The outbreak of hostilities in Nagorno-Karabakh in September was consistent with Fitch Ratings’ view that geopolitical risks from the dispute had risen this year. We anticipated the possibility of renewed conflict when we upgraded Armenia to ‘BB-’/Stable in July. Our expectation that any fighting would be confined to Nagorno-Karabakh and have limited macroeconomic spillovers has been borne out so far, and the conflict has not affected Armenia’s rating or Outlook.
Azerbaijan (BB+/Positive) launched a brief, large-scale military operation in Nagorno-Karabakh last month, effectively seizing all of the territory and triggering an exodus of around 100,000 people into Armenia. Unlike recent outbreaks of fighting, Armenian troops did not directly engage in combat operations, indicating a lack of political desire to intervene. Russian peacekeepers proved unable to maintain the 2020 ceasefire agreement intended to protect the local ethnic Armenian population.
Large troop build-ups by Azerbaijan and a prolonged blockade since December 2022 had signalled heightened risks of a conflict, as we noted in July’s rating review for Armenia. Fitch continues to assume that the conflict will be localised.
The most immediate impact on Armenia’s sovereign credit metrics is likely to be through higher spending on refugees. The authorities had budgeted for only moderate levels of spending on support for existing refugees from Nagorno-Karabakh before the September conflict broke out. They have since announced a moderate increase in expenditure to deal with the refugee influx, including one-time financial support for the displaced.
Refugee-related costs may rise further given higher capex and social spending necessitated by an inflow of refugees equivalent to 3% of Armenia’s population, but we do not currently anticipate new revenue-raising measures for refugee support by the government in 2023-2024. This is partly because Armenia has already received financial aid pledges from the US, EU and other sources for the integration of refugees of at least AMD27.7 billion (0.7% of GDP), and may receive further such assistance in 2024. In addition, the Armenian budget normally contains a transfer to Nagorno-Karabakh; this will be discontinued.
Our latest fiscal projections for Armenia in our updated Sovereign Data Comparator see the 2023 deficit widening to 2.5% of GDP from 2.2% last year, then to about 3% in 2024-2025. This incorporates some additional spending on refugees and the potential for additional mild fiscal deterioration could make it harder to achieve the medium-term deficit target of 2.5% of GDP. Nevertheless, strong nominal GDP growth will keep Armenia’s debt stabilisation broadly on track.
The latest fighting does not have immediate negative implications for Armenian banks because the sector’s direct credit exposure to Nagorno-Karabakh is limited. The sector’s credit metrics have reached historical highs due to large-scale immigration and significant financial inflows since the military conflict in Ukraine began. This is reflected in our operating environment score of ‘b+’/positive for Armenian banks.
Source : Fitchratings
