Somalia's trade deficit widens, consuming total inward remittances as economic disparities grow over six years

Saturday August 24, 2024
By Hussein Abdullahi Yusuf

Somalis trade deficit has significantly widened over the past six years. In 2018, Somalia faced a trade deficit of USD 2.749 billion, which expanded to USD 5.7 billion by 2023. The total import value increased from USD 3.3 billion in 2018 to USD 6.955 billion in 2023, while the total export value grew from USD 571 million to USD 1.223 billion.

This trade imbalance has led to a substantial outflow of foreign currency that has adversely impacted local production capabilities as cheap imported goods flog the market, rendering domestic production in an uncompetitive position.

Remittances constitute Somalia's primary source of foreign exchange. These inflows are primarily used to fund the country’s import bill, resulting in an outflow of U.S. dollars from domestic circulation to pay foreign exporters to Somalia. In 2023, remittance inflows totaled USD 5.6 billion, whereas the trade deficit was USD 5.7 billion. This data indicates that the entirety of the remittance inflows was directed towards settling the import bill, hence, the fund left the country with one 2023, without creating much long term value as depicted in the graph below.

Purpose of the article is to explore the reasons behind the widening trade imbalance and suggest potential solutions.

Trade deficit is defined as when a country`s imports more goods and services than it exports, resulting in a negative balance of trade. The total import value in 2018 was USD 3.3 Billion while the total export value was USD 571 Million, leaving the country's trade deficit of USD 2.749 Billion. Fast forward in 2023, the total import value was USD 6.955 Billion while total export value was at USD 1.223 Billion, leaving the country trade deficit of USD 5.732 Billion, as the below graph depicts.

The challenges constraining Somalia's export capacity include limited funding, inadequate international market access for value-added products, and insufficient infrastructure for processing and storing goods. The country has experienced a trade deficit due to a range of interconnected factors, which are rooted in both structural and situational issues. Key causes include

Political Instability: Somalia has experienced prolonged periods of conflict and instability, which have disrupted economic activities, including trade and investment. The lack of a stable government and infrastructure has made it difficult to manage and develop trade effectively.

Weak Infrastructure: Poor infrastructure, including inadequate road network, and communication systems, hinders trade by increasing transaction costs and reducing the efficiency of moving goods both within the country and across borders.

Limited Industrial Base: Somalia’s industrial sector is relatively under/not developed, leading to a heavy reliance on imports for manufactured goods and capital equipment. This lack of domestic production capacity contributes significantly to the trade deficit.

Dependence on Imports: The country relies heavily on imports for essential goods, including food, fuel, and machinery. This high dependency exacerbates the trade imbalance, as the value of imports often far exceeds that of exports.

The primary causes of the trade deficit are Somalia’s inability to produce goods and services, mainly food and construction materials as those two categories dominate in our import bill.

Somalia imported USD 6.955 billion in 2023, compared to USD 6.080 billion in 2022. The main import categories in 2023 were as follows:

This indicates that food, construction, and medical products accounted for two-thirds of a percentage point of the import bill. Specifically, food accounted for 28.8% in 2023.

Low Export Capacity: Somalia's export sector is constrained by various factors, including the limited diversity of products mainly concentrating on livestock-related products, low production levels, and challenges in meeting international standards. Additionally, issues such as insecurity and lack of access to global markets further limit export opportunities.

Further, our limited export capacity also exacerbates the gap, in 2023 the total export value was USD 1.223 Billion, and most of this export was livestock-related categories with little value added.

Security Concerns: Persistent security issues, including terrorist attacks and internal conflicts, deterred investment in the most fertile and productive areas of the country including Juba Valley that are rich in agricultural. Moreover, concerns of piracy attacks are hindering in fishery investments, which could have produced fish that we can export to neighboring country including Ethiopia, where there is a huge demand for seafood products for religious and health purposes. Therefore, Security Concerns, further exacerbate Somalia’s trade balance.

Economic Mismanagement: Issues such as corruption, nepotism, lack of effective economic policies, talent mismanagement, not allocating the right man for the right job and poor financial management exacerbate trade imbalances by creating inefficiencies in public and private sectors and hindering economic growth.

International Trade Barriers: Somalia faces barriers to trade such as tariffs, trade restrictions, sanctions, and additional due diligence measures as the country`s weak quality assurance protocols, affect its ability to engage effectively in global markets. In some instances, Somali products are forced to be exported to another country to get the label and license and then re-export to the destination.

Addressing Somalia's trade deficit requires a comprehensive approach that involves enhancing both the supply side and demand side of the economy. Here are several strategies, along with examples from Sub-Saharan Africa (SSA) that have implemented similar measures:

1. Improve Infrastructure

Strategy: Invest in infrastructure such as ports, and roads, to facilitate trade and reduce transaction costs.

Examples:

Rwanda: The government has invested in improving roads and logistics through the "Rwanda Transport Infrastructure Project," which has streamlined the movement of goods and bolstered trade.

2. Enhance Industrialization

Strategy: Develop local industries to reduce dependence on imports and increase export capacity by focusing on value addition and diversification.

Examples:

Kenya: The "Big Four Agenda" includes industrialization as a key pillar. Kenya has invested in special economic zones and industrial parks, leading to increased manufacturing output and export diversification.

In Ethiopia, one industrial park alone -Hawassa Industrial Park- employs more than 20,000 people.

3. Strengthen Governance and Reduce Corruption

Strategy: Implement better governance practices and anti-corruption measures to create a more favorable business environment and attract foreign investment.

Examples:

Botswana: Known for its strong governance and low corruption levels, Botswana has created a stable business environment that supports economic growth and trade.

4. Promote Export-Oriented Policies

Strategy: Develop policies that incentivize and support the export sector, including export subsidies, tax incentives, and access to international markets.

Examples:

South Africa: The government provides various incentives for exporters, including tax rebates and support programs, which have helped South Africa maintain a competitive edge in international markets.

5. Develop Human Capital and Skills

Strategy: Invest in education and vocational training to develop a skilled workforce capable of supporting and growing the trade sector.

Examples:

Ghana: The government’s focus on education and skills development through initiatives like the "Technical and Vocational Education and Training (TVET)" programs has helped improve the labor force’s skills that support sectors such as business process outsourcing, and ultimately supporting industrial and export growth.

6. Enhance Trade Facilitation and Access to Global Markets

Strategy: Improve trade facilitation measures such as customs procedures and trade agreements to better integrate into the global economy.

Examples:

Somalia joining the East Africa Communities is very successful endeavor. Additionally, we should also focus on joining other trade communities in Middle East to further our business relations.

7. Foster Public-Private Partnerships

Strategy: Encourage collaboration between the government and private sector to drive investment and innovation in trade-related activities.

Examples:

Nigeria: The Nigerian government has partnered with private investors to develop infrastructure and industrial projects, aiming to enhance trade and economic growth.

Somalia: The recent regulation approved by council of ministries pertaining to Public-Private Partnerships is welcoming start; however, the government should materialize this relation by allowing the private sector to engage more in business.

8. Enhance Access to Finance

Strategy: Improve access to finance for businesses to support investment in key sectors, industrial development, and trade activities.

Examples:

Nigeria: The Central Bank of Nigeria’s intervention programs, such as the Anchor Borrowers' Program, provide funding to small and medium-sized enterprises (SMEs), supporting their growth and export capacity.

9. Invest in Energy Infrastructure and Develop Regional Energy Integration

Strategy: Integrate with regional and neighboring energy markets to access a broader energy supply, reduce energy prices and create economies of scale.

Examples:

West Africa: The West African Power Pool (WAPP) facilitates cross-border electricity trade, improving energy security and supporting regional economic growth.

Somalia: The current energy price of USD 0.42 per Kilowatt in Somalia is unaffordable and cannot support for industrial growth. Energy importation from neighboring countries is viable alternative to combat higher energy costs. Renewable energy is another alternative in which funds can be secured from the Gulf countries or international financial institutions.

Implementing these strategies in Somalia would involve tailored approaches considering the country's specific context and challenges. By learning from the experiences of other SSA and DCs, Somalia can develop a multi-faceted strategy to address its trade deficit effectively.

Hussein Abdullahi Yusuf is a consultant, economist and financial sector analyst in Eastern Africa and MENA.

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References

(Central Bank of Somalia, 2024) Quarterly-Economic-Report_Q4_2023_09-06-24.pdf