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About the Bank

Primary Objective and Function of the Bank

Due to increasing evidence of the negative effects of inflation in recent years, there has emerged a growing consensus throughout the world that a monetary policy geared towards the pursuit of Price Stability, in the longer term, is the Central Bank's most significant contribution to achieving maximum growth for a nation's economic prosperity.
Furthermore, experience suggests one important rule: a Central Bank with too many things to do is likely to find itself doing none of them well. This is exactly what happened with the Bank of Tanzania, which did not succeed in achieving its multiple-policy objectives.
This international consensus is also reflected in the Bank of Tanzania Act, 2006 and its predecessor Bank of Tanzania Act, 1995, in which, as compared to the Bank of Tanzania Act, 1965, there has been a move away from multiple-policy objectives to a single-policy objective, i.e., Price Stability.
According to the Act "The primary objective of the Bank shall be to formulate, define and implement monetary policy, directed to the economic objective of maintaining domestic price stability, conducive to a balanced and sustainable growth of the national economy of Tanzania".
In other words, it is the primary responsibility of the Bank to establish monetary conditions conducive to Price Stability over time. Empirical evidence throughout the world suggests that Inflation is mainly caused by excessive creation of money.
Thus, in order to achieve Price Stability, Central Banks -by virtue of their ability to exert influence over the Money Supply process-have been given the task of regulating the quantity of money in circulation and of credit supplied to the economy, i.e., they have to conduct Monetary Policy. In this connection, the following is needed:

  1. a steady and acceptable rate of increase in the Money Supply
  2. a rate of increase in domestic bank credit expansion that will not place undue demand pressures on production resources and that must be consistent with the Money Supply objectives
  3. realistic interest rates that must at least be above the level of the rate of inflation
  4. a level of foreign reserves sufficient to enable the Central Bank to intervene in the foreign exchange market from time to time to smoothen out reversible short-term fluctuations, to meet import requirements, external obligations, and unexpected foreign exchange requirements in times of crisis
  5. a relatively stable exchange rate for the national currency
  6. the protection and development of sound and well-managed banking institutions, and
  7. the encouragement of well-functioning and effective financial markets, including an efficient payments system.

Commensurate with the legal commitment of the Bank of Tanzania and realising the seriousness of the inflationary situation in the Country, the Bank is pooling all its efforts towards achieving Price Stability and has declared Inflation the Nation's Economic Enemy Number One.

  1. The Importance of Price Stability

Price Stability implies that the Rate of Inflation, which is measured by the rate of increase of the National Consumer Price Index, has to be kept as low as possible, optimally within a longer-term average range of 0-5% (percentage change on the previous year). With a high rate of inflation, increases in wages and salaries cannot keep pace with the resulting erosion of purchasing power, and, hence, there will be decreases in real incomes for a large part of the population, which may result in corruption, an expansion of the informal sector, social friction, increased crime, and as a consequence of these factors, a decrease in economic efficiency. Furthermore, a high rate of inflation is an incentive for currency substitution and capital flight, it leads to an unplanned redistribution of income and wealth, mostly in favour of the rich, and, in general, it adversely affects decisions on consumption, saving, borrowing, and investment in productive capacity, by increasing uncertainty about future prices. Excessive inflation is also an impediment for achieving interest and exchange rate stability, which is very important for facilitating smooth economic development. Therefore, a combination of these factors could seriously impede the timely achievement of the Financial and Economic Restructuring Program. In this connection, it has to be stressed again that Price Stability is the decisive cornerstone of a successful economic policy geared towards sustainable medium- and longer-term economic growth. In other words, economic growth in the Country will be severely curtailed in the medium and longer term, if inflation continues to prevail at a high rate.

  1. Prerequisites and Limits of an Effective Monetary Policy

To achieve this objective, the Bank formulates and implements Monetary Policy, by using instruments, such as Refinancing Policy, Minimum Reserve Policy, Open Market Policy, Foreign Exchange Interventions, and other instruments. The Ultimate Objective of Price Stability, however, can only be realised over time, if there are well-coordinated Monetary, Fiscal, and General Economic Policies, i.e., there has to be a concerted national effort. Monetary Policy, by itself, cannot achieve Price Stability, no matter how strict a Monetary Policy Stance the BOT is pursuing, it can only dampen inflation to some degree, depending on the inflationary pressures emanating from Fiscal and General Economic Policies. Furthermore, the attainment of the Monetary Policy Objectives has to be facilitated by a continued application of market-oriented policies in the financial sector (the creation and maintenance of an efficient payments system is included here), the public sector, the industrial sector, the agricultural sector, and the external payments area.

Subsidiary Functions of the Bank of Tanzania

Apart from the primary function, the Bank of Tanzania has important subsidiary central banking functions.

  1. The Bank of Issue

The Bank has the sole right to issue notes and coins in Tanzania for the purpose of directly influencing the amount of currency in circulation outside banks, thereby providing the economy with sufficient, but if possible, non-inflationary liquidity.

  1. The Bankers' Bank

This function includes the acceptance of deposits to act as prudential reserves for these banks (i.e., the Minimum Reserves), the willingness to discount commercial and government paper, and the commitment to act as lender of last resort to these banks. It also involves the provision of central clearance facilities for interbank transactions.

  1. The Governments' Bank

The Bank is the banker and the fiscal agent for the Governments, and may be the depository of the Governments. The Bank may make temporary advances to the Governments through its overdraft facility, subject to repayment within 180 days and through purchases (direct or rediscounting) of treasury bills issued by the Governments, which mature not later than 12 months from the date of issue. The total amount outstanding at any time of advances made in this manner shall not exceed one eighth of the average budgeted revenues (average of the actual collected revenues of the previous three fiscal years, excluding loans, grants, other forms of economic aid, and all borrowing, whether short-or long-term) of each Government.

  1. The Advisor to the Governments

The Bank may advise the Governments on any matter relating to its functions, powers, and duties. The Bank may also be requested to advise the Governments on any matter related to its functions, powers, duties, the credit conditions in Tanzania, or any proposal, measures, and transactions relating thereto.

  1. The Guardian of the Country's International Reserves

The Bank is the depository of the official external assets of Tanzania, including gold and foreign currency reserves. Guarding international reserves may imply the determination of buying and selling rates of gold and foreign exchange in foreign exchange markets and/or the buying and selling of reserve assets for the purpose of sustaining the national currency's external value. It also includes reserve management, with a view to the prudential investment of the funds, with due regard to safety, liquidity, and profitability, and external debt management.

  1. Supervision of Banks and Financial Institutions

In general, this activity involves ensuring that commercial banks and other financial institutions conduct their business on a sound prudential basis and according to the various laws and regulations in force. It includes the supervision of banking conduct and the licensing of financial institutions. According to the Banking and Financial Institutions Act of 1991, and the new BOT Act, the main responsibilities of the Bank of Tanzania are:

  1. implementation of prudential controls concerning capital adequacy, liquidity, concentration of credit and risk diversification, asset classification and provisioning, and prohibited activities
  2. licensing of banks and financial institutions
  3. facilitation and monitoring of a Deposit Insurance Fund, the purpose of which is the protection of small depositors, and
  4. modification and monitoring of the Minimum Reserve Requirements and foreign exchange exposure.

  1. Promotion of Financial Development

This refers to the establishment of an effective financial system, with the aid of which financial transactions necessary for the smooth functioning of the economy can be carried out with a minimum amount of cost and time involved. In this connection, the Bank has to be a facilitator of advanced clearing and transfer systems. It also implies that the necessary banking services, as, for example, deposit facilities and loan facilities, are made available. Included here is also the availability of certain specialised institutions, which could be represented, for example, by an industrial development bank and/or an agricultural development bank and micro-finance institutions, and the facilitation of a money market, a capital market, and a foreign exchange market.

The Current Institutional Framework of the Bank of Tanzania

Relations with the Governments It has been generally accepted by now that there is quite a valid case for Central Bank independence, since price stability is an important public good, like peace and civil rights, and politicians in a multi-party system, who have to work within the constraints of an electoral timetable, will always be tempted to engineer pre-electoral booms (vote-maximising behaviour), regardless of the longer-run inflationary consequences. Politicians tend to prefer monetary expansion to monetary contraction, since the following short-term trade-off exists between inflation and production and employment:

  1. monetary expansion first results in a stimulation of production and increased employment, and only later there is an increase in the rate of inflation, and
  2. monetary contraction first results in reduced production and less employment, and only after some time there is a reduction in the rate of inflation

Within the framework outlined above, there is also a tendency among politicians to avoid expenditure cuts and tax increases by borrowing from the Central Bank, which is the most inflationary method of financing government deficits. It is, therefore, very important to separate the powers of spending from those creating money. Experiences the world over in the past decades unambiguously suggest that countries, in which Central Banks enjoyed considerable autonomy in monetary policy, recorded low inflation, while the opposite was the case in countries where Central Banks were under government influence. However, it has also been generally recognised that the Central Bank has to be accountable. Accountability relates to the responsibility of the Central Bankers to explain to the Public (Government, Parliament, and the General Public) what they are doing and why, i.e., there should be a genuine two-way communication (close consultations) between the Public and the Central Bank. This also implies educating the public on economic principles, i.e., the harmful effects of inflation have to be explained, in order to maintain public support. Concerning day-to-day monetary policy operations, the Bank of Tanzania is autonomous. However, commensurate with the accountability postulate, regular consultations shall be held between the Governor and the Governments on monetary policy. Furthermore, twice a year, prior to the commencement of the new fiscal year, and not more than six months, thereafter, the Governor has to present to the Union Minister of Finance the Monetary Policy Statement, for submission to the National Assembly, giving an indication of monetary and economic developments at present and the recent past, and expected economic developments and the monetary policy stance during the next 12 months. In the case of irreconcilable differences between the Governor and the Union Minister of Finance, the Governor can be directed to formulate and implement Monetary Policy for a period not exceeding 12 months, as specified by the Minister. The directive shall be published in the Gazette. The Board of Directors, the Bank's top decision making body, consists of the Governor and the Deputy Governor, who are appointed by the President for a period of five years (they shall not hold office for more than two terms), one representative each for the Governments (Principal Secretaries to the respective Ministries of Finance), and six other Directors. The latter are appointed by the Union Minister of Finance for a term of three years; they shall not hold office for more than three terms. In order to keep Government borrowing from the Central Bank within reasonable limits, borrowing benchmarks have been established for the Governments on the basis of revenue collected. As indicated already, the Bank of Tanzania is the advisor to the Governments on matters relating to finance.

 
 

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