THE EFFECTS OF OIL PRICES ON MACROECONOMIC VARIABLES: EVIDENCE FROM AZERBAIJAN

This study investigates the impact of oil prices on economic growth, export, inflation and exchange rate in Azerbaijan, employing Johansen cointegration and VECM methods to the data spanning from January, 2005 to January, 2019. The results from the Johansen cointegration method confirm the presence of a long-run relationship among the variables. Estimation results impulse-response and variance decomposition tests reveal that there is a positive and statistically significant impact of oil prices on economic growth, export and inflation for the Azerbaijani case. On the other hand, we find that oil prices have a negative impact on exchange rate. The results of this article will suggest to researchers and policy makers to comprehend the role of oil price shocks on economy in the case of Azerbaijan and other developing oil-rich countries.


INTRODUCTION
Oil represents one of the most important macroeconomic factors in the world economy and economic performance of countries is highly correlated with oil prices. Compared with other internationally traded commodities, oil can be considered the only production input that can affect both positively and negatively economic growth, and even that it might lead to an extreme change in the economy. Depending on the types of the economy, oil price changes affect economic stability of the countries negatively or positively. Some empirical studies conclude that the oil price has a negative effect on economic growth in the case of different countries (Hamilton, 1983;Guo and Klieses, 2005;Jiménez-Rodríguez and Sánchez, 2005;Malik, 2008;Bhusal, 2010;Berk and Aydogan, 20012;Farhani, 2012;Ahmad, 2013;Nazir and Qayyum, 2014;Eyden et al., 2019). On the other hand, several studies conducted by Cunado and Perez de Gracia (2004), Berument et al. (2010), Saibu (2013), Akinlo and Apanisile (2015), Hamilton and Abdullah (2015), Musa (2017) supported the positive relationship between crude oil prices and economic growth.
The empirical evidence from a growing body of academic literature and reports from government institutions clearly suggests that oil price increases dull macroeconomic growth by increasing inflation and unemployment and depressing the value of financial and other assets, at least in oil importing nations (Awerbuch and Sauter, 2003). In developing countries, oil prices not only negatively affect economic growth but further affect the consumption balances of households, the poor farmers in rural areas and the transporters in urban areas (Kiani, 2011). In terms of unemployment, it has positive effect in those countries because of high cost of production which also causes high cost of inputs and later increases unemployment rate (Ahmad, 2013). This Journal is licensed under a Creative Commons Attribution 4.0 International License Price increase of oil means transfer of wealth from importing to exporting countries according to their terms of trade. Knowing the degree of dependence on imported oil, one can estimate the magnitude of the direct effect of a given price increase in national income of the countries (IEA, 2006).
As one of the most resource-rich countries in Eurasia, Azerbaijan has faced serious, rapidly changing and contradictory development of its economy for the last 10 years. Starting in 2005, the country became the beneficiary of an oil boom that resulted in some USD 125 billion in oil revenues being transferred to state coffers.
Starting in 2014, the negative oil price shock (and declining oil revenue) also caused a recession in Azerbaijan (from 2% in 2014 to 1.10% in 2015 and −3.10% in 2016). That influx of cash was accompanied by two currency devaluations and a decade of economic problems outside of the oil sector (Mukhtarov et al., 2019a;Mukhtarov et al., 2019b). The commodity crash in 2014 saw prices for Azeri oil go from over USD 100/barrel in 2014 to just over USD 50/barrel in 2015. At that point, ordinary people started feeling in their own lives the volatility resulting from an economic dependence on resource revenues.
While considering abovementioned facts, it become obvious that oil price fluctuation have a great influence on macroeconomic variables of Azerbaijan. For this purpose, we investigate the impact of oil price on economic growth, exchange rate, inflation and export in Azerbaijan.
The main contribution of this study is examine the impact of oil price fluctuation on different macroeconomic variables such as economic growth, exchange rate, inflation and export using quarterly data which cover both the boom and dumped periods of oil prices in the case of Azerbaijan. In addition, to our best knowledge this is the first study that investigate the relationship between oil price and selected macroeconomic variables all together employing time series techniques. Finally, It is the first study using quarterly data which cover the period after devaluation for assessing the long-run effect of bank credits on non-oil GDP in Azerbaijan. Finally, this also can be considered the first study covers the period after devaluation that assess oil price changes effect on the economy of Azerbaijan.

LITERATURE REVIEW
In this section, the similar studies devoted to the impact of oil prices on macroeconomics variable in the case of different countries are reviewed. There are a large number of studies in economics literature investigating the impact of oil prices on economic variables. Therefore, we have reviewed some of the relevant articles and classified literature into three parts. Table 1, summarizes the similar studies investigating the impact of oil prices on macroeconomic variables in the case of different countries Berument et al. (2010) investigated the effect of oil prices on output growth especially in the MENA countries, which are exporting and importing oil. They found that increase in oil price cause a statistically significant and positive effect on the outputs of the oil exporters. Interestingly, oil price shocks do not lead to a statistically remarkable effect on the outputs growth of the oil importers. Elmi and Jahadi (2011) used Vector Auto Regression (VAR) model in some OPEC and OECD countries from 1970 to 2008 and the result appears that those countries` economy are affected by oil price shocks in different aspects. However, Omojolaibi and Egwaikhide (2013) analyzed the relationship between oil prices and the macroecnomic variables by using a panel vector autoregressive model and they revealed that all the oil price volatility has considerable effects on gross investment rather than fiscal deficit, real GDP and money supply. Eyden et al. (2019) found that oil price fluctuation has a negative and statistically significant impact on GDP growth in the case of OECD countries. Akinlo and Apanisile (2015) examined oil price shocks on economic growth for sub-Saharan African countries The research results showed that the oil price has a positive effect on economic growth in the countries which are oil exporters. Musa (2017) investigated the long term impacts of oil price growth rates on the economic growth. Similarly, the result shows that there is a positive effect of oil price on the GDP growth in the Kingdom of Saudi Arabia. Another empirical study was done by Burakov (2017) and found that there is a long-run relationship between oil prices, GDP growth and emigration. On the other hand, Trang et al. (2017) analyzed the impacts of oil prices on economic growth in the case of Vietnam. Tang et al. (2010) indicated that when oil price rises it has negative effects on output and investment in the case of China. He also found that oil price affects inflation and interest rate positively. Similarly, another empirical studies were done by Qianqian (2011) and Chen et al. (2015) to examine the relationship between oil price and inflation rate. They found that an oil price rises leads to increase in CPI for China. Abounoori et al. (2014) found that the oil price affects inflation positively and incompletely in both short-and-long run in the case of Iran. However, Katircioglu et al. (2015) found that that the oil price has statistically and negatively significant impacts on inflation for the OECD countries. Zhao et al. (2016) implemented dynamic stochastic general equilibrium method to investigate the effect of oil price on CPI. The result showed that oil supply shocks lead to long-term inflation in China's economy. Trang et al. (2017) investigated oil price shocks on general price level in Vietnam and suggests that rises in oil prices would cause higher inflation rate. Bala and Chin (2018) employed dynamic panels ARDL to measure the oil price shocks on inflation rate in Algeria, Angola, Libya and Nigeria. They concluded that increase of oil prices lead to higher inflation rate for those countries. Chen and Chen (2007) analyzed the long-term impact of oil price on exchange rate by using panel co-integration tests in G-7 countries. Their empirical study revealed that the real exchange rates volatility mainly were affected by the oil price shocks. In  (2015) Annual, 1986-2012 20 sub-Saharan African countries

OLS, FEM, GMM
Oil price fluctuation has a positive and significant effect on the economic growth. Blokhina et al. (2016) Monthly, 2000-2016 Russia OLS Oil price closely interrelated with the currency rate of dollar to ruble, at least in the long term.

GARCH-M, Toda and Yamamoto
Oil price shocks that associated with fluctuation in exchange rates is significant in those countries. Zhao et al. (2016) Annaul, 1990-2013 China DSGE Oil supply shocks causes a long-term inflation in China's economy. Trang et al. (2017) Quarterly, 2000-2015 Vietnam VAR Oil price rises leads to higher inflation rate. Mensah et al. (2017) Weekly, 2000-2007 and 2010-2016 Five (5) oil-exporting countries VAR Oil price, in the long run, has an equilibrium relationship with exchange rate, especially for national currencies of the key oil-rich countries. Musa (2017) Annual, 1995-2015 Saudi Arabia ARDL OS has a considerably high positive effect on the GDP growth rates. Burakov (2017) Annual, 1990-2015 Russia VECM Oil prices has a long-run relationship with economic growth and it has direct effect on economic growth in the short-run. Trang et al. (2017) Quarterly, 2000-2015 Vietnam VAR Oil price increases would lead to higher inflation. However, effect of oil price on the gross domestic product growth is unclear. Lacheheb and Sirag (2017) Annual, 1979 Algeria NARDL Oil price rises has a close relation with inflation. Nevertheless, relation between oil price decrease and inflation is undefined. Bala and Chin (2018) Annual, 1995-2014 Algeria, Angola, Libya, and Nigeria

ARDL dynamic panels
Oil price changes has a positive impact on inflation rate. Davari and Kamalian (2018) Quarterly, 2003-2015 Iran Non-linear ARDL Oil-price increase has no tight relationship with inflation, on the other hand, decrease in oil price has close relationship with inflation rate. Delgado et al. (2018) Monthly, 1992-2017 Mexico VAR Oil prices increase cause an increase in exchange rate.  (2010) examined the long-term positive impact of real oil price shocks on exchange rate in oil rich countries such as Canada, Mexico and Russia. Blokhina et al. (2016) investigated the relationship between oil price and exchange rate in Russia and found that changes in the oil price rate has a close interrelation with the value of the national currency of Russia.
In a pioneering work, Volkov and Yuhn (2016) concluded that oil price shocks lead to changes in exchange rate significantly in the five major oil-exporting countries.
Similarly, Mensah et al. (2017) revealed that there is a close relationship between oil price shocks and exchange rate in the long term. Delgado et al. (2018) used also the Vector Autoregressive Model to analyze link between oil price shocks and exchange rate in Mexico. The result provided that an increase in oil prices lead to an appreciation of the exchange rate.
In the case of Azerbaijan, prior research conducted by Mukhtarov et al. (2019c) examined the oil prices effect on inflation by employing the Vector Error Correction Model (VECM) to the data ranging from 1995 to 2017. Authors found that the oil prices have a positive and statistically significant impact on inflation in the long-run.
After reviewing the related studies devoted to the investigation the impacts of oil prices on economic variables, we can say that the oil prices shocks have a significant effect on economic variables for oil-rich economies. In the outcomes of the above-mentioned studies, there is a few study related the relationship between the oil prices and economic variables in the case of Azerbaijan. Therefore, the main purpose of this paper is to fill in this gap by employing impulse-response and variance decomposition tests to observe the relationship between oil prices shocks and macroeconomic variables.

Data
For empirical analysis, we uses quarterly data over the period 2001:Q1-2018:Q4 for the, economic growth (GDP), Brent crude oil price (OP), inflation (CPI), exchange rate (EXC) and export

Methodology
In this study, we analyze the impact of oil prices on economic growth, export, inflation and exchange rate employing impulseresponse and variance decomposition tests in the framework of the VECM method. In empirical part first, we will test the variables for unit root. The Augmented Dickey Fuller unit root test (Dickey and Fuller, 1981, ADF) will be employed for checking non-stationarity characteristics of variables. Since this test is widely used one, we do not describe it here. Interested readers can refer to Dickey and Fuller (1981).
Second, if the orders of integration of the variables are the same, then the cointegration tes(s) will be applied to see whether they are cointegrated. For testing the cointegration relationship the Johansen test (Johansen, 1988) is utilized.
Lastly, After confirming the existence of cointegration between the variables, we will apply the impulse-response and variance decomposition under the Vector Error Correction Model (VECM) assumption to investigate the relationship among the variables.
If between variables does exist one cointegration, the first-best solution would be using VECM model. The above mentioned methods are widely used techniques in similar studies, we do not describe them.

EMPIRICAL RESULTS AND DISCUSSION
First, the stationarity properties of the employed variables are tested using ADF unit root test and the results are presented in Table 2. As can be seen from Table 2, all the variables are stationary at first difference, thus we can test them for the cointegration.
So as to apply the Johansen procedure firstly, the optimal lag number should first be defined. In order to determine the optimal lag interval in the study, A Vector Auto Regressive (VAR) model was initially specified including the endogenous variables of GDP, Oil price, EXC, CPI and Ex with a randomly selected lag interval and determination test of lag interval was applied to the residuals. The details of this test were explained on Table 3. As a result of this test, it was decided that lag interval will be 2 in this study because four different criteria indicate this aspect.
Additionally, Lagrange Multiplier (LM) test was also performed to understand wheter there is autocorrelation problem in the error terms of VAR model. H 0 hypothesis of LM test indicates that there is not an autocorrelation problem. Since probability value of the fifth lag is more than 0.05, this null hypothesis cannot be rejected and it was identified that there is not an autocorrelation problem.
The details of this test were demonstrated in Table 4.
To ensure the stability of the VAR model, AR roots must be smaller than 1. As it can be seen from Graph 1, it was determined that all inverse roots are in the unit circle. Owing to this situation, it was identified that VAR model provides stability requirement.
Moreover, White Test was used to determine if there is heteroscedasticity problem in the model. In this test, the null hypothesis explains that there is homoscedasticity. The details of this test were explained in Table 5. As it can be seen, this null hypothesis cannot be rejected because probability value is more than 0.05. In other words, it was determined that there is not heteroscedasticity problem in this model.
The Johansen test (Johansen, 1998) approach to cointegration was employed for testing the cointegration relationship. The Johansen cointegration test results are presented in Panels A and B of Table 6.
Both the trace and the max-eigenvalue test statistics indicate one cointegration relationship among the variables. Therefore, we conclude that there is a cointegrating relationship among the variables. If between variables exist one cointegration relationship among the variables, the first-best solution would be using VECM model. Lastly, After confirming the existence of cointegration among the variables, we applied impulse-response and variance decomposition tests under VECM assumptions to investigate the relationship among the variables. Furthermore, we applied diagnostic tests to residuals of VECM. The results of this tests are given in Table 7.
As it can be seen from the Table 7 residuals of VECM have no issues with instability, serial correlation and heteroscedasticity problems. Thus, the residuals of the estimated specifications successfully pass the residuals diagnostics tests which is indication of the robustness of the estimation results.
After this test, impulse-response analysis was employed to understand the effects of the shocks on the variables. That is to say, by making this test, it will be possible to see which variables are affected by the shocks and the reactions given by these variables. Within this scope, it was aimed to identify the responses of the variables against any shock in oil price in order to evaluate the impact of the oil price on macroeconomic variables in Azerbaijan. The results of the impulse-response test are illustrated in Graph 2.
The responses of macro variables to oil price shocks for 10 quarter forecast horizon are presented in Graph 2. Evidently, the response of GDP to one-standard deviation shock to the price of oil is positive until reaching a stable level. It implies that increase in oil price result in increase in GDP over the time period. The CPI response positively to oil price increase until reaching a stable level. The impact of oil price shock on export is positive.
The plotted impulses reveal that export increase during the first quarter then decline during the second quarter but, since third quarter starts to increase until reaching a stable level. On the other hand, we find increase in oil prices lead to decrease exchange rate (the appreciation of the national currency) within quarter one and two. After that it increase during quarter three, but since   Finally, we also applied variance decomposition test to see impact of oil price on macroeconomic variables. In conclusion, oil prices has a positive effect on economic growth, CPI and export in Azerbaijan. This implies that increase in oil price resulted in increase in economic growth, inflation and export. It can be explained by the fact that Azerbaijan has had significant economic growth trend due to its massive crude oil and gas exports, which occupied on average over 92% of total exports according to the State Statistical Committee of the Republic of Azerbaijan (SSCA, 2018). On the other hand, oil prices has a negative impact on exchange rate. The rising oil prices increase oil revenue and foreign currency inflow, and as a result, the huge foreign currency inflow decrease exchange rate (increase the value of domestic currency). The results are in line with expectations for Azerbaijan, as an oil rich country.

CONCLUSION
The impact of oil price on macroeconomics variables is one of the hot topics for the case of oil-rich countries since its direct influence on the economic performance. One strand of the research devoted to the above-mentioned problem is the impact of oil price within a certain country on the macroeconomics variables. In this regard, this paper investigates the impact of oil prices on economic growth, exchange rate, inflation and export in Azerbaijan. For this purpose, VECM technique was used over the period of 2001:Q1-2018:Q4. After testing variables for unit root, the results showed their stationarity at first differenced form. The Johansen cointegration test was used to analyze the long-run relationships between the variables. The results indicated that there is a long-run co-movement among the variables. After confirming the existence of cointegration among the variables, we applied impulse-response and variance decomposition tests under VECM assumptions. The estimation results indicate that oil price increases seem to have a positive effect on economic growth, CPI and export while a negative effect on exchange rate in Azerbaijan.
Our findings give us an opportunity to argue all used macroeconomic variables are vulnerable to oil price shocks. In oil rich developing countries, policy makers should diversify their economies in order to hamper the shocks of oil price fluctuations and increase the share of non-oil sector in economy. Thus, economy will be resistant to unpredicted shocks and will sustain the stability in the long run. Therefore, this will strengthen economic growth, will increase confidence in the national currency, will diversify export goods, and will keep the inflation under control.
In fact, these consequences convince the common acceptance of Azerbaijan's dependence on external factors, we study the importance of various factors and determine concrete parameter estimates for key economic variables.