The Sources of Somalia’s Fiscal Instability

The ability of a government to sustain its current spending and tax in the long run without threatening default on some of its liabilities or promised expenditures is necessary to carryout key national policy priorities including the stabilization of the country, tackling climate related problems such as the recurrent droughts, creating jobs for the youth and increasing the domestic production.

Even though international donors provide the Federal Government some budgetary and project supports, mobilized resources are not sufficient to finance all public expenditures. Government operations and public sector work are often hampered by persistent budget deficits and lack of the required funds.

The sources of the fiscal instability in Somalia are from the low internal revenue, corruption of public spending and the unpredictability of aid flows. Fortunately, there are some policy options and strategies to promote the fiscal sustainability of the Federal Government to fulfill its mandate successfully.

The performance of the internal revenue for the last years is very promising and bodes the possibility of self-sufficiency in the long-term if the necessary legal frameworks are established and institutional capacity are strengthened. However, the domestic revenue is now very low compared to the donor aid which accounts for a high percentage of the total public revenue and the Federal Government faces great challenges in mobilizing domestic resources to meet its obligations. A narrow tax base, corruption in the revenue collection authorities/institutions and external shocks are the main causes of the low and erratic internal revenue. 

A tax base is defined as the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. Widespread insecurity and lack of revenue sharing agreement between the Federal Government and States makes the tax base very narrow as taxes from Mogadishu sea port and airport specially taxes on international trade and transactions represents the major component of the total tax revenue.

Many transactions and activities across the country are not subject to taxation by the Federal Government. For instance, the Federal Ministry doesn’t collect any proceeds from public sea ports of Kismayo, Bosaso and Berbera. Similarly, there is a systematic petty corruption in the revenue collection agencies since the current revenue collection practices are not transparent and there is a high suspicion whether the real amount of collected taxes are deposited at the single treasury account of the Federal Government and there are some embezzlement cases where some government officials are accused of misappropriation of public funds.

Moreover, external factors are also contributing to the uncertainty of domestic resource flows. For instance, in early 2020 the Federal Government suspended all international and domestic flights as measures to contain the outbreak of COVID-19 which had devastating impact on tax revenues from international trade and transaction especially those from Khat imports.

Corruption and mismanagement of public spending is another critical factor that contributes to the budget deficit and the fiscal instability of the Federal Government. Unnecessary public expenditures including some components of running costs of ministries, departments and agencies, compensation of many ghost employees and several consulting services all overinflate the government’s expenditures and cause the recurrent budget deficit. Almost all federal ministries and agencies submit invoices of rents, car fuels and medical care costs that they truly didn’t incur. Moreover, among the running cost reports are the purchase of office equipment and supplies that were never actually bought.

Foreign aid is one of the two financial flows that finance Somalia’s resource gap. According to UN Somalia received $2 billion in official development assistance in only 2020 comprised of roughly equal volumes of humanitarian and development aid. Aid flows from bilateral and multilateral donors offered Somalia budgetary and project support for the past years particularly from 2017 to 2020 where the nation received the largest sums of development aid. However, foreign aid contributes to the fiscal instability of the country due to the volatility and unpredictability of aid flows as well as the aid dependence syndrome that retards domestic revenue mobilization efforts. Somalia’s election crisis which lasted for almost two years showed the country’s increased vulnerability to aid shocks as the World Bank – the biggest aid donor- withdrew its funding to Somalia.

The election crisis jeopardized the progress of highly indebted poor countries (HIPC) of IMF’s debt relief program where Somalia reached the decision point in 2020. Furthermore, despite donor aid flows are meant to help the Federal government finance its budget deficit, conduct structural reform in public financial institutions and offer technical assistance in an effort to increase the internal revenue, perversely aid is creating dependence trap which is impeding any progress in internal revenue mobilization since the government view aid as alternative source of revenue with zero collection costs.  

The new government should liberalize towns and territories under the insurgents and also reach a revenue sharing and tax harmonization agreement with federal member states to expand the tax base to raise the internal tax revenue. The country has the potential to generate huge tax revenue if the authorities introduce new taxes without increasing the tax rate. Furthermore, a reform in tax administration is needed since the current tax system seems inefficient and suffers from lack of transparency. The automation of tax collection methods is one of the viable means to fight petty corruption and increase the transparency of the tax collection. 

The Office of Auditor General and the Anti-corruption Committee should be empowered to reduce the corruption in the composition of public expenditures. The Office of Auditor General should improve government accountability by scrutinizing the structure of public spending and reporting of any financial misconduct per the PFM act. The Anti-corruption Committee should investigate fraud and corruption cases and hold corrupt officials accountable. Somalia needs a zero tolerance to corruption policy where the government establishes strong legal regime for fighting corruption and perpetrators of embezzlement and theft face severe punishment.

On the other hand, good policies and institutions are necessary to receive large amount of aid because donors often allocate aid based on certain conditionalities including good governance. Strong public institutions and good economic policies also increase the effectiveness of development aid since resource flows from donors are directed to the nation’s reconstruction and recovery priorities including the investment of public infrastructure such as roads, dams, irrigation facilities, electricity etc and the construction of hospitals and schools. Finally, the government should prepare aid exit and transformation strategy that enables Somalia clear its foreign debt and depend only on its domestic resources for achieving long-term sustainable development.  

Hussein Jimale

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