Afghanistan’s Economy Faces Critical Challenges as it Adjusts to New Realities

The Afghan economy is adjusting to a “new normal” following the events of August 2021, which brought about a significant economic contraction and widespread deprivation, according to the World Bank’s new Afghanistan Development Update.

A sharp decline in public spending, lower household incomes, and reduced consumption caused aggregate demand to fall, while disruptions in the payment system and supply constraints further hampered private sector activities, initially forcing many businesses to close or scale down their operations.

Preliminary statistics on the gross domestic product (GDP) show that the economy contracted by about 20 percent in 2021. Over the past one year, the resumption of off-budget international support for humanitarian needs and basic services helped mitigate some of the negative impacts.

The report concludes that Afghanistan is a much smaller economy now. After contracting significantly, the economy has reached an inflection point and is likely plateauing around a low-level equilibrium. While inflation remains high, some indicators have improved: exports have increased, exchange-rate volatility has reduced, and domestic revenue collection is relatively healthy. Private businesses are adjusting to the new operating environment as a recent World Bank survey found that more than three-quarters of businesses are operational now though most are working well below capacity.

While there are signs of economic stabilization and resilience of Afghan businesses, the country continues to face enormous social and economic challenges that are impacting heavily on the welfare of the Afghan people, especially women, girls, and minorities,” said Melinda Good, World Bank Country Director for Afghanistan. “Living conditions showed slight improvements in the past few months, but deprivation remains very high across the country, and persistent inflation might further erode any welfare gains.”

The report projects that the real GDP in 2022 will contract further, with an accumulated contraction of close to 30-35 percent between 2021 and 2022, before moving to a low-growth path (2.0 to 2.4 percent) for the next two years, with no improvement in per-capita income. Poverty is expected to remain widespread, with over two-thirds of households in the country struggling to cover basic expenses. There are additional significant risks to this outlook: any continued restrictive policies on women’s education and work, increased instability of the banking sector, any potential reduction in aid from the international community, or worsening of the security and political situation will further hurt the economy and people’s welfare.

Isolation from the international economy is a binding constraint to sustained stabilization. The loss of correspondent banking relationships has significantly impacted international payments, leaving both private firms and aid organizations reliant on cash shipments and informal, unregulated, and opaque payment systems for domestic transactions.

A range of economic and political scenarios is possible for Afghanistan’s future. While all scenarios depend on continued off-budget aid from the international community, a more upside and sustainable trajectory requires actions by the interim Taliban administration to unlock much-needed economic integration and domestic opportunities for the private sector to create jobs for the Afghan people,” added Good. “This includes lifting restrictive gender policies, increased transparency in public finances and provision of services, enabling investments by businesses in critical areas of comparative advantage, and resolution of financial sector constraints.”