The Horn Of Africa States: Opportunities And Constraints Of The Financial Sector – OpEd

In the Horn of Africa States region, the banking and financial sector operates within a complex and frequently fragile environment, shaped by heterogeneous economic structures, varying state capacities, and persistent political and security challenges. Within this context, the financial sector has shown notable areas of progress and resilience, while simultaneously facing deep-rooted structural, institutional, and macroeconomic constraints that limit its ability to drive inclusive growth and long-term development.

A key development in this industry has been the expansion of financial inclusion through mobile money and digital financial services, and in particular in countries like Somalia and Djibouti. These platforms are central to everyday economic life allowing individuals and businesses to make payments, transfer funds and store value without relying on traditional banks. 

One must note that physical bank presence is not as wide as in many other countries and therefore digital finance has narrowed the gaps between urban and rural societies and especially where populations are widely dispersed and formal bank presence is limited. Through technology, financial services are now reaching populations which would otherwise have remained excluded.

Islamic banking and finance has also been another addition to the sector, bringing in populations which would have otherwise stayed beyond the traditional banking and financial systems of the region. In Somalia, Djibouti and increasingly in Ethiopia, Islamic banking and finance have attracted many customers which would have avoided the banking business due to avoidance of interest. In Somalia all the banks except perhaps the Central Bank is organized on an Islamic basis, while in Djibouti and Ethiopia, both Islamic banks and traditional conventional banks operate. Even some conventional banks in both countries offer Islamic windows to stay in the competition for the new and growing customer base. 

Central banks and financial regulators in the region have begun updating banking laws, strengthening supervision, and introducing basic prudential standards such as capital adequacy and liquidity requirements. These reforms aim to enhance financial stability, improve transparency, and rebuild confidence in the formal banking system. Efforts to modernize payment systems and introduce national financial infrastructures are laying the groundwork for more efficient and integrated financial markets.

Despite these positive developments, the region still suffers from low banking penetration and limited access to credit. Banks tend to focus on short-term, low-risk activities, such as trade finance or government securities, instead of lending to agriculture, manufacturing, or small enterprises, let alone innovation and technology, and as a result, the sector’s contribution to job creation, industrial development, and poverty reduction remains modest, at best.

Weak institutional capacity limits the banking sector’s ability to operate at full potential, as regulatory authorities often face constraints in resources, skilled personnel, and enforcement authority. This challenge is further exacerbated by underdeveloped legal systems, which impede the effective implementation and enforcement of financial regulations across much of the region.

Macroeconomic fragility, political instability and insecurity, and underdeveloped financial infrastructure all add up to being major obstacles, which reduce the overall effectiveness of financial intermediation in the region.

Another significant challenge is limited integration with the global financial system. Banks in the region often face difficulties maintaining correspondent banking relationships due to perceptions of high risk related to money laundering, terrorism financing, and weak regulation. This “de-risking” by international banks restricts access to global payment systems, foreign currency liquidity, and trade finance. For economies that depend heavily on imports, remittances, and external aid, such constraints have serious economic consequences and further isolate domestic financial systems.

In conclusion, the banking and financial sector of the region reflects both resilience and vulnerability. Innovations in mobile money, the expansion of Islamic finance, and ongoing regulatory reforms demonstrate the sector’s potential to support inclusion and growth. However, low credit access, weak institutions, macroeconomic instability, political insecurity, and inadequate infrastructure continue to limit its development and impact. 

For the sector to become a true engine of economic transformation, sustained efforts are needed to strengthen governance, improve stability, deepen financial infrastructure, and align financial services more closely with the productive needs of the economy. Only then can the financial sector fully support inclusive and sustainable development across the region.