Armenia's production and export nearing the bottom overwhelmed by the "Dutch disease" Analysis by Caliber.Az

Since the end of last year, Armenian producers and exporters have faced the problem of appreciable strengthening of the exchange rate of the dram against the dollar and the ruble, and these processes have significantly reduced the attractiveness of Armenia as a place of localisation of export-oriented production. The situation is aggravated by a sharp inflow of financial resources from Russian re-locants and companies into the country's economy, and these funds are not invested in the real sector of the economy, but settle in the banking sector and go to the hospitality sector, putting pressure on the consumer market and fuelling inflation.

Recently, Armenian and Russian media have published analytical materials testifying to the so-called "Dutch disease" increasingly affecting the Armenian economy and, in fact, killing its remnants. One after another bubbles are bursting, fuelled by the re-export of sub-sanctioned goods to Russia and the frenzied demand for the services of the banking and tourism sectors, which have been reoriented since last spring to serve re-locants and Russian capitals fleeing the war and sanctions. For a year and a half, all this speculative frenzy (to which Armenia owes almost entirely to Russia's military operation in Ukraine) has not brought portfolio investors into the industrial and agricultural sector, infrastructure, construction, telecommunications, and other branches of the real sector of Armenia's economy. In addition, due to the unambiguous pressure of the Western bloc, Yerevan was forced to reduce its activity in dubious operations on the re-export of sub-sanctioned goods to Russia since spring 2023. As a result, the dry residue of the short-term currency rain that irrigated the meagre pastures of the "country of stones" left only future inflation risks and problems caused by the excessive strengthening of the national currency - the dram, which is already hitting exports and production hard.

"Gas was not found in Armenia, of course, but the situation is very close. A large amount of foreign currency began to flow into the republic, as a result of which the dram began to strengthen, bringing with it all the consequences of the 'Dutch disease': damage to companies exporting goods or services, the closure of smaller and weaker companies, and instead only the hotel and restaurant sector and the banking sector grew," says Vahram Mirakyan, head of the Mantashyants Union of Entrepreneurs. According to him, a year ago the Central Bank and the Ministry of Finance of the Republic welcomed the strengthening of the national currency, believing that this monetary factor would reduce the inflation rate, indirectly affecting the mitigation of social tension. However, the above-mentioned symptoms of the "Dutch disease", having intensified in the current year, led to tangible side effects of a very negative nature, the further development of which is fraught with serious shocks for the Armenian economy.

An analytical study published recently by the Eurasian Development Bank (EDB) states that the Armenian dram has been steadily strengthening against the key currencies of trading partner countries since the beginning of the second quarter of 2022 and by the end of July 2023, compared to the beginning of 2022, it has appreciated against a basket of currencies - against the US dollar by 19.8% year-on-year (YoY), against the euro by 21.7% YoY, and against the Russian ruble by 32.4% YoY. According to EDB's forecast, by the end of this year, the dollar will cost about AMD 397 - definitely more expensive than now.

This is due to the fact that the net inflow of cross-border remittances last year was $2.6 billion, or 13.2% of the country's GDP. By comparison, in the last five years, this figure averaged $665 million, or 5.2% of GDP. Obviously, Armenia's tiny economy could not absorb the fourfold increase in transfers, and the sharply increased cash flow, instead of spinning the hubs of the water wheel, tore down the dam itself.

Economist Aghasi Tavadyan, a member of the Eurasian Expert Club, believes that the disproportionately large inflow of money transfers is not due to the factor of Armenian guest workers travelling to Russia for work, but is mainly provided by Russian business and re-locants. It is not difficult to imagine what kind of collapse awaits the Armenian economy when this external and very ephemeral factor ceases to influence it. However, these processes have already begun - the flow of Russian re-location is already drying up, shifting to the UAE, neighbouring Türkiye and Georgia, and other countries with much more developed and promising markets.

EDB experts also believe that the excessive supply of foreign currency has already had negative consequences - the sharp increase in income caused by the inflow of money from outside creates excess demand in non-export sectors (services and trade) and stimulates a significant increase in wages in them. But then the excess demand creates pressure on the consumer market and the real estate sector, creating imbalances and deficits, and provoking unjustified price increases. On the contrary, the role of export-oriented sectors is dramatically decreasing due to the strengthening of the national currency. Armenian businessmen have repeatedly asked the authorities to take measures to prevent further strengthening of the national currency, which leads to a decrease in the competitiveness of local producers and weakening of their positions in foreign markets.

Armenian horticulture and viticulture, as well as other branches of agriculture, which have almost completely lost their export prospects, have experienced the worst effect of the strong currency. Thus, according to expert economist Tatul Manaseryan, the increased price of dram strongly reduces the competitiveness of Armenian goods in the Russian market. "Even the Armenian brand - apricot has given up its positions this year," he notes. Since Armenian wine is no longer competitive in international markets, there is no longer a need to buy grapes, and this industry has been in deep crisis since last year.ə

A similar effect is taking place in the production of textiles and other consumer goods. At the same time, many IT companies have stopped their development projects, small exporting companies have frozen their supplies, and many investment projects have stalled due to the increase in their cost. At the same time, imported foodstuffs from Russia, Iran, and other neighbouring countries, which have become cheaper due to the exchange rate difference, are confidently pushing more expensive local products - dairy, sausage, flour, and confectionery products - off the shelves of Armenian retail chains, and this is already hitting the Armenian food industry hard.

Thus, the high exchange rate of the dram will inevitably lead to job cuts and a decline in production in many sectors of the economy of the "apricot republic".