Impact of Financial Sector Reforms on Domestic Savings, Investment and Cost of Intermediation in Tanzania

Abstract

Literature and empirical evidence shows that financial markets in developing countries are very weak, shallow and susceptible to failure. One of the solution to the problems is for the countries to adopt financial reforms. McKinnon and Shaw (1973), Fry (1997) and others have argued that financial liberalization increases financial depth, reduces interest spread, and increases bank investments. Since economic adjustments and financial reforms were undertaken in the early 1990's there have been different views on whether or not the financial liberalization have brought about the expected benefits to the Tanzanian financial sector and economy at large. To test the arguments, a study was conducted to assess the impact of financial sector reforms on domestic savings, bank investments and cost of intermediation during the pre-financial sector reform (1980 – 1990) and the post financial sector reform (1991 – 2000) period. Using the Mann Whitney test to assess the impact of the three variables (domestic savings, bank investments and cost of intermediation) the results reveled both positive and negative impact. Specifically, the results revealed that after financial sector reforms the proportion of commercial bank lending to the private sector increased compared to lending to public sector and number of players in the financial sector increased. It also showed increased fiscal discipline, improved prudential regulations and bank supervision, and stable inflation. The results however showed significant decrease in the financial depth. Bank efficiency as assessed by cost of intermediation did not show sign of improvement and lending rates were still at high levels indicating high interest rate spread. The negative results were caused by lack of a supportive policy, legal, and regulatory framework conducive to the development of a market oriented financial sector and bank operational deficiencies. From the result it is concluded that financial reforms will not always bring positive results if the right environment is not created when instituting the reforms.

African Journal of Finance and Management Vol.12(2) 2004: 15-31