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Asian Development Outlook 2004 : II. Economic Trends and Prospects in Developing Asia : South Asia
Afghanistan The Islamic Transitional Government of Afghanistan is working closely with development partners to rebuild the country's essential institutional and physical infrastructure. Good weather and sound economic policies, as well as partner aid, have generated a significant rebound in GDP. Economic prospects are promising, but whether rapid development will continue depends largely on the commitment of the international community to Afghanistan’s investment needs and security. Economic Assessment An official but rough estimate by the Central Statistics Office puts the FY2002 GDP at $4.1 billion; per capita GDP, using a population estimate of 21.8 million, is about $186. (FY2002 ran from 21 March 2002 until 20 March 2003.) Agriculture (crop production, horticulture, and livestock) accounts for about 52% of GDP and employs an estimated 80% of the economically active population. Industry and services each make up about 24% of GDP. GDP growth during FY2002 is estimated at 28.6%, a significant but understandable rebound from a deteriorated economic base. By sector, it is estimated that agriculture grew by 27.7%, industry by 21.1%, and services by 39.5%. IMF has projected that with continued strong growth in agriculture, construction, and services, GDP is likely to have grown by about 20% in FY2003. In agriculture, production recovered after 3 years of drought (1999-2001). Wheat production (irrigated and rain-fed) rose by 83% in 2002 and by another 62% in 2003, to 4.4 million tons, due to improvements in both area under cultivation and yield. Available evidence suggests that considerable potential exists for expanding irrigated areas; improving irrigation efficiency; increasing yields of both irrigated and rain-fed crops; shifting emphasis to low-volume, high-value crops for domestic consumption and exports; revitalizing production of industrial crops; and improving productivity of livestock and promoting dairy activities. However, continued progress in the agriculture sector is threatened by the recurrence of drought, further degradation of irrigation systems and natural resources, and a resumption of civil conflict. Traditionally, livestock activities have been an integral part of most farm operations in Afghanistan. Since the early 1980s, the size of livestock herds has gone through cycles of decimation, reconstitution, and increase. Livestock enterprises are beset with serious problems, including diseases and decreased productivity due to overgrazing and reduced feed. The 3-year drought is estimated to have markedly reduced herd numbers, resulting in a decrease in fresh milk and indigenous beef production. Nomadic and semisedentary sheepherders are operating with high rates of animal mortality, and the reduction in veterinary services and vaccination programs has resulted in widespread animal diseases, particularly foot-and-mouth. The supply of livestock and livestock products has yet to recover to predrought levels and is reflected in higher animal prices and ongoing imports of animals. The continuation of good harvests and lower prices, coupled with improved employment opportunities in both urban and rural areas arising from increased economic activity, is expected to improve food access for most households. However, depressed cereal prices, especially if they continue to fall below the cost of production in marginal growing regions, would hurt farmers and push many further into poverty. In surplus-producing areas, the limited storage and financial capacity of private traders, together with poor roads, hinders storage of grain for long periods and the flow of produce from surplus to deficit areas. Afghanistan was deindustrialized during the periods of Soviet occupation and civil conflict. Enterprises (textiles, cement, matches, processed foods, and cottage-based craft works) ceased to operate or operated at only a fraction of capacity, and the political and economic environment was not conducive to attracting private investment, either domestic or foreign. Public enterprises were run as an extended arm of the Government, with no consideration of efficient management or profitability. A new beginning of industrialization to allow the sector to play a major role in future growth of the economy would have to contend with many challenges, including needed strengthening in policy, institutions, finance, entrepreneurial and skilled labor availability, regional cooperation, marketing, and technology. Nonetheless, in industry, a construction boom is under way in certain urban areas (especially Kabul), driven in large part by the international community’s spending and emergency assistance efforts. In services, numerous hotels and guesthouses have been renovated or opened since the beginning of 2002. Retail trade, auto repair shops, and restaurant businesses have burgeoned, and taxis, trucks, and donor vehicles now clog Kabul’s streets. The country is rich in minerals, but the potential is seriously underexploited, except for natural gas and precious stones (lapis lazuli, amethysts, and rubies). Other minerals include coal, iron ore, copper, zinc, uranium, mercury, gold, and salt. In addition, an estimated 250 billion cubic meters of natural gas could be tapped for power generation, fertilizer production, and petrochemicals. The present gas supply-reduced to about one quarter of the level reached in the early 1980s because of loss of production facilities and a high rate of hazardous leakages-is inadequate to meet demand. Moreover, major users are reluctant to pay for gas because billing and collection have been largely ignored for years. Surveys will be needed to demonstrate the full potential of the mineral resources; however, mineral-based industrial development appears to offer considerable room for growth. A significant feature of the economy is poppy production. The Taliban regime forcefully banned poppy cultivation in July 2000, but the practice has revived to become a major income source for rural farmers, and the country has once again become the world’s largest producer of illicit opium. Ready profitability and easy transportability of poppies make poor farmers with few viable alternatives dependent on drug crop production. The United Nations Office on Drugs and Crime estimates the value of opium exports in 2002 at about $2.5 billion, making it the country’s largest single export item. IMF estimates that including opium exports would bring FY2002 GDP to $6.5 billion; opium in this estimate would amount to about 40% of GDP. Expenditures stemming from drug-export income generate substantial demand, production, and income in other sectors of the economy. A reduction in poppy cultivation will therefore have a negative impact on economic growth unless matched by alternate livelihood schemes. The Islamic Transitional Government of Afghanistan has endeavored to foster development of the real sector through responsible fiscal and monetary management. In its first budget, the Government met 90% of the FY2002 expenditure target in domestic currency (afghani) terms. The revenue target of $83 million was exceeded by 59% (60% of total revenues were from customs). However, provincial authorities, which collect the bulk of customs duties, remitted to the national Government only a relatively small amount of revenues collected. The financing gap of $232 million for FY2002 was fully met by donors. The national development budget for FY2003 announced in March 2003 set ordinary (recurrent) budget expenditures at $550 million; $350 million was to be financed by external assistance with the balance from domestic revenue generation. The revenue target, almost double that in the previous year, is ambitious and its full realization depends on customs and tax reforms. Data for the first quarter suggest that revenue realization has improved over the previous year and that the bulk of provincial collections were remitted, though expenditures made a slow start. The Kabul-based CPI compiled by the Central Statistics Office showed relative stability early in 2002; however, September through November witnessed a surge in inflation. This was due to depreciation of the exchange rate caused by speculation associated with the new currency notes (introduction of which started in October), because exchange rate movements heavily influence changes in consumer prices. When the exchange rate strengthened in December and early 2003, the CPI declined month to month and from May was broadly stable, as was the exchange rate, for the remainder of 2003. In 2003, inflation was near zero. Despite many difficulties associated with the widespread use of foreign currencies in Afghanistan and the conversion of large amounts of foreign aid into the afghani, Da Afghanistan Bank (DAB), the central bank, has effectively calibrated monetary policy to maintain price stability and confidence in the new currency. The conversion of the currency was completed by the end of January 2003, and after an introductory bout of speculative depreciation, the exchange rate strengthened and has stabilized to around AF48/$1 since May 2003. The inflow of foreign aid funds and the Government’s no DAB deficit financing policy, along with periodic foreign exchange auctions to reduce excess liquidity, have fostered currency stability, which in turn has strengthened the investment climate. Monetary expansion has been programmed and implemented to keep pace with the increase in the transactions demand for money, which has been met by accumulation of foreign exchange reserves. These reserves stood at $568 million in late September 2003, well above the AF22.4 billion currency in circulation. According to IMF estimates, the formal balance of payments in FY2002 showed a small surplus after grants and external assistance. The trade deficit was about $1.3 billion, since official exports, at $100 million, were very low (though if trade in opium was included, both current and capital accounts would show a large surplus). Policy Developments The Government’s performance in pursuing difficult reforms, in particular the recent passage of the landmark central bank and banking laws, indicates a strong commitment to pushing ahead with the structural reform agenda. A payments decree has been drafted and work on a national payments system is progressing. Three new foreign banks have been licensed and several dormant national banks have been allowed to resume operations. DAB has established a Banking Supervision Department and has prepared plans for developing bank supervision functions. The Government has established a track record of overseeing difficult budgetary and financial sector reforms, including introducing the new currency; establishing the budget as a central instrument of policy making; centralizing revenue collection; and engaging international experts in financial management, procurement, and audit to ensure transparency and accountability of external assistance funds. The budget decree for FY2003 reiterated the authorities’ strong commitment to fiscal discipline and explicitly reaffirmed the policy of no DAB deficit financing. It also included ceilings for total staff numbers by ministry, but unlike the previous year, the authorities have the technical capacity to effectively monitor and enforce these ceilings. The budget policy specifically called for the passage of a customs reform package and ranked the centralization of revenues as a priority for the year. Only limited progress has been made so far in civil service reform, although the President has issued three decrees paving the way for implementation of the Public Administration Reform and Economic Management Program, and efforts are under way within the framework of these decrees. A Civil Service Reform Fund of $20 million was established to implement recommendations for reform that are designed to (i) enable civil servants to function more efficiently and effectively, and (ii) strengthen the capacity of the Independent Administrative Reforms and Civil Service Commission to carry out its functions, improve the performance of departments delivering essential services, and help institute sound policies for human resources management. The Ministry of Finance (MOF) capacity to manage a coherent budgetary process has been strengthened considerably over the past 2 years. A computerized system for expenditure recording, payment processing, and financial reporting has been developed. Moreover, advisors have been provided to all provincial MOF offices to strengthen financial reporting. The Government has undertaken to collect substantially higher domestic revenues in FY2003. Collection of the Government’s target of $200 million hinges on the strong and early implementation of customs reform measures. Significant measures already put in motion include (i) reviewing and simplifying customs procedures and rationalizing the tariff structure, (ii) introducing a computerized system for processing customs documents, (iii) moving key staff at Kabul Airport and Kabul Customs Authority and filling key posts with professional and experienced personnel, and (iv) computerizing public financial accounting procedures. The Cabinet approved a customs policy decree specifying the market exchange rate for customs valuation (to replace artificially low historical rates) and reduced the number of tariff bands from 25 to five, with rates in the range of 0-20% (from the previous range of 0-150%). A debt policy statement has been adopted by the Government and a Debt Management Unit has been reestablished in the Treasury Department. An initial inventory of debt has been completed and procedures to maintain loans from international financial institutions in a current status have been established, though other debts have not been serviced. Afghanistan has obtained cancellation of loans from some bilateral creditors (e.g., PRC, Denmark, and Germany). The bulk of external claims are from the former Soviet Union (amounting to almost $10 billion) and these are in dispute as they were mostly incurred during its intervention in Afghanistan. Discussions have been held with the Russian Federation; however, no conclusion has been reached. Outlook for 2004-2005 With the adoption of the Constitution by the Loya Jirga on 4 January 2004, the country is one step further along the road to political reunification, with its associated implications for security and economic development. This year will see presidential and parliamentary elections, thus establishing national institutions intended to further stabilize and develop the country. A key to stability is the disarmament and demobilization of the remaining warring groups-maintaining order will require considerable foreign assistance until the Afghan army and security forces themselves can enforce the rule of law. The economy’s robust GDP growth in FY2002 gives a positive base to scenarios for the future. IMF projects 20% growth in FY2003, driven by continued strong growth in agriculture and donor finance-induced growth in services and construction. According to ADB staff estimates, annual GDP growth rates of 15% through 2008 followed by 10% annual growth over the following 5 years are achievable. The long-term projections are based on assumed growth elasticities by sector and exogenously derived agricultural growth, along with an assumed sequencing of external resource flows in a macroeconomic framework. Available data suggest that, with development of intensive and intermittent irrigation-traditional, small, medium, large, and multipurpose-including rehabilitation and new construction of water conservation projects, the command area could be substantially increased from the present estimate of 1.1 million hectares to about 2.5 million hectares. These improvements in irrigation, as well as other practices, could also reduce the substantial yield gap in cereal production. Extrapolating the potential growth of cereal production over the next decade, agricultural value added could grow by 5-7.5% annually. Such growth rates would need to be supported by shifting emphasis to low-volume, high-value crops for domestic consumption and export; revitalizing production of industrial crops like cotton, sugar beet, and sugarcane; and improving productivity of livestock and promoting dairy activities. While GDP growth will be driven mainly by agricultural growth in the short and medium term, growth elasticities in industry and services are much higher than in agriculture, and the economy will develop away from the current high share of agriculture in total value added. All scenarios, of course, depend on the realization of the hopes for peace, security, and further stability raised by the adoption of the Constitution and on the success of the national elections planned for 2004.
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