The Fragile State: Afghanistan's Economy In The Wake Of Political Upheaval

Political upheaval has had a devastating impact on Afghanistan's economy, causing a sharp contraction and widespread deprivation. The country lost access to the international banking system and offshore foreign exchange reserves, leading to a steep decline in aggregate demand and severe disruptions to public services. The economy has contracted significantly, with a 20.7% GDP contraction in 2021 and a further 6.2% contraction in 2022. The proportion of households unable to meet basic food needs more than doubled from 16% to 36% during this period.

The Taliban's restrictive policies on women's education and work have further exacerbated the economic crisis. The country is now facing renewed crisis as humanitarian aid dries up, with financial troubles looming ahead. The banking sector is dysfunctional due to constraints on international transfers and liquidity concerns. Overall, Afghanistan's economic outlook remains uncertain, with the threat of stagnation looming.

The impact on Afghanistan's banking system

Afghanistan's banking system has been severely affected by the political upheaval of 2021. The country lost access to the international banking system, with the central bank's assets frozen, leading to a liquidity crisis and a shortage of banknotes. This has had a ripple effect on the entire economy, with reduced investment confidence and a brain drain of skilled Afghans. The banking sector remains dysfunctional, with constraints on international transfers and concerns about liquidity and solvency.

The US and other governments' decision to cut off the Da Afghanistan Bank from the international banking system has had a devastating impact. Private Afghan banks cannot cover withdrawals, including those of humanitarian aid organisations, due to a lack of physical cash. Afghanistan's central bank has restricted transfers of banknotes to private banks and imposed limits on withdrawals, further exacerbating the liquidity crisis.

The loss of correspondent banking relationships has significantly impacted international payments, leaving private firms and aid organisations reliant on cash shipments and informal, unregulated, and opaque payment systems for domestic transactions. This has created enormous transactional costs, sometimes exceeding 10%, for humanitarian organisations trying to move funds into the country.

The banking sector's woes have been compounded by the Taliban's policies. The Taliban's revenue collection efforts have been successful, but this growth will falter if the economy remains stagnant. The Taliban's opium ban will also reduce rural household earnings by more than $1 billion per year, further impacting the economy.

The World Bank and other international organisations have provided some support, but the banking sector's recovery remains uncertain. Ensuring smooth payments and facilitating trade, aid, and remittances from Afghans abroad are crucial priorities. Arranging third-party monitoring for anti-money laundering and countering terrorism financing is also essential, given the loss of institutional capacity and potential conflicts of interest with the central bank being led by sanctioned Taliban individuals.

The future of Afghanistan's economy relies on a shift from dependence on international aid to a resilient, private sector-led economy. However, this transition cannot be achieved without a functioning banking system.

The effect on women's employment

The Taliban's takeover of Afghanistan in 2021 has had a devastating impact on women's employment in the country. Women have long faced obstacles to employment in Afghanistan, but the situation has deteriorated significantly under Taliban rule.

During the Afghan Republic, government institutions encouraged women to apply for vacant positions, and donor-funded programs helped build the female workforce. Women served in a variety of roles, including judges, prosecutors, defense attorneys, police and army personnel, doctors, nurses, teachers, and journalists. However, cultural norms, security concerns, and limited access to education often impeded female job applicants.

Since the Taliban took power, they have issued numerous decrees restricting the rights and movement of women, including their ability to work. The Taliban blocked women from working in government and replaced the Ministry of Women's Affairs with the Ministry of Propagation of Virtue and Prevention of Vice. While women are still employed in some sectors, such as education and healthcare, their numbers have decreased significantly, and they face lower wages and stricter dress codes. Overall, the professional workforce that was once a source of economic growth and family welfare has shrunk dramatically.

In addition to limiting women's employment opportunities, the Taliban's policies have made it difficult for women to even leave their homes, let alone work. Women are required to have a male chaperone when travelling and are banned from many public spaces. The Taliban have also disrupted the country's economy, leading to high unemployment and widespread poverty.

The impact of these restrictions on women's employment has been severe. Many women have lost their jobs and are struggling to provide for their families. Those who are still employed often face harassment and intimidation from the Taliban. The World Bank has warned that any continued restrictive policies on women's education and work will further hurt Afghanistan's economic prospects.

Despite the challenges, some women are resisting the Taliban's decrees and continuing to work. However, they face constant fear and exhaustion from navigating the restrictive and unpredictable environment.

The role of international sanctions

International sanctions have played a significant role in Afghanistan's economic woes. The country has been subjected to sanctions by the United States and the United Nations for decades, with the severity and breadth of sanctions increasing markedly since the 2001 terrorist attacks.

The United Nations Security Council (UNSC) first imposed sanctions on Afghanistan in November 1999, targeting terrorists, Osama bin Laden, and members of Al-Qaeda. These included travel bans and financial sanctions, such as an asset freeze, to prevent the Taliban from supporting and conducting acts of international terrorism. The UNSC also imposed an arms embargo on Afghanistan to pressure the Taliban to close terrorist training camps and hand over Osama bin Laden.

Following the September 11, 2001, attacks, the United States tightened sanctions on the Taliban under Executive Order 13224. These sanctions aimed to address the Taliban as a non-state actor and cut off their access to the international banking system and foreign currency reserves. The US also frozen the assets of the Afghan Central Bank, blocking access to billions of dollars in reserves held in US bank accounts. This severely impacted Afghanistan's economy, as it was highly dependent on US aid and international humanitarian aid distribution.

In 2021, the US issued additional sanctions on the Taliban as they took control of the country. These included General License 14, authorizing humanitarian activities, and General License 15, related to the exportation of agricultural commodities, medicine, and medical devices. However, the impact of these licenses was limited due to the lack of a functioning banking system in Afghanistan.

The sanctions have had a devastating effect on the Afghan people, with widespread protests breaking out in 1999 as the UN sanctions took effect. The humanitarian crisis in the country was aggravated, and NGOs providing critical health services withdrew due to increased insecurity and a loss of donor support. The medical journal The Lancet reported that tougher UN sanctions coincided with a drought, leading to food scarcity and a "famine-like crisis."

The current US sanctions strategy faces challenges as Taliban leaders assume greater political and economic control in Afghanistan. Defining who and what constitutes "the Taliban" has complicated compliance and enforcement efforts for financial institutions, governments, and humanitarian aid organizations. Additionally, the impact of sanctions on the flow of funds for food, medicine, and aid raises significant humanitarian concerns.

While the US has taken some steps to allow humanitarian assistance, such as issuing general licenses, questions remain about the scope and purpose of restrictions on financial transactions involving the Taliban. The political and economic policies of the Taliban will ultimately shape the direction of the ongoing humanitarian crisis in Afghanistan.

The loss of foreign investment

Afghanistan's economy has been heavily reliant on foreign investment, which has been significantly impacted by political upheaval. The loss of foreign investment has had a detrimental effect on the country's economic growth and development. Here are some key points outlining how political upheaval has contributed to the loss of foreign investment in Afghanistan:

Decline in Foreign Investment:

• Afghanistan's economy has contracted sharply since the political upheaval in August 2021, with a significant drop in foreign investment. The country lost access to the international banking system and its offshore foreign exchange reserves, causing widespread disruptions.
• The World Bank and other donors cut off international assistance, which previously accounted for 75% of Afghanistan's economy. This resulted in a massive drop in purchasing power and severely impacted households' ability to meet basic needs.
• The Central Bank of Afghanistan was blocked from accessing its foreign currency reserves held in other countries, such as the US, the UK, and Europe. This restricted the bank's ability to facilitate international transactions and access funds, leading to a liquidity crisis and a shortage of currency.
• The Taliban's restrictive policies on women's education and employment have further deterred potential foreign investors and reduced the country's economic growth prospects.
• The instability and security concerns in Afghanistan pose significant risks to foreign investment. China, for example, has expressed interest in expanding its Belt and Road Initiative (BRI) projects in Afghanistan but is deterred by the country's deteriorating security situation.
• Afghanistan's banking sector has been dysfunctional due to constraints on international transfers and liquidity issues. This has made it difficult for businesses to operate and access funds, hindering private sector activities and economic growth.

Impact on Various Sectors:

• The services sector, which accounts for 45% of Afghanistan's GDP, experienced a decline due to restricted access to resources and financial challenges, especially for women-owned businesses.
• The agriculture sector, contributing 36% to GDP, contracted due to unfavorable weather conditions and a lack of resources for farmers.
• The industrial sector also saw a contraction, with businesses facing closures due to limited resources and financial challenges.
• Overall, the loss of foreign investment has contributed to a decline in exports, increased trade deficit, and dampened demand across various sectors of Afghanistan's economy.

Future Prospects:

• The World Bank and other international organizations have resumed providing off-budget humanitarian aid and support for basic services. This has helped mitigate some of the negative impacts and provided a level of stability.
• However, the future economic outlook remains uncertain, with the threat of stagnation looming. Structural deficiencies in the private sector and waning international support are expected to impede economic progress.
• Afghanistan's long-term growth prospects depend on shifting from reliance on international aid to a more resilient, private sector-led economy, particularly in the agricultural and extractive sectors.
• To attract foreign investment, Afghanistan needs to address security concerns, improve the business environment, and promote private sector development.

The decline in household incomes

Since the Taliban takeover in August 2021, Afghanistan's economy has contracted sharply, with a 20.7% GDP contraction in 2021 and a further 6.2% contraction in 2022. This economic downturn has had a significant impact on household incomes, with reduced aggregate demand and widespread disruptions to public services. The loss of access to the international banking system and frozen central bank assets have also contributed to the decline in household incomes.

The proportion of households unable to meet their basic food needs has increased significantly. According to the World Bank, the proportion of households without enough income to meet basic food needs doubled from 16% to 36% between 2021 and 2022. This is further exacerbated by higher prices and reduced employment opportunities.

The Taliban's restrictive policies on women's education and work have also played a role in the decline in household incomes. Prior to the Taliban takeover, women held various professional roles, including judges, prosecutors, defence attorneys, police and army personnel, doctors, nurses, and teachers. However, the Taliban's decrees have restricted women's participation in the workforce, with specific bans on working in the government and certain industries. This has not only reduced household incomes but also contributed to the overall economic stagnation.

The economic crisis has been further compounded by the COVID-19 pandemic, with lockdowns and supply chain disruptions affecting various sectors. The combination of these factors has resulted in a significant decline in household incomes, leading to increased poverty and food insecurity in Afghanistan.

To address the decline in household incomes, there is a need for a sustained and large-scale humanitarian intervention, as well as a shift towards a more resilient, private sector-led economy that capitalizes on Afghanistan's inherent strengths, particularly in the agricultural and extractive sectors.

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