AZERBAIJAN - The Economic Base.

Azerbaijan has a strategic location in the Caucasus, a well educated and inexpensive workforce, a dictatorship with a corrupt government, an inefficient agricultural sector, and a vast base of natural resources. Well aware of the country's potential, the government says its aim is to use oil and gas development as a foundation from which to build up Azerbaijan's economic strengths.

After the collapse of the Soviet Union in 1991, the Azeri economy was in a disastrous condition. The war with Armenia and internal instability had made the situation worse. Between 1991 and 1993, there was no stable government. The assumption of power by President Aliyev in June 1993 was the first step towards political and economic stabilisation. But it was not immediately possible for Aliyev's leadership to get the situation under control. Hyper-inflation had reached 1,800% in 1994, for example.

The government then took the critical step in March 1995, with a decree by Aliyev to create a currency market. Reform and aid deals were concluded with the IMF, the World Bank, EBRD and other institutions. The turning point for the Azeri economy in the post-cold war era was in 1996.

GDP which had slumped by two-thirds from $21.8 bn between 1989 and 1995, began to grow again. Hyper-inflation was tamed to about 6.7%. In 1995 industrial production declined 21.4%, but in 1996 the fall was brought down to 6.7%. The agricultural sector showed a positive trend for the first time: production declined 7% in 1995 but grew 3% in 1996. Foreign capital began flowing into the country, mostly for oil and gas projects, but also for smaller scale consumer businesses in and around Baku. Since then, the GDP has been growing by about 5% per annum. Inflation has come down to 5% as well. For the first time since Azerbaijan became independent, industrial production has risen marginally in recent years. Due to inflows of foreign capital, the currency has appreciated against the US dollar.

However, Azerbaijan has proved to be a minefield for many foreign firms trying to establish operations in the country. A combination of a lack of transparency, an inconsistent legal system and widespread corruption have produced what one Westerner says is "an extremely hostile place to invest". Centralisation of real power in the presidency - even relatively minor matters can filter up to Aliyev - has led to avoidance of decision making at lower governmental levels. Aliyev died in December 2003, but he had been succeeded by his son Ilham in October, when he was elected president (see who's who is DT & Gas Market Trends No. 3).