Introduction

Our authorities appreciate the level of cooperation and understanding demonstrated by the staff mission during the discussions for the sixth review and the proposed new PRGF arrangement. The authorities also wish to express their appreciation to the Fund as well as other multilateral institutions and bilateral donors for their continued support. The strong support, both financial and technical, from the international community, continue to play a key role in underpinning and consolidating the reform process. The authorities are committed to pursuing prudent macroeconomic policies and to deepen structural reforms with a view to enhance the investment climate and promote private sector development in order to place Tanzania on a higher growth path, a necessary condition for reducing poverty.

Background

Up until the late 80s, Tanzania was among the most poor of the poorest countries in the world. The authorities embarked on a determined effort to defy this situation. Today the country’s fortunes have changed. Supported by successive Fund arrangements and by the international community, and buoyed by political stability and the strong commitment to economic reform, Tanzania holds inspiration to countries in similar situations and proves that strong political and economic leadership as well as macroeconomic and social stability are the toolkit in the quest for reducing poverty and enhancing prosperity.

The progress made has already been discussed by the Board on numerous occasions and is detailed by the staff, including in the current report; we will therefore dwell on the agenda for the period ahead. In this connection, it is important to underscore a few key aspects. The key goal of macroeconomic stabilization has been relatively achieved; inflation is kept at low levels, the country has moved away from high chronic deficits on the fiscal and external sectors and the real GDP has increased steadily to a higher growth path. This has contributed to significant gains in poverty reduction such that Tanzania has moved up on the UNDP Human Development Index. The legacies of a command economy have been completely reorganized and both the institutional setup and the incentive structure for a market economy are taking root, contributing to significant mineral exploration activities and the expanding role of the private sector in other economic activities. The strong commitment of the authorities has assisted them to successfully go through the decision and completion points under the HIPC Initiative process and, combined with modest diversification of exports and prudent debt management, Tanzania has reached debt sustainability, which has contributed to the credibility of the HIPC Initiative.

The authorities have continued to build a strong track record under Fund-supported programs. All but one performance criteria under the just concluded PRGF program were met and corrective measures were taken on the missed performance criterion for which the authorities are requesting a waiver. Program objectives regarding inflation, growth and removal of structural impediments are being met. Donor and investors perceptions of the country have improved markedly in recent years and Tanzania has become a favorable destination of FDI and concessional assistance. The challenge now is the prudent management of these resources so as to avoid the Dutch disease by increasing absorptive capacity and further enhancing pro-poor growth. Reflecting success in the various measures being taken to improve governance, Tanzania’s rating on the Transparency International’s index has improved from 91 to 71. Tanzania also has made significant progress in liberalizing trade and its rating on the IMF’s trade openness index has improved from 7 in 1996 to 5 in 2002.

The Future Agenda and the Authorities’ Strategy

Notwithstanding these achievements, poverty remains widespread, unemployment is high, growth is not sufficient to achieve the MDGs, and the budget remains highly dependent on donors’ aid. However, achieving debt sustainability has boosted the authorities’ commitment and desire to forge ahead and to see the country stand on its own feet. They have expressed the desire to eventually graduate from heavy dependency on aid and the use of Fund resources in the longer term. To achieve this, they have laid out the agenda for the period ahead and their efforts will be directed largely to three areas; mobilizing domestic resources to achieve fiscal sustainability and reduce dependency on aid; addressing administrative and structural impediments to growth and private sector development, to broaden the sources of growth, create more employment opportunities and enhance the country’s chances to achieve the MDGs; and, further liberalizing trade to enhance access to regional and international markets to consolidate external debt sustainability.

In order to start the gradual exit process, the authorities are requesting for a PRGF arrangement with reduced access. Such a program would enable the authorities to address the outstanding challenges and provide the necessary signal for donors to continue providing budgetary support for poverty reduction and infrastructure development, and for FDI to continue to flow. The authorities are determined to make this strategy work to make Tanzania a successful test case for the international community’s involvement in poor countries and a lesson to be learnt in the development of the Fund’s policy on gradual exit strategy.

The New PRGF Arrangement

The new program is intended to consolidate on achievements to date, reducing the fiscal deficit and dependency on aid, maintaining inflation in the low single digits, deepening structural reforms and improving the environment for private sector activities. The government will also promote new sources of growth in agriculture, infrastructure, manufacturing, services, tourism and others. These measures are intended to place the economy on a high growth path and accelerate the reduction of poverty.

Fiscal Policy and Mobilization of Domestic Resources

A key concern of the authorities is that current revenue is insufficient to meet current expenditures, making the budget highly dependent on aid, whose long term commitment and disbursement is often unpredictable. The primary objective of fiscal policy is therefore to increase reliance on domestic resources and to improve absorption capacity in the social sectors and in the government investment program, particularly on infrastructure development. In this regard, the medium-term fiscal program targets an increase in revenue-to-GDP ratio from 12.5 of GDP in 2002/2003 to 14.9 percent by 2006. To achieve this objective, the authorities are placing high priority on rationalizing tax policy, simplifying and strengthening tax administration, curbing tax evasion and reducing tax exemptions. The government is following-up on the recommendations from a number of studies, including an IMF TA report on priorities and strategies for revenue administration reforms, a Public Expenditure Review study on tax policy and administration and a government’s commissioned study on estimation of potential revenue gaps for Tanzania.

The effectiveness of the Tanzania Revenue Authority is being enhanced by strengthening tax compliance management in large taxpayers department, modernizing operations and organizational structure and adoption of self-assessments. To expedite these reforms, government is undertaking a comprehensive review of tax laws. By end-October, government will submit to Parliament a new income tax act aimed at modernizing the tax regime, introducing the principle of self assessment and removing discretionary powers to grant exemptions, removing complexities in the current income tax act, abolishing stamp duties and fees and their replacement by a presumptive tax. To further curb tax exemptions, government will submit to Parliament amendments to the Customs Tariff Act, Excise Ordinance, and Stamp Duty Tax Act, removing all discretionary power to grant exemptions from imports, excise and stamp duties and vest the power with Parliament. Furthermore, in 2003/04, tax exemptions to religious NGOs will be administered through a voucher system. Government is also taking measures to improve compliance in petroleum taxes.

With regard to the export processing zones (EPZ), the authorities wish to reiterate that the main objective of setting up of EPZs is to create more employment opportunities and to enhance diversification of exports in order to benefit from expansion in regional trade, access the U.S. African Growth and Opportunity Act (AGOA) and the Everything But Arms (EBA), the Canadian and other such exports initiatives. To minimize the potential for EPZs to undermine the revenue base, the government will tighten licensing procedures and limit tax concessions to companies with proven export capability. They are in the process of tightening loopholes to avoid revenue leakages and they look forward to benefiting from a comparative study of the benefits from tax incentives in EPZs in the region, to be undertaken with Fund technical assistance.

On the expenditure side, the authorities will enhance public expenditure management through increasing allocations to priority sectors in line with the poverty reduction strategy, tracking poverty-related expenditures and enhancing the absorption capacity. They will continue to strengthen public expenditure reform and to enhance transparency including through the existing Integrated Financial Management Systems (IFMS) mechanism. In this connection, the authorities will continue to harmonize presentation of priority expenditures across PRSP, the budget and budget execution reports to facilitate better tracking of outlays for poverty-reducing expenditures. These procedures have been embedded in the 2003/04 budget guidelines. Moreover, efforts are underway to introduce functional classification and the adoption of the IMF’s government finance statistics (GFS) system in preparation of all local government budgets. The authorities will continue to enhance prudent fiscal management and transparency at the local authority level in order to consolidate fiscal decentralization. To this end, budget guidelines for local authorities are being aligned with those for the central government and fiscal years are being harmonized. Civil service pay reforms will continue, aimed at retaining key personnel while keeping the wage bill under control

Monetary and Exchange Rate Policies

The authorities seek to maintain price stability as the main objective of monetary policy. The Bank of Tanzania (BoT) will continue to monitor closely domestic as well as international economic developments in order to ensure appropriate monetary policy measures to underpin macroeconomic and financial stability. In this context, the authorities concurred with staffs proposal to monitor reserve money as a performance criterion to reinforce the BoT’s policy framework on achieving the inflation target, particularly in view of projected donor inflows in 2003/04 and the need for the BoT to mop up the excess liquidity. They will target liquidity management to ensure that growth in monetary aggregates will reflect program targets.

The government will ensure effective utilization of donor aid by improving the absorptive capacity in social sectors and the public investment program, thereby minimize the potential for undue exchange rate appreciation and the Dutch disease. In addition, the BoT, along with the government will increase the supply of long-term instruments in the market in order to augment capacity to mop up excess liquidity. Furthermore, the Bank of Tanzania has put in place the daily liquidity forecasting framework to strengthen reserve money management. In a similar vein, the BoT will conduct timely and targeted sterilization operations with liquid paper and other instruments. However, open market operations will remain the main monetary policy instrument supplemented by foreign exchange.

To accelerate improvements of the financial system, the authorities will utilize the findings of the recently concluded Financial Sector Assessment Program (FSAP) as a basis for further reforms in the financial sector. In this context, they recognize the need to strengthen banking supervision and move towards a risk-based system of supervision and therefore wish to request technical assistance in this area in the near future.

Debt Sustainability

The government has started to implement the key recommendations of the National Debt Strategy (NDS) which was approved in August 2002. The strategy underlines the importance of fiscal sustainability through improvement in procedures, selectivity of projects, risk management, and strengthening of the legal and institutional framework with respect to borrowing and managing debt. As regards external debt, the authorities continue to seek debt relief on HIPC comparable terms from non-Paris Club creditors. Notwithstanding their commitment to reach an agreement on this issue, underscored by placing in a special account an amount of US$ 5 million and further provisions in the budget, the response from the non-Paris creditors has been disappointing. The authorities therefore wish to reiterate their request for assistance of the Fund and the World Bank in finding a more permanent solution to their outstanding external debt to the non-Paris Club creditors as well as to the HIPC-HIPC problem.

Structural Reforms

With respect to the business climate, the authorities recognize the importance of an investor-friendly environment and the catalytic role it could play in attracting investment and advancing the government’s objective of private sector development. In this regard, they will continue to intensify efforts to interact and consult with the business community with a view to enhancing the investment climate. It is in this vein that a second meeting of the Investors’ Round Table (IRT) was held in May 2003 to review progress in areas identified during the inaugural meeting in July 2002, and to chart the way forward with concrete proposals. In order to facilitate implementation of decisions made at the IRT, a Steering Committee consisting of government Ministers, the private sector and donors has been formed to follow up, trace implementation and advise the President accordingly. Meanwhile, an action plan to reform and simplify business licensing system will be adopted by December 2003, in response to stakeholders consultations. A new labor policy and revised Labor Act prepared in consultation with stakeholders, to address impediments in the investment climate, is expected to be submitted to parliament by October 2003.

The privatization program will be accelerated to expand the role of the private sector and to attract FDI. Measures are being taken to increase investment and modernize infrastructure. The authorities will promote commercial banks lending to the private sector through improvements in the legal framework and changing the incentive structures regarding collateral and curbing non-performing loans. In this regard, government has made progress during this month with respect to the proposed draft amendments to the Land Act. Stakeholders, including Ministry of Lands, the Attorney General Chambers, the Bank of Tanzania and Tanzania Bankers Association have agreed to the amendments to ensure that the Land Act is consistent with the objective of increasing access to bank credit. Consequently, Cabinet adopted the proposed amendments this month which will be presented to Parliament for enactment in October 2003. The privatization of the National Microfinance Bank is being expedited with a view to improving efficiency of the financial system and to promote the interest of SMEs and the rural areas in the provision of microfinance. The authorities are currently revising the strategy for privatizing the bank and expect that the process will be completed by the second half of 2004.

The authorities view that perceptions of pervasive corruption in Tanzania are somewhat exaggerated. Nevertheless, they consider that further improvements in governance is warranted and is central to the overall attractiveness of the investment climate. Measures to improve governance consist of institutional strengthening, changing the incentive structure and reducing the scope of discretion in decision making by government officials. Many of these measures are in the pipeline, including eliminating discretion in granting exemptions and empowering Parliament, strengthening the TRA and enforcing the rule of law. It is expected that implementation of the wide-ranging reforms to improve governance and poverty reduction will eventually significantly improve the private investment climate in Tanzania.

Poverty Reduction Strategy

The government’s second annual PRSP progress report reaffirms the government’s commitment to reducing poverty embedded in the government’s development vision 2025, the National Poverty Eradication Strategy of 1997 and the Zanzibar Poverty Reduction Plan 2002 and reaching the Millennium Development Goals (MDG). These efforts are being integrated into the PRSP process including through the public expenditure reviews (PER) and the medium term expenditure framework (MTEF). The PRSP progress report recognizes the need to reduce aid dependency and to intensify efforts at domestic revenue mobilization. To complement the PRSP process, the authorities are putting emphasis on maintenance of macroeconomic stability, identifying sources of growth that would be poverty reducing and employment generating.

Conclusion

While significant achievements have been made thus far, the road to prosperity remains a very long and arduous one. Tanzania has successfully implemented the “first generation” reforms and now intends, with even stronger commitment, to implement “second generation” reforms. The main challenge is to move the economy to a higher growth trajectory and to intensify domestic resource mobilization efforts to begin the process of weaning itself from aid dependency. Our authorities also recognize the importance of strengthening institutions and removing impediments to investment and growth prospects. Technical assistance as well as concessional financing remain critical in complementing the limited and over-stretched human and financial resource capacity. Moreover, the main challenge confronting the authorities is the need to identify sources of growth that would lead Tanzania to a higher growth path and that will reduce poverty significantly.