Central Bank of Turkey Raises Rates By 250 bps to 42.50%, Up 35% since May

The Central Bank of Turkey hiked rates by another 250bps from 40 percent to 42.5 percent at its December meeting. The bank said headline inflation edged up in November and remains in line with the outlook presented in the most recent Inflation Report. The existing level of domestic demand, stickiness in services inflation, and geopolitical risks keep inflation pressures alive. The move follows a hike of 500bps at its November meeting. The move was its seventh big interest rate hike in a row as inflation hit 61.36% last month. The rate has been raised by 35% since May.

The lira 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. The Board envisages completing the monetary tightening steps as soon as possible.

TCMB

The Central Bank saying, “Assessing that monetary tightness is significantly close to the level required to establish the disinflation course, the Committee reduced the pace of monetary tightening. The Committee anticipates to complete the tightening cycle as soon as possible. The monetary tightness will be maintained as long as needed to ensure sustained price stability..”

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.

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

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: 2023-51 21 December 2023

Press Release on Interest Rates

Participating Committee Members

Hafize Gaye Erkan (Governor), Osman Cevdet Akçay, Elif Haykır Hobikoğlu, Yaşar Fatih Karahan, Hatice Karahan.

The Monetary Policy Committee (the Committee) has decided to raise the policy rate (the one-week repo auction ate) from 40 percent to 42.5 percent.

Headline inflation edged up in November and remains in line with the outlook presented in the most recent 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 as monetary tightening is reflected in financial conditions. The Committee also assesses that inflation expectations and pricing behavior started to show signs of improvement. The notable improvement in external financing conditions, continued increase in foreign exchange reserves, positive impact of demand rebalancing on current account balance, and the accelerated increase in domestic and foreign demand for Turkish lira denominated assets contribute significantly to exchange rate stability and the effectiveness of monetary policy. In light of these developments, the decline in the underlying trend of monthly inflation continues.

Assessing that monetary tightness is significantly close to the level required to establish the disinflation course, the Committee reduced the pace of monetary tightening. The Committee anticipates to complete the tightening cycle as soon as possible. The monetary tightness will be maintained as long as needed to ensure sustained price stability.

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. While lending rates are assessed to be in line with the targeted level of financial tightness, the Committee evaluates that along with monetary tightening, the regulations to increase the share of Turkish lira deposits will continue to strengthen the transmission mechanism and to improve the funding composition of the banking system. 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 cumulative and 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.

Source: TCMB WSJ

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