Ameliorating Afghanistan’s Economic Weakness

Editor’s note: The following article is based on remarks given by the author at the Afghan-American Chamber of Commerce’s private-sector conference in Istanbul on March 4, 2024.

Nearly three years into Taliban rule of Afghanistan following their August 2021 takeover, the Afghan economy remains weak and faces serious risks of further decline. People’s incomes are down sharply, unemployment is in the neighborhood of 20 percent according to available data, Afghanistan’s GDP has fallen by more than a quarter, and Afghan businesses are operating at well below capacity. 

Well-meaning initiatives by the U.S. and other donors and agencies to at least modestly help stabilize the Afghan economy have not achieved their intended outcomes. This is not because these measures were poorly designed. Rather, it’s because of limited, slow, or incomplete implementation; unforeseen obstacles; and failure to exploit related opportunities. As a result, progress was not achieved or stalled out halfway toward success. 

Now is the time to “go the extra mile” to ensure existing initiatives achieve their objectives and to exploit missed opportunities to buttress the Afghan economy and private sector. Nothing will reverse the economic decline Afghanistan has faced since 2021, let alone stimulate robust economic growth. But taking forward existing policy initiatives and exploiting opportunities—including those opened up by the World Bank’s “Approach 3.0”—will ameliorate Afghanistan’s economic weakness and credibly demonstrate that the international side has done all it can in the absence of major changes in Taliban policies. 

Easing Taliban restrictions against female education and allowing women to work would trigger a positive international response and be economically beneficial. Relaxation of the Taliban’s opium poppy ban would reduce the associated $1 billion-plus loss of annual incomes for poorer rural households. But these two changes are unlikely to materialize soon given how linked the two policies are to the Taliban’s core ideology. So the U.S. and others will have to make their existing toolkit of policies work better, as well as maximizing the benefits from recent initiatives—Approach 3.0 in particular.

More generally, there needs to be a bias toward action, not inertia and hesitancy or inaction. Where existing initiatives have stopped or have not achieved their intended results, the U.S. and other donors and agencies should proactively and, as needed, creatively get around obstacles and make things happen. And it must be recognized that staying in the “humanitarian groove” and continuing with humanitarian “business as usual” will be inimical to improvements in the economy.

Stalled Initiatives, Unexploited Opportunities

Initiatives that did not make progress or have not reaped intended results, and opportunities to ameliorate the weakness of the Afghan economy that are being missed, include the following:

Clarification of sanctions, culminating with the U.S. Treasury Department’s General License 20 (GL20) in February 2022, was a major achievement intended to facilitate normal aid-related and commercial financial transactions. But GL20 has not resulted in restoration of smooth international financial flows vis-à-vis Afghanistan, let alone a revival of private investment. These were important objectives GL20 was intended to achieve.

Relatedly, there has been a lot of talk about the need for third-party Anti-Money Laundering/Countering the Financing of Terrorism (AML/CFT) monitoring post-August 2021, but no action so far. This lacuna gives foreign banks an additional excuse not to engage in financial transactions involving Afghanistan, even though they are allowed to do so under GL20.

The World Bank’s Approach 3.0 creates an opportunity to move at least somewhat away from the dominance of humanitarian aid. Even though it won’t reverse Afghanistan’s economic weakness, resumption of some International Development Association assistance and new financing for the Afghanistan Resilience Trust Fund will provide “basic needs” development aid and will smooth the decline in humanitarian aid, mitigating the macroeconomic damage.

Opportunities to improve the effectiveness of humanitarian aid itself and enhance its benefits for the Afghan economy have been missed. For instance, local procurement from Afghan companies, procuring more aid goods made in Afghanistan rather than importing them, and not letting aid agencies import goods on own-account, have not been vigorously pursued.

More generally, Afghanistan’s large imports ($6-8 billion per year) mean that there are unexploited opportunities for import substitution, beyond aid goods. Shifting from importing to domestic production of goods that Afghanistan already makes or can produce relatively easily, will stimulate the economy and foster private sector development.

Afghanistan’s loss of access to international commercial financial transactions after August 2021 was accompanied by the stoppage of direct aid financing (credit and equity investments) for Afghan private businesses. GL20 was intended to mitigate the former problem (albeit with little success so far), but the latter restriction has only recently been relaxed, with Approach 3.0 allowing the International Finance Corporation (the World Bank’s private-sector arm) to resume credit financing to at least some Afghan companies. This is an opportunity that needs to be exploited.

The United Nations (UN) cash shipments—averaging around $40 million per week for well over two years by now—stand out like a sore thumb. Introduced as a temporary expedient after August 2021, the cash shipments were never intended to become the permanent way to transfer aid funds to Afghanistan. They are costly, with fees and overheads incurred at each stage of the transfer process internationally and in Afghanistan. They are risky in that a security incident would wreak havoc with humanitarian aid delivery. And they are problematic in an optics sense, since they support macroeconomic stability and thereby the Taliban regime, at least indirectly. Moreover, moving away from the UN cash shipments will be an opportunity to further develop and expand alternative payment methods and strengthen Afghan banks and their international linkages. 

The separation and protection of half of Afghanistan’s frozen central bank assets (worth more than $7 billion) held in the United States, and their transfer to the Afghan Fund in Switzerland, was an important achievement. It resolved at least in part a serious domestic U.S. legal problem (a massive court judgment against the Taliban movement on behalf of some 9/11 victims’ families) and created positive potential for deploying some of these funds for the benefit of the Afghan people as called for in the fund’s charter. However, more than a year and a half has passed since the transfer of the $3.5 billion to Switzerland, and none of the funds have been utilized so far. 

Another unexploited opportunity in the non-aid sphere is the overflight fees that are due from commercial flights passing through Afghan airspace, which have not been collected since August 2021. This loss for Afghanistan of potentially tens of millions of dollars per year needs to be corrected.

Practical Actions to Ameliorate Economic Weaknesses

Go the extra mile with clarification of sanctions. The objective of clarifying U.S. sanctions on Afghanistan, embodied in GL20, was to enable financial transactions associated with aid and commercial activities to proceed without fear of running afoul of sanctions. Sanctions do not apply to Afghanistan as a country, nor to the Afghan government, nor to any Afghan government agency, nor to public and private banks (including the central bank), not to speak of private businesses or individuals, as long as payments don’t go to sanctioned individuals and groups. Even payments of mandated taxes and fees to Afghan government agencies headed by sanctioned Taliban individuals are allowed.

Despite this, the attitude of most U.S. and other western banks toward financial transactions involving Afghanistan has not changed. Fear of sanctions, not existing sanctions, may be part of the problem, in addition to concerns about AML/CFT risks (more on this below); foreign banks’ (and their shareholders’ and clients’) distaste for dealing with a regime that is so unpopular internationally due to its restrictions against women and girls; and the much lower amounts and limited profitability of transactions with Afghanistan compared to the massive flows of aid and foreign military spending prior to August 2021.

While not all of these concerns can be addressed by the U.S. government, there is more that can be done in creatively “going the extra mile” to ensure that sanctions aren’t incorrectly used as an excuse for non-engagement by foreign banks and other entities. The U.S. Treasury Department is not without instruments to push even harder to make the underlying objective of GL20—normal international aid and commercial financial transactions with Afghanistan—a reality. 

Two instruments that have not been extensively used so far are “comfort letters” and special licenses for designated activities. When inquiries go to the Treasury’s Office of Foreign Assets Control (OFAC), it appears that the normal response is a letter indicating the activity or transaction queried “may” fall under GL20 and encouraging the inquirer to check that and the FAQs. A more proactive approach would be to make these letters stronger where the proposed transactions or activities clearly do fit under GL20. And special licenses could be provided more frequently—for example, for larger projects and business arrangements. A third option would be for the Treasury Department to dialog with the central banks of western and regional countries and ask them to communicate with their countries’ commercial banks the clear intent and provisions of GL20, that the bulk of financial transactions with Afghanistan can and should proceed normally and sanctions don’t apply to them. 

Implementing third-party AML/CFT monitoring. As noted, international payments are hindered by Western banks’ reluctance to engage in financial transactions with Afghan banks. An important reason for this reluctance is the collapse of the Afghan central bank’s AML/CFT monitoring (however imperfect that may have been) after August 2021. 

Given prohibitions against foreign technical assistance to Afghan government institutions including the Afghan central bank, Da Afghanistan Bank (DAB), and moreover that DAB monitoring of sanctioned Taliban leaders in general and those of DAB in particular would not be credible, a third-party monitoring arrangement is urgently needed as an interim solution. While this need has long been recognized, nothing has been done. 

Third-party AML/CFT monitoring could be implemented by a qualified foreign private-sector entity, with funding and oversight by an international institution. The key priority is for someone to take on the task of commissioning and overseeing the third-party AML/CFT monitoring work. It could be the World Bank, an entity or instrument set up by the Afghan Fund in Switzerland, or another suitable arrangement, but this should be decided soon. 

Slowing the decline in humanitarian aid, and shifting to basic development assistance. After the abrupt cut-off of some $3.5-4 billion of annual civilian aid following the Taliban takeover, it was replaced by massive humanitarian aid. However, humanitarian aid funding has been falling sharply, from $3.8 billion in 2022 to $1.9 billion in 2023, with further declines expected in 2024. Aside from increasingly falling short of meeting Afghanistan’s humanitarian needs, such declines further exacerbate the weakness of the economy. Thus, a slower and more predictable declining trend is urgently needed.

Moreover, the World Bank’s Approach 3.0 creates an opportunity to move at least somewhat away from the dominance of humanitarian aid—a Band-Aid that won’t solve Afghanistan’s economic problems—and smooth the macroeconomic impact of its decline. Resumption of some International Development Association assistance and new financing for the Afghanistan Resilience Trust Fund will provide some “basic needs” development aid to smooth the decline in humanitarian aid. Such aid should not duplicate or mimic humanitarian programs but, rather, support and foster sustained economic development.

Making aid more effective by increasing procurement from the Afghan private sector. Current large humanitarian aid inflows risk having downside impacts on the Afghan economy and private sector by discouraging domestic production. Procurement practices excluding Afghan businesses also aggravate these problems. These adverse impacts must be mitigated. For example, goods like bottled drinking water absolutely should not be imported, since at least three Afghan companies produce bottled water to international standards. Even when imported goods are required (like many medicines and medical supplies and equipment), they can be procured through well-established Afghan private-sector distributors, rather than being imported directly by the UN or other agencies themselves.

A rapid independent review of all imports of goods by or on behalf of the UN and other assistance agencies should be conducted. The review should identify opportunities to immediately stop imports of certain goods and shift to procurement within Afghanistan, as well as other opportunities for shifting to domestic procurement that can and should be realized over time.

In addition, imported goods should be procured through well-established, vetted Afghan importers and distributors, not ad-hoc procurement by local nongovernmental organizations (NGOs) that lack the capacity of private companies to do it well. Though this will not necessarily reduce imports, it will enhance the positive impact of aid for the private sector and will be more effective than agencies and NGOs importing goods on their own account.

Exploiting opportunities for import substitution. Afghanistan’s large imports have far exceeded exports during the past two decades—by a margin sometimes as large as 10 to 1 and even now in the range of 4 or 5 to 1. This means there has been, and continues to be, great scope for domestic production to replace imports, which will stimulate private-sector-based growth, save scarce foreign exchange, and help stabilize the macro-economy. While export development was a focus of international support for Afghanistan pre-August 2021—albeit achieving only mixed success, there are opportunities readily at hand for import substitution, with existing markets in Afghanistan and, in many cases, easier logistics.

Interestingly, the Taliban regime appears to recognize the importance of import substitution. For example, the Taliban have contracted three sizable cement projects, two with Afghan companies and one with a Qatari investor, with a reported total investment of $450 million. This presages significant progress toward self-sufficiency in a sector in which it makes good sense given Afghanistan’s natural resources and the high cost of transporting cement long distances from neighboring countries. The contrast with the previous government, which could not get major cement investments going due to corruption among other problems, is striking. This is one of many examples of the potential for import substitution.

In addition to procurement of domestically produced goods from Afghan companies for aid programs, direct financial support to Afghan businesses (allowed under World Bank Approach 3.0) can be used to promote import substitution as well as growth of exports.  

Gradually reduce UN humanitarian cash shipments and phase them out over time. Even though they started out as an explicitly temporary expedient well over two years ago, the UN cash shipments have built up considerable inertia and even some vested interests. This mechanism is costly, risky, and problematic. The cash shipments incur substantial costs at every stage of the process: conversion of bank funds into cash dollars in Europe, cost of air shipment, security costs, administrative overheads and bank charges, and so on. Moreover, a security incident or other disruption would risk interrupting the cash shipments at least for a while, wreaking havoc with humanitarian aid delivery. And there is serious reputational risk for foreign donors and the UN, since no one can pretend that Afghanistan’s macro-economy, and therefore the Taliban regime and central bank (DAB), don’t indirectly benefit from the cash shipments, even with the safeguards against outright diversion. For example, the hundreds of millions of dollars sold in the DAB’s regular foreign currency auctions to stabilize the Afghani exchange rate must have come from the UN cash shipments. 

So there is a strong case for change. However, the dependence on the cash shipments should be reduced gradually over time and replaced by other channels as opposed to stopping them suddenly, which would have disastrous consequences for economic stability. The only actors that can exert effective pressure for change are the donors who pay for humanitarian aid and the associated extra costs of the cash transfers. In addition to optics, donors have a strong interest in keeping the cost of aid delivery as low as possible, so that each dollar of scarce and potentially dwindling aid goes farther.

So donors and international agencies providing aid through UN agencies (including the World Bank, which is set to resume International Development Association funding for Afghanistan under Approach 3.0) should require that an initially small but over time progressively and predictably increasing proportion of their aid not go through the UN cash shipments, and monitor that these benchmarks are met. Private-sector mechanisms such as swaps, workarounds, and bank transfers via regional state-owned and other banks are already working and could be scaled up over time if more money starts flowing through these channels. Donor pressure to shift more and more aid away from the cash shipments can make this happen.  

Financial support for Afghan private businesses. The World Bank’s recently approved Approach 3.0 allows the Bank and the International Finance Corporation (its private-sector arm) to resume providing modest financing to Afghan private companies. Other aid organizations also have begun to consider such investments, reflecting the critical need for private-sector-led economic revival. Moreover, these initiatives should be attractive to international agencies and donors since they clearly are allowed under the U.S. and international sanctions regime.

Modest investments and the “seal of approval” provided by international institutions may make a difference and leverage larger investments, including from the large amounts of expatriated Afghan capital in the Middle East and elsewhere.

So, this opening for modest international investments in the Afghan private sector should be exploited, which will help increase economic activity directly and also encourage more investment by others. While providing advisory and business support services has a place as part of international support, the large amounts of such aid and technical assistance over the previous 20 years achieved mixed results and often turned out to be unsustainable. Private-sector support funds should increasingly go into investments in well-vetted Afghan small and medium-sized businesses, as well as start-ups. 

Making effective use of the Switzerland-based Afghan Fund. The Afghan Fund was a necessary initiative to receive, preserve, and protect half of the more than $7 billion of Afghan central bank assets that had been stuck in the U.S. and subject to a court judgment in favor of 9/11 plaintiffs and their lawyers. However, the fourth objective of the fund—to deploy some of these funds for the benefit of the Afghan people—has not been implemented at all in the more than a year and a half since the fund was created. 

There would be a trade-off between the different goals of the fund if some of the $3.5 billion principal were to be deployed to benefit the Afghan people, but spending for this purpose from the fund’s interest and investment earnings, amounting to more than $100 million per year—namely, not touching the principal—would not compromise the other objectives. So in the short run, the fund should actively work to further its fourth objective, with a resource envelope consisting of its accumulated and continually accruing interest and investment income, while not ruling out deploying some of the principal for this purpose in the future. 

Rather than considering individual ideas for how to disburse some funds on a case-by-case basis, the fund needs to develop a strategy outlining what the spending is intended to achieve and what specific activities will be funded and what mechanisms used. A reasonable posture for such a strategy would be to focus on measures to enhance macroeconomic stability (mimicking some of the roles of a central bank—though the fund is not a central bank or central bank substitute) and supporting the Afghan private sector including banks. The strategy would provide a framework within which the fund’s board would make decisions on specific disbursements. 

The strategy and actual spending should be monitored and evaluated, both for implementation of specific disbursements and, equally important, for achieving the goal of expending the available resource envelope from the interest and investment earnings of the fund. In the dire economic situation faced by Afghanistan at present, the default plan should be to expend most or all of the available resources from the fund’s interest and investment income.

Collecting overflight fees and safeguarding civil aviation. Another significant non-aid resource is the overflight fees Afghanistan earns as a result of the country’s central location. These fees—incurred every time a plane goes through Afghan airspace—rightfully belong to the country of Afghanistan.

Since the Taliban’s August 2021 takeover, overflight fees have not been collected from air carriers by the International Air Transport Association or any other international agency. This contrasts with the 1990s, when the previous, also unrecognized, Taliban regime was in power and overflight fees were collected and deposited in a fund not accessible to the Taliban authorities. Then, after the new, internationally recognized government came into power in Afghanistan after 2001, the accumulated overflight fees were transferred to the government and thereafter accrued to the government as they continued to be incurred. 

Not collecting these fees is wrong and harmful. As time goes by, it will become increasingly difficult to collect past overflight fees, and air carriers may dispute the amounts or resist paying. So the urgent priority is to collect the overflight fees incurred during the past nearly three years, and henceforth to collect such fees on a regular basis as they are incurred. Both the past fees and ongoing collections can be put in a fund to be preserved for Afghanistan in the future. Once Afghanistan no longer is at risk of losing accumulated and future overflight fees, there may also be positive potential: Part of the overflight fees could be used for urgently needed civil aviation safety improvements and airport repairs etc.

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The measures recommended here are specific, monitorable, and in many cases quantitatively measurable. Unlike broader international diplomatic and political considerations, macroeconomic trends, and Taliban practices, these measures can be implemented by the U.S. government, other donors, and agencies within the scope of their current objectives, policies, and programs. Although there are no “silver bullets” that will solve Afghanistan’s deep-seated economic problems, these measures will make a difference and will ameliorate the weakness of the country’s economy and help promote economic stability. Therefore, an action program for implementation of these measures, with time-bound and monitorable benchmarks, should be put together. 

– William Byrd is a senior expert at the U.S. Institute of Peace, where he focuses on Afghanistan; the views expressed are his own. A development economist by background, he was previously with the World Bank and has worked on and lived in China, India, Pakistan, and Afghanistan. Published courtesy of Lawfare.