|Fixing the "Afghani"|
By Dr. Nour Ali
Afghan economy has been devastated by decades of political instability followed by a long period of unprecedented drought.
Keeping in view however that since early 2002 armed confrontation are confined in some part of the country only, and bearing in mind that ever since huge amount of foreign financial assistances has been poured in to it, the expectation was for some resumption of at least some economic productive activities encompassing Afghan traditional agriculture, craft industries, cement factories, textile mills, edible oil extraction plants, cotton ginning and pressing firms etc., employing all together the major part of Afghanistan’s active population .
But in fact and contrary to the expectation almost all these industries are either suffering or dormant or vanishing or already vanished. Consequently unemployment is massive and poverty apprehensive and distressing all over the country.
It is strongly believed that the main and determinant economic factor behind this unfortunately gloomy and deplorable state of affairs in Afghanistan has been the foreign exchange system and policy that has been in practice in the country since the accession of the Afghan Temporary Government.
Present Foreign Exchange Arrangement and Policy in Afghanistan
Is seems clearly that the International Community has chosen for Afghanistan an unified and fixed exchange rate system based on a peg regime . The Afghan currency, the Afghani, is linked closely to US dollar according to the rate of one US$ equal to 50 Afs. The rates between Afghani and the currencies of the neighboring countries are determined through the rates between such currencies and US dollar.
This policy of foreign exchange rate may presumably ensure the relative stability of prices in the Afghan domestic market over long periods. The free circulation of US dollar at a fixed rate against Afghani is a way of fixing the exchange rate of the Afghan Currency irrevocably. The exchange rate not varying over time there is no possibility of destabilizing the economy by speculators speculating on future changes. The system may considered as appropriate for a certain period of time under the prevailing economic and political conditions of Afghanistan .
However the level of the peg practiced in so far indicates that it is rather in appropriate. Given the exchange rates that prevailed in Afghanistan at the past when Afghan current account was thought to be satisfactory and the roughly estimated ratios of home goods prices to traded good prices, the peg level of 50 Afs to US dollar – resulting in about 0.80 Afs to Pakistani Rupiah and 1.20 Afs to Indian Rupiah – stands as being extremely overvalued.
Pernicious Effects of the Overvalued Afghani
The enduring overvalued Afghani has led to the loss of Afghanistan ’s external competitiveness which in turn resulted in drastic increase of Afghanistan ’s imports and dramatic decrease of the country’s export. Imports of all kinds including labor are now artificially chipper for importers and exports are no longer profitable for exporters.
Home wages in Afghani increasing because of the construction boom in the Afghan cities, the already overvalued exchange rate being held constant so the wages in dollar increased further substantially. The profit margins of export industries declined and their output cut down. Producers of manufactures including handicraft industries find that the prices that cover their costs leave them uncompetitive in world market. They are selling less and their export revenues are dropping. With regard to essential staple food such as rice and wheat flower for which Afghanistan had been near self-sufficiency it is now to a large extend dependent on foreign supplies. So far fruits and vegetables are concerned, from a net exporter that the country used to be is now turned into a net importer.
Under the current foreign exchange rates there is no hope for Afghanistan to restore her corporate industries including cement, sugar, edible oil, shoe making, textile mills, tanning factories because they cannot stand against the competing foreign firms that are selling their product in the Afghan domestic market.
Afghanistan cannot hope for attracting any sizable foreign and domestic private investments including those emanating from large multinational companies. The involved investments cannot prove to be commercially feasible. Because of overvalued Afghan currency Afghanistan at present is not a country of capital investment. Conversely it is a country of capital flight.
Afghanistan cannot develop its mineral resources because the technically and financially qualified multinational companies will not be motivated.
Afghanistan cannot expect to be in a position to develop any meaningful tourism industries. The suppliers of tourist goods and services therein including hotels, restaurants, night clubs and souvenir shops will not be able to compete with their competitors in neighboring countries which are endowed with as much tourist resources as Afghanistan itself.
As long as the present foreign exchange rate overvaluation is persisting in Afghanistan there will be no significant economic reconstruction in the country. Any amount of financial capital and technical assistance that could be accorded to it will go mostly wasted.
Afghan economy is paralyzed and strangulated by the on going overvalued Afghan currency.
Soon or later this exchange rate overvaluation will come to an end. Foreign financing of the continual deficit in the Afghan current account will be dried up. It is therefore imperative to find out a proper remedy to cure the present paralysis of the Afghan economy as expeditiously as possible. Unless such a remedy is applied without further delay a massive balance of payment crisis with a big devaluation and exchange rate collapse well engulf Afghanistan once again entailing unprecedented instability, anarchy and human tragedy in the country.
Devaluation without Accelerated Inflation
It is understood that the international community has preferred to cure the Afghan current account imbalance – though it has been of long lasting or of permanent nature-exclusively by financing rather than by adjusting .By doing so it has maintained the enduring overvaluation of the Afghan currency with its disastrous consequences for Afghan economy .It is therefore high time to conceive an appropriate adjustment so as to relance the Afghan export economy as well as its import substitution industries ensuring a reasonable balanced current account in the balance of international payments of the country .
Based on the experience of some other developing countries the sought adjustment might conceivably be made by relying on expenditure reducing or on expenditure switching policies i.e. by cutting the public and private demand or by switching that demand from foreign produced goods to domestically produced goods. Similarly expenditure-switching may be ensured through devaluation of Afghani by increasing the prices of foreign exchanges or through commercial policies by using tariffs , import quotas and export subsidies .In both cases the aim will be the reduction of consumption leading to the reduction of imports and expansion of export.
However in fact given the present very low level of income of Afghan population , absence of capital market and lack of proper banking system , relying on expenditure reduction policies including tax increase , interest rate increase, restriction on credits created by banks and cut in government spending are hard to be implemented in Afghanistan .Besides , such a policies by reducing demand for domestic goods as well as for imported ones they will aggravate further unemployment while affecting advercely investments and thereby hindering Afghan economic reconstruction , development and growth prospects .
As far as expenditure-switching policies are concerned one must keep in mind that they have an inflationary impact. In order to be successful they must therefore be accompanied by some expenditure reducing policies which are as mentioned above ruled out at present Afghanistan . Yet if Afghan government decides to make use of expenditure-switching policies without adequate expenditure reducing ones the consequent inflation will lead to an annewed overvalued Afghan currency thus neutralizing the very expenditure –switching effects that constituted the aim of the policies.
The overvaluation of the Afghani having lasted to long and being expected to last longer the policies aimed at correcting are by force of circumstances controversial and even dilemmatic and puzzling. Commercial policies presently lacking the required administrative and managerial facilities it is therefore suggested that the best way for coming through this dilemma could be a proper combination of financing and devaluation based adjustment policy. The involved overvaluation having lasted to long, many productive economic sectors of Afghanistan are stifled. The response to the increase of export and import goods prices through the devaluation of Afghani will be rather slow. It takes time. During such a time the financing will be needed and aimed at (1) helping the newly devalued exchange rate to be stabilized preventing the issuing inflation to escalate or to spiraling up, (2) offsetting the by then unbearably reduced income of those Afghan social stratas that are depending on fixed emoluments including government employees and the likes .The financing will be called for a transitionary period, its ultimate aim will be adjustment.
Should the first operation of the devaluation lumped together with financing- the amount of which will be decided cautiously by trial and error – be reveling to be insufficient, the operation will be repeated ungrudgingly as many time as necessary until the nominal exchange rate of Afghani coincide approximately with Afghanistan’s real exchange rate ensuring a desirable balance in the country’s trade balance along the line of relative parity of purchasing power (PPP) with neighboring trade partner countries on the long run .
The combination of financing and adjustment suggested herein above implies at the same time that the present fixed exchange rate system of Afghanistan be replaced by a flexible one based on comparison of Afghanistan’s rate of inflation with those of her main trading partners.
The International Community may not endorse the above intimated financing combined with adjustment. In that case it would be kindly requested to put forth a better alternative. The Community is responsible for the present lamentable state of Afghan economy. It is expected to behave responsibly by providing Afghanistan with a suitable mix of financing and adjustment leading to sustainable economic development and growth in the country while helping to insure peace and stability in the Afghan society.
Dr. Nour Ali is a former Afghan Commerce Minister (1965-69). He can be reached at: email@example.com