2023 was the year that Azerbaijan finally took over Nagorno-Karabakh, its dream since the collapse of the Soviet Union three decades ago.
 
In a surprise offensive in September, Baku’s forces attacked the ethnic Armenian enclave, forcing its de facto government to surrender after a day’s fighting. Subsequently, virtually the entire population of the disputed territory, more than 100,000 people, fled to Armenia.
 
To some extent the collapse of the statelet and the humanitarian tragedy of the refugee exodus should have been predictable after the rout of Armenian forces in the Second Karabakh war of 2020, which ended in an unstable Russian-mediated peace.
 
Since then Azerbaijan’s position has strengthened even further. Russia, the guarantor of the peace, has – on the most charitable view – been diverted by its failed invasion of Ukraine.  More cynically, many observers argue it has in fact changed sides and has chosen to back the rising Azerbaijan, which is now much more important for its trade connections, given its routes westwards through Ukraine are now blocked. This has all given President Ilham Aliyev the freedom to flex his new economic and military muscles, and his alliance with a more and more assertive Turkey.
 
What was perhaps not so predictable was the way the international community sat on its hands. Azerbaijan’s growing importance as an energy producer has made Europe turn a blind eye to both Aliyev’s human rights abuses and his aggressive posturing. Despite some wringing of hands, Europe and the US did nothing significant to either restrain the Azerbaijani dictator from invading or protect the inhabitants of Nagorno-Karabakh afterwards from being in effect ethnically cleansed.
 
Iran, which has tense relations with Baku, was also strangely quiet and quickly adapted to the new regional balance of power, which could also offer it some trade benefits if a corridor is built through its territory to connect Turkey and Azerbaijan.
 
The big question for 2024 is whether Aliyev will be content with his territorial gains. Baku continues to put pressure on Armenia for some kind of extra-territorial route to connect to its exclave of Nakhchivan and beyond to Turkey. It has also begun to repeat old claims to some villages inside Armenia proper, warning that until it is satisfied it will maintain some mountain positions on the disputed border that it has seized. Armenia fears this could all presage another attack. A full-scale invasion, however, looks unlikely, particularly in a year when Baku is hosting the COP29 environmental conference in November. Aliyev appears to want to achieve his objectives by threats.
 
As for Armenia, Prime Minister Nikol Pashinyan is determined to achieve peace, even at the cost of cutting Nagorno-Karabakh adrift. The real question this year is to what extent he is prepared to make significant concessions to reach a deal, notably on the issues of the return of refugees, the redrawing of borders, and a “Zangeur Corridor” connecting Azerbaijan to Nakhchivan.
 
So far the weakness of the political opposition has enabled Pashinyan to ride out the storm of the collapse of Nagorno-Karabakh, as he did in 2020 when Azerbaijan routed Karabkh and Armenian forces. Armenia also seems to be coping well with integrating the Karabakh refugee wave.
 
A peace deal would offer Yerevan the chance to open up transport connections with both Azerbaijan and Turkey that could transform its economy and that of the region. It would also provide an opportunity to push Russia out of the southern Caucasus, as it would no longer be needed as a guarantor of the peace – a role it has anyway flunked. Armenia has already begun to strengthen its links with the West, notably France. Yet Russia still has many levers it can pull inside Armenia. Pashinyan’s challenge in the coming year is going to be manoeuvring between Russia and the West, without provoking Moscow into even more overt attempts to bring him down.
 
In Azerbaijan, Aliyev looks increasingly impregnable following Baku’s victory over the tiny Nagorno-Karabakh army. Taking advantage of this, he has called early presidential elections to be held in February, a year earlier than originally planned. But the Aliyev family, which has ruled the country for 30 years, is taking no chances in the façade elections. It has launched a wave of arrests and currently more than 200 people are held as political prisoners.

Georgian dreams

The other big event of the year was the European Commission’s decision on  December 14 to finally grant candidate status for EU membership to Georgia, after turning it down in 2022. The green light was more a reflection of the geopolitical environment than any progress Tbilisi has made to fulfil the conditions the EU had set. Failing Georgia again could have pushed the Georgian Dream government to accelerate its already worrying drift towards Moscow.

After Russia’s invasion of Ukraine, Georgia steered a middle course, refusing to join sanctions on Moscow but also not obviously acting as a backdoor to help the Kremlin evade them. But last year Georgia appeared to be moving closer to Moscow, with deepening economic ties and a resumption of direct flights.
 
The increasingly authoritarian government even proposed a Russian-style foreign agent law, though it eventually backtracked after a domestic outcry and Western pressure. It also unfroze the bank assets of sanctioned former Prosecutor General Otar Partskhaladze ­–­ who is closely linked to the billionaire founder of the ruling Georgian Dream party Bidzina Ivanishvili, who made his fortune in Russia ­­– causing the International Monetary Fund to suspend its programme in the country.
 
The big question on Georgia this year is whether the government will finally get serious about qualifying for EU membership. Several conditions remained unfulfilled and the EU added three more.
 
The list now includes: deoligarchisation; depolarisation of politics; fighting disinformation and foreign (Russian) interference; improving the independence of the electoral system; removing state control from the judicial system; strengthening the independence of other government institutions, such as the police and the national bank, greater parliamentary and public oversight of the security services' work; harmonising foreign affairs with the EU; empowering anti-corruption agencies; and strengthening human rights protections.
 
Many of these look extremely challenging – especially with elections scheduled for October. It would be optimistic to expect the EU to decide to open negotiations at the end of the year.
 
In those elections Georgian Dream looks well placed, given that the United National Movement, the largest opposition party, has experienced a split, raising questions about its future. Ivanishvili, Georgian Dream’s founder, last month announced his return to frontline politics to assure his party’s victory – and also defuse EU criticism that he was pulling the strings from behind the scenes.
 
Sanctions rebound
 
For the economies of the three South Caucasus countries, 2023 was a surprisingly good year. All three countries are closely connected with Russia’s struggling economy but given that country’s resilience to sanctions, the impact of the Ukraine war and sanctions has not been as bad as expected. Moreover, the region has also benefited from the redirection of trade, as well as the influx of Russian migrants and capital flows. In the first 10 months, Armenian exports to Russia increased by 63% to approximately $2.9 billion. This has all boosted demand, labour supply, GDP growth and current accounts.
 
For Georgia, two thirds of whose exports go to the Commonwealth of Independent States (CIS), GDP growth in 2023 is forecast at close to 7%, though this will ease to 4.8% this year, according to the IMF. Inflation dropped to 0.4% at the end of the year, allowing rate cuts and boosting consumption, helped by wage growth of 17%.
 
In terms of vulnerabilities, the current account deficit widened to an estimated 5.9% of GDP in 2023 and is expected to increase to 6.4% in 2024. By contrast, gross external debt has fallen to around 79% of GDP as of the third quarter of 2023, the lowest level since 2014, and by November 2023, the National Bank of Georgia's international reserves hit a record high of $5.1 billion.
 
The Armenian economy was projected to grow by 7% in 2023, followed by 5% in 2024, with private consumption and investment as the main drivers of this growth. Inflation is expected to average 3.5% in 2023 and accelerate to 4% in 2024.
 
In terms of vulnerabilities, the main worry for Armenia is the budget, given the cost of integrating the Karabakh refugees and building up the country’s defence capacity. The government expects the state budget deficit to increase to 4.6% of GDP in 2024, compared to the planned 3.1% for 2023.
 
Petrostate Azerbaijan’s economy has been the poorest performer of the three because of falling oil prices and its declining oil production. In 2023 Azerbaijan's oil production with condensate decreased by 7.4% to 30.2mn tonnes. In 2024 oil production is forecast to fall a further 3% to 29.49mn tonnes. In terms of gas production, there was a 3.2% increase to 48.3bn cubic metres in 2023, with 2024 output expected to rise by 0.7% to 49.06 bcm.
 
This translated into a decline in the oil and gas sector of 1.7%, while the non-oil and gas sector grew by 3.7%, resulting in an estimated increase of just 1.1% in real GDP.
 
ING predicts 2.5% growth this year, while inflation is forecast to fall to 5% from an estimated 9.1% in 2023, which may help consumption revive. Future growth should also be boosted by reconstruction of the reconquered Nagorno-Karabakh territory.
 
The foreign exchange reserves of the Central Bank of Azerbaijan at the end of the year were a massive $11.613bn, up by 29.1%.

 

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