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The Economic Future of Somalia

Somalia stands at a crossroads. 

Down one road the current economic status quo will prevail, leading to anemic growth, high levels of informality (90%), unemployment (47 percent, 75 per cent for the youth) and lack of diversification and specialization.  Down the other road, a new economic policy and investment framework could accelerate economic growth and employment, allowing Somalia to capitalize on its unique strategic position and undoubted natural and human resources potential.

I have been working in Somalia since 1993, and happened to be in Mogadishu the day the Black Hawk was shot down by Mohamed Farrah Aidid’s militia. Sitting in Mogadishu at the time, following the collapse of Siad Barre’s government in 1991, it was clear that history had been very unkind to Somalia since the so-called Golden Days of the Land of Punt.  In that period, Somalia was a significant trade partner with Egypt, plying lucrative trade routes connecting with merchant classes from Parthian Persia to Phoenicia, and from Ptolemic Egypt to Greece and the Roman Empire.

Since 1993, the citizens of Somalia have struggled to re-establish the core functions of an effective state, though in recent years substantial progress has been made.  International cooperation partners have re-balanced external support to balance structural development finance with humanitarian support.  With Government revenue’s now rising year-on-year, the next decade will be absolutely critical to changing the course of history for the better.

This short article does not discuss macro-fiscal issues, which are important, but related to the real and wider economies.

Why is the Somali Economy Important?

Anyone who understands state-building knows that revenue collection is a pre-condition for any state, as it seeks to coopt the periphery and mobilize legitimacy through the provision of growth, employment and health enabling services. Once the social contract breaks down, as it did, citizens take up arms to defend themselves, precisely because the state has failed to do so.

Building good governance and maintaining law and order costs money!  As it is difficult to tax the informal and illegal economies, the Government has few options but to control the formal economy, or to catch airways flyover taxes of customs duties. While VAT and GSM taxes provide a solution for taxing the informal economy, tax administration requires considerable capacities; which in turn are related to the ability to mobilize resources.  This is a vicious cycle, though well-targeted external aid can be deployed to build core revenue capacities, and this process has now started in earnest.

Without a strong formal economy or a taxable informal economy, Government will not have the fiscal resources necessary to deliver public goods; including building trade and value chain infrastructure.  As a result, all efforts must be linked to maximizing investment returns to growth, revenues and jobs.

What is the current Structure of the Somalia Economy?

The Somalia economy has still not been well documented, through recent research undertaken by Hayaan Institute for Research and Policy, USAID and the World Bank provides considerable insight into the current structure of Gross Domestic Product (GDP).   The International Monetary Fund (IMF) and the World Bank estimate Somalia’s GDP at about US$5.7 billion in current dollar terms in 2014, though given the scarcity of hard economic data and porous borders which undermines recordation of informal economy flows, the economy is likely to be 20-50% bigger than these estimates.  Having lived in Afghanistan for many years, preparing the early economic updates with Bill Byrd, as the Government’s capacity to collect data increased, new markets and trade flows were finally documented.

In Somalia for example, there has traditionally been considerable illegal fishing, and as a result, the fishing maritime economy is likely to be very badly reflected in GDP; which of course does not include the illegal, combat or coping economies.   So what is known of the current structure of GDP?

The structure of the Somali economy is therefore very much in transition, though low levels of foreign direct investment, lack of specialization and limited diversification all affect both economic and social outcomes. That said, coming from an extremely low base, and with a high intellectual Somalia Diaspora increasingly looking to play a greater role in Somalia’s future, the next 10-20 years could be historic, if the right investment framework is established, and enabling systems put in place.

What is the preferred economic policy and investment strategy?

I am a former government economist, but since 2008, but I also the owner of multiple businesses.  As a result, any economic growth policy must balance public and private capabilities, and it must work in a targeted and systematic way to establish business models that can be replicated and scaled.  Moreover, the private sector is generally more concerned about balancing risks and rewards and operating in an economy where the legal framework protects investors.  Foreign companies will only look for sweetheart deals here, unless they can invest long term within an enabling framework.

Outside of domestic consumption, Somalia has always had a fairly traditional economy, reflective of largely un-processed primary products and low value added processes. The structure of the economy directly reflects rational risk seeking behavior and the results of weak state regulatory capacities, and as a result the future of the Somali economy must be considered rather bright.  Moreover, as times change and functional restructuring of state authorities progresses, the chances of political settlement sooner rather than later might for once be on the cards; though support from AMISOM will be critical over the longer term.

A critical observation here related to what is referred to as the ‘triple transition’. This means, that security and law and order are only possible once political settlement has been reached, and full economic development is only possible once security and rule of law are established.  However, it is clear, that if the entire population of Somalia is sufficiently vested in the formal and informal legal economy, the chances of peace and stability increase massively. Resource scarcity and competition are drivers of instability and predation.

In the future it is important to create and foster mutual dependencies between sectors and with the wider region, though increasing access to power and financial markets will be key drivers in the value addition transition.   On the economic side, this means establishing an evidence-based economic policy and investment framework, to include both traditional and un-traditional models of investment financing.  One of the many lessons we have learned in countries from Egypt to Afghanistan and from Ethiopia to the United Arab Emirates is to identify a financing modal and modalities that work well even in a difficult context.

It seems logical to focus any economic growth policy and growth strategy on: 

Changing the model of community development, to one that is not project driven but rather driven by establishing / strengthening informal institutions and their linkages to markets.  In Pakistan for example, Nestle spent 10 years investing in communities, building milk cooperatives, and establishing community cold storage systems, allowing them to set price guarantees for producers but also to aggregate product to urban domestic markets. Community development must not be blind to real market opportunities, and farmers learning and resources centers (as piloted in Central Asia) can bring the private sector and producers together.

Lowering transaction costs and building trade, transit, storage and other essential infrastructure is critical to lowering the transaction costs for both imported and exported goods. Economic isolation, like gender and social exclusion, must be rapidly overcome, not only undermines competitiveness, it undermines social and capital mobility, both of which are key to change.

Urbanization, given that the Somali population is set to double over the next tree decades, will guarantee that municipalities are in fact the most important governance unit in the country. Municipalities can become the drivers of urban renewal and small scale industrial processing, if leaders and managers at this level of government are trained to develop and deploy new investment models, as advocated by The Hague Process for example.

Special Economic Zones and Multi-Modal Inland Ports are going to be critical, both to securing an enabling investment environment for domestic and foreign investment, but also to assist in the process of formalization.  Major ports such as Bosaso, which has a new international runway to be served by Gulf and other carriers, provides great opportunity for grouping anchor, ancillary and spin-off investments, the impact of which can be profound.  Similarly, along major corridors into Ethiopia and Kenya, multi modal inland ports can be developed (many are emerging in Pakistan, India, Turkey and Central Asia) as trade and transit hubs, with spins offs for processing and packaging.  Given the that poorly conceived and badly implemented SEZ’s can be disastrous, partnering with countries such as the UAE which has considerable capacity in this area should be considered. They would be based in airports, ports and along trade corridors.

Given the potential financing risks that many investments take - resulting from overly optimistic financial flows, higher construction and running costs as well as interest and currency risks – capacity for assessing the Net Present Value, Internal Rate of Return and other analysis is needed, based on feasibility studies and transaction advisory support. A PPP unit could be established and training in all three jurisdictions, around which core skills can be developed in this area.  Guidelines alone will do little, as the basis for the concession (if that is the model) will require strong competencies, and the African Development Bank and IFC can support such an approach.

Diversification and Specialization are Key to Sustained Growth

Diversification of the economy will happen under the write conditions, and once a decision has been taken to encourage growth in potential sub-sectors, perhaps using hybrid investment modalities.  External aid has not enhanced growth prospects considerably since 1991, though this is beginning to chance.  Diversification is also necessary to broaden the benefits of growth, and to allow small to medium enterprises to bloom, which is critical to improving per capita earnings.

In certain parts of the economy such as telecoms and banking, specialization is expected, However, there is also considerably scope for specialization in fisheries, agriculture, packaging, exports, gemstones and other sectors, including services, where a business focus production on a limited products or services in order to gain greater degrees of productive efficiency. Little work has been done on these two areas, though new firms are being established every year and through price discovery and other mechanisms, specializations are slowly beginning to emerge.

A Call fore Innovative Funding Modalities

There are a range of financing and investment mechanisms that have not been significant drivers of Somalia’s growth in recent years, undermining the potential of the private sector to be the primary driver of growth and employment. While general improvements to the business environment have been made, the existence of a weak institutional environment means that new financing and investment mechanisms must emerge to ring-fence project finances and draw down the risk – setting the stage for Special Purpose Vehicles (SPVs) to be established. Project investment criteria, which will need to reflect the specific nature of any public and private investment, must be broadly as follows:

New financing and investment mechanisms provide an opportunity for the Government and the private sector to move away from a heavily aid-dependent approach, though establishing viable models that can be replicated will take both effort and time Sample generic models are outlined below:

What Does the Future Have in Store for Somalia?

Outside of the political domain, the future of the Somalia depends very heavily on accelerating growth and employment. For this to happen, new investment modalities must be developed, moving away from aid dependency and private flows from the diaspora alone.   Under the right conditions, and coming from a very low base, the rates of return in Somalia must be many times higher than they are in more advanced economies, for a given investment.   Urbanization and population growth mean that annual rates of GDP growth must be in the 5-7% range for the next two decades, and this can be done, but it requires strong policies and hybrid modalities.  None of this is complex, but it must be done.

With considerable maritime resources, and with sufficient sunshine to export energy across the entire region, re-branding Somalia as a business destination is the first step toward ushering a renaissance for the new Somalia.

For published versions see:

horseedmedia.net/2016/01/13/the-economic-future-of-somalia/