care costs. matter. Estimates on the effect on crop yields point to a likely impact on food production. Global 83 GFDRR 2017. 84 Naumann, G. et al. 2018. 85 Tebaldi, C., and Lobell, D. 2018. 86 Sadat, A. P., Bozorg, H. O., and Miguel, A. M. 2013. 87 Original estimates based on GBD (2019). (http://ghdx.healthdata.org/gbd-results-tool). 88 Dasgupta, S., van Maanen, N., Gosling, S.N., Piontek, F., Otto, C. and Schleussner, C.F. 2021. Azerbaijan: Towards Green Growth 69 e. Impact on Energy System: On average, a one-degree in improving the well-being of poorer groups and increase in ambient temperature can result in a eradicating poverty and malnutrition. Additionally, 0.5–8.5% increase in electricity demand.89 The heavy manual labor jobs are common among projected increase in cooling demand places a the lowest paid while also being most at risk of strain on energy generation systems which is productivity losses due to heat stress,91 and compounded by the heat stress on the energy poorer businesses are the least able to afford generation system, including a declining output air conditioning. In rural areas, poorer farmers in hydropower, which in 2016 accounted for 8% and communities are the least able to afford of generation in Azerbaijan. While there is little local water storage, irrigation infrastructure, certainty in precipitation forecasts for the coming and technologies for adaptation. Productivity in decades, the accelerated melting of glaciers and agriculture is already below the national average, increased evaporation could limit hydropower with the sector employing a major share of the capacity in the long term. workforce but accounting for only 5% of GDP (2013 to 2017). Greater variability in precipitation, f. Impact on poverty and inequality: Azerbaijan posted increased probability of drought, and increased lower levels of income inequality in comparison temperatures are likely to exacerbate regional with its neighbors, though high levels of inequality and sectoral inequality in Azerbaijan by having across financial and social outcomes prevail.90 a disproportionately severe effect on rain-fed Climate-related hazards are likely to slow progress agriculture. 89 Santamouris, M., Cartalis, C., Synnefa, A., and Kolokotsa, D. 2015. 90 The World Bank Group and Asian Development Bank 2021. 91 Kjellstrom, T., Briggs, D., Freyberg, C., Lemke, B., Otto, M., and Hyatt, O. 2016. Azerbaijan: Towards Green Growth 70 www.worldbank.org