Financial Institution Risk Management in Somalia: A Critical Analysis

Somalia’s financial sector has long been plagued by fiscal risks, which have led to a loss of institutional capacity, poor management of public finances, and prolonged fiscal crises. The country’s official dollarization since 1991 has further exacerbated these issues, making it challenging for the government to manage its economy.

Types of Fiscal Risks

The government faces three primary types of fiscal risk:

Macroeconomic Risks

• Linked to errors in forecasting and their impact on the budget
• Somalia is experiencing a range of macroeconomic risk factors, including:
  • Balance of payments deficits
  • Currency outflows
  • Limited capacity to control inflation due to its high dependency on foreign commodities

Institutional Risks

• Arise from unconventional fiscal risk management practices across different levels of government
• Lack of strategic approach in policy formulation, institutional capacity, and risk management
• Challenging to examine the impact of new policies before their implementation

Specific Risks

• Unexpected events such as:
  • Droughts
  • Floods
  • Desert locusts
• Uncertainty surrounding grants from international development organizations and financial transfers from the federal government to member states can result in:
  • Large revenue shortfalls
  • Unplanned increases in deficits or debt levels
  • Potential collapse of fiscal policy

Recommendations for Mitigating Fiscal Risks

Creating a Macro-Fiscal Unit or Department

• Promote macro-fiscal and debt sustainability objectives
• Recognize fiscal risks and serve as an advisory unit on structural reforms
• Lead to improved budget preparation, execution, macro-fiscal monitoring, policy consistency, and fiscal risk management

Strengthening Institutional Arrangements and Capacity

• Reshape organizational designs
• Create information flows across departments
• Develop personnel skills
• Boost the effectiveness of public institutions, narrow skills gaps, and make macro-fiscal targets more achievable

Establishing Common Systems and Standards for Public Financial Management

• Unified functional charts of accounts
• Budget preparation and execution processes
• Accounting and financial reporting
• Cash and debt management
• Building capacity in these areas is crucial, with sustained efforts required at both the federal level and member states

Conclusion

By implementing these recommendations, Somalia can better manage fiscal risks and improve its overall fiscal performance.