SEF London - In the world of finance, banks (financial intermediaries) are considered to be the most important engines for economic growth, as their primary objective is to bring together lenders (savers) and borrowers (investors). Banks traditionally use depositors’ money to provide individual and business loans and sometimes to invest in major projects.
You might well ask yourself, “If banks have people’s money, why are they not lending to those who need financing, such as SMEs and entrepreneurs with great business ideas?”
Evidently the Somali economy has been growing over the past decade, due to increasing urbanisation, better security, increasing FDI and the return of the diaspora, which have contributed to the economy via cash investments and improvements in the labour market, as they are primarily highly skilled workers.
The number of banks has also been increasing in recent years; this is good news, partly because it contributes to the wellbeing of the economy, in terms of employment. The number of businesses using banks increased by 7% between 2010 and 2014 according to SEF’s Finance Report 2014. In addition, the number of individuals using banking facilities has also increased, including the unbanked low-income individuals from the lower segments of society. This is because “people are starting to trust banks and starting to realise the important role financial institutions play in their day to day life,” says Hafsa Isse of Barwaqo Bank, a pioneering non-profit microfinance institution.
Arguably, the reason banks are not lending as they should be is because of their structure, particularly with regards to risk.
Unlike banks in the United Kingdom, Somali banks own 98% of their investment capital and with so little of depositors’ money there is not much pressure on these banks to perform.
Any business is subject to risk; in the case of banks; most risk stems from lack of, or unbalanced available information, which is what economists call Asymmetric Information. When a bank lends someone money they do not know whether this person will pay back the loan on time, or whether they will default. Therefore, to minimise risk, banks gather information about the person applying for the loan and assess his/her cash flow. This is what is referred to as Adverse Selection, and takes place before the loan is granted. In Somalia it is hard to find clear and reliable financial information pertaining to a business or individual because of the lack of credit agencies. It is even harder to find information about companies, as the majority of Somali companies do not have sufficiently audited financial reporting.
Often, borrowers take unnecessary risks after securing a loan; this is what is referred to as Moral Hazard, where the borrower provides inaccurate information regarding the proposed investment or use of funds. He/she may highlight secure and less risky business activities; for example, the borrower may say that they are looking to open a fast food restaurant in a crowded area in the city, or set up an ice cream van near the beach that also sells cold beverages. However, they may actually end up spending the money on establishing a meat distribution company in a high risk and untested market, for example. This would be a risky enterprise, because if fresh meat is not sold within a day it has to be thrown away, and if it needs to be kept in cold fridges it becomes extremely expensive, due to high energy costs - currently at $1 per kWh.
Nevertheless, the economic situation in Somalia has improved in the past few years. The financial services industry in particular has grown, and so have its players; insurance companies and non-banking institutions have been established and are contributing to the advancement of the financial sector in Somalia. With time and experience banks will be able to assess risks more efficiently, with the help of credit agencies. As the demand for finance grows, banks will have to respond to that demand and seek out ways to expand, either by raising funds in the capital market through the Somali Stock Exchange, or by finding other channels, in order to take advantage of these opportunities.
Contributed by Hassan Dudde who is the Managing Director of Somali Economic Forum
The annual Somali Investment Summit (SIS) is a dynamic platform whereby investors can invest in Somalia and network with dynamic businesses and policymakers. The SIS will also facilitate access to crucial information on investment opportunities and the economic trends that are driving Somalia’s and the wider Horn of Africa’s phenomenal economic growth. According to the IMF, Somalia's economy has consistently grown in recent years with real GDP increasing by 3.7% per annum since 2014, one of the fastest rates of economic growth in the region. The SIS 2017 is the 4th of its event series and will be held on the 29th of April 2017 at Sheraton Hotel, Dubai, United Arab Emirates (UAE). The SIS continues to remain Somalia’s most important business summit.
Hosted by the Somali Economic Forum (SEF) and supported by the Federal Government of Somalia, the SIS 2017, will offer a platform for international and foreign investors to engage with Somalia’s economy in order to seek out and access the abundant investment opportunities available throughout the country. Over 250 leaders from the public and private sectors including international executives, academics, policymakers and investors will converge in Dubai to network, discuss opportunities, share best practice, forge strategic partnerships and showcase the investment opportunities available within Somalia. Given the increasing interest in the whole region, it is the ideal time for international investors to examine the vast potential in Somalia. The SIS 2017 is the place to be for those businesses and firms looking to venture into the Horn of Africa and particularly Somalia, which benefits from its strategic location and its role as a foothold into lucrative markets such as Ethiopia & Kenya.
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