Istanbul, Turkey – In a surprising move, Turkey’s central bank increased its key rate by 650 basis points to 15 percent on Thursday, marking a reversal of President Tayyip Erdogan’s previous policy. However, despite expectations of a larger rate hike, the post-election tightening fell short, causing the lira to plummet. This decision, made at the bank’s first meeting under the new Governor Hafize Gaye Erkan, signifies a change in direction after years of monetary easing.
The one-week repo rate had plummeted from 19 percent in 2021 to 8.5 percent due to the previous policy of monetary easing, despite the soaring inflation. Analysts suggest that this move may suggest Erkan’s limited ability to tackle inflation more aggressively under the current administration.
In a Reuters poll, the median estimate was for rates to rise to 21 percent. However, after the rate hike was announced, the lira experienced a sudden drop, reaching an all-time low of 24.80 against the dollar, marking a 5 percent decrease from the previous day.
The central bank’s policy committee emphasized that further tightening would be implemented as necessary until a significant improvement in the inflation outlook was achieved. They also stated that the rate hike aimed to establish a disinflation course, anchor inflation expectations, and control pricing behavior.
Inflation in Turkey stood at just below 40 percent in May, after reaching a 24-year high above 85 percent in October of the previous year. The central bank warned that inflation would continue to exert pressure and expressed its intention to simplify and improve the existing regulatory framework, which may involve rolling back some of the regulations implemented since late 2021.
The central bank’s governor, Hafize Gaye Erkan, is expected to meet with a group of bank executives to discuss sector-related issues. Previously, the new Finance Minister Mehmet Simsek also met with these executives to address the challenges in the sector.
Despite concerns over limited maneuverability, a senior Turkish official clarified that the rate hike aimed to avoid excessive market volatility and demonstrates a determination to tighten policy. This official suggested that strong steps would continue in the future.
Over the past two years, President Erdogan had advocated for rate cuts, which led to a currency crisis and increased prices. The lira has experienced significant drops of 44 percent in 2021 and 30 percent last year, despite the central bank’s efforts to stabilize the currency using its forex reserves.
Erdogan’s recent appointments of Minister Simsek and Governor Erkan suggest a shift in economic policy. Erdogan has expressed approval for Simsek’s planned actions, indicating a willingness to support rate hikes.
However, some analysts doubt Erdogan’s commitment to abandoning unorthodox policies given his past tendencies to quickly change his mind. The policy decision may indicate the limited room for maneuver that Governor Erkan has in restoring orthodox monetary policy.
Economists in a Reuters poll expect further rate hikes this year, with a year-end forecast median at 30 percent. The central bank’s key rate remains lower than deposit rates, which can reach up to 40 percent, resulting in deeply negative real rates.
As a result of the rate hike, Turkey’s credit default swaps (CDS), a measure of the cost of insuring exposure to its debt, increased by 21 basis points to 518 basis points.
Foreign investors and hard currency are expected to return to Turkey, alleviating the central bank’s need to intervene in stabilizing the lira. Authorities are hopeful that these developments will reduce market volatility and attract more investment.
Sources:
1. [JPMorgan expects Turkey central bank to lift rates to 25% on June 22](https://business.inquirer.net/326447/jpmorgan-expects-turkey-central-bank-to-lift-rates-to-25-on-june-22)
2. [Turkey central bank’s net forex reserves negative for first time since 2002](https://business.inquirer.net/326436/turkey-central-banks-net-forex-reserves-negative-for-first-time-since-2002)
3. [Turkey’s Erdogan urges unity as he begins new presidential term](https://newsinfo.inquirer.net/1456642/turkeys-erdogan-urges-unity-as-he-begins-new-presidential-term)
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Omprakash Tiwary is a business writer who delves into the intricacies of the corporate world. With a focus on finance and economic landscape. He offers readers valuable insights into market trends, entrepreneurship, and economic developments.
