> Posted by Jeffrey Riecke, Communications Associate, CFI

Somalia is facing another potentially life-threatening drought. Aid agencies in East Africa indicate a strong possibility that drought in 2014 will be as severe as that of 2011, which resulted in the deaths of about 260,000 people. But this year, Somalia’s people may not be able to count on a trusted lifeline in times of drought: remittances from the United States and other countries. Remittances from the United States to Somalia are responsible for roughly $214 million annually, but increasingly, U.S. regulators are imposing a string of service provider shutdowns. If these services are constrained, the effects of a drought on Somalis will likely be exacerbated.

The reason for this challenge for cash flows between friends and family across the Somali diaspora? Regulatory issues centering on the risk of these remittances funding potentially dangerous individuals. In 2011, for example, two Somali-Americans from Rochester, Minnesota were convicted of supplying cash to the terrorist group al-Shabab. Such incidents prompt often sweeping regulatory action and/or preemptive actions by banks to avoid transactions involving Somalia.

The global network providing cash transfers to Somalia is known as hawala, meaning transfer in Arabic. The system, which functions both in conjunction with and outside of formal services channels, primarily serves the Middle East, North Africa, and the Horn of Africa. Trust and the extensive use of social connections are often at the core of hawala transactions; the system can function in places without presiding legal environments. In the United States, hawala brokers, also referred to as hawaladars, legally need to be linked to a bank account.

Over the past few years, many U.S. banks have terminated the account services of Somali-American hawala brokers, afraid of facilitating cash flow to criminal parties and being penalized for breaking domestic counter-terrorism laws. In the United States, banks must have proof that the company receiving the remittance knows its customer and can validate the identification of the person picking up the cash. Because of the lack of formal financial services in Somalia, and the absence of other infrastructure (the country transitioned from an interim to permanent government just two years ago), it’s difficult to verify the identification of those receiving money.

About a third of Somali-Americans live in Minnesota. Following a succession of other Minnesota banks ending the accounts of Somali-American hawaladars (see here and here), Merchants Bank of California, one of the last remaining banks operating in the space, recently announced that it will stop supporting such remittances at the end of this month. With fewer banks open to services for hawala, remittances to Somalia are slowing dramatically.

To prevent the services from disappearing completely, the Somali-American community in Minnesota is lobbying the federal government to pass legislation to make it feasible for banks to offer accounts to hawala brokers. A bill from Minnesota’s Keith Ellison passed Congress’ House of Representatives in May, and now awaits vote by the Senate. The Money Remittances Improvement Act aims to streamline remittances regulation, reducing the risk imposed on banks. The bill includes measures to both simplify the oversight of hawala remittances providers by strengthening collaboration between federal and state regulators, and offer greater assurance for the associated financial institutions that hawaladars are properly regulated.

For more on the proposed legislation, click here.

Image credit: Riyaad Minty

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