Central Bank of Turkey Raises Another 250 bps to 45%, Signaled End of Rate Hikes

The Central Bank of Turkey hiked by another 250bps from 42.5 percent to 45 percent as expected. It also signaled the end of rate hikes by stating “that the monetary tightness required to establish the disinflation course is achieved and that this level will be maintained as long as needed.” This was consistent with expectations this would be the final hike after the central bank said at its last decision in December that the goal was to “complete the tightening cycle as soon as possible. The existing level of domestic demand, stickiness in services inflation, and geopolitical risks however keep inflation pressures alive. The move follows a hike of 500bps at its November meeting. The move was its eight big interest rate hikes in a row as inflation hit 64.8% in December 2023. The rate has been raised by 37.5% since May.

The big inflation factor is the weak lira, it has been underperforming against most EM crosses and several major ones, selling off hard since 2020 with no respite and Turkey remains in the clutches of a currency crisis after President Erdogan destroyed its credibility.

TCMB

Further currency weakness comes from the real policy rate remains negative by over -20% using backward CPI inflation of 61.4% y/y. Using the consensus forecast for inflation next year of over 50% y/y it doesn’t seem likely the real policy rate will turn positive any time soon.

Turkey Interest rates

We now have President Tayyip Erdogan has been trying to retore policy credibility fresh from his re-election early in the year, something illusions are hard to maintain, however. Recall since September 2021 there had been concerted pressure from President Recep Tayyip Erdogan wanting rates cut to stimulate the economy, despite a collapsed Lira and soaring inflation. The market does not forget and play along with the Turkish mess.

Inflation Stays Elevated

Policymakers said the current level of the policy rate will be maintained until there is a significant decline in the underlying trend of monthly inflation and until inflation expectations converge to the projected forecast range.

Inflation in Turkey continued to accelerate to top 64.8% in December 2023, hitting the highest since November 2022, and is expected to keep increasing due to a significant minimum wage hike. The government raised the net minimum wage for 2024 to 17,002 liras ($578) in an attempt to ease living costs before the upcoming municipal elections.

Before the pause there were 1050bps in unorthodox rate cuts since September of 2021 

Mehmet Simsek, a former Merrill Lynch banker who had previously served as Erdogan’s finance minister and as a deputy prime minister until 2018 has been tasked to ‘save’ Turkey financially. Erdogan also on reelection appointed Hafize Gaye Erkan in June as Turkey’s first female central bank governor. A former co-chief executive of the now-failed San Francisco-based First Republic Bank, Erkan replaced Sahap Kavcioglu, who oversaw a series of rate cuts. Under Erkan’s tenure, the central bank has hiked its main interest rate from 8.5% to 40%.

Turks can’t afford bare necessities as inflation runs rampant from the collapsed currency.

The central bank said the effects of tax increases and a 23 per cent depreciation in the lira against the US dollar since June “have broadly passed through to prices, and that the underlying trend in monthly inflation is on course to decline”. In June, the government increased the minimum wage by 34% to try and stave off protests.

“We will take decisive steps in the fight against inflation,” Erdogan said at the time. “We will increase our efforts to protect large sections of our people from the effects of inflation.”

The impacts of higher borrowing costs have yet to fully filter through to Turkey’s economy mainly because of the lingering effects of massive stimulus measures, such as the minimum wage rise and a month of free gas, these were Erdogan incentives before May’s general election.

Erdogan had fired three central bank governors who resisted pressure to cut interest rates before appointing Kavcioglu in 2021. Naci Agbal, who proceeded Kavcioglu, was removed from his post days after he raised rates.

Lira Trampled Underfoot

The Turkish lira was little changed at record low levels above 30 per USD after the central bank of Turkey raised interest rates by another 25bps to 45% but signaled the end of its longest-ever rate-hike cycle.

Further currency weakness comes from the real policy rate remains negative by over -20% using backward CPI inflation of 61.4% y/y. Using the consensus forecast for inflation next year of over 50% y/y it doesn’t seem likely the real policy rate will turn positive any time soon.

The value of the Lira to the dollar has dropped by 78% in the last five years with a third of that loss in 2023.

Turkey is funding its unusual economic approach in part with an influx of money from Russia. Mr. Erdogan has deepened Turkey’s economic relationship with Russia this year and lately with Saudi Arabia. Turkey is boosting trade and allowing Moscow to turn to Turkey to ease the effect of Western sanctions. Erdogan turned to Russia to bolster the Turkish economy, accelerating trade between the two countries and welcoming inflows of Russian money that have helped Turkey shore up the foreign assets needed to stabilize the lira.

Turkish Lira Collapse

Statement From The Central Bank of the Republic of Türkiye

No: 2024-01 25 January 2024

Press Release on Interest Rates

Participating Committee Members

Participating Committee Members
Hafize Gaye Erkan (Governor), Osman Cevdet Akçay, Elif Haykır Hobikoğlu, Yaşar Fatih Karahan, Hatice Karahan, Fatma Özkul.

The Monetary Policy Committee (the Committee) has decided to raise the policy rate (the one-week repo auction rate) from 42.5 percent to 45 percent.

In December, headline inflation increased in line with the outlook presented in the last Inflation Report. The existing level of domestic demand, stickiness in services inflation, and geopolitical risks keep inflation pressures alive. On the other hand, recent indicators suggest that domestic demand continues to moderate in line with the projected disinflation process as monetary tightening is reflected in financial conditions. The Committee also assesses that inflation expectations and pricing behavior continued to show signs of improvement. External financing conditions, strengthening in foreign exchange reserves, rebalancing in current account balance, and demand for Turkish lira denominated assets continue to contribute to exchange rate stability and the effectiveness of monetary policy. In light of these developments, the decline in the underlying trend of monthly inflation continued.

Taking into account the lagged impact of monetary tightening, the Committee assesses that the monetary tightness required to establish the disinflation course is achieved and that this level will be maintained as long as needed. The Committee assesses that the current level of the policy rate will be maintained until there is a significant decline in the underlying trend of monthly inflation and until inflation expectations converge to the projected forecast range. The Committee will reassess the stance of monetary policy if notable and persistent risks to inflation outlook emerge.

To increase the functionality of market mechanism and strengthen macro financial stability, the Committee continues to simplify and improve the existing micro- and macroprudential framework. In line with the simplification process, the Committee will strengthen the monetary transmission mechanism in the face of any potential excess volatility in credit supply and deposit rates through macroprudential policy. In addition to policy rate decisions, the Committee will continue to implement quantitative tightening by extending the sterilization tools at its disposal in order to support the monetary tightening process.

Taking into account the lagged effects of monetary tightening, the Committee will continue to determine its policy decisions in a way that will create monetary and financial conditions necessary to ensure a decline in the underlying trend of inflation and to reach the 5 percent inflation target in the medium term.

Indicators of inflation and underlying trend of inflation will be closely monitored and the Committee will continue to decisively use all the tools at its disposal in line with its main objective of price stability.

The Committee will continue to make its decisions in a predictable, data-driven and transparent framework.

The summary of the Monetary Policy Committee Meeting will be released within five working days.

Press Release on Interest Rates (2024-01)

Source: TCMB WSJ

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