A Quick Overview of Afghanistan's Banking Sector

By: Fazl Wali Shirani

Introduction

Following the collapse of the previous Kabul administration and the Islamic Emirate's takeover, Afghanistan faced significant economic challenges, particularly in the banking sector. A critical issue was the freezing of Da Afghanistan Bank's reserves in the United States, which had immediate repercussions for the public. Initially, Da Afghanistan Bank restricted individual account holders to weekly withdrawals of 20,000 Afghanis or $200. On September 15, 2021 private companies were allowed to withdraw $25,000 monthly. These limitations led to a depreciation of the Afghani and a surge in prices. This situation raised numerous questions about whether the Islamic Emirate could stabilize the economy and how the banking crisis, particularly cash flow issues, would be resolved. This article seeks to address these concerns by examining the history of Afghanistan's banking sector, its role in economic growth, the challenges it faces, and the achievements of the Islamic Emirate in this field.

Historical Overview of Afghanistan's Banking Sector

Before delving into Afghanistan's banking history, it's useful to provide a brief global context. The exact origins of banking are unclear, but evidence suggests that around 2100 BC, Hammurabi of Babylon established laws governing commerce and banking. Babylon had commercial chambers and banks that extended loans to merchants and farmers. By 2000 BC, banking activities had spread to Greece, where temples served as safe repositories for deposits, safeguarding them from internal conflicts. Following the fall of Greece, banking practices evolved in Rome, resembling modern systems with foreign currency exchange, deposits and loans, and the issuance of letters of credit. Similarly, banking was prevalent in China six centuries before Christ, and the invention of paper around 105 BC greatly facilitated banking operations. These developments laid the groundwork for a global banking tradition. Banking in Afghanistan began about eight decades ago, during the reign of Muhammad Zahir Shah, with the establishment of the Afghan Mellie Bank in 1933 by Abdul Majid Zabuli. Initially, this bank also functioned as the central bank until 1939, when Da Afghanistan Bank was founded and assumed this role. Da Afghanistan Bank's key responsibilities include formulating and implementing financial policies, managing foreign currency reserves, printing and distributing Afghanis, and licensing other banks.

In 1954, Pashtany Bank was established with an initial investment of 120 million Afghanis. Under the leadership of Jannat Khan Gharwal, the bank expanded significantly, establishing major central departments, 5 urban branches, 4 provincial branches, 3 branches in ports and branches outside the country like in Peshawar, Chaman, and Karachi. In 1976, the government founded the Afghanistan Export Development Bank to boost exports and provide loans to the export and import sectors. Historically, Afghanistan's banking sector comprised specialized, central, and commercial banks, each focusing on specific areas such as Pashtany Bank, the Mortgage and Construction Bank, the Agricultural Development Bank, the Industrial Development Bank, and the Export Development Bank. These banks played vital roles in the country's economic development. Later, private banks began to emerge, supplementing state banks. While the rise of private banks is beneficial, it necessitates stringent regulation. Currently, 14 private banks operate in Afghanistan under the supervision of the Islamic Emirate, which supports and seeks to strengthen both private and state-owned banks.

In the following sections, we will discuss the role of banking in Afghanistan's economy.

The Role of Banking in Economic Growth

Investment is a critical driver of economic growth, with the primary objective of countries being to achieve economic and social development. In economic literature, capital is regarded as a key factor, emphasizing its role as a determinant of economic and social development and growth. Economic growth is contingent upon economic savings and profit, both of which are intrinsically linked to the investment process. Banks, as integral components of financial markets, play a pivotal role in providing the necessary economic and social capital. The management and allocation of financial resources within an economy are the responsibility of banks, underscoring their indispensable role in any society’s economic and social development. By analyzing the role of banks from economic and social perspectives, researchers can uncover insights that address existing challenges at the national level.

Modern advancements across various sectors highlight the significant facilities created to enhance different aspects of life, including financial transactions. Banking has revolutionized this area, providing ease and efficiency in managing financial transactions, beyond just saving money. In developed countries, the banking system has been instrumental in their economic progress. Banks pool the unused capital of individuals, putting it to productive use. This not only increases the overall capital but also provides necessary funds to businesses in need. Entrepreneurs can access capital in the form of loans, thereby bolstering their enterprises. Furthermore, in efforts to foster economic development and optimize productive factors within the national economy, the demand for capital inevitably rises. To prioritize and manage capital shortages effectively, banks play a crucial role. They provide loans appropriately to initiate various projects, including those in production. Commercial banks facilitate and stimulate exports, positively influencing the balance of payments. By extending loans to the industrial sector, they also contribute to reducing unemployment by creating job opportunities. These aspects underscore the significance of banking in an economy, necessitating the need to equip and strengthen this sector comprehensively. A robust banking system not only fuels economic growth and development but also aids in reducing unemployment.

Obstacles to the Banking Sector

The political transformation in Afghanistan significantly impacted the economic system, causing widespread damage. Foreign aid, a crucial component of economic support, ceased, leading to delays in many development projects and resulting in widespread job losses. The market also experienced a shortage of foreign currency, which had previously supported the value of the Afghani, causing its value to plummet against other currencies. Additionally, Afghan assets were frozen by the United States, and a series of foreign-imposed restrictions further destabilized the banking sector. The banking sector in Afghanistan has faced persistent challenges over the past two decades. A notable example is the September 2010 collapse of Kabul Bank, the largest and most renowned private bank in Afghanistan, which went bankrupt with total debts amounting to $1.179 billion. Factors contributing to this collapse included mafia interference, unhealthy competition among private banks, flawed economic policies, illegal withdrawals of millions of dollars by investors, and mismanagement by the central bank. Following the fall of the previous administration, depositors in Afghan banks became fearful of losing their wealth, leading to mass withdrawals. This panic compelled the Central Bank of Afghanistan to implement restrictive policies. These issues, along with a host of other challenges, have created significant obstacles for the Afghan banking sector. Despite these challenges and international sanctions, the Islamic Emirate, upon regaining power, has taken steps to address and improve the banking sector. In the following sections, we will discuss the progress, achievements, and measures taken by the Islamic Emirate to overcome these problems.

Islamic Emirate's Decisive Actions Addressing Banking Sector Issues

When the previous Kabul administration collapsed and the Islamic Emirate assumed control, security was bolstered nationwide and corruption was curbed. However, significant challenges emerged, primarily due to the lack of international banking support for Afghanistan. This issue severely impacted the country's economic situation, hindering the activities of industrialists and investors and exacerbating problems within the economic and banking sectors, thus stalling economic and commercial development. Despite these challenges, the Islamic Emirate managed to rejuvenate the economy and expand trade relations, evidenced by exports reaching approximately two billion dollars annually in 2022 and 2023. By implementing a prudent monetary policy, the Islamic Emirate has largely mitigated issues within the banking system and continues to strive towards resolving all banking-related problems. To address these challenges, the Financial Stability Committee was activated, chaired by Deputy PM for Economic Affairs, Mullah Abdul Ghani Baradar Akhund. This committee reviews reports from Da Afghanistan Bank on the financial system, takes necessary measures to manage and eliminate financial crises threatening the country's financial stability, and prepares working procedures and policies in compliance with national laws and international standards. In the committee's recent meeting, Deputy PM Mullah Baradar Akhund emphasized creating job opportunities, controlling inflation, legally extracting minerals, standardizing the agricultural sector, managing water resources, and facilitating domestic and foreign investment. He stressed that achieving these goals requires coordination and cooperation from bank shareholders, national businessmen, and investors, urging them to support the Islamic Emirate's efforts.

The Deputy PM also invited bank shareholders to return and manage their banks effectively, contributing to the sector's development. The Islamic Emirate has addressed several other banking sector issues, extending banking services to remote areas, ensuring transactions are conducted in Afghanis nationwide, and banning foreign currencies. The Afghani has strengthened against foreign currencies, new Afghani banknotes have been printed, and old notes have been collected and destroyed. Work on establishing Islamic banking is underway, and previous guarantees and demands are being honored. Payment and information technology systems have been enhanced, deposit limits have been reduced, and liquidity issues in private banks have been resolved. A commission for difficult-to-recover loans has been established, regulations for microfinance institutions have been prepared, and financial cases are prioritized in courts. To strengthen banks, government employee salaries are distributed through banks, and revenue collection is conducted via banking channels. These measures have increased citizen trust in banks, gradually resolving banking sector problems. The Islamic Emirate remains committed to focusing on this crucial sector, resolving existing issues, and promoting its progress and development.

Conclusion

To fully resolve Afghanistan's banking issues, it is essential to identify new sources of capital in addition to existing ones to support the country's banks. Clear and effective banking credit programs should be introduced to the public. The implementation of major economic projects, some already in progress, and the attraction of foreign capital will not only boost public confidence in the banking sector but also stimulate economic activity. From the outset, the Islamic Emirate has had plans to strengthen and develop the banking system. These initiatives have created significant improvements, addressing many of the problems caused by foreign sanctions, as discussed earlier. However, the Islamic Emirate is not complacent. It has ambitious plans to completely resolve the banking sector's issues in the current year 2024. With these plans, the banking system aims to offer services at a standard level, playing an effective role in the country's economic growth.