Economic activity cools down as positive external shocks fade out

The Armenian dram and international reserves stabilised again, while the current account deficit widened due to weak external demand. Overall, the Armenian economy remains in good shape, especially against the background of high geopolitical uncertainty. New growth drivers could come from an improvement in relations with its neighbours.

Economic growth weakens but remains robust

After experiencing two consecutive years of significant growth above its potential, economic activity in Armenia is gradually cooling down. The main reason for this is the fading out of the positive external shocks that drove growth in previous years – especially those related to the influx of Russian migrants. However, there was also no abrupt reversal of the related trends, which allowed growth to remain robust even in an environment of high geopolitical uncertainty. For 2024, real GDP growth is projected at 6.0% yoy, slowing down to 4.9% in 2025.

While consumption will remain the main driver of growth, the slowdown in external demand has turned the contribution of net exports negative. From a sectoral perspective, there is still significant growth in sectors such as finance, real estate, trade and consumption – all of which are still benefiting from the positive external shocks. However, the fading out of these is evident when looking at the ICT sector, which shrinks by 10% in the first half of 2024, after growing by 37% and 51% in 2023 and 2022 respectively.

Inflation starts to pick up slowly

Inflation has declined significantly in the recent past as inflationary pressures from the external sector have diminished. In addition, the Armenian dram has remained strong, apart from the short period of depreciation following the Nagorno-Karabakh escalation, which has contributed to keeping inflation low. Nevertheless, increases in seasonal food prices and an accommodative monetary policy stance push inflation upwards.

Inflation is expected to reach 1.0% at the end of 2024, remaining below the central bank’s inflation target of 4.0%. It is only at the end of 2025 that inflation is expected to reach 3.9% and thus converge to the target. The monetary policy rate was 7.5% in September 2024, representing a total cut of 125 basis points in 2024. While there appears to be some room for further easing, the cycle is likely to be nearing its end.

Dram stabilised after a period of depreciation

Following the escalation of the Nagorno-Karabakh conflict, the Armenian dram depreciated slightly. However, it returned to its pre-escalation level – still well above the pre-war level – in April 2024 and has remained stable since. At the same time, international reserves have also stabilised, standing at USD 3.6 bn in September 2024. This is equivalent to only about 3.2 months of imports. Additional reserve buffers would be desirable as geopolitical uncertainty remains high.

Fiscal loosening continues

Increased expenditures related to the support of refugees from Nagorno-Karabakh, as well as higher capital and defence spending, have contributed to a widening of the budget deficit to 4.7% of GDP in 2024. The fiscal loosening is expected to continue in 2025, with the budget deficit reaching 5.5% of GDP. Here, additional spending due to the introduction of a new universal health insurance system will further push up public spending.

To finance the planned increase in expenditure, public debt is expected to rise to 50.5% and 53.7% of GDP in 2024 and 2025.

External position worsens

The external position is expected to deteriorate due to a slowdown in external demand (e.g. lower tourism receipts, ICT exports and remittances) and deteriorating fiscal conditions. The current account deficit is projected to widen to 4.2% of GDP and 4.8% in 2024 and 2025.

Both exports (8M2024: +113% yoy) and imports (+59%) of goods grew strongly. While the vehicle re-export business faded, a significant increase in gold trade wasobserved since October 2023. The so-called “gold rush” was made possible by incentives for Russian companies to save taxes when exporting their products via Armenia. As a result, Armenian gold imports from Russia increased significantly (8M2024: +599% yoy), which was also reflected in the explosive growth of gold exports (+602%), mainly to the United Arab Emirates. However, this did not add significant value to the Armenian economy and has already been declining since May 2024.

Outlook

As the positive external shocks fade, the Armenian economy is gradually cooling down. In the absence of new growth drivers, real GDP is approaching its long-term potential. However, growth is still significant and the economy has remained resilient despite geopolitical challenges. On the contrary, Armenian companies continue to find new unusual business models, such as the recent “gold rush”. In this context, the main risk to this outlook remains the deterioration of economic relations with – and the economic situation in – Russia. However, there is also considerable upside potential if relations with neighbours improve. In particular, the reopening of the border with Turkey should have a significant positive impact on the economy.

This newsletter is partly based on the 12th issue of the Economic Monitor Armenia (forthcoming).

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