Turkey raises rate 1st time in 2 years to contain inflation

September 24, 2020

Turkey’s central bank raised its key interest rate for the first time in two years, saying inflation has been tracking higher than expected due to the country’s fast economic recovery and it “assessed that the tightening steps taken since August should be reinforced in order to contain inflation expectations and risks to the inflation outlook.”
The Central Bank of the Republic of Turkey (CBRT) raised its one-week repo rate by 200 basis points to 10.25 percent, unwinding some of the 375 points of rate cuts earlier in the year. This leaves the one-week repo rate 175 basis points below its level at the start of the year.

The last time CBRT raised its rate was in September 2018 when it was raised to 24.0 percent as part of three rapid rate hikes in 5 months to contain inflation in response to a fall in the lira and capital outflows.

But since July 2019, when the current governor, Murat Uysal, was installed, the central bank had been on an easing cycle and cut rates 9 times in a row and by a total of 15.75 percentage points, with the latest cut in May.

CBRT is the 8th central bank to raise rates this year but 3 of those hikes (Tajikistan, Czech Republic and Kazakhstan) took place before global monetary policy took a sharp U-turn in the face of the economic damage from the COVID-19 pandemic. These three hikes were later reversed by rate cuts.

It is the first central bank among the Group of Twenty (G20) major economies that represent some 85 percent of the global economy to have raised its rates since the outbreak of the COVID-19 pandemic earlier this year and the first emerging market central bank since March to raise its rates in response to inflationary pressures.

CBRT said maintaining a sustained process of disinflation was key to lower long-term interest rates, a stronger economic recovery and lower sovereign risk and this requires a continuation of a “cautious monetary stance” that takes into account the underlying trend of inflation.

“Accordingly, the Committee decided to increase the policy rate by 200 basis points to restore the disinflation process and support price stability,” CBRT said.

Although Turkey’s headline inflation rate was stable at 11.77 percent in August from 11.76 percent in July, the lira has been weakening steadily for the last decade – putting upward pressure on import prices and thus inflation – and has plunged 23 percent since Aug. 1 on negative real interest rates, concern over the central bank’s low foreign exchange reserves and tensions with the European Union over the east Mediterranean.

Instead of outright rate hikes to its benchmark interest rate, CBRT has resorted to other tightening measures, including directing lenders to borrow at higher rates and in August raised reserve ratios to drain liquidity from the market and boost reserves.

In response to the rate hike, the lira jumped 1.3 percent to 7.59 to the U.S. dollar but remains down almost 22 percent since the start of this year.

CRBT said the rise in inflation from pandemic-related supply-side factors was expected to gradually phase out as weak demand curbs price rises.

“Yet, as a result of fast economic recovery with strong credit momentum, and financial market developments, inflation followed a higher-than-envisaged path,” CRBR said.

Turkey’s economy shrank an annual 9.9 percent in the second quarter of this year, and by a quarterly 11 percent, but CBRT said economic activity was recovering markedly in the third quarter as commercial loans have begun to normalize and tourism has begun to improve.

“The recovery in exports of goods, relatively low levels of commodity prices and the level of the real exchange rate will support the current account balance in the upcoming periods,” CBRT added.

The Central Bank of the Republic of Turkey issued the following press release:

“Participating Committee Members

Murat Uysal (Governor), Murat Çetinkaya, Uğur Namık Küçük, Oğuzhan Özbaş, Emrah Şener, Abdullah Yavaş.

The Monetary Policy Committee (the Committee) has decided to increase the policy rate (one-week repo auction rate) from 8.25 percent to 10.25 percent.

While global economic activity has shown signs of partial recovery in the third quarter following the normalization steps taken by several countries, uncertainties on global economic recovery remain high. Advanced and emerging economies continue to maintain expansionary monetary and fiscal stances. The pandemic disease is closely monitored for its evolving global impact on capital flows, financial conditions, international trade and commodity prices.

Economic activity is recovering markedly in the third quarter owing to gradual steps towards normalization and the strong credit impulse. Recent monetary and fiscal measures that aim to contain negative effects of the pandemic on the Turkish economy contributed to financial stability and economic recovery by supporting the potential output of the economy. The normalization trend recently observed in commercial loans has started in consumer loans as well. The recent upturn in imports, which has resulted from deferred demand as well as pandemic-related liquidity and credit policies, is expected to moderate with the phasing out of these policy measures. Although tourism revenues declined due to the pandemic, easing of travel restrictions has started to contribute to a partial improvement. The recovery in exports of goods, relatively low levels of commodity prices and the level of the real exchange rate will support the current account balance in the upcoming periods.

Pandemic-related supply-side inflationary factors were expected to gradually phase out during the normalization process and demand-driven disinflationary effects were expected to become more prevalent. Yet, as a result of fast economic recovery with strong credit momentum, and financial market developments, inflation followed a higher-than-envisaged path. The Committee assessed that the tightening steps taken since August should be reinforced in order to contain inflation expectations and risks to the inflation outlook. Accordingly, the Committee decided to increase the policy rate by 200 basis points to restore the disinflation process and support price stability.

Free Reports:

Get our Weekly Commitment of Traders Reports - See where the biggest traders (Hedge Funds and Commercial Hedgers) are positioned in the futures markets on a weekly basis.

Sign Up for Our Stock Market Newsletter – Get updated on News, Charts & Rankings of Public Companies when you join our Stocks Newsletter

The Committee assesses that maintaining a sustained disinflation process is a key factor for achieving lower sovereign risk, lower long-term interest rates, and stronger economic recovery. Keeping the disinflation process in track with the targeted path requires the continuation of a cautious monetary stance. In this respect, monetary stance will be determined by considering the indicators of the underlying inflation trend to ensure the continuation of the disinflation process. The Central Bank will continue to use all available instruments in pursuit of the price stability and financial stability objectives.

It should be emphasized that any new data or information may lead the Committee to revise its stance.

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

www.CentralBankNews.info