WASHINGTON, Sept. 5 (UPI) -- Amid Afghanistan's continued turmoil, including the attempt on Thursday to assassinate President Hamid Karzai, the country is attempting to stabilize its economy with a new currency.
After months of deliberation, the Afghan government announced this week that it would revalue and remonetize its currency, the Afghan, whose weakness has led to hyperinflation and which has been widely counterfeited.
The move also ended speculation that Afghanistan would adopt the U.S. dollar as its currency.
The decision was met with outward approval from the financial community and foreign observers. But in private, some expressed concern that maintaining an independent currency will exacerbate the nation's economic woes -- including foreign-debt payments -- especially since the currency will be allowed to float.
The attempt on Karzai's life will almost certainly worsen the political risk attached to the country and its currency, even if few will say so openly.
"The authorities' decision to introduce a new currency is an important step in their efforts to establish macroeconomic stability and to create an environment that is conducive to restoring sustainable economic growth in Afghanistan. The new Afghani will also be a symbol of national sovereignty and unity," said International Monetary Fund managing director Horst Koehler Wednesday in response to the Afghan announcement.
But at the same time, he hinted that the country could face an uphill battle for economic stability.
"The introduction of a new currency is a major operation, with numerous logistical challenges to overcome, particularly in a country in a post-conflict situation," Koehler added.
The government's main goal is to rid the country of counterfeit bills printed by warlords and the Taliban.
Old notes will be exchangeable for new ones, minus three zeros. Thus 1,000 old Afghanis would be traded in for a single new note worth 1 Afghani. People will be able to exchange their old notes at currency bazaars and other locations over the next 2 months.
"Looking at it purely from a domestic perspective, this will give the government and the central bank greater control" over monetary policy, said a World Bank official, who asked to remain anonymous. But he warned that there were considerable downside risks to a free float.
For one thing, although Afghanistan wants greater fiscal and financial independence, it actually remains heavily reliant on foreign financial aid.
The IMF tried earlier this year to steer Afghanistan away from an independent currency, with some of its top economists pushing instead for dollarization as a means towards long-term stability.
Dollarization has been used by other countries in recent years, such as Ecuador, which have viewed it as a means of keeping both inflation and foreign debt under control. And it has apparently immunized Ecuador against much of the turmoil that other Latin American countries have faced.
Ecuador's success inspired former Argentine President Carlos Menem, and the IMF, to suggest dollarization for that nation, as it became clear that the Argentine government had amassed an unsustainable amount of foreign debt.
But dollarization also means surrendering control of monetary policy. For instance, if Ecuador experiences runaway inflation, it's unlikely that the U.S. Federal Reserve Board would increase interest rates to address that problem.
"If Afghanistan dollarized, it would have sacrificed a great deal of its autonomy," the World Bank official said.
As such, Afghanistan's decision to retain the Afghan could be seen as a political statement.
But given that it is so heavily dependent on international aid, keeping the Afghani is likely to make it more difficult for the government to repay its dollar-, euro- and yen-denominated debts.
Thursday's assassination attempt on Karzai certainly won't help the currency's near-term value. But political risk was already high, especially with continued Bush administration discussion of action against Iraq, which would increase hostility towards a distinctly pro-U.S. government in Afghanistan.
While the World Bank official declined to comment just how much the currency could weaken, he noted that the old Afghani has been highly volatile. For instance, on Tuesday, it hit a post-Taliban low of 52,000 to the dollar but has since recovered to 40,000 per dollar or more.
Such volatility could bode ill for the Karzai government as it grapples with mounting foreign debt.
Earlier this year, the IMF, World Bank, United States, European Union, Japan and several other countries pledged $4.5 billion to Afghanistan over the next 5 years, $1.8 billion this year alone, for economic reconstruction.
The world's rich countries haven't waived Afghanistan's debts, which, since the 1970s, have grown to $45 million. But the level is low because the government has effectively been shut out of the international capital markets for years.
The non-governmental organization, Oxfam, estimates that the country needs at least $16.7 billion over the next decade to get back on its feet.
So while the new currency system should give the government greater power over monetary policy, it could also mean a surge in foreign debt.
