Financial System in Zanzibar

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    Assessment of Monetary Policy Transmission Mechanism in Tanzania
    (2019) Bank of Tanzania
    This study aims at assessing the effectiveness of alternative monetary policy transmission channels in Tanzania. Theoretically, the monetary policy transmission is expected to differ between developed and developing countries due to varied structural and institutional features. The empirical work undertaken by this study suggests that the sensitivity of output and prices to changes in monetary policy are generally weak and slow. Moreover, the study found a significant contribution of monetary policy in explaining dynamics of supply of credit to private sector which matters in fostering the growth of the economy. And lastly, it appears that inflation and exchange rate dynamics in Tanzania are highly influenced by developments in the international oil prices. There are potentially three policy implications, the first one being sustaining financial sector reforms geared towards eliminating the remaining structural impediments that hinder financial deepening, the Bank may choose to switch to an alternative monetary policy framework that has proved to be successful in attaining price stability, the Bank of Tanzania should continue with close monitoring of the global developments especially the movements in the international oil prices and react appropriately in order to safeguard the domestic macroeconomic stability.
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    Determinants of Banks Lending Interest Rates in Tanzania: An Investigation Using Banks Balance Sheet Data
    (2019) Wilfred Mbowe; Sia Shayo; Aristides Mrema
    The study seeks to examine the determinants of bank lending interest rates in Tanzania, largely focusing on identifying the key determinants and their relative importance. Techniques employed comprise interest rates decomposition and econometric estimation using banks’ annual balance sheet data. Results on interest rates decomposition suggest that, the main drivers of lending rates are operating costs, non-performing loans; and costs of funds (banks deposits interest rate). The three factors accounted for 70.4 percent of small banks’ average lending rates in 2014-17; while for medium and large banks, they constituted about 69.5 percent and 67.4 percent of the lending rates, respectively. SMR ratio appears to play an important role in all banks' lending rates, but its share has been declining overtime consistent with the expansionary monetary policy measures pursued since 2014. With respect to econometric estimations, the findings confirm the role of operating costs, non-performing loans, and costs of funds in explaining banks’ lending rates dynamics. Operating costs, cost of funds, and inflation have a statistically significant positive effect on banks’ lending rates, while bank size and level of liquidity have a negative influence. SMR ratio is statistically significant but bears a negative sign except for locally owned banks. In relative importance, the main determinants of banks’ lending rates could be ranked as follows: inflation with an average positive impact of 0.432 on lending rates for a unit change in inflation, trailed by operating costs (0.261), and cost of funds (0.255). Bank size has the largest negative effect of 0.288 for every unit increase in the variable. These factors are also significant but with some variation across bank categories. The main factors behind high deposits rates include banks' high competition for deposits partly following tight liquidity conditions experienced by banks especially from 2016, largely due to cumulative impact of substantial decline in net foreign budgetary inflows, transfer of public institutions’ deposits from commercial banks to the Bank of Tanzania and heightened expenditure management. Factors affecting non-performing loans comprise global financial crises; credit screening weaknesses; a decrease in supply of loans partly contributed by factors such as liquidity tightness, and decline of effective demand for loans ascribed to domestic fiscal consolidation and disciple enhancement measures; capital enhancement measures including adoption of capital charge for operational risk, introduction of capital buffer and anticipation of increased provision due to adoption of IFRS 9. At the same time, operating costs are largely driven by costs related to employees’ salaries and benefits which account for an average of 43.7 percent of the banking industry’s operating costs and have been increasing overtime. Other notable costs components in this are rental expenses on premises and equipment, depreciation of premises and equipment, and utilities expenses. Employees’ salaries and benefits costs are much higher for small banks at 44.4 percent of operating costs compared to 42.5 percent and 43.9 percent for medium size and large banks, respectively. The implications of these findings are that effort should be directed at improving operational efficiency aiming at reducing banks operating costs. The key areas of attention are with respect to employees’ salaries iiiBank of Tanzania WP No. 17: 2019 and benefits, as well as rental and depreciation expenses related to premises and equipment. In this, banks may consider to take advantage of ICT advancement in the country in services provision so as to cut on costs of “mortal and brick” as well as employees. Priority could be put on utilizing the growing agent banking framework, and digital banking technology. Prudent consolidation of small banks could as well help cut on operating costs, improving efficiency, and enhancing liquidity levels. Also, measures need to be taken to reduce non-performing loans including through enhancing borrowers screening mechanisms enabled by credit risk management frameworks at bank level and mandatory use of credit reference system to reduce credit risk. Strengthening of the regulatory and supervisory role is important mostly targeting to ensure adequate liquidity in the banking system for daily needs. Since SMR is a tax on banks deposits, it is recommended to reduce it further from the current 7 percent (at end-August 2019) so as to enhance banks’ lending capacity. Nevertheless, such a move should be mindful of the absorption capacity of the economy in order to reduce the possibility for building inflationary pressures. The EAC statutory reserve requirement convergence target is 5 percent by 2021, the target is already attained by Burundi with a rate of 3 percent, Rwanda (5.0 percent), and Kenya (5.25 percent). Another area of attention is related to macroeconomic stability. That can be achieved through measures targeting higher and sustainable economic growth and low and stable inflation. The duo macroeconomic fronts are important in boosting demand for credit as well as improving loan repayment capabilities, hence reducing credit risks.
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    Financial Sector Reforms and Innovations and their Implications on Monetary Policy Transmission in Tanzania
    (2018-05) Nguling’wa Balele; Nicholaus Kessy; Zegezege Mpemba; Frank Aminiel; George Sije; Emmanuel Mung’ong’o
    Tanzania embarked on a series of financial reforms starting 1991 as an effort to promote the development of a market-based financial sector. The reforms were implemented in two major phases: The First Generation Financial Sector Reforms which started in 1991 targeting legal reforms to create competitive environment, modernization of the National Payment Systems, strengthening of BOT’s regulatory and supervisory capacity, restructuring and privatization of state owned banks and financial institutions. The Second Generation Financial Sector Reforms followed in 2003 aiming at strengthening the banking sector, developing financial markets, facilitating the provision of long term development finance, land reforms, creation of credit registry and strengthening of micro and rural finance. Using descriptive analysis and model-based approaches, this study assesses the impact of the reforms and innovations in the financial sector on the development of the banking sector in Tanzania and evaluates the implications of the banking sector development on the effectiveness of monetary policy. On the banking sector, the findings suggest that considerable achievements have been recorded, particularly in the structural change of the sector, as well as the quantity and quality of the financial services provided. Notably, the following achievements are worth mentioning.
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    Monetary Policy Rate Pass-through to Retail Bank Interest Rates in Tanzania
    (2015-09) Wilfred E. Mbowe
    This study employs an error correction model to assess the degree and speed of adjustment of commercial banks’ interest rates to monetary policy rate changes with a view to providing insight into the pass-through of the monetary policy rate to the interbank rate and retail bank interest rates in Tanzania. The analysis started with the assessment of long run and causal relationships between interest rates. In error correction model setting and by using monthly data spanning the period March 2003 through December 2012, estimations for the retail lending rate and deposits rate models provided baseline results to help test the maintained hypotheses. Separate estimations were made for the three largest banks and “small” banks to account for concentration effects on the interest rate pass-through. In addition, distinction was made, on one hand, between banks owned privately and publicly, and foreign against domestically owed banks on the other.
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    Transaction Dollarization in Tanzania
    (2015-05) Pantaleo Kessy; Nicas Yabu
    Some observers in Tanzania have suggested that a significant portion of Tanzania’s businesses and service providers are using the U.S. dollar for pricing purposes as well as carrying out transactions. However, very little evidence has been put forward to support these claims. This study examines the evidence of dollarization in Tanzania, focusing mainly on the use of U.S. dollar as a medium of exchange and unit of account. The evidence presented in this study suggests that many of the concerns that have been expressed by some observers about significant use of the U.S. dollar as a medium of exchange in Tanzania are not well founded. The findings indicate that about 3.2 percent of the businesses in Mainland Tanzania and 4.5 percent in Zanzibar quote prices in U.S. dollar, but most of these businesses were willing to accept payments in Tanzanian shilling. Only 0.1 percent of the businesses in the Mainland and none in Zanzibar indicated that they would prefer payments exclusively in U.S. dollar. The findings also indicate that quotation of prices in U.S. dollar is limited to specific locations and applies to specific products/services, and in most cases is done for bona fide reasons. It is important to appreciate the influence of increased trade openness on demand for and attitude towards U.S. dollar, which is the dominant currency of foreign trade. The fact that Tanzanians hold a small portion of their wealth in U.S. dollar and insignificant number of prices are quoted in foreign currency may not be surprising in an economy where foreign goods and services account for a significant portion of what a typical household consumes. This may simply be a natural phenomenon resulting from the fact that Tanzanian economy has become much more open and outward oriented than it was some 20 years ago. In addition, this experience is not unique to Tanzania. Many countries in the region and across the world are experiencing a similar situation. We urge the authorities to avoid the use of direct measures in their quest for limiting dollarization in the economy because international evidence suggests that enforcing de-dollarization can potentially be counter-productive. Instead, we recommend the use of gradual market-oriented measures aimed at enhancing the attractiveness of the domestic currency