BizCLIR

A. OVERVIEW

Azerbaijan achieved independence in 1991 with the collapse of the former Soviet Union. The joy of this accomplishment was soon tempered, however, by war with Armenia over disputed territory in the Nogorno-Karabakh region, with open fighting between the countries through 1995. Only in the past six or seven years has the country been able to concentrate on mundane business of becoming a country. As a result, the systems examined are still quite young, as becomes apparent throughout the analysis.

Azerbaijan's economy can be usefully divided into two sectors: (1) oil and gas, and (2) everything else. The oil and gas sector is growing well, accounting for virtually all of Azerbaijan's 10% annual GDP growth over the last several years. The sector also accounts for more than 90% of government revenues and is completely dominated by foreign investment from multinational oil companies.

The non-oil sector can again be divided into another two sections: (1) Baku, and (2) the rest of the country. Baku, officially home to one million people and perhaps unofficially home to more than two million, is the primary beneficiary of foreign investment. It is large, relatively clean, relatively modern port city benefiting from trade and some industrial investment. It also houses the local headquarters of the various oil investors and their expatriate staff.

The rural economy receives little if any foreign investment, and domestic investment tends to be small scale and uneven. Once a net exporter of foods to the Soviet Union, Azerbaijan has become a net importer, and has even set up some barriers to imports in order to protect at least some aspects of its flailing food industry. Overall, the non-oil economy has been accurately described as “moribund.”

While it is tempting to excuse the weak economy as simply the result of war and the inexperience of a nascent government learning its way, this is not sufficient. These factors certainly underlie some part of the economic woes, but the greater problems lie in institutional factors such as corruption, official predation, and a legal system that is ineffective in enforcing contracts or protecting investments. Any business that is successful, we were told, is either forced to take on a government agency or official as a "partner," fight for its right to exist without such interests, or else shut down. The lesson of the goose that laid the golden eggs does not appear to have resonance here.

The success of the oil and gas sector has actually retarded the growth of the non-oil sector instead of enhancing it, because the government's limited institutional capacity is focused on oil and gas, and the revenues from that sector make reform in the non-oil sector less pressing. There is apparently a large underground economy, and it is estimated that anywhere from $10 million to $50 million a month is remitted back to the country from the Azeri Diaspora. (We were told that there were over 20 million Azeris in Iran, for example, but this number may depend on how "Azeri" is defined.)

The pervasive corruption has resulted in a society with virtually no middle class. Over 60% of population falls below the poverty line. The existing middle class is concentrated primarily in Baku, but is under constant economic pressure. There are numerous anecdotal reports of entrepreneurs fleeing from the formal to the informal sector at an alarming rate. In short, the investment climate is just not healthy.

This ill health is not a result of poor laws, but of poor implementation. The overall legal framework is properly oriented, with general guarantees of the rights normally sought by investors. Changes are needed in many areas, but implementation of even these existing laws would lead to substantial improvement in the commercial climate.

Implementation problems result in part from inexperience, but the major complaint is one of corruption. Although verification of actual instances was beyond our scope of engagement, the assessment team was constantly and repeatedly told of instances of corruption at every interface between the public and private sector. This included both the demand for bribes and the abuse of influence to improperly affect the outcome of an administrative or judicial decision. There were even reports of donor-funded projects being cancelled or delayed because of officials demanding personal payments. This theme is picked up in most of the sections of this report because of the pervasive negative impact.

B. SUMMARY BY INVESTOR CONCERNS

The purpose of the CLIR diagnostic methodology is to assist USAID Missions in their mandate to enhance economic growth and development, which occur through trade and investment. In order to ensure that this assessment is not simply a lawyers’ view of how to improve legislation, we have also attempted to capture an investor perspective on how the different aspects of the CLIR environment might affect investment decisions.

We start by recognizing that the primary purpose of investment is profits. Whether a farm laborer who decides to invest time toiling in the sun instead of other productive or non-productive activities or the multinational investing land, labor and capital in a large venture, decisions (absent compulsion) are based on in great part on the likelihood of return on that investment. Return on investment is a function of three factors: revenues, costs, and risks. The commercial legal environment affects each.

a. Risk

In Azerbaijan, the risk factors are quite high. Investors noted that the rapidly changing legal framework left them uncertain about the rules of the game and hesitant to increase their investments or make strategic moves because new laws might change the results without warning. Although it is perfectly reasonable for Azerbaijan to make extensive legislative changes as it replaces laws inherited from the Soviet Union with market-oriented laws, the method of change can be structured to minimize risk and surprises.

The legislative process in Azerbaijan increases the level of risk. Laws are passed without notice, without comment, and without public knowledge of who is behind them or why they are being passed. All countries require ongoing legislative change, but mature democracies include the stakeholders in the process of change to support formulation of laws responsive to business needs, to create the support necessary to ensure implementation, and to allow the commercial sector to prepare for eventual changes, whether positive or negative. The fact that commercial interests in Azerbaijan uniformly stated that they do not know what the law will be tomorrow is a sign that dramatic change is needed if the government wants economic development.

Risk is also very high because of the distorting effects of corruption. Random tax audits, demands for early payment of taxes, unforeseeable problems with registration or licensing, and lawsuits decided by patronage all raise the risk of increased costs and decreased revenues sales, which must be managed effectively for business success. High-risk investors manage this risk in part through requiring higher rates of return, which results in higher consumer prices, or in reducing or eliminating their activities until the situation improves. All of these problems are seen in Azerbaijan.

b. Costs

Like risk, costs are also affected by corruption. Initial and ongoing bribes raise the cost of doing business. This results in increased prices, or, if there is strong price competition, the added burden can cause the enterprise to become unprofitable and collapse. Numerous respondents commented on the number of small vendors in Baku who set up kiosks or small stores for various products, only to fail within a few months despite reasonable sales because of illegal payments demanded by government officials. There is also universal frustration with the tax authorities, with reports of rampant demands for bribes, enforced by threats of tax audits accompanied by exorbitant “findings” of arrears. Interestingly, the situation has become so bad that the often-reticent local business community is beginning to sue the tax authorities in Economic Court, and it is reported that they are winning some of the cases.

Unnecessary delays in registration increase start-up and other costs of companies by delaying their ability to engage in commerce. Numerous respondents noted the poor execution and anti-competitive misuse of registration procedures by those responsible for various business registrations. These delays tie up resources invested in an enterprise pending commencement of operations, or hinder the ability of a company to respond to a changing market, causing them to lose potential revenues or even market share.

Excessive licensing is another source of costs. There are reported to be more than 400 license categories, with businesses requiring separate licenses, sometimes from separate agencies, for related activities such as jam and juice production. Cost of compliance can be considerable, especially for smaller enterprises, but there is also a cost in time and flexibility in responding to changing market demands. If a company sees an opportunity and needs a new license to pursue it, the opportunity may be lost or compromised by the time the license is granted, especially if there are licensing delays due to incompetence or corruption.

Moreover, delays in imports and exports occasioned by arbitrary and capricious exercise of authority by government officials adds to the costs of many companies in Azerbaijan.

c. Revenues

Revenues are a function of market size, in terms of both population and buying power. At present, the buying power of most Azeris is rather limited, but this is a commercial risk that investors can manage. Likewise, the population is relatively static (aside from movement of internally displace persons), growing at fairly predictable rates, and can be factored in to decision making.

The assessment team identified several negative revenue factors that government reforms could eliminate. First, there are a number of de facto monopolies and cartels strangling the revenue stream in potentially lucrative industries, such as cotton and hazelnuts. Producers are often forced to sell at depressed prices to monopoly buyers. With their revenues limited, they do not reinvest proceeds at the rate they would if there were competition for the products. This is depressing overall investment in entire industries that could be contributing considerably to economic growth and development.

Corruption also acts as a revenue drain by reducing market access. The team heard reports of illegal tampering with import and export rights of domestic and foreign investors, compromising their ability to compete in domestic and export markets and affecting their revenue flows.

The net impact of these problems in costs, risks and revenues is that the commercial environment is very unhealthy. Some larger companies can absorb the cost of excess licensing, or limit the number of bribes paid, but smaller ones cannot. In fact, anecdotal evidence given to the team was that a number of investors were leaving at every level of the economy: two international banks have closed due to profitability problems, more than 150 Turkish investors left last year, and thousands of wage earners and farmers are reported to be emigrating to Russia and elsewhere in the region in order to get paying jobs. The commercial legal and institutional reform environment is in need of substantial change.

C. SUMMARY BY DIMENSION AND CROSSCUTTING THEMES

1. Legal Framework

As already noted, the framework laws are generally oriented in the right policy direction, but are often vague, contradictory, and insufficient in terms of detail. The legal framework can better be described as a legal shell for most areas of commercial law. Although laws of general principles exist, most of the needed implementing regulations do not yet exist, leaving great gaps in interpretation and implementation. In other instances, such as company law, there are large gaps in the overall framework, although what does exist is acceptably drafted. Legal professionals also complain that there is insufficient commentary available on the laws, other than Russian commentaries on similar laws from other jurisdictions.

The greatest concern at the framework level, however, is not the laws themselves, but the process by which they are made. A donor organization could conceivably provide technical assistance, create a draft, and then persuade the government to adopt it. Because of gaps in process, a competing interest could exert similar pressure a year later and undo any perceived benefits from new legislation. The process, therefore, is just as important as the end result.

At present, laws are passed without any mandatory public review. The private sector is invited to comment on an ad hoc basis, depending on the predilections of those in charge of drafting. There is little if any public information on the government’s legislative agenda (whether in the executive or legislative branch) other than through personnel connections. Enactment of new laws is often a surprise to the general legal profession and business community. Although there are exceptions to these generalities, that is precisely the problem: proper lawmaking is an exception.

2. Implementing Institutions

Azerbaijan has created most of the implementing institutions required for each area of law, but on the whole, they are all very weak. Problems cited by users and noted by the assessment team include insufficient knowledge and experience with the subject matter, insufficient funding, lack of authority to fulfill their mandates, and systemic corruption. The lack of knowledge is to be expected due to the vast quantity of changes taking place in the past few years and can be addressed through training and education; other weaknesses will be harder to overcome.

The courts received the lowest score given of the ten countries assessed by Booz Allen since 1998. This reflects the unanimous negative ratings given by the business and legal communities on court performance.

The problems with the courts can be summarized as competence and corruption. While there is a very high perception of corruption, it is probably overstated. A number of respondents reported successful use of the courts to obtain judgments based on law, but only after ongoing, concerted pressure. In addition, there is a tendency to suspect foul play when few or none of the parties understand or know the law and the written opinions – if produced – are of low quality, both of which are true in Azerbaijan.

Competence issues arise from the lack of education in new laws, the lack of training in the role and responsibilities of judges, and the lack of a system for ensuring accountability. In 2000, all judges were terminated and required to reapply for the jobs, based in part on a written test for all candidates. Although 40% of the sitting judges were replaced, 100% were ignorant of the new Civil Code, which was just being passed. Indeed, there is very little knowledge of the body of new laws on the bench.

Corruption cannot be dismissed as a mere perception. The universal complaints regarding the courts and other implementing institutions, including interview respondents who can quote prices and dates as well as examples of influence-based decision-making, make it clear that there is a serious problem with rule of law issues. Confidence in the courts of Azerbaijan is abysmally low, and there is not yet any system of alternative dispute resolution to replace it.

3. Supporting Institutions

Azerbaijan is unique among countries assessed so far for the absence of supporting institutions. It is natural that the development of such institutions would be slow for historical reasons, but countries with similar backgrounds are ahead of Azerbaijan. People generally do not take a controversial public stand, whether individually or as the member of an association. Instead, they seem to embody the behavior inherent in the Japanese proverb: “The nail that sticks up gets hammered down.”

Reasons given for the underperformance in this dimension focused on the slow pace of change in government. At independence, Azerbaijan moved from a unit of the Soviet Union, with history of planned economy and command politics, to an independent republic with the same characteristics. There was no history of either democracy or capitalism to draw from, and unlike its neighbor Armenia, Azerbaijan does not have a strong Western Diaspora to influence change. Today, there is evidence that the transformation from subject to citizen is beginning, at least in Baku, but the habits learned from decades under the KGB will be slow to change until the Government openly advocates and welcomes dissent, and prosecutes cases of abuse of power.

This general observation is punctuated, however, by the presence of several promising institutions, suggesting that there may be more in the wings that could be formed with encouragement and foreign donor support. (This support may be more psychological than financial – several respondents felt strongly that foreign-supported associations had greater capacity to resist inappropriate use of power by government officials.)

4. Market for Reform

The demand for change in the private sector is undermined by deeply entrenched private sector interests who are reported to benefit substantially from patronage and an interlinking of political and economic interests. Very strong “connected” firms work effectively against reform to their privileges, working behind the scenes to keep from opening of competition or reducing methods for manipulating the system. Reform is further undermined by complicity of the private sector in continuing the historical system of competition through bribery. The Soviet legacy, of which Azerbaijan is an heir, has been described as a system of formalized corruption, which has skewed expectations and incentivized non-transparent behavior. Professionals, bankers, judges, and others have been implicated in complex system of bribery and influence peddling that seems to pervade the overall system. While certainly not all are guilty, it is also true that many do not see any ethical, moral, or economic basis for condemning or changing this behavior.

Despite these compromises, there is a strong desire for change throughout the “disenfranchised” private sector. This desire is often too diffuse and unfocused to rise to the level of demand. There are few outlets for capturing and articulating the frustrations expressed in this report due to the lack of supporting institutions. Indeed, civil society in Azerbaijan is comparatively underdeveloped. Few institutions actively or effectively seeking reforms in the commercial environment.

The supply side of the equation is not any better. Although the government has provided a number of market-oriented reforms in recent years, the quality of the legislation is limited and the process of lawmaking is deeply flawed. Implementation is beset by problems of insufficient capacity and institutionalized corruption, including recognized resistance to change in some ministries and agencies. In many areas, the political will for reform is not yet strong enough to overcome this entrenched resistance. It was widely believed that part of the problem is ignorance of the negative economic impact of the existing structures and behaviors, but education will not be enough to overcome the personal incentives associated with rent-seeking behavior. This will require very strong leadership and enforcement of disincentives.

D. SUMMARY BY AREA OF LAW

Bankruptcy
The existing law is adequate for the immediate and short-term needs of the country. Only six or seven cases have been brought under this law to date, and all but one of those was for the liquidation of financial institutions. There is already a project underway to create a separate legal regime for insolvency of financial institutions, so that there is essentially no pressure on the system for normal bankruptcy cases.

This low level of usage reflects the absence of commercial credit. Bankruptcy is a system for restructuring or cleaning up bad debt, so that without commercial debt, there is little need for bankruptcy. Liquidation aspects of the law may be useful for elimination of defunct state enterprises and disposal of assets, but these do not overcome the political concerns and social consequences related to termination of employees. Until there is more lending, there is no need to expend donor resources on the bankruptcy system.

Collateral and Real Property (Secured Transactions)
Although these two areas of law are discussed separately in great detail, the issues can be summarized together. The legal framework for property rights and secured lending is a patchwork of related laws that were drafted without sufficient harmonization between the potentially conflicting parts. As a result, there is a property rights regime sufficient for most transactions but compromised by gaps and confusion. The legal framework would benefit greatly from a project to harmonize the existing laws.

The area of property rights was the only one in which there were any gender issues identified. Abuses in the area of real property transfers related to fraud by husbands who forged the signature of their wives in order to sell property without permission, only to have the transactions undone when the wife discovered and protested the sale. The problem, however, is not in the law so much as the practice. The law requires that both spouses consent to the sale of real property in which both have an interest. In practice, husbands often present a release from the wife, instead of having the wife present as an equal partner at the transaction before the notary. A responsive market should result in a change in practice, not in law, with buyers requiring the physical presence of both parties to protect themselves from fraud.

The implementing institutions reflect the patchwork legal framework. There are several separate registries for various property transactions, with land, buildings, privatized state holdings, and vehicles all registered in separate places. Unfortunately, there is no registry at all for interests in movable property other than vehicles, leaving a tremendous gap in the overall secured transactions system. Unregistered pledges are legally invalid, so that there is currently no system for validating pledge interests in movable property other than automobiles. The Ministry of Justice is reported to be tasked with the responsibility of creating such a new registry for movable property, and perhaps harmonizing existing registries. There is confusion, however, over what types of property will be covered by what registry. For real estate (land and buildings), the registration system is currently is adequate for the demand, but not for the accelerated growth needed by Azerbaijan. As demand grows, the system will need to be improved.

Notary services are a mixed blessing in the area of secured property rights. On the one hand, the existing cartel structure (the number of notaries is limited by law) has led to general certainty in the passage of good title because notaries tend to have jurisdiction over all transactions within a given geographical area, especially as regards real property. Due to their legal responsibility for passing good title (which has been enforced in several lawsuits), they currently act as gatekeepers and provide stability in the system.

Cartels have a tendency to drive down the quality of service over time while raising prices. In Azerbaijan, there are interesting and positive developments to combat this. First, the provision of notary services, currently a government function, is being privatized with the creation of private notary services. Second, the notaries have recently had their fee structure lowered substantially at the behest of the banking industry, so that fees are generally considered reasonable by the users, even when unofficial fees (often equal to official fees) are added to the cost. A core group of notaries within the Ministry of Justice is very interested in reform of the system and establishment of registries, having identified this time as historically pivotal for ensuring a proper foundation for future development.

Demand for reform is focused on the need for a pledge registry for movable property, to the extent there is focused demand. Overall demand is diluted by the poor health of the lending sector, whose profitability is hampered by high transaction costs and high risks, especially the risk of unenforceable contracts in the event of non-payment. Perhaps more importantly, existing local banks tend to be poorly capitalized, and focus their lending activity on historical patrons and connected interests rather than competing for new business or developing new products. The situation is worse than similar problems in other post-Soviet countries studied due to the high costs and risks of banking, which have led to the departure of two international banks in recent months. With the right system in place, sellers, leasing companies, and non-banking financial institutions can practice secured lending on their own, so the need for a pledge registry is even greater as an alternative to traditional, ineffective banking.

The supply capacity is probably sufficient, with limited technical assistance needed. Other registries are functioning reasonably in terms of organization and basic services provided, and there is no reason to believe that the government could not provide the same in a movable property registry. Technical assistance is needed to ensure a market-oriented, lender-protective system, especially in light of misunderstanding of the purpose of registry embodied in the law. (Registration is required by law for a pledge agreement to be enforceable; the better approach is that the agreement should be enforceable with or without registration, which is used to perfect a lender’s interest in the property against other claimants.)

Commercial Dispute Resolution
The lack of a dependable system for commercial dispute resolution is one of the unifying themes for all other areas of law covered under this assessment. The legal framework provides on paper for a theoretically adequate judicial system, especially with the recent establishment of Economic (“commercial”) Courts to handle commercial disputes among entities and entrepreneurs, but the courts in general are not functioning effectively. The laws do not yet provide for any recognized system of domestic alternative dispute resolution (ADR), however, but neither do they forbid it. As a result, there are several projects underway to establish some form of ADR.

The courts are perceived to have low competence and high corruption. Respondents repeatedly and consistently cited problems of bribery and political influence – “telephone justice” – as undermining respect for the judiciary. Problems with competence are to some extent understandable due to the legislative upheaval in the past four or five years in which much of the Soviet legal system has been replaced or overlaid with more market-friendly laws, and no formal training in these laws has taken place. The confusion engendered by ignorance of the law (including ignorance by the parties and their lawyers) creates both the perception of corruption when judges do not write meaningful decisions to explain their reasoning, and opportunity for corruption because it is difficult to ascertain whether the decision comports with law.

Whatever the actual level of corruption, the lack of any known system of discipline, ethics or accountability for judges further undermines their credibility and competence. The use of “telephone justice” – in which a government official tells a judge how to decide a case – is perceived as serious problem also. Establishing any confidence in the judiciary will be a steep, uphill struggle requiring high profile reformers and high profile reforms. At this time, there is no indication that any reform efforts are being developed or advocated by the government or the judiciary itself.

The supporting institutions for this area are also weak. First, the bailiffs who are responsible for enforcing decisions are not well organized or trained. Second, there has been no association of judges that could serve as a basis for training the judiciary or examining and pursuing the need for reform. An association of Economic Court judges was being formed at the time of the assessment, and will be important to follow. It is rumored that the Ministry of Justice is opposed to the formation of a judges association out of opposition to any independent, unified voice within the judiciary. (Whether this is true could not be confirmed, but the rumor is evidence of the low esteem in which the Ministry is held by the legal profession.) Third, bar associations or other lawyers’ groups are still nascent and do not yet have significant strength to push for reforms. ABA/CEELI is providing some needed support in the area of legal research, and legal clinics in partnership with Azerbaijan University Law Faculty, but independent provision of such services has not yet developed.

Demand for reform is universal, but unfocused. This can be seen in part from the efforts by the American Chamber of Commerce for Azerbaijan (AmCham) and the Azerbaijan Association of Entrepreneurs (with support from the Eurasia Foundation) to create an independent ADR system. Indeed, the support for these programs and comments from numerous respondents indicates that the business community has in great part given up on the courts and is trying to replace them with an alternate judicial system rather than reform the existing judiciary. It also indicates that there is little confidence that the government can supply the needed changes.

Company
The legal framework for company law is characterized by appropriate but insufficient provisions. The law is generally sound, as far as it goes, but it does not go far enough. The Securities Committee is currently drafting a new law to address some of these gaps, including issues of corporate governance, but this draft is also inadequate, despite outside technical assistance. Further assistance is needed.

The implementing institution – the Company Registry – is undercutting the otherwise positive environment for company law. The Registry is famous for unnecessary delays in registration, sometimes taking months to register a company. There are widespread complaints of rent seeking and abuse of authority for political reasons, including delays based on political and religious discrimination. The additional costs of these delays can be absorbed by larger investors, but not by smaller entrepreneurs who are significantly damaged by their inability to do business or the elevated costs of entering the formal sector. This institution is responsible, in part, for the increased choice of small businesses to avoid the formal sector and operate in the gray economy.

At this time there are very few supporting institutions at all for company law issues.

Demand for change in the registration and licensing system is quite high, and the AmCham and the Association of Entrepreneurs are actively pursuing reforms. Changes in the law, however, are being pursued from the supply side. The State Securities Commission is heading the reform of the company law, and is very open to additional technical assistance to ensure the best possible result. Unfortunately, this Commission is not involved in the issue of licensing reform, which does not yet have a champion on the supply side.

Competition
The area of competition law is one of the least developed of the nine areas studied. The law itself has the proper orientation but is poorly drafted and insufficient. The Competition Agency charged with implementing the law is only a shell of an institution with insufficient funding and insufficient staffing to fulfill its mandate.

Supporting institutions for this area are also weak. Although there is some statistical capacity within the government and within the private sector, there does not seem to be any group focused on or trained in economic statistics related to analyzing anti-competitive behavior. Complaints of monopolies and cartels abound, and are captured in part by the AmCham, but there is no significant association to voice the concerns of the agricultural sector – which is deeply affected by export and import cartels.

Demand is not only diffuse, it is effectively counterbalanced by entrenched interests who influence the government. The de facto monopolies are known to be politically connected, and rumored to use their connections extremely effectively to suppress competition and concentrate market share in their own hands. If the Competition Agency is any evidence, there appears to be very little political will to create an environment in which competition can flourish, at least within the economically significant sectors of the economy.

Contract
The legal framework for contract law is in flux. A newly adopted Civil Code provides a wide range of modern, European provisions defining the rights and obligations of parties to contract, but the new Civil Code is virtually unknown. As in many other areas of Azeri law, the contract provisions of the law would be adequate if implemented, but they are not.

The failure of the courts to settle disputes according to law has already been noted and need not be repeated here. It is worth noting, however, that consistent enforcement helps to teach and refine understanding of the law among the business community, so that the failure of the courts has a ripple effect in undermining an otherwise adequate legal framework.

Notaries are another implementing institution for contracts in many former Soviet states, and Azerbaijan is no exception. The notaries are adequate for the current demands, especially in light of the changes underway (privatization and reduction of fees). They could readily serve as a principle counterpart for education on the new Civil Code, but first need training in the new laws themselves.

Few supporting institutions focus on contract law issues, other than the law schools. Azerbaijan University has updated its curriculum to address the new Civil Code, and it is hoped that Baku State is doing the same. (This was not confirmed.) In any event, these schools have the capacity, with some technical assistance desired, to upgrade understanding of the new laws among new lawyers, and possibly to provide continuing legal education services to existing lawyers.

Demand for change in contract law tends to be a function of the complexity of the contracts employed in the commercial sector. Most of Azerbaijan’s economy operates on a cash basis, with little sophisticated lending or other complex transactions taking place. Consequently, demand is appropriately low. For now, there is little need to reform the law, but great need to educate the legal community about the existing law.

Foreign Direct Investment
The legal regime for foreign investment contains important protections for foreigners, and would be generally adequate for the present if it could only be enforced. Unfortunately, the law is undercut by implementation problems, making Azerbaijan relatively unattractive as a destination for foreign investment.

The Foreign Investment Agency is quite weak. Although charged with assisting investors and promoting investment, it cannot overcome the entrenched interests in other agencies that are damaging the investment climate. Foreign (and domestic) investors complain vigorously about excessive licensing requirements and delays in company registrations, the Foreign Investment Agency has proven highly ineffective at combating these problems. Problems of systemic corruption and ineffective dispute resolution, repeatedly noted elsewhere, also have a strong negative impact on the investment environment.

The only supporting institution pushing for the interests of foreign investors is the AmCham, and it is not enough. In well-developed civil societies, domestic investor groups lobby for improvements to the overall investment climate, which creates conditions attractive to foreigners. (Protectionist interests of these groups are counterbalanced, in part, by competing foreign investor associations.) In Azerbaijan, these groups do not yet have a voice, to the extent they even exist.

The demand for change is not met by the capacity or willingness to provide it. Much of the foreign investment policy and practice is focused on the large interests – oil companies and large multinationals – who can cut their own deals. Changes to the investment climate that would attract smaller foreign investors (such as the Turkish investors who are reported currently to be disinvesting) as well as domestic investors do not seem to be high on the official reform agenda.

Trade
The framework laws for trade are well oriented and bolstered by numerous bilateral treaties and regional trading arrangements. Azerbaijan is keenly interested in WTO membership (and driven by the perceived need to accede before Armenia can enter and possibly block membership) and is attempting to meet the various legal and regulatory requirements for membership. Unfortunately, these laws, even if perfected, are not enough because the real issue for trade with Azerbaijan can be found in the numerous non-tariff barriers supported by entrenched interests.

The Ministry of Economic Development has a trade unit staffed with young, energetic professionals dedicated to achieving WTO accession and open to technical assistance. They are not, however, capable of battling the other government agencies responsible for maintaining trade barriers. The Customs Service is widely perceived as both inefficient and corrupt, where it is possible for monopoly interests to influence enforcement and compliance in order to prejudice competitors and limit uncontrolled trade. The licensing authorities for the more than 400 activities requiring licenses are also a target of constant complaint by all sectors of the foreign and domestic commercial community. There is no existing unit or agency able to challenge these interests or otherwise promote an open trade regime in a meaningful manner. Supporting institutions, other than AmCham, are virtually non-existent.

The market for reform is characterized by high demand from the foreign community, limited understanding of the issues by the Azeri community, and deeply entrenched interests opposed to reform. Desire for WTO membership may help to bring about some reforms, but there is little to indicate that Azerbaijan, if accepted, would move quickly to ensure compliance with WTO obligations and standards.

4. Key Opportunities and Counterparts

Opportunities for meaningful assistance require a combination of demand for change and counterparts interested in pursuing reforms and capable of producing them in the current climate. Azerbaijan lacks a deep supply of counterparts, suggesting that one of the greatest needs is project assistance in developing more associations who can act as counterparts. This seems especially true for the rural and agricultural sector, where there are even fewer effective associations to represent the interests of this large, impoverished population.

Where counterparts already exist, much of the reform need is for long-term project assistance on a number of fronts. Due to the possibility that the 907 waiver could be revoked (restricting USAID’s ability to provide much assistance to the government of Azerbaijan) during a long-term project, our team focused on shorter-term initiatives with potential for impact. There are several significant opportunities there.

Company Law. The State Securities Committee has already begun a process of reforming the existing framework for company law. They have received outside technical assistance to add a few new provisions – mostly regarding corporate governance – but significant gaps in the law remain. Momentum within the government is significant, so that the Committee could ensure passage of their draft, even with the existing weaknesses. Short-term technical assistance could be employed effectively to correct the deficiencies now rather than later, after yet another defective law has been passed.

This opportunity is two-fold. First, it is possible to ensure that the new law includes numerous missing provisions required by international best practices. Second, this is an opportunity to work with a drafting group to employ a more democratic, deliberative process. A consultant working with the Committee can do more than just provide drafting assistance, but can help them take the draft to the business community for discussion, comment, and revision to ensure that the private sector actually supports and takes ownership of the new law. This increases the possibility of effective implementation.

It is unlikely that the current lawmaking system will be responsive to a direct attempt to change the lawmaking process based on principles of democracy, governance, and rule of law. It is possible, however, to demonstrate such processes as a model for future endeavors.

This opportunity also includes a significant government counterpart – the State Securities Commission – and private sector organizations such as AmCham and the Association of Entrepreneurs.

Property Rights Regime. Like company law, work on property rights presents a multi-faceted opportunity.

First, the numerous overlapping laws have created confusion that can be greatly reduced simply by analyzing the existing regime, clearly separating real, movable and intangible property issues, and harmonizing the laws. This can be done in part through thorough, systematic explanation of the laws to the extent they function properly, including explanation of the various registries and how they fit into the system. This “explanation” could take the form of both written, permanent articles and brochures for use by registries, notaries, courts, bankers, realtors and lawyers, and training programs for the legal community. It may also require legal changes, which presents an opportunity to work with local drafters to train them in harmonization, consistency and drafting techniques, as well as in interactive, democratic systems of lawmaking.

Potential counterparts for this work include the Chamber of Notaries (under the Ministry of Commerce), the Ministry of Economic Development, the bar associations, law schools, and realtors. The Azerbaijan Bankers Association should also be engaged to reduce resistance, but they may not yet qualify as a supportive counterpart. There may also be a ready counterpart within the Parliament: the assessment team was told that the Parliament has a legal reform agenda and active interest in reform, but was unable to meet with any representatives to establish the nature and level of interest.

Additional projects could include assistance to realtors in improving the availability of market information (listing services) for Baku and the interior as well as work with notaries in standardizing forms and practices for property transactions (including movable property transactions). In addition, registry clerks have noted that that few people do an acceptable job in preparing documents for registration, including filing in forms properly. In other countries, backlogs and delays have been reduced by creating information brochures for the public and training programs for professionals dealing with the registries.

The most glaring gap in the current regime is in the registries. Existing real property registries do not need to be reformed in the short-term: they are serving the market adequately. However, there is tremendous need for a movable property registry to support the growth of commercial transactions, especially in agriculture, as a basis for creating a meaningful collateral lending system. The movable property registry simply does not exist, but could be built (assuming political consensus) within a year using lessons already learned by USAID in Albania, Macedonia, Armenia and elsewhere. The initial registry does not even have to be computerized, although that is desirable, as long is it is readily accessible. Additional assistance would be necessary to support the implementation and sustainability of the registry, including education of lenders, borrowers, lawyers, and judges and a public education campaign to create awareness of the new commercial opportunities.

Counterparts include the Ministry of Justice, which may be problematic, the Chamber of Notaries, National Bank of Azerbaijan, and the Azerbaijan Bankers Association.

Alternative Dispute Resolution. The Eurasia Foundation is currently providing some assistance in arbitration, but there is an opportunity nonetheless to expand the impact of their assistance through joint efforts in organizing a new system and training a very wide variety of stakeholders. The demand for some form of respectable, reputable dispute resolution system is immense. Counterparts would be primarily, if not exclusively, from the private sector. This opportunity should be discussed carefully with the Eurasia Foundation as a first step.

Public Education Commercial Rights. One of the obstacles to proper enforcement of existing laws is ignorance of the law by implementing institutions and private sector stakeholders. Although it exercises a degree of self-censorship, the press of Azerbaijan is surprisingly open about reform needs, and would likely be very interested in assisting to correct deficiencies through public education. Likewise, there is at least one very capable public relations and marketing firm that could provide local technical expertise in structuring such programs.

Specific programs, based on demand for reform by the private sector, should target company registration and tax audits. While this would not have the immediate effect of changing practices by the government institutions, it would lay the foundations for public pressure for change. A “Know Your Rights” campaign would enable many private sector interests to resist abuse of authority by the tax service and insist on better service by the company registry.

Counterparts could include the Company Registry (at least for input on registration requirements), media, the Young Lawyers Association, law schools, the AmCham, Association of Entrepreneurs, local marketing firms, and consumers’ organizations.

Assistance with the FIAS Red Tape Analysis. The World Bank, under the Foreign Investment Advisory Service (FIAS) is just completing a “roadmap” or constraints analysis regarding bureaucratic impediments to investment. These types of studies are extremely useful in identifying and cataloging unnecessary constraints in the investment environment. In our experience, however, these studies must be adopted as an action plan through an on-the-ground project of assistance, or they become nothing more than intellectual exercises filed away forever on a ministry bookshelf.

The study was in the process of completion during the assessment. We cannot, therefore, comment on the contents or findings, but can assume that the results will provide the basis for very practical interventions.  The counterparts would include the Ministry of Economic Development, a number of affected agencies, lawyers associations, and the business community.

Business Constraints Analysis and Action Plan. The FIAS study mentioned above will note problems in the system, but it will not identify the priorities or needs of the business community based on their plans and actions. In addition, it will only address bureaucratic constraints.

In our experience, some of the most effective legal reform work flows out of work with the business community in identifying the constraints most important to them, preferably in open venues with invited government representatives. It is worth considering such a project for Azerbaijan, although modified to take into account general reticence for public complaint by using individual surveys to obtain the priorities, then allowing the consultants to present the results, thus protecting the identity of those complaining. The presentation should be made in an open forum, which groups such as the AmCham would support. The goal of the workshop would be a public/private sector reform agenda, endorsed by the government.

Counterparts would include the Ministry of Economic Development, the Ministry of Finance, the business community, agricultural organizations, and the legal profession.

Preliminary Steps to Competition through Farmers Associations. Tree crops, particularly hazelnuts, are one of the most important cash crops and revenue earners in the agricultural sector. Production has fallen since Soviet times, and the rate of investment today heavily suppressed by the export cartel in this commodity. It may not be possible to take on the cartel in the near term, but it is possible to build the foundation for that struggle while improving economic performance by working with associations (including creation of associations) to train farmers in improved crop maintenance, harvesting and shipping techniques. Introduction of improved pruning and maintenance will produce immediate results in terms of tree productivity, while creating associations with valuable services to offer. This will in turn create credibility for the associations to speak on behalf of producers in combating the ill effects of export monopolies.

We recognize that this is not a normal “commercial law” project, but we are pragmatic. It is unlikely that the law and practices can be changed quickly, but the foundation for change can be built while also producing directly measurable economic benefits for the poorest segment of the Azeri population. 

Other. Other recommendations for change appear elsewhere in the report. Most recommendations entail long-term efforts to direct and support reforms. All of these efforts, however, should include work through private sector associations and local service providers to strengthen them, and work with government agencies to introduce them to private sector feedback.