Oil and gas

Azerbaijan’s economy is driven by the oil and gas sector, which accounts for some 90% of the country’s exports and between 30% and 50% of its GDP, depending on oil prices. Export revenue from oil and increasingly from gas as well has brought Azerbaijan significant wealth and raised the standard of living in the country. The dynamics of the country’s oil and gas sector substantially influence economic growth, through both industrial activity and consumer spending linked to employment and salaries.

Overall, Azerbaijan produces around four times the energy it consumes and has one of the highest levels of energy self-sufficiency in the world. In recent years, almost 90% of oil and over 40% of natural gas have been exported.

Azerbaijan’s domestic total energy supply (TES) relies on natural gas (68% in 2020) and oil (31% in 2020). Natural gas is used to generate most of the electricity and heat in the country (over 90% in 2020). Fuel oil was phased out in the early 2000s, but had to be briefly reintroduced following the gas supply squeeze in 2015-2017. Crude oil is refined locally to satisfy most national oil product consumption, and local production is about to expand following a refinery upgrade which is now under way. It is noteworthy that no coal is used in the country.

Azerbaijan total final consumption by sector, 2020


Azerbaijan total energy supply, 2020


Azerbaijan electricity output, 2020


Natural gas is the largest source of TES, but a major share of it is transformed into electricity and heat. This explains the relatively equal shares of oil products and gas in TFC, with oil averaging 42% of TFC in 2010‑2020 as compared with gas (40%). In the same time period, electricity accounted on average for 16% of the TFC.

Electricity generation in Azerbaijan, 2000-2020


It is noteworthy that while the shares for the three main energy sources have remained essentially constant, the consumption of each has grown by more than 50%. In contrast, the share of district heat in TFC was only 3% in 2020, but its consumption has grown over fivefold since 2010. Oil is the primary energy source in transport and industry. Natural gas is the main energy source in the residential sector, and also increasingly important in the service and industrial sectors. However, the drop in economic activity due to the Covid-19 pandemic led to a 70% year-on-year decline in natural gas consumption in the service sector.

The residential sector is traditionally the largest final energy consumer, and was responsible for 37% of TFC in 2020. Households consume energy mostly in the form of natural gas; gas made up over 80% of total household consumption in 2020. Industry was responsible for over 30% of TFC, with oil being the main energy source (46% of the sectoral total in 2020). Energy consumption in the transport sector has almost tripled in volume since 2000 and accounted for 22% of TFC in 2020, almost all in the form of oil (around 97% of total transport consumption in 2019). The service and agricultural sectors accounted for around 12% of TFC in 2020, with electricity as the main energy source (48% of the sectoral total).

Total final consumption in Azerbaijan, 2000-2020


Oil and gas exports continue to dominate Azerbaijan’s economy, providing the majority of government revenue. These fossil fuel resources are plentiful, but as major importing countries around the world commit to net zero GHG emissions by 2050, Azerbaijan will need a strategic long-term outlook.

The oil price volatility seen in 2020 and 2021 has reconfirmed the need to encourage private-sector-led and productivity-based development and diversification in Azerbaijan. The recently announced decarbonisation targets in a growing number of oil- and gas-importing countries point to the same conclusion. Economic diversification still has far to go, however, and dependence on the oil and gas industry will persist for years.

Sustainable energy

While interest in using renewable energy and energy efficiency has begun to increase only in recent years, the Azerbaijani government recognises that renewable energy in power generation can help diversify energy sources and divert natural gas from power generation for potentially more profitable exports and use in petrochemicals, and also help meet climate policy objectives.

Moreover, Azerbaijan has strong potential for renewable energy development. The country has excellent solar and wind resources and significant prospects for biomass, geothermal and hydropower. Practical deployment has been limited, however, compared with the scale of the country’s available resources and long-term ambitions. That focus is changing, however. The government is now drafting legislation to promote renewable energy and is aiming for renewable energy to provide 30% of electricity generating capacity by 2030, roughly twice the current share. Major contracts for building wind and solar power capacity were signed in early 2020, and construction is currently underway.

Renewable energy, together with energy efficiency, also offers the most promising low-carbon solution to meeting Azerbaijan’s climate targets. At COP26, Azerbaijan committed to reducing its GHG emissions by 40% by 2050, measured from the 1990 base year set in its NDC under the Paris Agreement, roughly equivalent to a 20% reduction from the current emissions. The government is also working to meet the United Nations’ (UN’s) 2030 Sustainable Development Goals (SDGs), among which SDG 7 (access to affordable, reliable, sustainable and modern energy resources) is a priority for Azerbaijan.

The share of renewable energy sources (RES) in Azerbaijan’s TES has remained stable but low since the 1990s. The share in electricity generation has declined from 18% in 2010 to 5.1% in 2020, mainly due to a reduction in hydropower output. The dominance of hydropower in RES leads to similarities in the patterns of RES in TES and RES in TFC.

Renewables in total energy supply in Azerbaijan, 2000-2020


Hydropower accounted for 53% of total renewable energy supply in 2020. The remainder came mainly from renewable municipal waste and bioenergy. With a combined installed capacity of 102 megawatts (MW) in 2020, wind power and solar PV remain small, but the government has indicated strong ambition to develop the sector. Statistics for heat pumps were available for the first time in 2018, showing a total installed capacity of 1.4 MW. Heat pumps, too, are in the early stages of utilisation in the country.

For the past decade, Azerbaijan has been working to put together strategies on renewable energy, and has passed key legislation that will allow for faster deployment of renewables. While draft strategies were put forward in the 2010s, nothing was formally adopted. The 2016 Strategic Road Map for the development of utilities (electricity, heating, water and gas) in the Republic of Azerbaijan included a target to add 420 MW of renewable electricity capacity by 2020, comprising 350 MW of wind, 50 MW of solar and 20 MW of bioenergy.

The European Union has been supporting the Ministry of Energy of Azerbaijan in its work to build a Long-term Energy Strategy from 2021-2050. This Strategy has not yet been adopted, but remains under consideration.

In May 2020, the Cabinet of Ministers approved the Action Plan on Attracting Additional Investments in the Renewable Energy Field. The role for renewable energy in heat supply is small, and no direct role for it in transport was envisaged, with the focus mainly on investment in the power sector.

In early 2021, President Aliyev approved Azerbaijan 2030: National Priorities for Socio-economic Development, which set out the government’s development strategy across the economy. This strategy envisions Azerbaijan as a “clean environment and green growth country,” and envisions the increased use of renewable energy sources. In May 2021, Parliament approved the Law on the use of renewable energy resources in electricity production. This new law will allow Azerbaijan to take advantage of its renewable energy potential by setting the legal basis to develop renewable energy projects, and introducing competitive bidding processes and support mechanisms for active consumers i.e. prosumers. In addition, draft laws on electricity and gas supplies are currently under review.

In July 2021, Parliament also approved the Law on rational use of energy resources and energy efficiency. Prior to this, the country had no legal framework or targets for energy efficiency. Having the legal framework in place will open the door for Azerbaijan to begin to take rapid action on energy efficiency, via tools such as stringent standards and support for more efficient energy use in all subsectors.

Key institutions and stakeholders

The presidential administration, Cabinet of Ministers and Ministry of Energy (MoE) are the main government institutions in the energy sector, while several state-owned monopolies control individual subsectors, including the State Oil Company of Azerbaijan Republic (SOCAR) and its subsidiaries (oil and gas production, oil refining, storage, transmission, distribution and supply), Azerenergy and its subsidiaries (Azerenerji, electricity generation and transmission, heat energy generation and selling), Azerishiq (electricity distribution, supply and small-scale electricity generation) and Azeristiliktejhizat (heat energy generation, transmission, distribution and supply and heated water production, distribution and supply).

Executive power in the Republic of Azerbaijan is held by the president, and the president assembles a Cabinet of Ministers to organise the work of the executive authorities. The Cabinet of Ministers is an executive body accountable directly to the president.

The MoE is the central executive authority responsible for implementing state policy in the energy sector. The MoE has the authority to issue secondary legislation in the energy sector, except for those related to tariff regulation, which is under the authority of the Tariff Council.

The Tariff Council determines the retail and wholesale tariffs for electricity, gas, district heat and refined petroleum products as well as purchase tariffs for renewable electricity. As of April 2022, it has been removed from the central executive body of the Ministry of Economy, and is now operating on a voluntary basis.

In December 2017, the Azerbaijan Energy Regulatory Agency (AERA) was established under the MoE, by Presidential Decree No. 1750. AERA is a public legal entity which regulates relations between producers, transmitters, distributors, suppliers and consumers; analyzes enterprise activities; submits proposals on restructuring measures, developes incentives for investment; and organises control over compliance with engineering and communication support systems and service quality requirements in the field of electricity and heat energy, as well as gas supply in the Republic of Azerbaijan. Eventually, after the approval of the draft Law on the regulator in energy and utility services, all functions related to the calculation and approval of energy tariffs will be transferred from the Tariff Council to AERA. The draft law was submitted to the Cabinet of Ministries for inter‑ministerial consultations in October 2021. In accordance with the Rules on implementation of supervision on supply of electricity and heat energy, as well as gas, approved by Presidential Decree No. 204, in July 2018, AERA fulfills its regulation and inspection functions in the relevant fields.

In September 2020, the president of Azerbaijan signed a decree establishing the State Agency for Renewable Energy Sources under the MoE.

The Ministry of Ecology and Natural Resources is a central executive body implementing state policy on environmental protection. The ministry maintains environmental safety, monitors the extraction of natural resources and their conservation in the country, and takes measures to avert damage to natural ecological systems from economic or other activities.

The Ministry of Emergency Situations is responsible for emergency response mechanisms in all sectors of the economy. Its mandate includes emergencies arising from natural and human-caused disasters and fire, as well as emergencies involving power systems, utility systems, hydropower facilities, oil and gas production and processing facilities, and main pipelines.

The State Statistical Committee of the Republic of Azerbaijan is responsible for official energy statistics and meets regularly with the MoE to discuss data findings and potential additional needs of information.

Long-term energy policy planning

Why is long-term energy policy planning important?

At present, countries around the world are facing myriad challenges, such as ensuring energy security, recovering from the impacts of the Covid-19 pandemic and the increasing effects of climate change. These challenges often intersect, and can arise unexpectedly. Long-term energy policy planning and the process of creating and maintaining an energy strategy are important tools to help countries face these challenges coherently and successfully. Long-term energy policy planning and target-setting are ongoing processes that evolve, rather than conclude. A priority for governments should be to build these processes in a serious but flexible manner, making sure that the policies are impactful but also adjustable in the face of unexpected developments and crises.

Azerbaijan has been working towards a long-term energy strategy for several years. As the oil and gas sector remains the backbone of the economy, the country has been looking to improve the efficiency with which it uses its energy resources.

Azerbaijan 2030: National Priorities for Socio-economic Development is now the main framework for policy reforms and strategy. However, long-term energy policy planning and target-setting remain important for the country’s energy sector development. In the lead-up to COP26 in 2021, an increasing number of countries announced new targets, and many were specifically focused on achieving net zero emissions, including Azerbaijan, which updated its target to a GHG emissions reduction of 40% (UN, 2021).

Across the world, many countries have embarked on policies and targets to increase the share of renewable electricity in their systems for a mix of reasons, including to protect the environment, improve energy security and reduce costs. For those who rely heavily on imports of fossil fuels, increasing the share of renewables in the energy mix can help reduce import dependence. For other countries, increasing the share of renewables may increase the amount of fossil fuels available for export. In the case of Azerbaijan, it may be most useful to look at the policies introduced by other oil- and gas-producing countries.

Europe’s main gas producers are the Netherlands, Norway and the United Kingdom (UK), and all have policies to support the growth of renewable electricity. As in many countries there are a number of policies involved to meet their set targets. And as targets are met and the policy context shifts, new targets are added and policies are either changed or streamlined.

In the Netherlands, a key policy is the Energy Agreement for Sustainable Growth. This is a negotiated plan between the government and organisations and interest groups to further the energy transition in the country. It includes a target to increase the proportion of energy produced from renewable sources from below 5% at the time of establishing the agreement in 2013 to 14% in 2020 and to 16% in 2023. In addition, the Netherlands has developed a detailed policy framework, the 2019 Climate Agreement, to help achieve its climate targets. This framework, combined with other initiatives, allows the government to implement key legislation, policies and measures to effectively target support for the energy transition across the full spectrum of the Dutch economy (IEA, 2020).

In the UK, the Contract for Difference (CfD) was introduced in October 2014 to replace Renewable Obligations. The CfD scheme is designed to support the deployment of large-scale renewable projects (over 5 MW), while separate policies such as feed-in tariffs support smaller-scale renewables, and is based on the difference between the market price and an agreed “strike price”. If the “strike price” is higher than a market price, the CfD counterparty must pay the renewable generator the difference between the “strike price” and the market price and vice versa (Government of the United Kingdom, 2022).

As the figure below indicates, renewable electricity generation has grown by around 60% over the past four years in both countries, and with it the share of renewables in total generation.

Evolution of renewable electricity generation in the United Kingdom, 2000-2020


Evolution of renewable electricity generation in the Netherlands, 2000-2020


One of the challenges in working out the potential for renewables in a country is how to access information on the best areas or regions in which to deploy different types of renewables. The International Renewable Energy Agency (IRENA) has launched an atlas to assist countries and investors in finding information on these areas (IRENA, 2022).

Norway, one of Europe’s main oil and gas producers, has ambitious 2050 climate and energy targets. It is an energy-rich country, but its abundant and affordable hydropower has enabled a high degree of electrification (IEA, 2017). Yet Norway still needs to focus on how to further reduce emissions in key sectors in order to meet 2050 goals. At the same time, the country’s support for renewable energy through its policy planning process led it to become a global leader in increasing the penetration of electric vehicles (EVs) in its overall fleet (Norsk elbilforening, 2022). It has instituted a range of measures, including:

  • no purchase/import taxes (1990‑present)
  • exemption from 25% value added tax on purchase (2001‑present)
  • no annual road tax (1996‑present)
  • no charges on toll roads or ferries (1997‑2017)
  • free municipal parking (1999‑2017)
  • access to bus lanes (2005‑present)
  • 50% reduced company car tax (2000‑2018)

As a result, Norway has seen very strong growth in EVs in its overall fleet, with nearly 350 000 EVs in 2020, an almost fourfold increase over five years.

Private car fleet in Norway by type of fuel, 2016-2021


It is not just oil- and gas-producing countries from Europe that have policies or targets to support renewables. Particularly in the wake of COP26 and the general global push to a net zero future, producer economies around the world are taking the prospect of the energy transition seriously. This is reflected in government policies and new targets, as well as investment deals with companies.

In late 2021, the UAE announced a commitment to a net zero target by 2050. The country’s 2050 energy strategy includes a total energy mix involving 50% clean energy sources (renewables and nuclear and 50% hydrocarbon-based sources, mainly natural gas). The UAE has worked with external consultants and international organisations to build an integrated energy model that has allowed the government to put forward policies that will help it achieve these targets. This modelling is now fully in-house and serves to inform government policy at the federal level.

In addition, Algeria has established a 27% renewable energy target by 2030, and has committed to building 15 000 MW of renewable generation capacity by 2035 (IEF, 2021). Iraq has signed USD 27 billion worth of deals with TotalEnergies, including work on addressing gas flaring, as well as a 1 gigawatt solar power plant (Reuters, 2021).

Meanwhile, Egypt has prioritised investment in renewable energy, as a way to ensure long-term energy security. The country has set ambitious targets, including 20% of electricity generation from renewable sources by 2022 and 42% by 2035. Egpypt is now on track to surpass its 2022 target, thanks to strong government support, and an active push to attract international financing while committing to regulatory reforms.