Somalia needs to attract the kind of domestic and international investment that will make a sustainable contribution to the entire economy. Coherent regimes for investment are central to creating this enabling environment.
“We aim to improve security, create economic opportunities and open the political and social space for the inclusion of the people in the decisions that will determine their future. To achieve these objectives, the Somali Government will create an enabling environment in order to encourage domestic, diaspora and foreign investors.” With these words, Somalia’s President Hassan Sheikh Mohamud gave a round-up of his government’s foreign policy.
He was speaking recently at the launch of the policy. He continued: “Without investment, the desired growth will not take place and without growth, our national goals for achieving a secure, stable and economically prosperous Somalia will be even more challenging.”
The speech by the president captured the spirit of revival for a country that has suffered two decades of instability. Hopefully, the government will walk the talk in ensuring that these investments are attracted and nurtured in an environment that supports growth. This is especially important in the increasingly competitive and interconnected world. The first critical investment infrastructure the government must work on is the banking sector. Lack of financial intermediation in Somalia has restricted business growth. Entrepreneurs have to rely on their own funds or borrow from friends and family members to expand their enterprises.
The lack of formal credit facilities perpetuates an elite culture in which only people with ready resources or immediate access to resources can invest and progress. The rest have nothing to lift them up. This is reiterated by a World Bank report on Somalia released last December.
“Access to finance is a major binding constraint to growth for small and medium-size enterprises in Somalia, with less connected businesses and businesses owned by women at a particular disadvantage,” the report states.
The situation also means limited access to foreign capital, which in turn limits Somalia’s current account financing options, mostly to foreign direct investments (FDI). This heightens exposure to unpredictable project finance.
The current account deficit was 7.2 per cent of GDP in 2013 and 6.6 per cent in 2014. It comprised a trade deficit of 38.7 per cent of GDP, net income of –8.9 per cent of GDP, and net current transfers (including remittances, off-budget grants, and direct donor support) of 40 per cent of GDP. The size of the current account deficit is associated with external vulnerability Somalia faces. In January 1991, all state institutions that provided and regulated financial services, including the Central Bank of Somalia (CBS) and the entire banking system, collapsed. The collapse of the commercial banks in the 1990s and the loss of depositors’ money eroded public confidence in government and banks.
During the long conflict that ensued, private money transfer businesses (MTBs, or Hawalas), and more recently, mobile money operators, emerged and flourished in an unregulated environment. But these neither provided deposit-taking nor banking services. With no functioning commercial banks in Somalia, the monetary stock consisted exclusively of cash. That situation still holds, albeit with some improvements.
Yet investors eyeing Somalia will want to be assured of a reliable banking mechanism for fiscal stability. The CBS is starting to re-establish its authority and institutional capacity. After ceasing to exist at the outset of the civil war in January 1991, the Transitional Government of Somalia reopened the CBS in 2009. Despite serious capacity gaps and high turnover of governors (three in 2013 alone), new reform efforts are gaining momentum.
Without investment, the desired growth will not take place and without growth, our national goals for achieving a secure, stable and economically prosperous Somalia will be even more challenging.”
– Hassan Sheikh Mohamud, President of the Federal Republic of Somalia.
The government needs to ensure the governor and board of directors appointed in 2014 are operating in line with the requirements of the Central Bank of Somalia Act, structures and policies are in place to improve core transaction processes.
Good signs have been seen with the first set of financial statements produced in 2013. The CBS is now starting to act as the fiscal and financial agent and advisor of the Federal Government of Somalia (FGS).
While Somalia is a net importer of several commodities, the fact that no financial institutions can issue letters of credit (the standard trade financing instrument) to banks abroad is a huge set back to the trade.
The African Development Bank (AfDB) made not of this in its 2015 report on Somalia business, stating: “Exporters and importers must work through banks in their countries to process letters of credit, which adds costs and takes time. The situation is expected to improve as the CBS continues to implement much-needed reforms in the financial sector by modernising the licensing, regulation, and supervision of banks.”
Streamlining the banking sector will relieve Somalia’s economy of its highly dollarized,
State, giving the CBS the capacity to manage the national currency. With all major transactions in Somalia undertaken in US dollars, the monetary authorities cannot directly affect the volume of foreign currency in circulation.
As long as there is little or no bank credit outstanding, they cannot influence interest rates or affect the money supply by changing bank reserve requirements. The last official Somali shilling note was printed during the Siad Barre regime. The stock of Somali shillings consists of a mix of official and counterfeit bank notes accumulated over the years. It is estimated that 95 per cent of the local currency in circulation could be counterfeit.
Local currency is used only for transactions under the value of US$1. The largest Somali shilling note (1,000) is worth just US$0.05. To introduce a new currency to replace the counterfeit or old currency, the CBS would need to substantially enhance its capacity to manage the financial sector and monetary policy. In Somalia regions, Somaliland state has adopted the Somaliland shilling (SlSh), which is used only in that state.
Another key issue the government must undertake while walking the rope of investment attraction is the maintenance of peace, law and order. Political stability must prevail to ensure foreign assistance is maintained. This is even more critical now with the upcoming general elections.
Given Somalia’s dependence on foreign aid, any disruption in donor support as a result of frustrations with the ongoing reforms or political bickering, for example, would severely curtail budget implementation. Foreign assistance is channelled both on and off budget.
Direct budget support from donors represented 36 per cent in 2013 and 39 per cent in 2014. Off-budget donor financing totalled US$137.1 million (73 per cent of the 2014 budget). Business competition in different sectors must maintain fair to allow for the thriving of various industries. Chief among these are the Telcos, where one is still not allowed to call across network. The phenomenon is highly uncompetitive and detrimental to business in the modern times when communication drives business and expands economies.
- TALKING POINTS
- Streamlining the banking sector will relieve Somalia’s economy from its highly dollarized, state, giving the CBS the capacity to manage the national currency.
- Political stability has to prevail in the coming general elections later this year to ensure foreign assistance is maintained.
- The government needs to invest in digital monitoring of trade volumes and income sources to spread tax revenues beyond the points of entry
The Regional States of Somalia should also be discouraged from erecting economic barriers to the free flow of goods and commerce within the federal republic. Somalia needs to attract the kind of domestic and international investment that will make a sustainable contribution to the entire economy. Coherent regimes for investment are central to creating this enabling environment. Centre-state “tax jungles” or tax competition among states is to be avoided at all cost.
Competition and unequal access to limited resources have often been a cause of conflict in Somalia. If they are well designed, fiscal arrangements can help address inequities and engender solidarity. Beyond issues of conflict, inequitable distribution also has economic consequences. Highly unequal fiscal outcomes might trigger movements of populations to better-endowed states (a right that Article 21 of the Provisional Constitution grants to citizens). This would put pressures on services in these states.
On the revenue collection, the government needs to begin investing in digital monitoring of trade volumes and various income sources in Somalia. These largely go untaxed. Many industries are not well engaged in revenue mobilisation, including those with lucrative sources like oil and telecommunications.
In 2012, the FGS mobilised only US$30 million in domestic revenue, equivalent to 0.9 per cent of GDP, and US$5 million in external assistance to the budget .Revenues and grants rose from 1 per cent of GDP in 2012 to 3.7 per cent in 2014, and were projected to reach US$199 million in 2015, up from US$145.3 million in 2014. However, domestic revenue collection and grants underperformed in 2014, particularly indirect and other taxes. Reliance on taxation at the points of entry with the inland trading largely remaining a free for all market will not be beneficial to the government, which is badly in need of revenues for reforms and reconstruction.