Monetary Policy Framework of Afghanistan
Monetary Policy Framework of Afghanistan: To maintain its primary objective of domestic price stability, Da Afghanistan Bank continues Monetary Aggregate Targeting Framework. Controlling liquidity condition is highly important in the economy; hence any changes in the rate of liquidity have a direct impact on the overall economic activities in the country. Therefore, any changes in the rate of liquidity should be consistent with the rate of economic growth as well as the needs for the national currency in the economy.
Under this monetary policy framework, since 1389, DAB has been using reserve money (RM) as the primary liquidity indicator, and projects its precise amount based on the expected growth rate, the average annual inflation rate, and changes in the aggregate demand for afghani during the year. Considering the expansion of the banking sector in the country and its role in creation of money as well as taking into account the economic conditions, Da Afghanistan Bank determined Reserve Money as the key operational target, while currency in circulation is set as an indicative target.
Cost of Monetary and Exchange Rate Policy
Like any other Central Bank in the world, Da Afghanistan Bank accepts the cost of monetary and exchange rate policy execution to ensure the economic stability in the country.
Based on the internationally accepted standards, such costs, even if it is high, is justifiable for the economic growth and national welfare.
As mentioned earlier, Da Afghanistan Bank utilizes foreign exchange auction as its primary monetary tool and intervenes in the market. Considering the foreign exchange inflows in the form of grants as well as the ISAF expenditures, the foreign exchange reserves would have increased sharply and thus would cause currency in circulation to grow above the target, if the foreign exchange auction was not executed. An increase in the reserve money may lead to an increase in the inflation.
An increase in reserve money may cause inflation to rise and thus the national currency will lose its value against the prices goods and services as well as against the foreign currencies, if it is not consistent with the rate of economic activities in the country. Inflation works as an automatically imposed invisible tax, reduces people’s purchasing power, decreases confidence on national currency, and finally impacts economic welfare negatively. Moreover, in the inflationary situation, people tendency to convert their liquid and non-liquid assets to foreign currencies will rise. It is worth mentioning that monetary policy implementation requires some costs. The governments bear such costs in order to avoid inflationary tax and other costs driven from high inflation on their people.
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