Future Economic Growth Prospects and Challenges: Emerging from Transition

Good evening everybody

As pointed out by his Excellency the President and the Ministers, Afghanistan faces tremendous challenges surrounding growth, employment creation and poverty reduction and the role of peace and reconciliation in enabling the Government’s vision for greater self-reliance. We have also heard about some of the opportunities Afghanistan has to promote private-sector led growth in sectors like agriculture, mining and trade.

Tonight, I’d like to highlight some of the challenges that we see as critical right now and suggest actions that can address them on our path to Warsaw and Brussels. An overarching idea in these actions is re-building confidence – confidence in reform, citizens, and markets in order to enable self-reliance.

One of the realities that we need to accept is that the transition process has affected Afghanistan much more severely than many of us anticipated. We expected the governance and security situation to dip momentarily, economic growth to decline and fiscal management to be difficult. The Chicago and Tokyo commitments prepared us for this. But what we did not predict was how long-lasting the impact of the political transition would be and how deeply it would affect the recovery process.

The National Unity Government inherited weak governance institutions and serious fiscal situation as a result of the Transition.  Increased violence and conflict, pervasive corruption and political uncertainty has have taken a toll on private investment and employment generation. Over one third of the population lives below the poverty line and over half is vulnerable. The most recent household survey indicates that poverty has increased during the transition process, mainly due to fewer employment opportunities. Even more growth and investment is now needed to bring the country back on a more sustainable growth path.

Since it took office, the Government has initiated a number of bold measures to address these challenges, such as the re-organization of its procurement systems, the implementation of revenue and austerity measures, and the re-invigoration of the Kabul Bank prosecution. Consistent with its strategy for greater self-reliance presented in London last year, it has put forward an ambitious macro-fiscal reform program, anchored in programs such as the ARTF IP, the IMF-supported SMP and the Mutual Accountability Framework.

However, these reforms will take time to translate into impact – as will the current efforts to achieve peace and stability. The medium-term economic outlook is therefore not very favorable: growth will remain sluggish this year at 1.9 percent– which is insufficient for a country with a population growth of 2.7 percent to lift people out of poverty. Our projections indicate a slow recovery over the medium-term. Fiscal vulnerabilities will remain high and will require a large revenue effort, expenditure consolidation and sustained levels of aid from the international community. Our recent analysis shows that Afghanistan’s economic revenue potential, even with considerably enhanced effort to reduce leakages and improve administration of the tax regime, is below 16 percent of GDP. This is grossly inadequate to finance its current level of spending which is at 36 percent of GDP and does not yet fully account for liabilities that are currently financed off-budget, especially in the security sector.

Increasing Afghanistan’s revenue potential will require investment in a growth model that is viable in the context of continued fragility and a slow path to peace. Mining will be very important to generate fiscal revenue and export receipts; agriculture development will be critical for job creation. Both sectors have the potential to drive demand for services in the future. Regional integration and migration could play an important role but prospects for both depend on external factors and are far from predictable. Again, the development of these sources of growth will require time – and the right policies and external support. But meanwhile pressures on poverty, unemployment and fragility will continue to mount.

We would like to propose four immediate action points for your consideration:

1. Restore private sector confidence to stimulate investment NOW.  We know that in the short term necessary reforms -- such as the recent ones in procurement and tax policy -- can be viewed as increasing uncertainty. But now is the time for these reforms to improve governance and improve the investment climate. To manage unintended consequences businesses need to understand which, why, and when reforms will be implemented and completed. Closer dialogue with the private sector is key for building support for reform.  Providing greater clarity on the Government’s economic policy stance could further enhance investment predictability.
2. Enhance the poverty impact of public expenditure. The fiscal space is very narrow and without additional financing, the only way to mitigate poverty in the short-term is to re-program the existing portfolio of development interventions. We encourage the Government to explore opportunities for expanding direct household transfers, insurance schemes and adult literacy programs to complement existing service delivery efforts. Our experiences show that such measures could improve mobility and productivity, and enhance participation of the poor in the growth process.
3. Re-articulate the needs for security and development assistance. Afghanistan security strategy and commitments need to be re-visited in light of the changes in the security situation. Achieving greater self-reliance will critically depend on how realistic and affordable the country’s security will be in the long-term.  Commitments for development financing will likely need to remain at least at current levels in order to meet Afghanistan’s extra-ordinary development needs. A New National Development Strategy could help donors with providing a clearer sense of direction and vision for donor financing.
4. Finally, the Government must deliver on its ambitious reform program. The reforms target some of the most difficult areas such as customs and tax administration, pensions, land management and transparency. In this context, navigating entrenched vested interests will require high-level political support. But also a sense of pragmatism and the need for confidence building measures along the way. Early wins, even when modest, are important building blocks for confidence building and expanding the constituencies for reform and for peace.