An empirical analysis of interest rate spreads in Tanzania

Abstract

This study (2014) investigates bank characteristics and macroeconomic factors responsible for widening interest rate spreads in Tanzania following liberalization and reform of the financial system in 1991. The paper uses quarterly time series data covering the 1986-2013 period. Data was sourced from publications from the Bank of Tanzania (BOT) and the World Bank. At the empirical level, Johansen test and Engle-Granger (two-step) single equation procedure are used for cointegration analysis. The Error Correction Modeling is employed to estimate the model. The results reveal that interest rate spreads are significantly higher after the adoption of financial liberalization if compared with the period before liberalization. The results reveal that interest rate spreads are significantly determined by lack of competition among financial institutions; and existence of diseconomies of scale in the financial system. The study established that as proportion of liquid assets increases the bank liquidity risk decreases, leading to lower interest rate spreads.