Factors affecting foreign exchange rate fluctuations in Tanzania 1981-2003

The purpose of this study is to empirically analyze the factors affecting foreign exchange rate fluctuations for the 1981 to 2003 period. The study assesses the trend of foreign exchange rate and the influence of the fundamental factors. Particular attention is directed to money supply, Government expenditure, Terms of Trade, Trade liberalization, Capital flows, Restrictive import policy as well as interest rates as factors that affect real exchange rate. The study employed Ordinary list square model to link real exchange rate and the factors that causes the exchange rate to fluctuate for the period under review. The study findings indicate that money supply, Capital flows and Government expenditure has a very big significant on exchange rate though Government expenditure was having the opposite sign as it was expected. Although other factors such as interest rate, trade liberalization and restrictive import policy they have influence on real exchange rate but the influence in the empirical findings was insignificant. Inferring from the study it is suggested that there is a need for the Government of Tanzania to put more emphasis on implementing policy action that will increase real output and operate strict monetary policy that cannot lead to financial repression. The Government should insure the independence of the Bank of Tanzania in monitoring the financial sector and price level changes in the country. The need for improvement of the underlying government budget and the infrastructure that will motivate production activities in the economy, are the policy implications emanating from this study.