BoT to let bank interest rates control themselves THISDAY REPORTER Dar es Salaam UNDER the prevailing market-oriented economy, the Bank of Tanzania will maintain market-determined interest rates rather than directly regulate rates set by commercial banks in the country, BoT Governor Prof. Benno Ndulu has said. Regulation of the interest rates of commercial banks may lead to imperfect pricing of financial instruments, hence inappropriate allocation and utilization of resources, Prof. Ndulu told THISDAY in an interview. He said in most cases of controlled economies where central banks do regulate interest rates of commercial banks, the final result is usually ineffective. Following the lifting of controls on interest rate determination, the Bank of Tanzania continues to exercise a market-determined interest rate policy, where the treasury bills market continues to be the anchor, he said. Of late, some independent economists have suggested that the BoT should start regulating interest rates at commercial banks with the aim of lowering lending rates and raising deposit rates. Interest rate is the price a borrower has to pay to enjoy the use of cash which he/she does not own, and the return a lender enjoys for deferring his/her consumption or parting with liquidity. This rate can be analysed in the normal framework of demand and supply. In a controlled economy whereby prices are not freely determined, interest rates are normally regulated by the central bank. Our past experience has shown clearly that controlled regimes result in inefficiency in resource allocation, Ndulu pointed out, recalling how Tanzania in the 1990s embarked on a series of macroeconomic reforms that allowed invisible hands of the market to allocate the scarce resources then available. The financial industry was one of the sectors that received a sizeable level of reforms for it to work more efficiently. One of these reforms was the liberalization of interest rates, whereby on 1 July 1993, the Bank of Tanzania removed the maximum lending rate of 31 per cent for commercial banks, he explained. He continued: This was purposely done in order to allow the market to determine cost of funds more efficiently and avoid prohibitive/restrictive policies which impair effective utilization of resources. In the years since the liberalization of interest rates, the spread between lending and deposit rates has stayed quite high, but started narrowing down steadily following improved competition in the banking system associated with the reforms. According to the BoT governor, the wide spread between lending and deposit rates in the country has been mainly associated with existing structural bottlenecks which in turn push up intermediation costs. It is worth noting that the government is taking measures aimed at addressing these bottlenecks in the economy. The Bank of Tanzania is also taking several measures under the second generation financial sector reforms, to address some of the remaining bottlenecks, said Ndulu.