Promoting Libya as a destination for foreign direct investment should be an easy sell. At a time when governments throughout the Middle East and North Africa are cutting their budgets because of the global financial crisis, economic activity in Libya is booming, not least because the government is planning to spend more than $42bn on projects to 2011.

With $136bn in foreign currency reserves, no public debt and a 2009 budget based on a conservative oil price of $40 a barrel, Libya’s key economic indicators are healthy.

But these figures mask significant weaknesses in the country’s economy, principally its underdeveloped banking system, which continues to restrict the flow of capital within and into the country. Without a modern banking system to lend to Libya’s private companies, state-run enterprises will continue to dominate the economy.

While a series of reforms over the past four years are helping to improve matters, progress until now has been slow. In 2005, Banking Law Number 1 came into effect, allowing foreign banks to operate in the country for the first time in 39 years, although only in partnership with local banks. The law also provides a framework within which the Central Bank of Libya (CBL) can carry out an ambitious modernisation agenda.

International ambitions

The most significant event for the banking sector since the law was introduced is the part-privatisation of state-owned Sahara Bank in 2007. In March that year, six bidders were shortlisted to take a 19 per cent equity stake and management control in the bank, from the state-run Social & Economic Development Fund. France’s BNP Paribas won the bid four months later, and is now implementing a modern-isation programme.

Claude Rufin, chief executive officer of Sahara Bank, says his main mission is to transform the bank so it becomes “a Libyan bank with an international profile”.

This transformation hinges on technology, says Rufin. The bank will have the same IT system as BNP uses for its own branch network and Rufin hopes to have a complete IT system covering all of Sahara Bank’s branches by October, linking customer information that has until now been spread across 50 sites.

Once that is in place, the bank will concentrate on improving its credit risk processes, which should allow it to increase lending.

The Sahara Bank deal was followed in February 2008 by the sale of a 19 per cent stake in the state-owned Wahda Bank to Jordan’s Arab Bank. The deal is another sign that the central bank considers foreign bank partnerships as the best way to quickly reform the country’s banking sector. “As Wahda Bank’s strategic partner, Arab Bank will contribute to the modernisation of IT systems, introduce new risk management tools, launch new products, develop a sales and marketing culture and undertake significant training of Wahda Bank’s staff,” the bank said at the time.

The CBL’s proactive stance towards banking reform has been welcomed by foreign banks active in Libya. “The CBL is very open to asking foreign banking partners to make proposals to amend regulations,” says one Tripoli-based foreign banker.

The banking sector is likely to be opened up to international institutions even more in the coming years. When it agreed the deal with BNP in 2007, the CBL hinted that it would issue three more operating licences to foreign banks at the end of 2010.

However, the likelihood is that Libya’s banks will remain protected from the full force of foreign competition for several more years.

“If foreign banks were allowed into Libya today without restrictions, they would eat the local banks alive,” says one international banker based in Tripoli.

The UK’s HSBC is hopeful that it will be one of the lucky three to win a licence. Having withdrawn from the bidding for Sahara Bank in 2007, HSBC has a representative office in Tripoli, but it only has limited operations. For example, it is acting as financial adviser on projects such as the 200,000-barrel-a-day crude oil refinery being developed by the local Zwara Oil Refinery Company (Zorco), a mandate it won in December 2008.

One month earlier, another international bank, First Gulf Libyan Bank, began working in the country. The bank is the result of an agreement between the Economic & Social Development Fund and the UAE’s First Gulf Bank. The two parties own equal shares in First Gulf Libyan, which has a full commercial licence and authorised capital of $400m. “We are becoming more and more active in the financing of projects as well as focusing on trade finance products for private and state-owned entities,” says Salem Bessaoud, general manager of First Gulf Libyan.

The new bank will benefit from First Gulf Bank’s expertise with technology, to ensure fast cross-border settlements and money transfers. Internet banking is already available for customers -a service that the state-owned banks do not yet offer.

Online banking aside, the scale of financial reform needed in Libya is such that meeting all of the needs of an increasingly sophisticated financial community will not happen for some time. “We are sometimes ready to move ahead but the infrastructure can hold us back,” says Rufin.

It is not just the banking sector that could benefit from new ideas and working methods; there is also a need for reform across all areas of the economy. Despite the government’s privatisation programme, which began in earnest in 2000, the public sector still accounts for 80-90 per cent of all activity.

Marketing opportunities

During the years of sanctions, when the country was largely isolated from global economic trends, this was not necessarily a problem. But this 40-year legacy is now affecting government attempts to encourage entrepreneurship and the creation of new companies.

As Libya re-engages with the global economy, thousands of Libyans who lived and were educated overseas are returning to find their plans frustrated by those who stayed in the country and are unfamiliar with the concept of private enterprise.

“The [Libyan] mentality and mindset is not ready to take these opportunities,” says one government official who is frustrated with the speed of privatisation in the country. “In Tunisia, millions would respond [to advertising]. Here, maybe only 10 per cent of that figure would respond.”

Two bodies, the National Economic Development Board (NEDB), which acts as the technical advisory arm of the General People’s Committee, and the Privatisation & Investment Board (PIB), which reports to the General Public Committee for Industry, Economy & Trade, are spearheading the privatisation programme and trying to change these attitudes.

The NEDB oversees a national programme for small and medium-sized businesses and, since starting operations in April, has helped entrepreneurs in Tripoli, Benghazi and Sebha set up and finance their own companies. In less than five months, the scheme has received applications for about 500 projects. The body’s loan guarantee fund will also help to underwrite new companies’ loans.

The PIB’s job is to increase the role of the private sector in Libya’s economic development by attracting both foreign and domestic capital, in particular companies who can transfer their technology and management skills.

Mahmoud al-Ftise, secretary of the PIB, says the board is working in parallel with the CBL to ensure banking sector reforms help investors -for example, by speeding up payment systems. Currently, foreign investors in Libya are advised there can be a six-month delay in being paid by clients.

In further efforts to promote inward investment, Al-Ftise’s team is developing an investment map of Libya, showing opportunities available across the country. In July, the PIB set up a 10-man marketing and promotion team to promote Libya to investors, especially in Europe, the Gulf and the US.

“We are trying to brand Libya beyond its borders as an oasis of security and peace” says Al-Ftise.

Since 2000, the PIB has privatised 100 companies and a further 118 are being prepared for privatisation, including 57 industrial projects, 29 tourism projects and 15 in the services sector. On top of these, a further 117 have received initial approval to go ahead, including 44 industrial schemes and 48 tourism projects. Al-Ftise says he would be happy to have privatised 200 projects in total by 2012.

While the PIB can put potential investors in touch with relevant companies, private investors still need local banks to lend them money to support their business. The Libyan Credit Information Centre, the country’s first credit bureau, which was set up in March by the CBL, is trying to encourage this by creating credit risk profiles for domestic companies. Once Libya’s banks have installed IT systems to link all their branches, the bureau plans to provide data reports for individuals too.

But encouraging the growth of the credit market is not simply a case of providing banks with more information about prospective customers. A major part of the credit bureau’s job will be to educate a generation of Libyans. The country is still largely a cash-based society and has no recent history of commercial lending on a significant scale.

Setting up new institutions such as the credit bureau will be crucial in establishing greater trust in Libya’s business environment. The current lack of centralised information is a major obstacle to the development of Libya’s private sector, and consequently its economy.

While Libyans wait for the country’s banking and credit system to develop and start lending to individuals and businesses on a significant scale, government-backed schemes will continue to be the main drivers of economic growth.

But the consensus among Libya’s business community is that the economic reforms should soon start to produce results. “Things are really moving in Libya now,” says one foreign contractor in Tripoli. “The reforms have gathered a momentum of their own that means they will come through the bottleneck. The rest of this year will be crucial.”