Dar es Salaam, February 24, 2001

Mr. Horst Köhler
Managing Director
International Monetary Fund
700 19th Street NW
Washington, D.C. 20431
U.S.A.

Dear Mr. Köhler:

1.  Tanzania's ongoing program for poverty reduction and growth, which covers the period 2000-02, is being supported by an arrangement under the Poverty Reduction and Growth Facility (PRGF) that was approved by the Executive Board of the IMF on March 31, 2000. The first review of the program for 2000 was concluded by the Executive Board of the IMF on August 1, 2000. This letter discusses progress in implementing the program during the second half of 2000 and our policies for 2001. We expect the third review, which will discuss progress in the first half of 2001, to be completed by July 31, 2001 and the fourth review to be completed by not later than January 31, 2002.

I.  Recent Economic Performance and Policy Implementation

2.  Recent macroeconomic developments have been broadly in line with the program objectives and targets. Real growth is estimated to have reached 5.1 percent in 2000 (compared with the target of 5.2 percent). The year-on-year inflation rate of 5.5 percent at end-December 2000 was above the target of 5.0 percent, mainly because of a sharp increase in the prices of petroleum products and, in the final months of the year, the high costs to industry of producing electricity from own generators to offset the cuts in the electricity supply. An improvement in the current account (before grants) and higher program grants than projected contributed to a much higher increase in international reserves than targeted; at US$553 million, net international reserves exceeded the target (adjusted for an estimated excess in net foreign financing of US$14 million) of US$466 million. The quantitative performance criteria for net domestic assets, net international reserves of the Bank of Tanzania (BoT), and net domestic financing of the government for end-September 2000 were met with wide margins, as was the benchmark for government revenue (Table 1). Most structural benchmarks were also met (Table 2).

3.  In the first four months of the fiscal year 2000/01 (July-June), the overall fiscal position was stronger than targeted. Revenues were T Sh 32 billion (12 percent) higher than expected, reflecting, inter alia, the effects of the withdrawal of the value-added tax (VAT) exemption on petroleum products and, for the government, of all tax exemptions on petroleum products, as of July 1, 2000. Privatization receipts--mainly from the sale of shares in two previously privatized companies--exceeded the budgeted amount by T Sh 25 billion for the period; net foreign financing was about as projected. With tight cash budgeting, current expenditures and domestically financed development expenditures were about T Sh 28 billion (9 percent) less than projected. However, unforeseen expenses and transfers were necessitated by the elections and there was a deterioration in the financial situation of Zanzibar; also, the expenditure on some essential goods and services was underfunded in the budget. These factors, as well as weaknesses in the cash budgeting system, led to some delays in the implementation of priority programs and to the emergence of about T Sh 12 billion in new expenditure arrears. However, the budget repaid T Sh 26 billion in arrears from previous fiscal years (T Sh 12 billion more than budgeted for the entire year), of which T Sh 8 billion was paid from the accounts of the Parastatal Sector Reform Commission (PSRC), mainly to clear arrears to maize suppliers.

4.  In the absence of signs of a worsening of underlying inflationary pressures, monetary policy focused on avoiding a nominal appreciation of the exchange rate in the second half of 2000. Faced with considerable excess supply in the interbank foreign exchange market, the BoT strengthened its foreign reserves; as a result, the exchange rate remained stable at around T Sh 800 per U.S. dollar. The year-on-year increase in broad money (excluding foreign currency deposits) at end-November 2000 (16.0 percent) was well above the program target (11 percent), reflecting a strong demand for money. The BoT's net domestic assets remained considerably below the program benchmark for end-December, on account of larger government deposits. Credit to the private sector was sluggish, reflecting foreign borrowing by some larger companies and a reluctance of banks to lend to high-risk smaller local enterprises. The unsterilized liquidity from the foreign exchange intervention resulted in a continuing decline in yields on treasury bills and bonds; yields on 91-day bills fell further to about 4.5 percent by mid-December 2000. Interest rates in the banking sector also declined, although the spread between deposit and lending rates remained large. The BoT has made considerable progress in monitoring the interest rate structure that the banks effectively apply by compiling and reporting weighted-average lending rates.

5.  The external current account deficit improved in 2000 from a projected 15.9 percent of GDP (excluding official transfers) to an estimated 11.3 percent of GDP. Exports performed well during most of 2000, especially in the case of gold, but tapered off toward the end of the year as a result of delayed shipments and lower prices of cashew nuts. Imports were much lower than projected, as an increase in consumer goods imports was more than offset by a sharp decline in imports of capital goods following the completion of large investment projects in the mining sector. In addition, official grants were higher than projected. As a result of these factors, gross official reserves rose to US$974 million, equivalent to 5.5 months of imports of goods and nonfactor services, compared with the program target of 4.2 months.

II.  Policies for 2001

A.  The Poverty Reduction Strategy

6.  The policies for 2001 have been formulated in line with the government's poverty reduction strategy (PRS) outlined in the Poverty Reduction Strategy Paper (PRSP) that was approved by the government on August 31, 2000 and endorsed by the Boards of the International Development Association (IDA) (on November 30) and the IMF (on December 1). The PRSP emphasizes that the country's pervasive poverty is largely a rural phenomenon. Accordingly, the PRS has two key objectives: reducing the proportion of the population below the basic poverty line from 48 percent in 2000 to 42 percent in 2003, and reducing the incidence of rural sector poverty from 57 percent to 49.5 percent over the same period. It stresses the need to promote accelerated and equitable economic growth, notably by preserving macroeconomic stability and structural reforms that promote growth in the agricultural and export sectors and private sector development.

7.  To support the targeted longer-term improvement in growth performance, the 2001 program draws upon key sectoral programs in four strategic areas: rural development, improvements in social services, private sector and infrastructure development, and public sector reform and institution building. The World Bank and other donors are providing assistance in the costing of these programs. This is expected, in the context of the annual Public Expenditure Review (PER) and the Medium-Term Expenditure Framework (MTEF), to lead to further increases in public spending for primary education, primary health care, water, agricultural research and extension, rural roads, the judiciary and HIV/AIDS. Fiscal policy in 2001--which straddles the two fiscal years 2000/01 and 2001/02--will reflect these priorities. In addition, the government will give priority to improving governance and public accountability. In our reform effort, we will pay special attention to safety nets. Support for retrenched workers of the public sector will be provided from the resources of the PSRC or the budget. Support for rural communities will be provided through the Tanzania Social Action Fund (TASAF) project, that is supported by the World Bank.

8.  While the PRSP is a major step forward in the design of a comprehensive PRS, there are several important areas listed in the PRSP where further work is being carried out. We have set out an ambitious schedule of activities for the remainder of the current fiscal year that can provide a basis for an update of the PRSP. We intend to finalize the primary education strategy and the agricultural strategies by June 2001, and the rural sector development strategy by December 2001. In the context of the latter, as we stated in the PRSP, farmers will be encouraged to organize themselves, on a voluntary basis, in groups or cooperatives, with a view to improving their prospects for obtaining credit from financial institutions, as well as carrying out crop-specific research and other initiatives to bolster output and raise the quality of their products. To ensure the financial viability of the cooperatives and to avoid their dependence on budgetary support, they will need to be operated on a commercial basis. With regard to the poverty data, a new Household Budget Survey (the largest ever in Tanzania, covering 25,000 households) and a Labour Force Survey were started in May 2000, the results of which will be included in the update of the PRSP (a flash report based on the first three months of data will be prepared by end-February 2001). The resulting improvement in the statistical base, which will be further enhanced by the population census scheduled for 2002, will be accompanied by improvements in the monitoring and evaluation system. To this end, the government has started a comprehensive needs assessment, with a view to providing the necessary funding in the 2001/02 budget for the strengthening of the concerned institutions, including for the Vice-President's Office, which is entrusted with the overall responsibility for monitoring and evaluation. The government has established a steering committee and four task groups, including a broad range of stakeholders, to oversee the implementation of the monitoring and evaluation process. We intend to submit a progress report on the first year of implementation of the PRSP to the Boards of the IDA and the IMF by mid-2001.

9.  The government will intensify efforts to assist vulnerable groups, including persons who are adversely affected by ongoing reforms. Starting in 2001, assistance will be provided in the context of demand-driven initiatives and public works programs under the TASAF project. The government will also encourage similar interventions by international and other development partners, and will provide some financial assistance starting in 2001/02 to catalyze such "pro-poor" interventions, support demand-driven skills development, and promote microprojects.

B.  Macroeconomic Framework for 2001

10.  In light of the sharp increase in petroleum prices and the shortfalls in electricity supply, we have slightly revised the target for real GDP growth in 2000 downward (from 5.6 percent in the PRSP to 5.4 percent) and for the inflation rate upward (from 4 percent, year-on-year, to 4.5 percent by end-2001). Fiscal policy will be formulated in line with the objectives outlined in the PRSP and the update of the PRSP that is under preparation, with a view to increasing the resources allocated to poverty reduction programs, promoting economic growth, avoiding inflationary pressures, and ensuring a sustainable overall fiscal balance. Monetary policy will continue to be aimed at attaining the targets for inflation and net international reserves. With regard to the latter, we have revised the gross reserves target for end-2001 to US$950 million, taking into account the higher reserves at end-December 2000 and the balance of payments outlook. The exchange rate will continue to be market determined, with the BoT intervening only to smooth large seasonal fluctuations and to meet the foreign reserves target.

C.  Fiscal Policies

11.  The budgetary outlook for the remainder of the current fiscal year remains positive. Drought in the main cotton producing areas, low cashew nut producer prices, and the extensive electric power problems are expected to weaken economic performance in the remaining months of the fiscal year. Despite this, the actual revenue outturn is expected to be T Sh 897 billion (11.7 percent of GDP), T Sh 36 billion above the program target. Total annual recurrent expenditures are expected to be T Sh 36 billion above the budgeted amount of T Sh 943 billion. This increase mainly reflects the already effected additional transfers to Zanzibar, cost overruns in the administration of the elections, and an upward revision in the electricity bill. Some offsetting cost savings have materialized from the postponement of the implementation of a health insurance scheme for government workers (T Sh 9 billion). As a result, the deficit (before grants and excluding foreign financed development projects and debt relief) will fall from a budgeted T Sh 165 billion to T Sh 154 billion (2.0 percent of GDP). Program grants are expected to be T Sh 48 billion higher, bringing total external grants to T Sh 426 billion.

12.  The budgetary surplus including grants (T Sh 22 billion) and the expected inflows of net foreign financing (T Sh 17 billion) and privatization receipts (T Sh 24.5 billion) provide room for clearing a substantial amount of the government's domestic arrears during 2000/01. A first inventory of domestic arrears accumulated up to end-December 2000, including those of the Ministry of Defense--a prior action for the completion of the second review--was completed in January 2001. All arrears through June 2000 will be audited by an external auditing firm by March 31, 2001; this action constitutes a performance criterion under the program. Current estimates suggest a total amount of T Sh 71 billion in arrears through end-June 2000. During the current fiscal year, the government intends to clear all verified arrears, as well as new arrears accumulated during the fiscal year.

13.  The government will implement a number of measures to improve expenditure planning, execution, and control, and to prevent the emergence of new arrears. Unfortunately, although we reported in our letter to you of July 18, 2000 that the Integrated Financial Management System (IFMS) included all budgetary votes, concerns arose about safeguarding the confidentiality of sensitive information, and two of the smaller votes in the Ministry of Defense and the vote of the State House remained outside the system. These concerns have been addressed and all central government votes (excluding the votes for the regions) were included from January 2001; this action constituted a prior action for the completion of the second review. Furthermore, some local purchase orders (LPOs) are written outside the IFMS by local spending units, complicating commitment control. To remedy the situation, we will strengthen expenditure control through the newly established Financial Control Unit in the Accountant General's Department. In addition, we will also work toward strengthening the capability of the ministries and subtreasury offices. Once this is done, we will issue a circular requiring that effective July 1, 2001 all local spending units need to request from their respective subtreasuries the issuance of an LPO generated by the IFMS. At the same time, the public will again be notified that the government will not honor any LPOs dated after July 1, 2001 that are not generated by the IFMS. In addition, the government has taken steps to provide training and direct access to the IFMS for the Policy Analysis and other departments in the Ministry of Finance to facilitate monitoring of expenditures and analysis. Work has started to include the revenues collected by the Tanzania Revenue Authority (TRA) at 12 collection points within Dar es Salaam in the IFMS on an on-line basis; this work is expected to be completed by June 2001. The government will ensure that privatization proceeds not transferred to the budget are used only for costs related to the privatization process, such as retrenchment and payment of parastatal debt.

14.  Parliament enacted a new Public Finance Act in February 2001, and new regulations based on this Act will be drafted and issued in March 2001. These regulations will require the proper prioritization of expenditures by line ministries. The internal audit functions in ministries and regions will also be strengthened. A systematic reconciliation of the balances of all government bank accounts as at June 30, 2000 will be completed by March 2001 for those at the BoT, and by June 2001 for those at commercial banks; these undertakings are structural performance criteria under the program. The number of government bank accounts will be reduced progressively, and, starting January 2001, bank accounts with large-volume transactions are reconciled on a weekly basis.

15.  To enhance the predictability of cash disbursements to implementing ministries, the government will progressively reduce its reliance on the cash-budgeting system, and move toward a cash-planning and management system. As part of this process, effective January 2001, the government introduced quarterly indicative cash-allocation targets for nonwage expenditure for all budgetary votes, while continuing to provide monthly cash releases. The Ministry of Finance has strengthened the treasury function of the Accountant-General's office and the Policy Analysis Department is being supported by technical assistance from the IMF and bilateral donors.

16.  The government has made good progress in implementing the reforms of the revenue system envisaged under the program. The Unified Tax Appeal mechanism was established by law in July 2000, and is expected to receive and consider the first claims by March 2001. The head of the Large-Taxpayer Unit in the Tanzania Revenue Authority (TRA) was appointed, and the unit will start operations in July 2001. In order to bring the financial relationships between the Union Government and Zanzibar onto a more systematic footing, steps are being taken to activate the Joint Finance Commission (JFC).

17.  The budget for 2001/02 will aim at increasing expenditures to the priority sectors within the resource envelope, avoiding inflationary domestic financing and, thus, additional interest costs, and allowing sufficient room under the monetary program for growth in credit to the private sector. Against the background of a forecast of an increase in donor support for our poverty reduction efforts, a key challenge for the future will be to ensure the medium-term sustainability of the fiscal position.

18.  Based on revised estimates of the likely revenue outturn in 2000/01, the revenues for 2001/02 are forecast to reach T Sh 990 billion (11.7 percent of GDP). This projection excludes the impact of a number of measures that we already undertook to implement under the program, including the withdrawal of the withholding tax on goods and services for taxpayers with a taxpayer identification number by July 2001. In addition, we intend to examine the feasibility of abolishing the housing levy in 2001/02, subject to a favorable revenue assessment; and to eliminate the remaining tax exemptions for the government and its organizations (except those that constitute contractual obligations). The Budget Guidelines for 2001/02, which were issued in December, included directives to all spending ministries, department and agencies (MDAs) to include the effect of the withdrawal of the exemptions in their budget requests. Following a careful review of tax exemptions for nongovernmental, religious, and charitable organizations, the government has decided to continue to provide the exemptions, but under revised guidelines aimed at curbing tax evasion and abuse of tax privileges. Specifically, revised notices will be issued by end-March 2001 (to replace Notices 146 and 147 of 1996), with a view to clarifying organizations' operations and items entitled to tax exemptions. These exemptions, which will be confined to donor-funded projects and relief assistance, as well as interventions aimed at supporting ongoing poverty alleviation efforts, will be vetted by the respective MDAs and enforced by the TRA. We will also take the first steps toward reform of the nontax revenue system, with a view to improving its efficiency.

19.  In addition to the projected increase in revenues, budget support from donors is also expected to increase substantially, raising total resources for recurrent and locally financed development projects to 14.3 percent of GDP in 2001/02. On the expenditure side, subject to the availability of resources, we intend to resume the civil service pay reform, emphasizing the need to further reduce the gap with market-pay levels for the middle and higher levels of the pay scales. In addition, we will provide T Sh 24 billion for the population census. The budget will also contain T Sh 11 billion in additional transfers to local governments to compensate for the elimination of primary school fees. Expenditure on (fully costed) poverty reduction programs, covering all priority sectors, will be in line with the PRSP and the updated MTEF, which we expect to complete by April 2001, and is initially estimated to amount to T Sh 410 billion. This reflects an increase of T Sh 70 billion, compared with the budget for 2000/01, and substantially exceeds the additional debt relief under the enhanced Heavily Indebted Poor Countries (HIPC) Initiative. A separate contingency annex to the budget will contain the costings of additional poverty reduction spending programs, which will be implemented when the remaining debt relief and other external resources become available after reaching the completion point under the HIPC Initiative.

20.  The effective implementation of expenditure programs and the prevention of expenditure arrears will need to be based on comprehensive budgeting and a thorough and realistic costing of programs and contingencies. The government will be taking measures to improve the budgeting process. The Budget Guidelines were issued in December 2000, compared with in February 2000 for 2000/01, to allow more time for budget preparation. They require, inter alia, that spending units present a monthly cash-flow plan along with their annual budget, that conforms to the respective aggregate ceilings and clearly shows the estimated time pattern of cash requirements. The budget will include contingency resources to reflect possible additional budgetary costs, such as parastatal staff retrenchments and emergency assistance programs.

21.  The role of local governments in the implementation of priority sector programs will increase. There is an urgent need to reform the local revenue systems and to strengthen their expenditure management and control capacities. To this end, the government will, in collaboration with a forthcoming IMF technical assistance mission, develop a comprehensive reform program, including the preparation of guidelines for a reform of local revenue systems, and measures to enhance accounting, reporting, and auditing systems. The IFMS has already been rolled out to 28 local authorities on a pilot basis. To ensure the operation of the IFMS under the pilot program, the government will provide adequate supplies of equipment, effective technical support, and adequate training of local operative staff.

D.  Monetary Policy and Financial Sector Reform

22.  Monetary policy will continue to aim at reducing inflation. Following the decline in underlying inflationary pressures in recent years, there is evidence of a stronger demand for money than earlier estimated. In line with this, the monetary program for 2001 is built around an increase in broad money (excluding foreign currency deposits) of about 10 percent. Nevertheless, in view of the uncertainties surrounding the estimate for the demand for money, the BoT will review its monetary targets periodically if developments in underlying inflation point to a need to adjust its monetary policy stance. Intervention through the treasury bill auctions will remain the BoT's main monetary policy instrument, supplemented by repurchase operations with the banks. Growth in credit to the private sector is expected to pick up following the resumption of normal banking activities by the National Bank of Commerce (NBC). In line with this, the monetary program allows for growth in credit to the private sector of about 31 percent.

23.  Although the financial sector reform has resulted in a welcome improvement in the availability of modern banking services, the spread between (the weighted-average) deposit and lending rates remains high. In order to reduce the risks in lending, and thus allow smaller spreads, the BoT is encouraging the banks to accelerate the establishment of a credit information bureau. In addition, the BoT and the Danish Government have supported the commercial court through the financing of its premises and the Danish Government is also financing the recruitment and training of additional judges. In the context of the Land Act, the government will issue regulations by June 2001 which, among other things, will facilitate the use of land and real estate as collateral. The BoT continues to strengthen banking supervision; the remaining banking regulations (regarding capital adequacy, concentration of credit, and risk management) were issued in January 2001. The complete set of updated prudential regulations, which have been formulated in line with internationally accepted practices, is also an important element of the capital account liberalization policy. The BoT has requested technical assistance from the World Bank, with a view to further developing this policy by September 2001.

24.  During the PRSP process, the poor indicated that the lack of access to credit was an important obstacle to increasing production, especially in the rural sector. In order to reach these generally small and high-risk borrowers, the government is attaching great importance to developing microfinance. In addition to cooperatives or microfinance institutions supported by nongovernmental organizations (NGOs), the start of lending operations by the National Microfinance Bank (NMB), initially on a pilot basis, is expected to considerably improve access to credit by the poor. The government launched the national microfinance policy in early February 2001, following its approval by the government in May 2000. With the objective of providing a legal framework for microfinance operations, a steering committee is expected to complete the formulation of microfinance legal and operational regulations by mid-2001, by which time the government also expects to decide on the modalities of incorporating the microfinance regulations into the existing financial sector regulatory framework.

E.  External Sector Issues

25.  In the budget for 2000/01, we reduced the number of goods that had been given split rates following the tariff reform in 1999/2000 from 25 to 19, on a net basis. We intend to review the tariff structure further in the 2001/02 budget with the aim of reducing the number of nonzero bands from the current four to three, and to rationalize the rates on inputs by, inter alia, eliminating all the remaining split rates. Following improvement in TRA's import valuation capacity, we implemented the World Trade Organization's (WTO) Agreement on Customs Valuation on January 1, 2001. To this end, the contract under which TRA receives preshipment inspection (PSI) services is being revised to reflect a new role of the PSI, particularly in training and developing, maintaining, and making available price databases to TRA. Minimum dutiable values have therefore been eliminated (except for sugar), effective January 2001. We expect to have legislation on dumping, subsidies, and countervailing measures in place by June 2002, with assistance from the WTO. Until then, as an interim measure, suspended duties are being imposed in accordance with WTO rules, where it has been proved that dumping and subsidies are undermining local industries.

26.  We will continue to reform the system of trade protection, including through a further reduction of external tariffs in line with regional initiatives under the Southern African Development Community (SADC) and the East African Community (EAC). A tariff reduction schedule has already been agreed within SADC; Tanzania will begin implementing this from July 2001. Negotiations with our partners on a protocol for the establishment of an EAC Customs Union are ongoing and will be taken into account in formulating forthcoming tariff reforms.

27.  Tanzania is current on its external debt obligations. Following the new Paris Club debt-rescheduling agreement in April 2000, we have so far signed three bilateral agreements, another four are ready to be signed, and negotiations with the remaining five creditors have started. Also, some countries have indicated their intention to forgive the full balance of official development assistance (ODA)-related debt. Apart from Canada and the United Kingdom, which are already providing full relief, the forgiveness will be effective upon reaching the completion point under the enhanced HIPC Initiative. We will continue to make good faith efforts to negotiate rescheduling agreements with non-Paris Club official creditors. By end-January 2001, we had received enough offers to proceed with the IDA-financed debt buyback operation. We intend to keep the offer open with a view to completing the operation by mid-2001.

F.  Structural Reforms

Promotion of the private sector

28.  Structural reform, aimed at bolstering market efficiency and private sector-led growth, is a main element of our poverty reduction strategy; many of these reforms are supported by the World Bank--including under the Programmatic Structural Adjustment Credit, approved in June 2000--and by other donors. The focus of the privatization program is on restructuring and divesting the large utilities and monopolies.

29.  In addition to the long-term reform of the electricity sector, the serious financial difficulties of TANESCO, which were a main factor in the power cuts during November-December 2000, do require immediate action. These problems reflect large arrears in the collection of electricity bills, as well as large losses in TANESCO's operations. The total outstanding amount of arrears owed to TANESCO was T Sh 58 billion as of end-June 2000, which reflects the amounts owed by Zanzibar State Power (T Sh 17 billion), DAWASA (T Sh 7 billion), the central government (T Sh 20 billion), parastatals (T Sh 9 billion), and other consumers. The government has taken a number of steps to resolve TANESCO's acute financial problems. First, it paid TANESCO T Sh 9 billion between July 2000 and January 2001 to clear arrears from fiscal year 1999/2000. All remaining budgetary arrears to TANESCO were settled in a netting operation in early-February 2001--a prior action for the completion of the second review--which took account of T Sh 25 billion owed by TANESCO to the government for the servicing of external debt. Second, the government undertook to pay in this fiscal year DAWASA's arrears to TANESCO, which had increased to T Sh 10 billion by end-December 2000; T Sh 3 billion of this amount was settled as part of the netting operation between the government and TANESCO. We expect that DAWASA will henceforth remain current on its obligations to TANESCO. Third, pending the installation of "pre-pay" meters in all government MDAs (scheduled to start in March 2001), the Ministry of Finance will ensure that all MDAs receive sufficient funds through the cash budgeting system to allow them to pay their bills and avoid new arrears; TANESCO has the authority to disconnect power to MDAs that do not pay their bills. Fourth, the government granted a temporary tax exemption on fuel purchases for the operation of gas turbines. It is envisaged that this tax exemption will not be renewed when it lapses in June 2001. Other steps to address TANESCO's problems to be taken by the government by March 2001 include reconstitution of the Board and a strengthening of the management of the company.

30.  A further issue with implications for TANESCO's financial position is the outcome of the arbitration on the contract with Independent Power Tanzania Ltd. (IPTL), which was announced in early February 2001.. The ruling is currently under review by the parties to the dispute. Financing of the monthly capacity payments arising from the ruling should ideally come from identified cost-savings at TANESCO and/or from tariff measures. The government, with the assistance of the World Bank, is in the process of reviewing the structure of electricity tariffs, with the aim of putting TANESCO's finances on a sound footing. The review will take account of the arbitration ruling as well as potential improvements in efficiency from the implementation of specific measures identified in recent studies, such as reducing the costs of inventory holdings, improved billing, and making a more aggressive collection effort. Pending the implementation of these measures, and given Tanzania's relatively high cost of energy within the region, the government may have to provide additional temporary budgetary support to TANESCO to cover some of the initial payments to IPTL. This support will be derived from domestic fiscal savings.

Governance

31.  During the participatory process of the PRSP, the poor stressed the importance of improving governance to help reduce their vulnerability and insecurity. The Public Service Reform Programme, which was launched in July 2000 with support of the World Bank, is an important part of the government's efforts to reduce corruption and improve the delivery of government services. A key element is the concept of "performance improvement monitoring," under which MDAs, in conjunction with their anticorruption plans, develop strategic plans to improve their performance. The implementation of the latter is to be subsequently monitored through annual Service Delivery Surveys (consultants recently completed a baseline survey). Seven MDAs have already completed strategic plans, and an additional two are expected to be completed by June 2001. By October 2001, the government will submit a new Public Service Bill to the parliament, with a view to facilitating performance monitoring, providing guidance on, and the use of, disciplinary action, and enhancing accountability. Also, the government has provided funds to the Ministry of Justice to reduce the shortfall in magistrates during 2000/01 and 2001/02. As stated in the PRSP, the government is also preparing detailed actions plans to strengthen the justice system, and we expect to carry out diagnostic surveys of corruption in MDAs during 2001. Furthermore, should there be evidence of corrupt practices by public officials, including in the case of the IPTL contract, the government will act promptly by bringing the corrupt officials to justice.

Statistical issues

32.  In support of our macroeconomic and poverty reduction policies, we intend to improve the macroeconomic and sociodemographic statistical databases. In this respect, and in line with the recommendations of a recent IMF multi-topic technical assistance mission, we intend to (i) establish regular meetings of the recently formed interministerial committee on statistics to address major issues identified in measuring GDP, including the reconciliation of figures on tourism; (ii) organize a new industrial production survey; (iii) prepare and submit a new Statistics Law to the parliament by October 2001; and (iv) clarify the cooperation between the National Bureau of Statistics (NBS) and the statistical authorities in Zanzibar. The government will ensure adequate funding for the preparation of a core set of macroeconomic statistics by the NBS, which has been indicated as a priority item in the MTEF, as well as for the population census. With regard to sociodemographic surveys, we intend to finalize field interviews for the Household Budget Survey and the Labour Force Survey by May 2001. Preliminary estimates for poverty indicators based on interviews for the initial three months from the two surveys will be out by end-February 2001. We announced our participation in the General Data Dissemination System to the IMF in December 2000.

G.  Concluding Remarks

33.  The government of Tanzania will continue to provide the IMF with such information as the IMF requires to assess Tanzania's progress in implementing the policies described in this letter, which updates and complements the memorandum of economic and financial policies for 2000-02 attached to the letter of the Minister for Finance of March 9, 2000, and the letter to Mr. Köhler of July 18, 2000. Moreover, we will continue to consult with the IMF on Tanzania's economic and financial policies in accordance with the IMF's policies on such consultations.

34.  Performance criteria and benchmarks are set out in Tables 3 and 4. The Government of Tanzania remains fully committed to the implementation of the economic and financial program supported by the PRGF arrangement, and we trust that we can count on the continued support of the IMF.

Sincerely yours,

/ s /

Technical Memorandum of Understanding Between the Government of Tanzania and the International Monetary Fund

February 24, 2001

1.  This memorandum contains the definitions of the quantitative benchmarks and performance criteria of Tanzania's program supported under the Poverty Reduction and Growth Facility (PRGF) for 2001 and the reporting requirements. It is an integral part of the documents and terms and conditions that govern the IMF's support for Tanzania's economic and poverty reduction program supported by the PRGF for the period 2000-02.

I.  Net International Reserves (NIR) and Net Domestic Assets (NDA)
of the Bank of Tanzania (BoT)

2.  For the purpose of the program, the BoT's NIR is defined as its usable foreign assets minus its foreign liabilities excluding medium-and long-term foreign liabilities, and converted in U.S. dollars at the end-period exchange rates.¹ The NIR is defined consistent with the definition of the Special Data Dissemination Standard template as external assets readily available to, or controlled by, the BoT. It includes the reserve position with the Fund net of outstanding use of Fund credit, but excludes any pledged or otherwise encumbered reserve assets, including, but not limited to, reserve assets used as collateral or guarantee for third-party external liabilities.

3.  For the calculation of the NIR, the balances in the accounts of the Multilateral Debt Fund (MDF) and the Poverty Reduction Budget Support Fund (PRBS) will be deducted from foreign liabilities and added to government deposits. Similarly, the balance in the account of the European Union (EU) for the clearance of domestic arrears will be added to foreign liabilities (and subtracted from other domestic liabilities). At end-December 2000, the BoT's NIR under the program definition amounted to US$553.1 million. Net foreign assets (NFA) of the BoT consists of its foreign assets minus its foreign liabilities, corrected for the balances in the MDF and the EU arrears account as mentioned above, excluding medium-and long-term foreign liabilities, and converted into Tanzania shillings (T Sh) at the end-period exchange rate. At end-December 2000, the BoT's NFA amounted to T Sh 477.1 billion.

4.  Net domestic assets (NDA) of the BoT are calculated as the BoT's reserve money plus medium- and long-term liabilities minus its NFA, in billions of Tanzania shillings. At end-December 2000, the BoT's net domestic assets amounted to T Sh 173.4 billion.

5.  Reserve money is defined as the sum of currency issued by the BoT, consisting of currency in the hands of the public and cash in vault held by the commercial banks, and the deposits of the commercial banks with the BoT. At end-December 2000, reserve money was T Sh 556.1 billion.

6.  Medium- and long-term foreign liabilities of the BoT consist of the sum of blocked foreign liability accounts, counterpart funds for foreign currency liabilities, and the External Payments Arrears/National Bank of Commerce (NBC) deposits. At end-December 2000, medium and long-term liabilities amounted to T Sh 43.3 billion.

7.  The program includes end-of-quarter quantitative benchmarks/performance criteria on the minimum level of NIR, and on the maximum level of NDA.

II.  Net Domestic Financing (ndf) of the Government of Tanzania

8.  NDF includes financing by the banking system (BoT and commercial banks) and the nonbank public of the budget of the central (Union) government of Tanzania. NDF consists of treasury bills (excluding liquidity paper issued by the BoT for monetary policy purposes and included as such in the BoT's balance sheet), government stocks and bonds, promissory notes and other domestic debt instruments issued by the government and loans and advances net of government deposits with the BoT and the banks.² For the purposes of the program, NDF excludes privatization proceeds and government debt issued for the recapitalization of the NBC and the National Microfinance Bank (NMB), debt from parastatal companies assumed by the government, and bonds issued to the BoT for the clearance of external payments arrears of the NBC.

9.  NDF is calculated as the cumulative change since June 30, 2000 in the sum of (i) loans and advances to the government by the BoT minus all government deposits with the BoT (including the balances in the accounts of the MDF and the PRBS), from the balance sheet of the BoT; (ii) loans and advances to the government by the commercial banks minus all government deposits held with the banks, from the balance sheet of the commercial banks; and (iii) the outstanding stock of domestic debt as identified in the Monthly Domestic Debt Report issued by the Ministry of Finance, excluding principal arrears but including interest arrears, minus (iv) government debt instruments issued for the recapitalization of the NBC and the NMB, and minus (v) parastatal debt assumed by the government. The balances and items constituting NDF as of June 30, 2000 and through end-December 2000 are provided in Table 1a.

III.  Adjuster to the Performance Criteria and Benchmarks for NIR and NDA of the BoT and NDF of the Budget for a Shortfall/Excess in Net Foreign Financing

10.  For the purposes of the program, the benchmarks and performance criteria for NIR and NDA of the BoT and NDF of the budget will be adjusted for a shortfall in net foreign financing of the budget compared with the projected level. The benchmarks and performance criteria for NIR will be adjusted downward and the benchmarks and performance criteria for NDA and NDF will be adjusted upward for the full amount of the shortfall. However, with the objective of safeguarding a minimum level of NIR, the adjustment of the benchmarks and performance criteria will be limited to a maximum amount of US$60 million (in the case of NIR) or the equivalent amount in Tanzania shillings at the end-period exchange rate (in the case of NDA and NDF).

11.  Under the program, for the adjustment to NIR, net foreign financing of the budget is calculated as the cumulative sum since June 30, 2000 of the receipts from (i) program loans (financing for the budget provided by multilateral institutions); (ii) program grants (financing for the budget provided by bilateral donors (including the EU)); and (iii) grants provided for debt relief by the IMF, the World Bank, and the African Development Bank; minus (iv) interest on external debt paid from the budget; and (v) amortization of external debt paid from the budget. For NDA and NDF, the amounts of (i)-(v) above are converted into Tanzania shillings at the average quarterly exchange rate. The calculation of the adjuster for the shortfall in net foreign financing for the period June 2000-December 2000 is provided in Table 1b.

IV.  Other Adjusters

12.  For the purposes of the program, NDA will be adjusted for changes in the reserve requirement in an amount equal to the change in percentage points in the reserve requirement times the amount of deposits held by the public with the commercial banks.

13.  For the purposes of the program, actual NDA and net foreign assets (NFA) of the BoT will be adjusted for the effect of the difference between the actual and the programmed exchange rate. The total of (i) the sum of actual net foreign assets in U.S. dollar terms times the actual exchange rate of the Tanzania shillings against the U.S. dollar; minus (ii) the sum of actual net foreign assets in U.S. dollar terms times the programmed exchange rate of the T Sh against the U.S. dollar will be added to NDA.

V.  External Payments Arrears

14.  External payments arrears consist of the total amount of external debt-service obligations (interest and principal) of the government and the BoT that have not been paid at the time they are due, excluding arrears on external debt-service obligations pending the conclusion of debt-rescheduling arrangements. Under the program, the avoidance of external payments arrears is a continuous performance criterion.

VI.  Nonconcessional External Debt

15.  Under the program, the avoidance of nonconcessional external debt contracted or guaranteed by the government or the BoT is a continuous performance criterion. Nonconcessional external debt is all debt with a concessionality level of less than 35 percent. For loans with a maturity of at least 15 years, the 10-year average "commercial interest rate reference rate" (CIRR), published by the OECD, should be used to calculate the level of concessionality. For loans with shorter maturities, the 6-month average CIRR should be used. For the purposes of the program through December 31, 2001, the 6-month and 10-year CIRRs published by the OECD in December 2000 will be used. To both the 10-year and 6-month averages, the following margins for differing repayment periods should be added: 0.75 percent for repayment periods of less than 15 years; 1 percent for 15-19 years; 1.15 percent for 20-29 years; and 1.25 percent for 30 years or more.

16.  This performance criterion applies not only to debt as defined in point No. 9 of the Guidelines on Performance Criteria with Respect to Foreign Debt adopted on August 24, 2000 (Executive Board Decision No. 12274 (00/85)) but also to commitments contracted or guaranteed for which value has not been received. The definition of debt set forth in No. 9 of the guidelines is as follows:

"(a) For the purpose of this guideline, the term "debt" will be understood to mean a current, i.e., not contingent, liability, created under a contractual arrangement through the provision of value in the form of assets (including currency) or services, and which requires the obligor to make one or more payments in the form of assets (including currency) or services, at some future point(s) in time; these payments will discharge the principal and/or interest liabilities incurred under the contract. Debts can take a number of forms, the primary ones being as follows: (i) loans, i.e., advances of money to obligor by the lender made on the basis of an undertaking that the obligor will repay the funds in the future (including deposits, bonds, debentures, commercial loans and buyers' credits) and temporary exchanges of assets that are equivalent to fully collateralized loans under which the obligor is required to repay the funds, and usually pay interest, by repurchasing the collateral from the buyer in the future (such as repurchase agreements and official swap arrangements); (ii) suppliers' credits, i.e., contracts where the supplier permits the obligor to defer payments until some time after the date on which the goods are delivered or services are provided; and (iii) leases, i.e., arrangements under which property is provided which the lessee has the right to use for one or more specified period(s) of time that are usually shorter than the total expected service life of the property, while the lessor retains the title to the property. For the purpose of the guideline, the debt is the present value (at the inception of the lease) of all lease payments expected to be made during the period of the agreement excluding those payments that cover the operation, repair or maintenance of the property. (b) Under the definition of debt set out in point 9(a) above, arrears, penalties, and judicially awarded damages arising from the failure to make payment under a contractual obligation that constitutes debt are debt. Failure to make payment on an obligation that is not considered debt under this definition (e.g., payment on delivery) will not give rise to debt."

17.  Excluded from this performance criterion are (i) debt contracted in the context of rescheduling agreements; and (ii) leases of office space and equipment and housing contracted by representatives of Tanzania abroad.

VII.  Central Government Recurrent Revenue

18.  Under the program, central government revenue consists of tax revenue and nontax revenue, cumulative since the start of the fiscal year, excluding privatization proceeds and the excess of dividends received from the BoT over the programmed amount. For 2000/01 (July-June), the programmed amount of dividend receipts from the BoT is T Sh 4.5 billion. Tax revenue consists of all revenue collected by the Tanzania Revenue Authority (TRA) minus nontax revenue collected by the TRA, as per the monthly TRA revenue report. Nontax revenue consists of nontax revenue collected by the TRA, dividends, revenue collections by the Ministry of Finance and the Ministries and Regions, and appropriations in aid.

VIII.  Extrabudgetary Expenditure

19.  The avoidance of extrabudgetary expenditure is a continuous benchmark under the program. For the purposes of the program, extrabudgetary expenditure is defined as expenditure paid from accounts outside the regular budgetary (paymaster-general) accounts, including from the accounts of nonbudgetary government entities such as the Presidential Public Sector Reform Commission or the TRA. This benchmark implies that under the program all recorded fiscal transactions by the government of Tanzania and its agencies, whether authorized in the budget, in any other law, or unauthorized, have to occur within the general framework of accounts that are reported to the IMF on a monthly basis and presented to parliament at least once a year.

IX.  Accumulation of Budgetary Arrears

20.  The avoidance of new budgetary arrears constitutes a benchmark under the program. New budgetary arrears are defined as arrears accumulated during the fiscal year on wages, domestic interest, goods and services, and tax refunds. Payments on salaries, wages, and pensions are deemed in arrears when they remain unpaid more than 30 days beyond the due payment date. Interest payments are in arrears when the payment is not made on the due date. Payments to suppliers are deemed to be in arrears if they have not been made within the normal grace period of 30 days or such other period as has been contractually agreed after the verified delivery of the concerned goods or services, unless the amount or the timing of the payment is subject to good faith negotiations between the government and the creditor. In the case of tax refunds, a refund is in arrears if the refund has not been made within 30 days after receipt of the claim, unless the claimant has been notified in writing of the nonacceptance of the claim by the TRA.

X.  Data Reporting Requirements

21.  For purposes of monitoring the program, the government of Tanzania will provide the data listed below. This memorandum distinguishes two different reporting requirements: (i) for the purpose of monitoring performance in relation to the program's benchmarks and performance criteria; and (ii) for the monitoring of general macroeconomic and financial developments. The data will be collected by the BoT and transmitted through the office of the Resident Representative, no later than one month after the date to which the data refer.

A.  Reporting of Developments in Relation to the Program's Benchmarks and Performance Criteria (to be provided monthly)

22.  Table of financial performance criteria and benchmarks under the program under the Poverty Reduction and Growth Facility (PRGF) for 2001 (Table 1 attached). Although this table only identifies quarterly ceilings or floors for NDA of the BoT, NDF of the government and NIR of the BoT, for the purpose of program monitoring the relevant actual data will be provided on a monthly basis for all benchmarks and performance criteria. In case the government incurred external payments arrears, contracted or guaranteed external debt on nonconcessional terms, made extrabudgetary expenditures or accumulated budgetary arrears, details of the arrears or transaction(s), including amounts and reasons for the noncompliance with the performance criterion/benchmark will be provided in an annex to this table.

23.  Table with the calculation of net domestic financing of the budget (Table 1a attached).

24.  Table with the calculation of the program adjuster for the shortfall (excess) of net foreign financing of the budget (Table 1b attached).

25.  Table with the structural benchmarks and performance criteria for the program under the PRGF (Table 2 attached). The fourth column of this table, labeled "Status," will be updated on a monthly basis with a view to monitor progress with the structural benchmarks and performance criteria.

26.  Table on priority sector expenditure targets and performance (Table 3 attached).

27.  The lists of all government accounts with the BoT and with the commercial banks, indicating their status with regard to the reconciliation process.

28.  An overview of the transactions in and out of the accounts of the Parastatal Sector Reform Commission.

B.  Reporting of Developments in Relation to the Monitoring of General Macroeconomic and Financial Developments

The following will be provided monthly (data for the latest month):

• the balance sheet of the BoT;

• the consolidated balance sheet of the commercial banks;

• the monetary survey;

• commercial banks--interest rate structure;

• the flash report on revenues and expenditures;

• the Monthly Domestic Debt Report;

• the TRA revenue report;

• the external cash flow statement, including details on payments of interest and principal on government external debt;

• exports and imports;

• the published consumer price index report of the National Bureau of Statistics (NBS);

The following will be provided quarterly:

• balance of payments (current account).

The following will be provided when available:

• The half-yearly and yearly national accounts statistics in constant and current prices as prepared by the NBS.

Attachments:

Tables