For over 20 years until the early 1990s Zambia had entailed extensive government ownership and administrative controls over markets, including financial and banking markets. Interventionist policies, combined with a steep fall in the external terms of trade, led to economic decline. A major programme of market oriented economic reforms was adopted in the early 1990s which included financial sector reforms.
The aim of this paper is to explore a number of related hypotheses. First, that interventionist financial policies were either ineffective in changing the way that banks allocated credit and/or had a negative impact on the strength of the banking system: interest rate controls led to disintermediation in conditions of high inflation when real rates were highly negative, attempts by government owned banks to extend loans to meet development objectives undermined their solvency, while administrative controls or moral suasion had little impact on the operational policies of the foreign banks which remained very conservative in their policies.
Second, that prudential regulation was not accorded sufficient priority with adverse consequences for financial fragility in the banking system, especially when locally owned private sector banks were set up in the 1980s and early 1990s. Third, that financial reforms are difficult to implement effectively and probably have a limited impact on the efficiency of resource allocation by the banking system, especially in conditions of macroeconomic instability. The major constraints to improving efficiency are institutional in character and cannot be rectified quickly.
