Economy & Development

Afghanistan’s Government Revenue: Continuing robust growth in the face of economic weakness


KABUL, Aug 15, 2015: A view of a large shop which sells items wholesale in Mandawi market in Kabul. Photo: PAJHWOK/Bais

KABUL, Aug 15, 2015: A view of a large shop which sells items wholesale in Mandawi market in Kabul. Photo: PAJHWOK/Bais

The Afghan government has continued to increase the amount it collects in revenue – by 22 per cent last year and 33 per cent in the first six months of this year. This revenue growth well exceeded expectations and projections. Thirty-seven per cent of the total revenue increase in the first half of 2016 was due to the greater revenue mobilisation efforts of the government and new or higher tax rates imposed in the latter half of last year, as opposed to one-off windfalls or currency depreciation – indicating robust underlying revenue growth estimated at 12.4 per cent. The continuing high revenue growth, however, is not due to any significant improvement in the economy, raising significant issues for the future. AAN Guest authors Bill Byrd and M Khalid Payenda* take a look at the figures and explain what they mean for Afghanistan ahead of the Brussels conference where new pledges of aid to the country are expected.

Afghanistan’s turnaround in revenue in 2015 was impressive and has continued into 2016. In the first half of 2016, revenue rose to nearly Afs 70 billion (just over US $1 billion), an extraordinary 33 per cent increase in nominal local currency terms compared to the same period of last year. (1) Nevertheless, revenue still comprises well under half of total budget expenditure—the lion’s share of spending continues to be financed by aid.

Twenty-six per cent of the revenue increase reflects the estimated impact of the 18 per cent depreciation of the Afghan currency: customs duties on imports and other revenues levied on foreign exchange flows have had their Afghani value increase artificially due to the weakening Afghani. (2) Another 24 per cent consisted of one-time revenue injections from public enterprises (including Afs 2.14 billion in recoveries of lost or stolen Kabul Bank funds and transfers of about Afs 1 billion each from public enterprises under the Ministry of Urban Development and Ministry of Agriculture, Irrigation, and Livestock), which do not represent regular revenue and are not necessarily sustainable. Finally, although they are genuine revenues, the large increases in proceeds from the sale of state-owned land and buildings and from passport fees, accounting for 13 per cent of the total revenue increase, are also unlikely to be sustainable. Indeed, the latter may be a concerning sign of economic weakness and prospective human flight.

The remaining 37 per cent of the total revenue increase can be reasonably attributed to a combination of strong revenue mobilisation efforts and the impact of new taxes and higher rates implemented in the latter part of 2015. Their full impact is being felt this year. These new taxes and rates include, in particular, a doubling of the main rate of the Business Receipts Tax (BRT) from two to four per cent, a new 10 per cent levy on mobile phone top-ups, an increase in overflight charges for using Afghan airspace and new levies (road toll fees) on imported oil and natural gas. In sum, after excluding all of the factors discussed in the previous paragraph, the estimated underlying revenue growth in the first half of the current fiscal year was a robust 12.4 per cent.

Available preliminary data for the first eight months of this fiscal year show continuing rapid revenue growth, with total revenue up by 32.9 per cent, compared to 33.3 per cent in the first six months alone. (3) Revenue growth for the full 2016 fiscal year appears to be on-track to reach well into double digits for the second year in a row.

Revenue collection and the state of the economy

How was this continuing high revenue growth in the first half of 2016 achieved? Not, unfortunately, due to any substantial improvement in the economy; of this, there is no significant sign in the revenue data nor in the macroeconomic indicators. Also worrying, and in contrast to its strong performance in 2015, collection of customs duties has been weak this year, showing virtual stagnation in nominal Afghani terms compared to the first half of 2015. Excluding the impact of currency depreciation, there was an estimated decline of 15.6 per cent in customs duties receipts. The extent to which this is due to lower imports or worsening collection is not yet clear, but preliminary data indicate that the deterioration in customs duties collections has continued in recent months. This is a problem area in an otherwise generally good picture, and needs to be both monitored and addressed in the coming months.

Revenue buoyancy has been most prominently reflected in the categories where new taxes/fees or increased rates were introduced last year. As mentioned earlier, these include, most notably, the doubling of the main Business Receipts Tax (BRT) rate levied on imports, sales, contracts, etc from two to four per cent (with BRT levied on imports comprising the lion’s share of the increased receipts), as well as the new 10 per cent telecommunications service fee, higher overflight charges (raised from $400 to $500 per flight), new road toll fees for imported fuel and natural gas (3 Afghanis per litre of fuel or kilogramme of gas). Taken together, these new or increased revenues accounted for over 40 per cent of the total revenue increase, or more than all of the 12.4 per cent underlying revenue growth in the first half of 2016, ie after the impact of depreciation and other one-time/unsustainable factors was excluded. The strong growth in revenue from these categories more than offset declines in some other categories, such as customs duties.

Income tax collections also increased, primarily due to 16.5 per cent growth in receipts of withholding tax taken from employees’ wages. Receipts from the 10 per cent BRT on selected services also rose by 26 per cent, without any rate increase in this case. In the absence of significant growth in the economy, revenue increases in these two categories most probably reflect intensified collection efforts.

The strong revenue growth in the first half of this year coincided with some other markers of progress, including among others, Afghanistan’s official accession to the World Trade Organization (on 29 July 2016), successful completion of the IMF Staff-Monitored Program (on 13 May 2016), the agreement on and approval of a new three-year IMF program (on 20 July 2016), and achievement of many of the performance benchmarks under the Afghanistan Reconstruction Trust Fund Incentive Program and USAID’s New Development Partnership. In addition, the Afghan government has focused on improving governance, including inter alia the centralisation of major procurement under the new National Procurement Committee and submission of declarations of their assets by 95 per cent of top government officials as called for under Afghanistan’s Constitution.

These developments are setting the stage for the upcoming Brussels international conference on Afghanistan (to be held on 5 October 2016), at which donor countries and international organisations are expected to reaffirm their continuing commitment to support Afghanistan and pledge or indicate civilian aid funding for the country over the next four years. Brussels follows the NATO summit in Warsaw on 9 July 2016, at which a total of around $4.5 billion per year was pledged by donors to support the Afghan national security forces (ANSF) through to 2020.

Despite these achievements, the Afghan economy remains weak, which is not surprising in view of ongoing war and political uncertainty in the country. Real GDP growth in 2015 is currently estimated to have been only 0.8 per cent – significantly lower than earlier estimates. In 2016, economic growth is projected at only two per cent. That is well below the rate of population growth, estimated at around 3 per cent per year, meaning that average per-capita income is continuing to decline. (For economic growth estimates and projections, as well as other macroeconomic data, see the most recent IMF Staff Report) Another sign of economic weakness is the low levels of business investment and new firm registrations, as reported by the Afghanistan Investment Support Agency (AISA). In this regard, there may be a risk that continuing aggressive revenue mobilisation vis-à-vis the relatively small formal sector of the Afghan economy, combined with a tight expenditure policy, could become a drag on economic revival and further weaken incentives for private sector investment. Creative approaches to stimulating at least a modest economic revival are called for.

Civilian versus military aid

Turning to aid prospects, the Warsaw NATO summit was financially successful in mobilising support for the ANSF, but there is a risk that civilian expenditure requirements will be underfunded, at the cost of Afghanistan’s development progress in areas such as infrastructure, education, and health. This would, in particular, be the outcome if the level of total annual civilian aid that has been discussed in some circles – around $3 billion per year – is what materialises in the end. This would be considerably less than the international community committed to at Warsaw in support of the ANSF ($4.5 billion per year), and also well below the international community’s civilian aid pledge at the Tokyo Conference on Afghanistan in 2012 ($4 billion per year). Moreover, it is substantially below current levels of civilian aid disbursements (which have been over $4 billion annually in the past several years). Depending in part on the composition of the aid, $3 billion per year would appear to be insufficient to close Afghanistan’s large structural fiscal gap. If civilian aid pledges turn out to be more than that and reach $4 billion per year, Afghanistan’s economy, development prospects, fiscal picture, and civil-military balance would all benefit.

How aid is channelled and delivered is also very important. Assistance channelled through the Afghan government budget, especially aid that can be flexibly deployed by the government as opposed to aid earmarked for specific projects, in support of effective development programmes and with sound fiduciary controls (which are in place and can be further improved), will achieve more ‘bang for the buck’, in terms of results, as well as in benefiting the Afghan economy, while helping maintain fiscal balance.

From a medium to longer-term perspective, it is clear that Afghanistan will remain heavily aid-dependent for many years to come. Feasible increases in government revenue will not change this picture, though higher revenues will ease fiscal management and avoid fiscal crunches like that seen in late 2014. One factor would turn the economy around like no other. An end to the Taleban insurgency would yield a ‘peace dividend’ for Afghanistan. Even then, aid requirements would not decline rapidly, though the composition of aid could then shift away from security sector expenditures in favour of demobilisation, disarmament, and reintegration of combatants (DDR), reconstruction, and development.

Overall, continuing impressive revenue growth represents a significant achievement, especially in the challenging context of Afghanistan. A key policy issue is how, over time, to expand the tax base in Afghanistan – which currently consists primarily of imports and the very small formal sector – so that revenue would be more buoyant if and when economic growth revives, however modestly. There are concerns over the weak collections of customs duties, the heavy reliance on new levies and rate increases, as opposed to broadening the base of tax collection, and above all, the very weak economy which, among other adverse effects, harms revenue prospects. In any case, it is doubtful that this kind of revenue growth can be sustained over the next five years or decade (which would make a real difference in terms of reducing aid requirements), unless there are major improvements in the overall situation, of the kind that would be brought about by a peace agreement or, at least, a sharp reduction in the level of conflict, as well as greater political stability.

Bill Byrd is a senior expert at the US Institute of Peace. His last publication with AAN was the paper, Economic Management in Afghanistan: What worked, what didn’t, and why? (26 August 2015) M Khalid Payenda is senior adviser to Afghanistan’s Minister of Finance and leads the Macro-Fiscal Performance Department in the Ministry of Finance. The views expressed in this dispatch are the authors’ own.

 

(1) Afghanistan’s fiscal year is approximately 21 December-20 December. The first half of the current 1395 fiscal year ran from 21 December 2015 to 20 June 2016. The figure of nearly Afs 70 billion for total revenue of the first six months excludes a very sizable Afs 10.26 billion transfer from the Central Bank (Da Afghanistan Bank – DAB) to the budget, since this was the result of an increase in the local currency value of foreign exchange inflows due to depreciation and should not be considered revenue (it will be used not to finance expenditures, but rather to shrink the fiscal ‘hole’ resulting from the failure of Kabul Bank).

(2) The average exchange rate depreciated from 58.27 Afs per US dollar in the first half of the previous fiscal year to 68.67 in the first half of the current fiscal year. Import duties and other taxes levied on imports are collected in Afghanis, but since they are calculated as a percentage of the foreign exchange value of the imports concerned, the Afghani value of the customs duties and other taxes levied on imports increases proportionally to the extent of depreciation. In addition, overflight fees for use of Afghan airspace are levied in US dollars.

(3) Both of these figures exclude the Central Bank transfer referred to in footnote 1, so they are comparable.

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Thematic Category: Economy & Development