June 15, 2001

Mr. Horst Köhler
Managing Director
International Monetary Fund
Washington, D.C. 20431

Dear Mr. Köhler:

Since the expiration of our previous arrangement with the International Monetary Fund, supported under the Poverty Reduction and Growth Facility (PRGF) as well as the Extended Financing Facility, the government of Azerbaijan has accelerated the process of structural reforms. In an effort to strengthen our efforts to reduce poverty and encourage broad-based economic growth, we have prepared an Interim Poverty Reduction Strategy Paper (I-PRSP), in consultation with civil society, international donors and the staffs of the World Bank and International Monetary Fund, which we have previously submitted to you, as well as to the management of the World Bank.

Consistent with our I-PRSP, we have formulated a comprehensive macroeconomic program, which is described in the attached Memorandum of Economic and Financial Policies (MEFP). In support of this program, we request a three-year financial arrangement from the Fund under the PRGF, in an amount of SDR 80.45 million. The government asks that the request for this arrangement be considered by the Executive Board of the Fund after specified prior actions have been taken.

As detailed in the attached MEFP, the government is aware that disbursements under the PRGF are subject to observance of performance criteria, completion of program reviews, and the usual clauses regarding the exchange and trade system. The government believes that the policies set out in the attached MEFP are adequate to achieve the objectives of the program. However, it stands ready to take any additional measures appropriate for this purpose, and will consult with the Fund on such measures in accordance with the policies of the Fund. In any event, the government will conduct reviews of the program with the Fund under the PRGF arrangement as described in paragraph 50 of the MEFP.

Finally, in the spirit of transparency, which we believe is essential for the creation of good governance—one of the key objectives of our program—we hereby authorize the International Monetary Fund to publish the attached MEFP, as well as our I-PRSP and the Joint Staff Assessment thereof, on the Fund's web site.

Sincerely yours,

Artur Rasi-zade Prime Minister Azerbaijan Republic			Avaz Alekberov Ministry of Finance Azerbaijan Republic
Elman Rustamov Chairman, National Bank Azerbaijan Republic			Farhad Aliev Minister Economic Development Azerbaijan Republic

Attachment

AZERBAIJAN REPUBLIC

I. Introduction

1. In 1995, supported by financial resources from the International Monetary Fund (IMF) and the World Bank (WB), the government of Azerbaijan launched a multi-year economic program to enhance macroeconomic stability and promote structural reforms, in order to establish the conditions for economic growth. Aided by rapid growth in oil and related industries, Azerbaijan has managed to achieve real GDP growth averaging around 9 percent per year in the past three years. However, the recent growth in other sectors of the economy has not been sufficient to create employment opportunities, and poverty is extensive, particularly in the rural areas of the country.

2. Building on the successes of our past economic reform efforts, the government of Azerbaijan and the Azerbaijan National Bank (ANB), after consultation with parliament, the business community, labor and NGOs, and in cooperation with the staffs of the Fund and the World Bank, have formulated a multi-year poverty reduction strategy, as outlined in our Interim Poverty Reduction Strategy Paper (I-PRSP). The objective of this strategy is to reduce poverty by creating an environment for broad-based, sustainable growth throughout our economy. We intend to further develop and refine this strategy in the coming year, and to specify this strategy in a full Poverty Reduction Strategy Paper (PRSP). In this Memorandum of Economic and Financial Policies, we specify the macroeconomic policies we intend to implement during this medium-term program, with detailed discussions of those policies we will implement in the first year, consistent with the policies and objectives described in our I-PRSP. We are requesting support for our program under the Fund's Poverty Reduction and Growth Facility (PRGF), and intend to request similar assistance from the International Development Association (IDA). We are also seeking assistance in financing and implementing our strategy from other multilateral institutions, as well as from bilateral donors and creditors.

3. The core of our program is our effort to enhance development of sectors of the economy not directly related to the oil industry. This is essential for two reasons: first, it will expand employment and income opportunities throughout the country, helping to reduce poverty; second, it will aid in insulating our economy—and in particular, the most vulnerable segments of our society—from the volatility inherent in the market for oil. The principal elements of our medium-term strategy to enhance the development of the non-oil related sectors are the following: (i) a continuation of fiscal and monetary policies consistent with macroeconomic stability; (ii) aggressive programs to enhance governance and strengthen financial discipline in the energy sector; (iii) the maintenance of a liberal trade regime; (iv) an acceleration of structural reforms; and (v) measures designed to improve the legal and regulatory environment for private sector development.

4. With regard to the exchange rate, we are of the opinion that its current level is appropriate. While the ANB remains committed to allowing market forces to determine future movements in the exchange rate, which implies that over time the ANB's purchases in the foreign exchange market will be dictated by its planned path for reserve accumulation, it will continue its strategy of seeking to prevent volatility in the market.

5. Azerbaijan's investment ratio is projected to rise from around 25 percent of GDP in 2000 to 50 percent in 2004, as work on the Main Export Pipeline (MEP) and development of the country's oil and gas fields accelerates. This increased investment will largely be financed by external sources, as savings are projected to average around 24 percent of GDP. To reduce upward pressure on the exchange rate, which could erode the competitiveness of the non-oil sectors, as well as to ensure that the benefits of our natural resources are shared with future generations, the government has established an Oil Fund as an extrabudgetary fund, to save and manage a large share of the government's oil-related revenues. Given this policy, the real effective exchange rate is expected to be broadly unchanged over the program period. Nonetheless, the structural, legal and governance reforms we plan to undertake should enhance the efficiency and competitiveness of the non-oil sectors of the economy, contributing to strong growth in these sectors. However, as export capacity constraints are likely to cause a slowdown in growth in the oil sector, Azerbaijan's overall GDP growth rate is expected to remain constant at about 8 percent over the program period before accelerating in 2005 with the activation of the MEP.

I. The Program for April 1, 2001-March 30, 2002

A. Policy Objectives and Strategy

6. The main macroeconomic targets of our economic program for 2001 are to contain the annual rate of inflation to 2.5 percent, achieve real GDP growth of 8.5 percent, and keep the ANB's gross external reserves at a level at least equal to 3.8 months of non-oil related imports of goods and services. The program will aim at enhancing governance, in particular through measures to strengthen expenditure management and increase the efficiency and transparency of operations of the Ministry of Taxes and the Customs Committee, as well as through the development of a comprehensive anti-corruption program. Key structural measures during the program period will concentrate on reforms in the banking sector, and strengthening financial discipline in the energy sector. In addition to these efforts, and in consultation with the World Bank, the government will accelerate the privatization process; improve the operations of the civil service, including through implementation of the new civil service law; seek to accelerate growth in the agricultural sector through improved access to credit, enhanced provision of technical services to farmers, and more reliable provision of power supplies to rural areas; initiate legal, judicial and regulatory reforms; and launch comprehensive reforms of pensions and social protection, and in the health and education sectors.

7. To ensure that our policies are consistent with these targets, we will limit the growth of the net domestic assets and reserve money of the ANB, and keep the 2001 fiscal deficit of the general government (excluding the Oil Fund) to not more than 3.9 percent of GDP, while continuing the policy of zero ANB financing of the general government. The fiscal deficit will be financed by external project assistance, a World Bank adjustment credit, privatization proceeds and treasury bill sales. In light of some concern regarding the recent growth of government and government-guaranteed loans, we have established ceilings for contracting or guaranteeing new non-concessional debts. In addition, to ensure a deepening and acceleration of reforms, we have established structural performance criteria and benchmarks related to governance, banking sector reform and energy sector financial discipline, as discussed below.

8. In order to establish a solid foundation for the success of this multi-year economic reform program, we have already taken the following measures as prior actions:

a. announced and begun to implement a comprehensive reform of the Cabinet of Ministers, designed to improve governance;

b. reaffirmed, in connection with the establishment of an extra-budgetary Oil Fund, our adherence to the principle of consolidation of revenues and expenditures of the consolidated government in order to facilitate the preparation and implementation of a sound macroeconomic policy, and also announced that the forthcoming normative regulations regarding the annual program of revenues and expenditures of the Oil Fund will state that (i) preparation and the execution of the program of the Fund's revenues and expenditures will be carried out within the framework of the above-stated principle of consolidation and in close co-operation and coordination with the Ministry of Finance; (ii) any expenditures of the Fund's assets will be executed only within the approved annual budget of the Fund and through the treasury; (iii) the Fund will publish quarterly statements on its revenues.

c. adopted regulations regarding asset management and investment strategies for the Oil Fund, in consultation with the Fund staff.

d. revoked the banking license of Agroprom and cancelled the outstanding debts of Agroprom to ANB, replacing them with long-term bonds issued by the Ministry of Finance;

e. signed a memorandum on operating principles for the state-owned United Universal Joint Stock Bank;

f. reduced ANB deposits with the International Bank to manat 100 billion, and committed to eliminate these deposits by September 30, 2001, and to then end the policy of the ANB holding deposits with commercial banks;

g. issued a decree that makes managers of budgetary organizations responsible for avoiding new utility arrears, and instructs utility managers not to supply services to budgetary organizations beyond budgeted levels;

h. instructed SOCAR, Azerenergy and Azerigaz to deliver to the government monthly cash-flow statements on a timely basis, beginning in January 2001; these statements will be shared with the Ministry of Finance, Ministry of Taxes, Ministry of Economic Development (MOED) and the ANB, as well as with the resident representatives of the Fund and the World Bank;

i. issued an international tender for bids for an assessment and evaluation of ways to improve governance in the Customs Committee;

j. appointed the head of the Chamber of Accounts, the government's supreme audit institution;

k. submitted to parliament a revised Procurement Law;

l. issued a public statement informing suppliers that the government accepts no responsibility for expenditures undertaken outside the budget; and

m. issued a decree granting the Ministry of Finance, and the Ministry of Taxes, the authority to oversee the cash flow of those state-owned enterprises who are either among the largest taxpayers or have significant payments falling due in 2001 on government-guaranteed loans, including SOCAR, Azerenergy, Azerigas, Azerchemia, Caspian Shipping, the state railway and airline companies, and the Ministry of Communications.

9. With these measures, and the other policies discussed in detail below, we believe that the implementation of our new three-year economic program will take hold rapidly, spurring our efforts to reduce poverty and enhance growth.

B. Fiscal Policy and Social Safety Net

10. The 2001 budget reflects our fiscal goals, as outlined in the I-PRSP. Overall revenues should strengthen, as oil and non-oil revenues are expected to increase by 1.0 and 0.3 percent of GDP, respectively. The budget deficit of the consolidated government is expected to be 0.4 percent of GDP; excluding funds that will be used to build up the Oil Fund, the general government budget is expected to show a deficit of 3.9 percent of GDP. The government is committed to ensuring no new expenditure arrears are accumulated in 2001.

11. The increase in non-oil related revenues is expected to come about as a result of a number of reforms. First, the new tax code, which was designed in cooperation with the staff of the Fund, took effect on January 1, 2001. This revised code should enhance transparency, cohesion and clarity, while contributing to the effort to improve tax administration. These changes are expected to lead to improved collections, notwithstanding the fact that the budget reduces the social security contribution rate from 34 to 31 percent (resulting by itself in a projected social security revenue loss of about 40 billion manat), and the revised tax code reduces the VAT rate from 20 to 18 percent. The revenue impact of this VAT change is expected to be offset by the movement, from January 1, 2001, to the destination principle for trade with all countries.

12. Second, the Ministry of Taxes has embarked on a comprehensive program to improve its operations. This program focuses on developing an administrative structure consistent with the functions of a modern tax ministry, enhancing the training of staff, and improving taxpayer services and education. As part of this program, during 2001 we will do the following: (1) seek to ensure that the no-contact approach is used for all return filing; (2) improve the Ministry's organizational structure; (3) strengthen the Large Taxpayer Unit, centralize its operations, and clarify the criteria for inclusion of taxpayers in this unit; (4) institute a properly designed and funded comprehensive training program, improve recruitment and testing procedures for new employees, and provide remuneration levels that allow the recruitment and retention of competent staff; and (5) make further improvements to the Tax Code and the supporting regulatory framework. In addition, the Ministry now publishes monthly reports on tax collections relative to budget targets, as well as tax arrears by tax category and major tax debtor.

13. Third, as part of the 2001 budget, and in conjunction with this improved tax administration capacity, the government has permanently abolished the previous practice of setting targets for tax and social protection fund payments by large state-owned enterprises. These targets, which were often independent of legal tax obligations, have been replaced with a clear expectation that all taxpayers, including state-owned enterprises, will pay taxes based on their legal obligations. Finally, in an attempt to provide a more conducive environment for investment and job creation, during the course of 2001 and in consultation with the staff of the Fund, we will redesign the tax code provisions for depreciation, and we will contemplate further reductions in the payroll tax in the 2002 budget.

14. Taxation of SOCAR, the state-owned oil company, has long been a problem, in part because the company executes numerous quasi-fiscal activities on behalf of the government. Nonetheless, SOCAR's 2001 tax liability, as with all other tax payers, will be assessed based on the tax laws. SOCAR will be given a tax credit for the quasi-fiscal activities it undertakes on behalf of the government. In 2001 these will include provision of oil and gas to Azerenergy and Azerigas, payments of Azerenergy's debts to Iran, and payments for expenses related to rehabilitating areas damaged by the 2000 earthquake. These tax credits will be offset against SOCAR's pre-2001 tax arrears. Beginning in 2002, SOCAR will no longer be asked to carry out such quasi-fiscal activities on behalf of the government. If the government wishes to continue subsidizing Azerenergy and Azerigas, these subsidies will be explicitly included in the 2002 state budget.

15. Reform of the Customs Committee, while not as advanced as reform of the Ministry of Taxes, has begun with the introduction of a harmonized system of codes for imports and exports. To accelerate the reform efforts, we will contract an evaluation of the structure and management of the Customs Committee by an internationally reputable company; based on this evaluation, the government in consultation with the staff of the Fund will prepare a comprehensive reform program for the Customs Committee. We will begin implementing this reform program by end-September 2001.

16. Following a review of the customs tariffs, the government has decided to restructure the tariff schedule, in particular by introducing a 0.5 percent tariff rate for previously zero-rated goods while maintaining a 15 percent maximum tariff rate. In the context of this revision of the tariff schedule, we have eliminated all ad hoc tariff exemptions. In addition, pending the strengthening of the Customs Committee's operations, the government has decided to address the problem of under invoicing of selected goods by replacing ad valorem tariffs on these commodities with specific tariffs. These specific tariffs have been set at levels designed to be consistent with maintaining a maximum ad valorem tariff of 15 percent, with the exception of synthetic carpets, cigarettes and alcohol, and the changes in the tariff applied to products other than synthetic carpets is minor. Overall, these reforms have increased the weighted average tariff from 7.3 percent to 7.9 percent. As customs administration improves, we will gradually reduce both the number of specific tariffs and the average tariff, so that by the end of the three-year program period, specific tariffs will apply only to excisable goods, the weighted average tariff will be not more than 6.5 percent, and we will have a uniform tariff rate applicable to all goods subject to non-zero tariffs. The Customs Committee began publishing monthly reports on imports and customs revenue, by tariff band, as well as excise collections by product, in May 2001.

17. The expenditures in the 2001 budget reflect our fiscal priorities. First, we have initiated the process of increasing allocations for health and education, with the combined allocation to these sectors rising by 0.1 percent of GDP. Second, the budget reflects a sharp increase in allocations for utility consumption by budgetary organizations, to ensure no new arrears in this category of expenditures. Third, in an effort to decompress the budgetary wage scale and enhance incentives for qualified personnel to work for the government, manat 50 billion has been allocated to pay for substantial wage increases for 25,000 government employees. In conjunction with this effort, the budget reflects the impact of a selective hiring freeze, which—combined with the recent reform of the Cabinet of Ministers and the implementation of the new Civil Service Law—represent the initial stages of our efforts to streamline the government bureaucracy. Further wage increases for high-level employees may be considered in future budgets provided that, in conjunction with reductions in the size of the civil service, the overall wage bill as a share of GDP does not increase.

18. Fourth, recognizing the costs imposed on Azal, the state airline, by the government-mandated flights between Baku and Nakhchivan—necessitated by the absence of a permanent settlement to the problems in Nagorno-Karabakh, which cuts off all land routes between Baku and Nakhchivan—the budget contains manat 44 billion as subsidies to Azal. Fifth, the government is very concerned about payments falling due in 2001 on government-guaranteed loans to Azal, Azerenergy, Azerigaz and Azerchemia. To ensure these enterprises are able to pay the amounts due, the Ministry of Finance has been granted the authority to review the cash flow of these enterprises, with the aim of maximizing their debt service capacity. In addition, the subsidy to Azal for the Nakhchivan flights will be paid directly to Azal's creditors, on behalf of Azal, and the 2001 budget contains a contingency of 41 billion manat, to be used if necessary to service these debts. The government will continue to closely monitor the situation with regard to these debts.

19. Related to this issue, and in recognition of the fact that government and government-guaranteed loans have been growing rapidly in recent years, the government has taken several decisions to control the growth of such loans, and to ensure that those loans that are contracted will be efficiently used. First, we have agreed to ceilings on the contracting of government and government-guaranteed non-concessional debts, as detailed in Table 1. Second, the government has decided that, in the future, no new loans or loan guarantees will be contracted for commercial activities or commercial enterprises, except where the provider of such loans is a multilateral international institution (World Bank, EBRD or regional development bank). Third, the Ministry of Finance will seek technical assistance to strengthen the operations of its debt monitoring unit, focusing on improving its capacity to monitor domestic debt, as well as the project evaluation unit, while the ANB will seek to strengthen its capacity to monitor private sector external debt.

20. In addition to these changes in the composition of expenditures, the government is committed to implementing a series of reforms aimed at strengthening expenditure management and accountability. First, the Ministry of Finance and the MOED have begun the process of developing a Medium Term Expenditure Framework (MTEF), in conjunction with the work on the PRSP, to be used in preparing future budgets. All future budget submissions to parliament will contain reports on the updated MTEF, as well as detailed information on the classification of expenditures, contingent liabilities, extra-budgetary activities, and the outturn of the consolidated and general government budgets for the previous year. The government is in the process of drafting amendments to the Budget Systems Law and revisions to budget regulations; we will submit the new law to parliament during 2001.

21. Second, the Ministry of Finance will publish quarterly reports—beginning with the first quarter of 2001—on the consolidated government budget execution, including revenues, expenditures, expenditure arrears, stock of government and government-guaranteed debts, and new loans contracted or loan guarantees issued. These reports will be published within 45 days of the end of each quarter. In addition, once the ongoing process of computerization of the treasury is completed, monthly reports on expenditures will be published within 25 days of the end of the month. Third, during 2001 the government will prepare plans for integrating extra-budgetary accounts of budgetary organizations into the state budget beginning with the 2002 budget, and will execute the Employment and Disability Fund budgets through the treasury beginning in 2002. Fourth, during 2001 the government will conduct a review of budgetary procedures, with the assistance of multilateral and bilateral agencies, and will develop an action plan to strengthen budgetary preparation and monitoring of budget execution. Fifth, the government will strengthen the internal audit functions of the Ministry of Finance. Sixth, in response to recent problems with ministries undertaking unbudgeted expenditures, the government will take strong measures to punish the responsible officials, and has issued a statement informing the public that the government will not be responsible for unbudgeted expenditures. Finally, the Ministry of Finance has begun publishing a quarterly bulletin informing the public of all relevant decisions.

22. More broadly, as part of its overall effort to enhance governance, we will develop a comprehensive anti-corruption program during 2001, and will move quickly to staff and make operational the Chamber of Accounts. This body will be given the authority to audit all government bodies, including all budgetary and extra-budgetary organizations and funds, and will be obligated to make public reports of its findings. Following the appointment of the head of this body, this person has been charged with hiring additional staff, preparing a preliminary work program for the Chamber, and working with the Ministry of Finance to ensure that the 2002 budget contains sufficient funds to allow this work program to be executed. In addition, and as part of the government's recently announced reform of the Cabinet of Ministers, regulatory functions will be removed from commercial state-owned enterprises (including, for example, from SOCAR and Azal), transferring those functions to relevant government ministries. Finally, a revised Procurement Law has been submitted to parliament for its approval.

23. With regard to the social safety net, we envision no major changes in 2001. However, as part of our strategy for developing financial discipline in the energy sector (described below), we will be seeking over time to replace the system of privileged tariffs for selected groups, as well as the substantial but untargeted subsidies provided implicitly through low prices and tolerance of non-payments, with an explicit system of subsidies for the truly needy. In addition, we are currently working with the World Bank to revise our pension system. It is envisioned that these reforms will improve the viability of the pension system through strengthened links between contributions and benefits, as well as the introduction of individual contribution records. Social policy will continue to address the special needs of the internally displaced population (IDPs) with targeting, to the extent possible, based on vulnerability, and special programs directed at groups in need. As the situation allows, the government will support the transition from humanitarian assistance to self-sustainability for IDP populations.

C. Oil Fund

24. We have established an Oil Fund, with the aim of supporting the competitiveness of the non-oil sectors of our economy, ensuring that the growth of the oil revenues resulting from implementation of our policies of international cooperation for the development of the oil and gas fields of Azerbaijan does not reduce the efficacy of tax policy or undermine sound expenditure policy, and also with the aim of accumulating, saving and efficiently managing a large share of these revenues in the interests of present and future generations. This Fund, which is currently being held with the ANB, is formed through the receipts of all "profit oil" belonging to the Azerbaijan Republic, as well as oil bonus payments from 2000 and selected other oil and gas related revenues. VAT, profit and excise taxes related to oil will continue to be received and utilized through the state budget. The Fund's assets will be managed according to the rules laid out in our asset management guidelines and will not be used for loans or loan guarantees. To provide public confidence in the management of these vital resources and to ensure transparency in the Fund's operation, annual audits of the Fund will be conducted by an internationally reputable audit firm, to be selected through an open tender process, and made public.

25. During the three-year program period the expenditures of the Oil Fund's assets will not exceed the amount of interest earned on the Fund's assets. Moreover during 2001, expenditures will be limited to the operations of the Fund itself. To ensure the development and implementation of a coherent macroeconomic policy we will adhere to the principle of consolidation of revenues and expenditures of the consolidated government. With this purpose both the annual state budget and the annual program of the Oil Fund's revenues and expenditures (Oil Fund budget) will be prepared on a consistent basis through close cooperation and coordination between the Ministry of Finance and the Oil Fund, and final coordination of both draft budget documents will be ensured through high-level endorsement of the consolidated government's revenues and expenditures (consolidated budget), preceding the submission of the draft state budget to Parliament. The execution of this consolidated government budget, including the Oil Fund, will also be closely coordinated between the Ministry of Finance and the Oil Fund. The regulations regarding the annual program of revenues and expenditures (budget) of the Fund to be adopted by end-September 2001, will clearly state that: (i) the annual program of the Oil Fund's revenues and expenditures will be prepared and executed within the framework of the principle of consolidation of the revenues and expenditures of the consolidated government; (ii) all expenditures of the Oil Fund will be undertaken only within the framework of the approved annual program of revenues and expenditures of the Oil Fund ; (iii) expenditures of the Oil Fund, excluding the operational expenses of the Fund, will be executed through the Treasury, subject to oversight by the Oil Fund officials; (iv) the Oil Fund will publish quarterly statements on its revenues.

D. Monetary and Exchange Rate Policies and Financial Sector Reform

26. The principal objective of monetary policy continues to be low inflation; while striving to achieve this objective, the ANB will also ensure that it maintains a sufficient level of international reserves. The ANB's net international reserves do not include balances in the Oil Fund—which belong to the government of Azerbaijan and not to the ANB, and which serve a very different purpose from that of the ANB's reserves—nor do they include the remaining balances in the ANB's foreign exchange deposits with the International Bank of Azerbaijan (IBA). These ANB deposits with the IBA are a remnant of earlier days; we recognize that it is no longer appropriate for the ANB to maintain deposits in the commercial banks it is charged with supervising. Therefore, the ANB has reduced these balances to no more than 100 billion manat, and will reduce these balances to zero by end-September 2001. The ANB will make no new deposits with domestic commercial banks and, after September 2001, will cease the practice of holding deposits with banks under its supervisory control.

27. With regard to exchange rate policy, while we believe gradual nominal depreciation remains warranted, we expect little change in the real effective exchange rate of the manat over time. In addition to adhering to the floor on net international reserves under the program, the ANB will manage its international reserves and net domestic assets with a view to ensuring the program's indicative ceilings for reserve money are adhered to. While the ANB will accumulate international reserves over time on a path consistent with the targets described above, over short periods the ANB may need to intervene to offset the effects of temporary swings in the supply of or demand for foreign exchange. However, we will not act to offset longer-term, underlying pressures on the exchange rate, and will remain in close consultation with the Fund staff as we seek to assess whether a given exchange rate pressure is temporary or fundamental. To facilitate ANB's management of the foreign exchange market, the Ministry of Finance will provide the ANB data on its projected use of foreign exchange. In particular, by the 15^th of each month, the Ministry of Finance will inform the ANB of its likely foreign exchange needs in the next month. In addition, instructions have been issued to the management of SOCAR, requiring them to provide updated information on annual and monthly projected foreign exchange transactions to the ANB by the 15^th of each month.

28. The treasury bill auctions did not function in 2000 as a truly competitive market. As a result, at times the Ministry of Finance rejected bids for treasury bills. On August 29, 2000, the State Committee for Securities (SCS), in agreement with the Ministry of Finance, adopted revised regulations on the issue, placement and circulation of treasury bills. As a result of these revisions, as well as improved operations in the Baku Stock Exchange and measures by the Ministry of Finance, there has been a significant increase in the number of participants and the sales volume in the market. In order to further improve the operations of this market, we have requested the Fund's MAE department to review the current operations of the treasury bill market, and to design a program jointly with SCS, ANB and the Baku Stock Exchange to enhance competition in this market. Once a competitive market has been established, the ANB will formally link the refinance rate to the treasury bill rate, setting the refinance rate at the most recent annual treasury bill rate plus 0.5 percent. It is our goal to do this by end-September 2001.

29. The ANB has made great strides toward improving the payments system. In February 2001, we introduced a Real Time Gross Settlements (RTGS) system throughout Azerbaijan, to facilitate large value payments, and by end-September 2001 the ANB will develop a comprehensive plan for improving the low-value payments system. As part of this plan, the ANB will either organize the purchase of the IBA's monopoly rights to the Azeri Card by selling it to a consortium consisting of all interested banks on equal terms, or will design and introduce an alternative to the Azeri Card, before end-March 2002.

30. The ANB, with the assistance of the government where necessary, will seek to ensure the further development of the commercial banking system in a number of ways. First, Agroprom Bank's banking license has been revoked and replaced with a non-bank credit institution license. As a non-bank credit institution, Agroprom remains under the supervisory control of the ANB. Its major functions will be to serve as an agent for the distribution and collection of credits to farmers, provided under loan programs funded by multilateral and bilateral organizations. The government will undertake a careful analysis of the remaining loan portfolio of Agroprom, seeking a final resolution of these loans. In addition, the long-standing problem of Agroprom's debts to the ANB has been resolved through their write-off and the issuance of 20-year Ministry of Finance bonds to the ANB.

31. United Universal Bank (UUB), which was created in 2000 through a merger of Prominvest Bank, the Savings Bank, and the viable parts of Agroprom Bank, has signed a memorandum of understanding with the ANB and the Ministry of Finance. This memorandum, which was prepared in close cooperation with the staffs of the Fund and the World Bank, defines the activities the bank will undertake. It calls for the placement of an international banker on the operational committee of the Bank, to advise the management in its efforts to restructure and strengthen the bank. This advisor, who will be in place not later than end-December 2001, will submit monthly reports to the ANB and the Ministry of Finance on the operations of the bank and its management; for transparency, these reports will be copied to the World Bank. The ANB will respond promptly to any reports of improper or inappropriate actions on the part of the bank's management. UUB is currently prohibited from engaging in lending operations until both the ANB and the Ministry of Finance are convinced that the bank has developed sufficient internal capacity for dealing with loans. Finally, during 2001 the government of Azerbaijan will prepare a timetable for the privatization of UUB.

32. With regard to the other majority state-owned bank, IBA, the government intends to conclude an agreement with the EBRD for the purchase of a 20 percent stake in the bank. This would increase the share of privately held IBA stock to 69 percent. Following the completion of this agreement, the government, in consultation with the EBRD and the staff of the Fund, will design plans to sell the remaining state-owned shares during the program period, in a way that ensures the effective management and operations of the bank.

33. The ANB has recently completed diagnostic studies of all private banks in Azerbaijan. The final report summarizing the findings of the survey, and including an action plan to strengthen the banking sector, has been discussed with the Fund staff. The ANB will move aggressively to implement this plan, with actions initiated no later than end-July 2001 against all banks where this is called for in the report of the studies.

34. To further develop the environment for private sector banking, the ANB will prepare, in consultation with the MOED and the Ministry of Finance, as well as with the staff of the Fund and the World Bank, and submit to parliament during 2001, through the established producers, a revised Law on Banks and Payment Systems Law. During 2002 we will revise the Central Bank Law. The government will review the Bankruptcy Law, which has not functioned effectively to date, and if necessary will submit revisions to this law to parliament by end-March 2002.

35. Finally, the ANB will undertake, by end-August 2001 and in consultation with Fund staff, a comprehensive review of factors inhibiting the development of and competition in the banking system, including factors that may be inhibiting the activities of foreign banks in Azerbaijan, and the regulatory burdens placed on banks by government agencies other than ANB. By end-September 2001, the ANB will have designed a program of reforms to address any problems identified in this review, in consultation with the Fund staff, and the government will have initiated a program to eliminate any undue regulatory burdens placed on banks by government agencies other than the ANB.

E. External Sector Policies

36. The government recognizes that a liberal exchange and trade regime is essential for the development of our economy. We currently have a liberal trade regime, and this will be retained. We have revised our tariff code to improve and streamline the system of tariffs, and to address the problem of under-invoicing. As noted above, some of these revisions are temporary, pending the improvement of customs administration, and the government intends to gradually reduce both the average tariff level and the number of specific tariffs during the program period. The government is also committed to accelerating the process of Azerbaijan's accession to the WTO, and is seeking technical assistance to achieve this goal.

37. Azerbaijan's exchange system is liberal; the government and the ANB know of no factors inhibiting our acceptance of the obligations of Article VIII, sections 2, 3, and 4 of the Fund's Articles of Agreement. We will seek a review of our exchange policies by the staff of the Legal and MAE Departments of the Fund. Any policies that this review identifies as contrary to the obligations of Article VIII will be revised during 2001, to enable us to accept the obligations of Article VIII during the 2001 Article IV consultations. During the program period, neither the government nor the ANB will impose or intensify restrictions on the making of payments and transfers for current international transactions, introduce or modify any multiple currency practices, conclude bilateral payments agreements that are inconsistent with the Fund's Articles of Agreement, or impose or intensify any import restrictions for balance of payments purposes. For prudential reasons, banks will continue to be required to limit their foreign currency exposure as required by ANB prudential regulations. We intend to strictly limit the contracting and guaranteeing of new nonconcessional external debt, as set out in Table 1.

38. In light of the vulnerabilities in our balance of payments prospects, related to Azerbaijan's heavy dependence on a single export commodity (oil), whose international price has in the past been highly volatile and whose prospects for further development remains uncertain, we believe it prudent for the ANB to maintain a reasonably high level of gross international reserves. Therefore, our financial program aims to keep the ANB's gross reserves at not less than 3.8 months of next year's projected non-oil related imports of goods and services. The ANB will continue its policy of investing its international reserves only in convertible currencies, government paper and foreign banks of outstanding quality.

39. The estimated balance of payments financing gap through March 31, 2002 of US$50 million will be closed by the projected disbursements from the Fund and the World Bank.

F. Energy Sector Reforms

40. The government recognizes that one of the major challenges facing our economy is the large quasi-fiscal deficit in the energy sector. We are committed to resolving these problems as quickly and effectively as possible. Indeed, we have already taken one major step, by placing a tender for a 25-year management contract for the Baku electricity distribution network, and will seek to conclude management contracts for the remaining regional electricity distribution networks in 2001. However, we are aware that privatization and management contracts, while part of the solution to this serious problem, do not constitute a full solution, and that it will not be possible to fully resolve these problems in one year.

41. Therefore, by end-September 2001, the government will develop—in consultation with the staffs of the World Bank and Fund—a comprehensive program aimed at establishing financial discipline in the energy sector and largely eliminating the quasi-fiscal deficits in the sector by the end of the three-year program period, and we have designated the new Minister of Energy to oversee the design and implementation of this program. In the meantime, there are a number of measures the government will begin implementing immediately.

42. To ensure that we have access to adequate information to assess the problems and design solutions, the government (i) has instructed SOCAR, Azerenergy and Azerigaz to deliver monthly cash-flow statements to the Government and the ANB; these statements will be shared with the staffs of the Fund and World Bank; (ii) will begin the process of reconciling debts of and to SOCAR, Azerenergy and Azerigas, including tax arrears and expenditure arrears by the budget; and (iii) will begin a review of the adequacy of electricity, gas and water tariffs.

43. To begin the process of developing a culture of payments in this sector, the government has sharply increased the budget provision for utility consumption by budgetary organizations. The government will inform all budgetary organizations that they are not to exceed the budgeted levels of utility consumption, and that civil servants in these organizations will be held responsible for failure to adhere to these ceilings. At the same time, the government has instructed the managers of all state-owned utility companies that they should cut off supplies to budgetary organizations attempting to consume more than the budgeted limits. For those exempt institutions, utility companies will be instructed to provide timely information to the Ministry of Finance on any excess consumption, and the Ministry of Finance will be responsible for finding sufficient funds to pay for this consumption, within the overall budget deficit ceiling. The government has already issued instructions to these companies to deliver services to other enterprises only on the basis of advance payments, in an effort to control the growth of expenditure arrears. Managers of utility companies who violate these instructions will be strictly punished, in accordance with the law. Finally, a decree will be issued by end-July 2001 prohibiting the use of netting operations to settle debts in the energy sector, or in any other transactions involving budgetary organizations or state-owned enterprises.

44. Addressing the problems of household payments is more complicated. The program to be prepared will include plans for the introduction of electricity, gas and water meters for all customers, as well as plans for the gradual replacement of untargeted implicit and explicit subsidies with targeted explicit subsidies. In this context, we will review the current schedule of preferential tariffs, with the aim of eliminating them or replacing them with explicit budgetary support. Finally, this program will include a schedule for the gradual unification of domestic and exported prices of oil, with this unification to be completed during the three-year arrangement, and the elimination of controls on the domestic price of oil products.

G. Statistics

45. Despite the substantial progress we have made in improving our macroeconomic statistics in recent years, more work is needed to improve the database necessary for effective policy design, implementation and monitoring. In this context, a national coordinator for the government's efforts to participate in the General Data Dissemination System has been appointed. We will continue to work to implement recommendations of previous technical assistance missions from the Fund, and will seek additional technical assistance in the areas of national accounts, producer and consumer price statistics, balance of payments statistics and external debt statistics. With the help of advisors from the Fund's Statistics Department, we are in the process of designing a program for the improvement of these statistics.

II. Performance Criteria and Program Reviews

46. The following quantitative performance criteria, as described in detail in Attachment I, are set out for the first year of our three-year program: (i) minimum levels for net international reserves of the ANB; (ii) ceilings on the net domestic assets of the ANB; (iii) ceilings on the net credit to the general government from the ANB; (iv) limits on the government fiscal deficit, excluding oil fund revenues; (v) limits on the contracting or guaranteeing of external debt with maturities of one year or less, excluding cumulative net disbursements of external debt with maturities of one year or less, excluding normal import-related financing; and (vi) limits on the contracting or guaranteeing of new non-concessional medium- and long-term external debt by the consolidated government and the ANB, with sublimits on such debts with maturities of one to five years. The nonaccrual of external arrears is a continuous performance criterion. We have also established indicative ceilings on the stocks of ANB's manat reserve money, and non-utility budgetary expenditure arrears accumulated after December 31, 1999.

47. Structural performance criteria for end-September 2001 include (i) adoption of a program of reform for the Customs Committee, based on the report of the internationally reputable firm hired to evaluate the Committee, and in consultation with the Fund staff; (ii) termination of the practice of ANB holding deposits with domestic commercial banks; (iii) the submission to parliament of a revised law on the Chamber of Accounts, giving this organization the authority to audit all government bodies, including all budgetary and extra-budgetary funds; and (iv) adoption of regulations for the preparation of the annual oil fund budget, as described in paragraph 8. Adoption of a comprehensive program to strengthen financial discipline in the energy sector, in consultation with the staffs of the World Bank and the Fund, will be a structural benchmark for end-September, as will approval and publication of all regulations necessary for the implementation of the new tax code, and inclusion in the draft 2002 budget of adequate funding for the Chamber of Accounts. Structural performance criteria and benchmarks for end-March 2002 will be established during the first review of the first year of the program. Finally, to observe the continuous performance criterion of the program we will not incur any new external arrears.

48. The data presented in Table 1 (except for specified indicative targets) for end-September 2001, and the structural performance criteria for end-September 2001, constitute performance criteria under the PRGF arrangement. Performance criteria for end-March 2002 will be established at the time of the first review under the PRGF arrangement. There will be semi-annual disbursements under the PRGF. All disbursements will be subject to adherence to the relevant performance criteria and completion of the program reviews, the first of which is to be completed before December 31, 2001.

49. Program reviews under the first year arrangement will focus in particular on progress in banking sector reform, energy sector reform, and the strengthening of governance in the Ministry of Finance, Ministry of Taxes and Customs Committee, including the avoidance of non-utility expenditure arrears.

III. Program Monitoring

50. The government and the ANB believe that the policies set out herein are adequate to achieve the objectives of the program. We will remain in close consultation with the Fund in accordance with Fund policies on such consultation, and will provide the Fund with any information it requests for monitoring progress in program implementation. The government and the ANB stand ready to take any further measures, in consultation with the Fund staff, which might be necessary to ensure that the objectives of the program can be achieved. In addition, no policy related to our commitments under the program will be implemented without prior consultation with the Fund staff.

Table 1. Azerbaijan: Quantitative Performance Criteria and Benchmarks for the First Annual Arrangement the PRGF, April 1 2001- March 31, 2002
	Stock Dec. 2000	Cumulative Changes from January 1, 2001
	2001					2002
	March		June3	Sept.	Dec.3	March3
	Est.		Program
	(In billions of manats, unless otherwise specified)
1. Quantitative performance criteria and benchmarks
Net international reserves of the ANB (in US$ million)	344	-16	1	2	25	30
Net domestic assets of the ANB 1	197	-208	-106	-63	-69	-58
Net credit to the general government from the ANB	-92	-69	-17	0	-19	-19
Overall consolidated fiscal deficit, excluding Oil fund revenues	-563	-196	-430	-666	-1,027	-1,247
New Nonconsessional External Debt Contracted or Guaranteed by the Consolidated Government or the ANB (excluding the IMF)
Less than one year's maturity	0	0	0	0	0	0
Medium- and long-term debt, less than five years	...	0	0	0	0	0
Other long-term debt (maturity five and more years)	...	20	40	60	80	100
2. Continuous performance criterion
Stock of Outstanding Nonreschedulable External Arrears of the Consolidated Government and the ANB	0	0	0	0	0	0
3. Indicative targets
Stock of ANB's manat reserve money	1,542	-111	19	62	153	178
Stock of non utility expenditure arrears accumulated after December 31,1999 2	26	60	50	50	50	50
1 Excluding Oil Fund deposits 2 The stock at end- December 2000 is a provisional staff estimate, still to be confirmed. 3 Indicative targets. Performance criteria for end-March 2002 will be established at the time of the first review

I. Targets for Fiscal Aggregates

Note: Use of the words "includes" and "including" should be construed to mean "includes but is not limited to" and "including but not limited to".

1. Ceiling on the Overall Cash Deficit of the Consolidated Government, excluding Oil Fund Revenues

(In billions of manats)

		Cumulative Overall Cash Deficit of the Consolidated Government, excluding Oil Fund Revenues
Cumulative change from December 31, 2000:
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		196 430 666 1,028 1,247

Definition

The consolidated government is defined as all levels of government except for municipalities and state-owned enterprises. It includes the state budget agencies, (including the Republican government and local governments but excluding municipal governments), extrabudgetary funds of state budget entities, the Social Protection Fund, the Employment Fund, the Disability Fund, the Privatization Fund, and the Oil Fund. The general government is defined as the consolidated government excluding the Oil Fund. The overall cash deficit of the consolidated government, excluding Oil Fund revenues is defined from the financing side as the sum of the following: (i) the change in net credit to the consolidated government from the ANB; (ii) the change in net claims on the consolidated government of the rest of the banking system; (iii) the change in net claims on the consolidated government of domestic nonbank institutions and households; (iv) proceeds from the privatization of state property; (v) the counterparts (-) to increases in net credits or net claims on the consolidated government from the ANB or commercial banks as a result of the bank restructuring program; (vi) net foreign financing of the consolidated government; (vii) the counterparts to changes in the domestic currency valuation of the consolidated government's net credits or net claims as a result exchange rate fluctuations; and (viii) the revenues of the Oil Fund. All changes will be calculated as the difference between end-period stocks, valued at end-period exchange rates.

Net credit from the ANB to the consolidated government is defined as all claims (including securities, but excluding all bonds issued in 2001 by the government in settlement of ANB's claims on Agroprom) of the ANB on the consolidated government less all deposits of the consolidated government with the ANB, including counterpart deposits of loans received from the World Bank and from other official creditors, proceeds from the privatization of state property, and claims on the oil fund less its deposits.

Net claims on the consolidated government of the rest of the domestic banking system are defined to comprise domestic commercial banks'net asset position arising from the operating balances and current accounts of the consolidated government and domestic commercial banks' net asset position arising from other claims (credits, loans, cash advances, holdings of treasury bills or other securities) on and liabilities (deposits, etc.) to the consolidated government.

The change in net claims on the consolidated government of domestic nonbank institutions and households is defined to include net sales of treasury bills, bonds, or other government securities to nonbank institutions and households, plus any other increase in liabilities of the consolidated government to domestic nonbank institutions or households.

Proceeds from the privatization of state property are defined as all gross revenues originating from the sale or long-term leasing of state property.

Counterparts to increases in net claims on the consolidated government of the ANB or commercial banks as a result of the bank restructuring consist in the full value of the loans taken over or long-term bonds issued by the consolidated government, but excluding all bonds issued in 2001 by the government in settlement of ANB's claims on Agroprom.

Net foreign financing of the consolidated government is defined as the difference between actual disbursements of foreign financing and amortization of consolidated government debt to foreign institutions and households. Foreign financing of the consolidated government is defined as the increase in claims on the consolidated government of foreign institutions and households, excluding the Fund, and including: (i) loans received for balance of payment support (e.g. the World Bank Public Sector Reform Adjustment Credit); (ii) disbursements under foreign loans for financing government capital expenditures or for on-lending to entities outside the general government for investment projects from foreign financial and nonfinancial institutions; (iii) oil signature bonuses; and (iv) net purchases of government securities by foreign (nonresident) institutions and households. Consolidated government guarantees on loans to entities outside the consolidated government are not included as foreign financing, and payments made by the consolidated government to cover defaults on such loans are not included as amortization of consolidated government debt.

Revenues of the Oil Fund are defined as the sum of the following: (i) production sharing revenue from the development of oil fields (profit oil); (ii) acreage fees; (iii) investment income on Oil Fund assets; and (iv) any other revenues deposited in the Oil Fund, excluding oil signature bonuses. Production sharing revenues, acreage fees, and investment income of the Oil Fund will be considered revenues of the Oil Fund regardless of whether they are actually deposited in the Oil Fund or another account of the consolidated government.

Adjustors

Ceilings will be adjusted by the full amount of any deviation from the programmed level of the actual foreign financing of capital projects and foreign loans contracted by the consolidated government for on-lending purposes. A shortfall of financing will result in a downward adjustment of the ceiling. Higher-than-programmed financing will result in an upward adjustment. Cumulative programmed financing is manat 237 billion Q1 (preliminary), manat 405 billion Q2, manat 574 billion Q3, manat 742 billion Q4, and manat 920 billion 2002 Q1.

Ceilings will be adjusted downward by 50 percent of any shortfall in the programmed disbursements of World Bank loans for balance of payments support (e.g. the Public Sector Reform Adjustment Credit). Cumulative programmed disbursements are manat 0 billion Q1 (indicative), manat 0 billion Q2, manat 0 billion Q3, manat 138 billion Q4, and manat 138 billion 2002Q1.

2. Indicative Target: Ceiling on the Stock of Non-Utility Expenditure Arrears of the State Budget and the Social Protection Fund accumulated after December 31, 1998

(In billions of manats)

		Stock of Non-Utility Expenditure Arrears of the State Budget and the Social Protection Fund
Stock at December 31, 2000		26
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		60 50 50 50 50

Definition

The ceiling applies to all non-utility expenditure arrears of the state budget and the Social Protection Fund accumulated after December 31, 1998. Arrears are defined as expenditures that have been budgeted for, have been verified (the good or the bill has arrived), and have not been paid. Non-utility expenditure arrears include all arrears except claims for the provision of electricity, water, heating, or gas, dues to international organizations in which Azerbaijan has no interest in maintaining membership, or pension arrears to working pensioners.

(In billions of manats)

		Stock of net credit from the ANB
Stock at December 31, 2000		-   92
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		- 162 - 109 -   92 - 112 - 112

Adjustors

These limits will be adjusted downward (or upward) by 50 percent of the amount by which actual net foreign financing of the general government exceeds (or falls short of) the net amounts programmed from the following sources: (i) the amortization of general government debt to foreign institutions and households, based on the stock of foreign debt outstanding as of April 1, 2001, including loans for budgetary or on-lending purposes, but excluding payments to the Fund and payments on government guaranteed loans to cover defaults by entities outside the general government, and (ii) disbursements of World Bank loans for balance of payments support (e.g. the Public Sector Reform Adjustment Credit), irrespective of their deposit at the ANB or elsewhere. Cumulative net foreign financing from these sources is programmed to be manat -0 billion at end-2001 Q1 (preliminary), manat -11 billion at end-Q2, manat -38 billion at end-Q3, manat 96 billion at end-Q4, and manat 79 billion at end-2002 Q1.

Definitions

Net credit from the ANB to the general government is defined as all claims (including securities, but excluding all bonds issued in 2001 by the government in settlement of ANB's claims on Agroprom) of the ANB on the general government less all deposits of the general government with the ANB, including counterpart deposits of loans received from the World Bank and from other official creditors, and proceeds from the privatization of state property. As indicated above, the general government is defined as the consolidated government excluding the Oil Fund. Net Credit to Government will also include any claims of the ANB on the general government related to accounts currently under review by the staff and authorities.

II. Targets for Monetary Aggregates

1. Ceilings on the Stock of Net Domestic Assets of the ANB

(In billions of manats)

		Ceilings
Stock at December 31, 2000		197
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		-11 92 134 128 139

Adjustors

The ceilings will be adjusted for differences in actual net foreign financing relative to programmed amounts in exactly the same manner as the ceilings for net credit from the ANB to general government.

Definitions

Net domestic assets of the ANB are defined as: (i) reserve money (comprising currency in circulation, required reserves, and balances on banks correspondent accounts at the ANB) plus certificates issued by the ANB plus deposits of nongovernment nonbanks with the ANB minus; (ii) net international reserves in convertible currencies of the ANB (as defined in II.2 below) plus net assets on the ANB's correspondent accounts with central banks in nonconvertible currencies. Thus defined, the ANB's net domestic assets consist of ANB net credit to the general government (including counterpart deposits), claims on domestic banks, claims on domestic enterprises and households, and other net assets.

2. Floors Under the Stocks of Net International Reserves of the ANB

(In millions of U.S. dollars)

		Floors
Stock at December 31, 2000		344
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		328 345 346 369 374

Adjustors

The ceilings will be adjusted for differences in actual net foreign financing relative to programmed amounts in exactly the same manner as the ceilings for net credit from the ANB to general government.

Definitions

Total net international reserves of the ANB are defined as the difference between total gross international reserves assets of the ANB and total official reserve liabilities of the ANB. Gross international reserve assets are defined as in the Balance of Payments Manual, 5^th edition. Total Gross international reserve assets of the ANB include ANB's holdings of monetary gold, holdings of SDRs, any reserve position in the Fund, holdings of foreign exchange in convertible currencies in the form of cash or deposits with nonresident banks that are readily available. Also included are holdings of foreign currency-denominated securities issued by governments or central banks of OECD member states. Excluded are capital subscriptions in international financial institutions, non-liquid assets of the ANB (beyond one year to maturity), as well as pledged or encumbered assets and claims on residents. Official gold holdings shall be valued at US$250 per troy ounce. Holdings of SDRs and other reserve position in the Fund will be valued at a constant exchange rate of SDR 1: manat 5,804. Other reserve balances will be valued at a constant exchange rate of US$1:manat 4606. Gross international reserve assets exclude the ANB's net forward position, defined as the difference between the face value of foreign currency denominated ANB off balance sheet claims on nonresidents and foreign currency obligations to both residents and nonresidents. Official reserve liabilities of the ANB are defined as outstanding Fund purchases, and liabilities of the ANB to nonresidents with an original maturity of up to and including one year. Reserve liabilities to the Fund will be valued at a constant exchange rate of SDR 1: manat 5,804. Other reserves will be valued at a constant exchange rate of US$1: manat 4606.

3. Indicative Limits on the Stock of Manat Reserve Money of the ANB

(In billions of manats)

		Limits
Stock at December 31, 2000		1,542
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		1,431 1,561 1,604 1,695 1,720

Definition

Manat reserve money of the ANB is defined as the sum of currency issue, required reserves in manats, balances on commercial banks' correspondent accounts with the ANB and other manat liabilities of the ANB to domestic banks.

III. Limits on External Debt and Arrears

New Nonconcessional External Debt Contracted or Guaranteed by the Consolidated Government or the ANB (excluding the Fund)

(In millions of U.S. dollars)

		Limits
Stock at December 31, 2000		0
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		0 0 0 0 0
Other loans:
Stock at December 31, 2000		0
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		20 40 60 80 100

Definition: Nonconcessional external debt with original maturity of at least one year, contracted or guaranteed by the consolidated government or the ANB ¹, excluding the Fund. Debt rescheduling and restructuring are excluded from the borrowing limits. In determining the level of concessionality of these obligations, the definition of concessional borrowing shall apply. Concessional borrowing is defined as having a grant element of 35 percent or more. For loans with a maturity of at least 15 years, the 10-year average commercial interest reference rates (CIIRRs) published by the OECD should be used as the discount rate for assessing the level of concessionality, while the 6-month average CIRRs should be used for loans with shorter maturities. To both the 10-year and the 6-month averages, the following margins for differing repayment periods should be added: 0.75 percent for repayment periods of less than 15 years; 1 percent for 15-19 years; 1.15 percent for 20-29 years; and 1.25 percent for 30 years or more.

(In millions of U.S. dollars)

		Limits
Stock at December 31, 2000		0
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		0 0 0 0 0

Definition: the stock of short-term external debt is defined as debt contracted or guaranteed by the consolidated government or the ANB with contractual maturity of less than one year, excluding normal import-related credits.

Stock of Outstanding Nonreschedulable External Arrears

(In millions of U.S. dollars)

		Limits
Stock at December 31, 2000		0
March 31, 2001 (preliminary) June 30, 2001 September 30, 2001 December 31, 2001 March 31, 2002		0 0 0 0 0

 

Definition: The stock of nonreschedulable external arrears is defined as the external debt service obligations (principal and interest) of the consolidated government and the ANB, including for government guaranteed loans, to multilateral and bilateral creditors, that have not been paid at the time they are due, excluding arrears on external debt service obligations pending the conclusion of debt rescheduling operations.

IV. Structural Performance Criteria and Benchmarks for End-September 2001

A. Structural Performance Criteria

1. Submit to Parliament a revised law on the Chamber of Accounts

The revised law will give the Chamber of Accounts the authority to audit all government bodies, including all budgetary and extra-budgetary funds. It will be submitted to parliament before end-September 2001.

2. Adoption and initial implementation of a program of reform of the Customs Committee

The reform program will be based on the recommendations of the evaluation of the Customs Committee by an internationally reputable company. The reform program will be discussed with the Fund staff before its adoption by the government and an agreed first set of measures will be implemented before end-September 2001.

3. Termination of the practice of ANB holding deposits with domestic commercial banks

The ANB will gradually reduce to zero by end-September 2001 its deposits with the commercial banks.

4. Adoption of detailed regulations for the preparation, execution, audit and reporting of the annual oil fund budget, in close coordination with the preparation of the state budget

These regulations will be adopted before end-September 2001. They will specify the rules for the preparation, execution, and monitoring of the oil fund budget, in order to ensure a close coordination with the preparation, execution, and monitoring of the state budget. The regulations will clearly state that (i) the annual program of the Oil Fund's revenues and expenditures will be prepared and executed within the framework of the principle of consolidation of the revenues and expenditures of the consolidated government; (ii) all expenditures of the Oil Fund will be undertaken only within the framework of the approved annual program of revenues and expenditures of the Oil Fund; (iii) expenditures of the Oil Fund, excluding the operational expenses of the Fund, will be executed through the Treasury, subject to oversight by the Oil Fund officials; (iv) the Oil Fund will publish quarterly statements on its revenues; (v) the approved Oil Fund budget will be published prior to the submission of the State budget to parliament; and (vi) the Oil Fund budget will be consistent with the government's Medium-Term Expenditure Framework.

B. Structural Benchmarks

1. Adoption of the regulations for the implementation of the tax code

The regulations will adopted before end-September 2001.

2. Adoption of a comprehensive program to strengthen financial discipline in the energy sector, in consultation with the staffs of the World Bank and the Fund

The program will be adopted by end-September 2001.

3. Inclusion in the draft 2002 budget of adequate funding for the Chamber of Accounts

The agreement is to be reached by end-September 2001.

V. Data Requirements for Program Monitoring

1. Public finance

The Ministry of Finance will provide Fund staff with the data listed below. Unless otherwise noted, monthly data will be reported within six weeks of the end of the month and quarterly data will be reported within six weeks of the end of quarter.

1.1 Monthly data on budget operations, including revenues, expenditures, and financing, of the state budget and extrabudgetary accounts of state budget entities by detailed economic and functional classification;

1.2 Quarterly data on budget operations, including revenues, expenditures, and financing, of the Social Protection Fund, the Disability Fund, the Employment Fund, the Privatization Fund, and the Oil Fund by detailed economic classification;

1.3 Monthly data on the stock of state budget expenditure arrears accumulated since December 31, 1999. The data should divide arrears by detailed economic expenditure classification;

1.4 Quarterly data on the stock of pension arrears of the Social Protection Fund accumulated since December 31, 1999. The report should be prepared by the Social Protection Fund and sent by the Ministry of Finance;

1.5. Quarterly data on interest payments, principal payments, disbursements, and all outstanding payment schedules on foreign financing of capital projects, foreign loans contracted by the consolidated government for on-lending purposes, and loans guaranteed by the consolidated government;

1.6. Monthly data on revenue outturns of the state budget by collecting agency and type of tax compared to budget forecasts. Data should be sent no later than four weeks after the end of the month;

1.7. Quarterly data on tax arrears to the state budget by type of tax;

1.8. Quarterly data on tax arrears to the state budget for each of the eight largest taxpayers by type of tax;

1.9. Quarterly excise tax collections of the state budget for each collecting agency by type of product (e.g. alcohol, tobacco, oil);

1.10 Information on each treasury bill auction. Data should be sent no later than one week after the end of each auction;

1.11. Quarterly or monthly cash flow statements of SOCAR, Azerenergy, Azerigas, AZAL, and Azerchemia. For SOCAR's expenditure, please specify expenditure in foreign currency and expenditure in manats;

2. Monetary sector

2.1 The ANB will provide Fund staff with the following:

• Balance sheet of the ANB;

• Consolidated balance sheet for the commercial banks;

• Balance sheets of the IBA and the UUJSB;

• Credit and deposits interest rates, including NBA's refinance rate;

• ANB's foreign deposits at commercial banks;

• Volume of transactions in the foreign exchange market, in thousands of US dollars:



i. Total sales (ANB; Commercial banks, of which: IBA, SOCAR)

ii Total purchases (ANB; Commercial banks, of which: IBA, SOCAR)




2.2 Periodicity and reporting: monthly data; data will be reported within 30 days of the end of each month.

3. External Sector

The ANB, the Ministry of Finance, the Ministry of Energy, and the Ministry of Economic Development will provide Fund staff with the following:

3.1 Export and import data, including volumes and prices for the main categories of goods including crude oil and oil products separately for AIOC and SOCAR: monthly, within four weeks of the end of each month;

3.2 Other balance of payments data including the data on services, official and private transfers, capital account transactions (including details of new foreign project investments, and disbursements of external loans), and the repatriation of export receipts: quarterly, within seven weeks of the end of each quarter;

3.3 A fully reconciled balance of payments: quarterly, within twelve weeks of the end of each quarter;

3.4 Details, including disbursement and repayment amounts, schedule, and terms, of all new external borrowing, including government guarantees, after approval: monthly, within four weeks of the end of each month;

3.5 Data on borrowing and guarantees by central government, local governments, and the ANB, with detailed explanations: monthly, within four weeks of the end of each month;

3.6 Detailed information on repayment and/or refinancing (including the terms of refinancing) of arrears: quarterly, within four weeks of the end of each quarter.

4. Real sector

The Ministry of Economic Development, the State Committee on Statistics, and SOCAR will provide Fund staff with the following:

4.1. Nominal GDP by sectors (in bln manat, cumulative): quarterly, within twelve weeks of the end of each quarter; sectoral breakdown will include oil and gas, non-oil industry, agriculture, construction, transport, retail trade, and social services;

4.2. Real GDP growth rate by sectors (cumulative, over the same period of the previous year): quarterly, within twelve weeks of the end of each quarter; sectoral breakdown will be the same as for the nominal GDP;

4.3. CPI: monthly, within four weeks of the end of each month;

4.4. Oil sector: Monthly data within four weeks of the end of each month on:

• production of oil and gas (SOCAR) (mln barrels and mln cubic meters)

• exports of oil (SOCAR) (mln barrel and mln dollar)

• SOCAR oil and gas sales in the domestic market (mln barrels and mln cubic meters)

• value of SOCAR oil and gas domestic sales (bln manat)

• SOCAR inventories of oil, end of month (mln barrels)

• AIOC oil production (mln barrels)

• AIOC oil exports (in mln barrels and US dollars).

 

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¹ (a) The term "debt" has the meaning set forth in point number 9 of the Guidelines on Performance Criteria with respect to Foreign Debt (Decision No. 12274-00/85, August 24, 2000) and will be understood to mean a current, and not contingent, liability, created under a contractual arrangement through the provision of value in the form of assets (including currency) or services, and which requires the obligor to make one or more payments in the form of assets (including currency) or services, at some future point(s) in time; these payments will discharge the principal and/or interest liabilities incurred under the contract. Debts can take a number of forms, the primary ones being as follows: (i) loans, i.e., advances of money to obligor by the lender made on the basis of an undertaking that the obligor will repay the funds in the future (including deposits, bonds, debentures, commercial loans and buyers' credits) and temporary exchanges of assets that are equivalent to fully collateralized loans under which the obligor is required to repay the funds, and usually pay interest, by repurchasing the collateral from the buyer in the future (such as repurchase agreements and official swap arrangements); (ii) suppliers' credits, i.e., contracts where the supplier permits the obligor to defer payments until some time after the date on which the goods are delivered or services are provided; and (iii) leases, i.e., arrangements under which property is provided which the lessee has the right to use for one or more specified period(s) of time that are usually shorter than the total expected service life of the property, while the lesser retains the title to the property. For the purpose of the guideline, the debt is the present value (at the inception of the lease) of all lease payments expected to be made during the period of the agreement excluding those payments that cover the operation, repair or maintenance of the property. (b) Under the definition of debt set out in point (a) above, arrears, penalties, and judicially awarded damages arising from the failure to make payment under a contractual obligation that constitutes debt are debt. Failure to make payment on an obligation that is not considered debt under this definition (e.g., payment on delivery) will not give rise to debt.