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Turkey Monetary Policy July 2018

Turkey: Central Bank keeps rates unchanged in July, currency weakens

At its monetary policy meeting held on 24 July, the Central Bank of the Republic of Turkey (CBRT) kept the one-week repo rate—which from 1 June became the main policy rate—unchanged at 17.75%. The move surprised market analysts, who had expected the Bank to continue its hiking cycle in the face of elevated price pressures.

The Central Bank’s decision came despite inflation soaring to an over one-decade high of 15.4% in June, over three times the Central Bank’s ostensible 5% target. Core inflation also moved further into double-digit territory, due to the pass-through effects of the lira depreciation. Inflation expectations are elevated and on the rise, posing further risks to the inflation outlook. In addition, the currency had lost further ground since June’s policy meeting, partly due to tightening global financial conditions on higher U.S. interest rates. However, the Bank judged that a tighter monetary stance was not warranted, given the substantial increase in the policy rate in recent months and signs that domestic demand is cooling.

The surprise decision to stay put caused the lira to plumb new depths, sinking to over TRY 4.90 per USD. Concerns are mounting that President Erdogan—a long-time opponent of high interest rates—is holding greater sway over monetary policy following his victory in June’s presidential elections. This fear is mixed with wider concerns regarding the direction of economic policy in the country, particularly after the president named his son-in-law as finance minister. The lira is likely to remain under pressure going forwards unless the policy mix tightens further.

In its communiqué, the Bank once more made it explicitly clear that further monetary tightening would be delivered if necessary, and that the monetary stance would be maintained until the inflation outlook showed a “significant improvement”. However, unlike in last month’s press release, the CBRT stated that it would closely monitor the lagged effect of past monetary tightening and the contribution of fiscal policy when taking future rate decisions. This suggests the Bank may be looking to fiscal policy to support disinflation, and it could be less inclined to opt for future rate hikes. That said, an emergency rate hike to avoid a currency crisis in the case of a collapse in the lira—as occurred in May—is possible.

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