Strategic Reorientation - Analysing Armenia's Pivot from Russia to the European Union
Introduction
Over the past four years, Armenia has exhibited a strategic shift in its security alliances, moving from a historically close relationship with Russia towards strengthening ties with the European Union and the United States. Meanwhile, Armenia aims to diversify its economic and trade partners by cooperating with more countries that were not its major partners. This realignment is catalysed by several geopolitical events and economic incentives, which necessitate a reevaluation of Armenia's foreign relations, economic strategies, and their impacts on the investment climate.
A Pivot to the West
Following the second Nagorno-Karabakh War between September and November 2020, Armenia has progressively reevaluated its geopolitical alliances and security needs, shifting its focus from traditional dependence on Russia towards seeking deeper ties with the West. Historically, Armenia has heavily depended on Russia for its state security, viewing it as a guarantor against regional threats, particularly from its neighbour Azerbaijan. Russia has one military base located in Gyumri, as well as troops present in a number of Armenian regions.
However, the dynamics started to shift dramatically during the second Nagorno-Karabakh conflict, after Russia failed to effectively deter Azerbaijani advances and uphold its security promises to Armenia. This perceived betrayal significantly strained Armenia-Russia relations and prompted Armenia to adjust its security structure. The Azerbaijani offence in September 2023, which led to the dissolution of the Republic of Artsakh, a breakaway state within Azerbaijan, intensified Armenia’s determination to seek an alliance with the West. In 2023, Armenian Prime Minister Nikol Pashinyan publicly declared that Armenia could no longer depend solely on Moscow for its security guarantees and stressed the need to diversify its geopolitical allies, which he reiterated in February and April 2024. In June 2024, Armenia confirmed its withdrawal from the Moscow-led Collective Security Treaty Organization (CSTO) stating that the bloc had failed to ensure Armenia’s security over the past three years. Since 2023, the country also has been providing humanitarian aid, including medicine, to Ukraine. It also joined the International Criminal Court, which had previously issued an arrest warrant for Vladimir Putin, as State Party in February 2024. These actions all symbolise Armenia’s strategic shift to detach itself from the influence of the Kremlin, aimed at reducing the country’s vulnerability to regional power plays, challenging Russia’s dominant influence in the Caucasus, and enhancing its national security through broader alliances.
Economic Implications
Armenia’s departure from Russia’s orbit is predominantly a political move but has significant impacts on its economy, both externally and internally. Although the longer-term economic consequences of the pivot to the West have not fully manifested, some changes within the Armenian economy can be observed already.
Diversifying its security allies, although not necessarily impacting foreign trade policies, often means diversifying trading partners and economic collaborators. In 2020, Armenia’s Foreign Direct Investments (FDI) reached its lowest point of USD 0.06 billion, dually impacted by COVID-19 and the Nagorno-Karabakh war. It has been gradually recovering since 2020, reaching USD 1 billion in 2022 and USD 1.4 billion in 2023. While foreign capital has started regaining its trust in the Armenian economy, it is crucial to note that the United Arab Emirates replaced Russia as Armenia’s largest source of FDI inflow in 2023. In the first eight months of 2023, the UAE contributed USD 272 million to Armenia’s FDI, while USD 250 million of investment came from Russia. In 2022, Russia dominated Armenia's FDI inflow, accounting for 70% of it. However, Russia's dominance has since gradually waned as a result of Armenia's diversification of its economic partnersArmenia has since diversified its economic partners, reducing Russia's dominance in its FDI inflow. Moreover, Armenia has been conducting talks with several countries, including Iran, Egypt, the UAE, and Indonesia, regarding the establishment of preferential trade regimes. Unlike its security strategy, which focuses on seeking alliances with the European Union (EU), Armenia is diversifying its economic partners to include countries geographically closer, primarily Middle Eastern countries such as Cyprus, the UAE, and Iran. Their neighbouring location facilitates import and export trade, providing Armenia with more trade partner options beyond Russia. This diversification of trading partners demonstrates Armenia's ambition to achieve economic independence, although the impacts are currently subtle.
Despite the UAE becoming the largest source of Armenia’s FDI, Moscow remained Yerevan’s top export destination in 2023, with 40% of its exports going to Russia. According to data from the National Statistical Service of Armenia, trade between both countries nearly doubled in 2022, reaching USD 5.3 billion. This trend continued to rapidly develop in 2023 and into the early months of 2024. The increase in Armenia's exports to Russia is primarily due to the re-export of products from third countries. This has led to some suspicion that Armenia serves as a conduit for Russia to evade Western sanctions, for its import of various products such as electronics, vehicles, mechanical devices, and technical equipment shows a significant increase of 63% from 2021 to 2022 since the start of the war in Ukraine. Although Armenia has been detaching itself from Russia politically, economic ties will not loosen in the short term, given the close relationships between individuals and private corporations in Armenia and Russia. However, this might change in the future if Armenia continues to align closer to the West. For instance, in March 2024, Armenia announced it would stop processing transactions with Russia’s Mir payment cards, one of the indications that the country is lessening its economic ties with Russia, as it has already done politically.
On the other hand, Armenia has been increasingly receiving material assistance, including funds and weapons, from the EU. Such assistance carries less economic but political significance. In 2023, French President Emmanuel Macron, the President of the European Council, Charles Michel, and German Chancellor Olaf Scholz expressed their support to the “strengthening of EU-Armenia relations based on the needs of the Republic of Armenia.” The EU has already provided USD 11 million in immediate humanitarian support and has signed to provide another EUR 15 million to help support the Armenian government. In February 2024, European Commission President Ursula von der Leyen announced a USD 290 million financial grant to boost "resilience and growth" in Armenia throughout the next four years. US Secretary of State Antony Blinken also announced that the United States will provide Armenia with USD 65 million to support “a strong, independent nation at peace with its neighbours.”
These funds aim to mitigate the instability brought by regional conflicts and the inflow of refugees from Nagorno-Karabakh and enhance economic stability in Armenia. However, receiving EU funds also means Armenia will take a leading position representing Western interests in the Caucasus in the near future, alongside Georgia, which is also seeking a smooth transition from Russia's sphere of influence to alignment with the West, despite recently passing a controversial Russian-inspired “foreign agent” law. The responses from Russia and Azerbaijan to Armenia’s Western pivot could potentially overshadow the support provided by the EU in the future. As Armenia is heavily dependent on Russian grain and petroleum, the Kremlin could potentially use access to these resources to coerce the Armenian government in its decision-making process.
Investment Climate - Opportunities or Risks?
The current situation in Armenia is delicate, both politically and economically. Therefore it is crucial to evaluate the business environment for foreign investors.
The Armenian government’s pivot opens up new economic corridors for the country with the EU, diversifying its economy and reducing its over-dependence on Russian markets. This new relationship could increase direct investment from North American and Western European entities attracted by Armenia's commitment to democratic values and economic reform, allowing for the development of sectors beyond agriculture and mining. However, the transition involves shifting trade dependencies which may temporarily destabilise existing economic structures that are inseparable from economic activity with Russia. Since Armenia imports most of its gas from Russia, it has switched from dollars to Russian rubles for gas payments in 2022. The ruble's volatility and the shift to trading in rubles have also posed significant risks for Armenian exporters, affecting their profitability and operational stability. This economic uncertainty could potentially deter immediate foreign investment and complicate Armenia's economic landscape.
The country's commitment to fostering closer ties with the West presents a promising environment for investment in technology, renewable energy, and infrastructure projects supported by European funding. Once the ‘Silicon Valley’ of the Soviet Union, Armenia’s technology research legacy, high per capita educational level and a large and resourceful diaspora show its huge potential for a revival in technology sectors, such as IT and software services. In the first half of 2022, foreign investors announced a record 14 FDI projects in Armenia, 10 of which focused on IT and software services. Towards the end of 2022, US-based tech giant Nvidia also opened an office in Yerevan, hoping to expand its market.
Nevertheless, the ongoing dependence on Russian markets and current geopolitical tensions require a cautious approach. Economists monitoring Armenia’s compliance with sanctions against Russia have warned that despite the post-COVID-19 Armenian economy appearing to be blooming, its growth is inseparable from the huge demand within the Russian market. Such economic growth fails to create a stable business environment, since it is highly dependent on external and changeable factors, rather than internal economic development. Investors should prioritise sectors that will benefit from EU integration and those that leverage Armenia's unique position as a bridge between European and Eurasian markets, such as IT and renewable energy, rather than sectors that are heavily dependent on exports to Russia, including agriculture and fossil fuels.
Conclusions
Armenia's pivot from Russia towards the West represents a drastic shift in its international and economic relations. While promising new economic opportunities with the EU, it also brings challenges that need to be tackled strategically. The balancing act between reducing reliance on Russia and engaging more with the West will define Armenia's economic landscape in the coming years. For policymakers and investors, the opportunities and potential risks associated with geopolitical change are key to decision-making. Rapid GDP growth and rising investments underline Armenia's economic potential, but this is facilitated by dependence on larger external economies, which poses risks to domestic economic stability. Regarding sectors, those related to technology and sustainable development show great potential for growth in Armenia with its political pivot to the West. In contrast, investments in traditional sectors require greater caution given the uncertain relationship with Russia.