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Turkey Monetary Policy April 2018

Turkey: Central Bank raises late liquidity window rate in April

The Central Bank of the Republic of Turkey (CBRT) hiked the late liquidity window rate—the rate through which all financing is currently delivered—75 basis points at its 25 April monetary policy meeting in response to increasing price pressures. The late liquidity window rate was tightened to 13.50% from 12.75%, surprising market analysts who had penciled in an increase of 50 basis points. The one-week repo rate was kept unchanged at 8.00%, the overnight lending rate at 9.25% and the overnight borrowing rate at 7.25%.

A further weakening of the lira and the threat of heightened pass-through effects to domestic inflation prompted the Bank’s decision. Authorities appear increasingly concerned about the current trajectory of inflation, which is being fueled by a weaker lira and fiscal stimulus in the economy. The rate increase was also likely intended to anchor the lira ahead of snap elections in June, which coupled with growing economic imbalances and a noisy geopolitical scenario, should cause the Turkish currency to tumble further. However, despite the Bank’s over-delivery, the lira struggled to rally in the aftermath of the policy action, a sign that minor fine-tuning will not change underlying structural issues ahead of June’s electoral showdown.

Interestingly, the Bank removed its previous statement about high core inflation and the underlying inflation inertia, instead emphasizing a growing upside risk from rising import prices. The slightly hawkish amendment shows that the CBRT is poised to intervene further if double-digit inflation remains persistently high, and it repeated that its “tight stance in monetary policy will be maintained decisively until the inflation outlook displays a significant improvement […] and becomes consistent with the targets”. Furthermore, “if needed, further monetary tightening will be delivered”.

Despite the stronger-than-expected hike, the Bank is still facing an unstable currency and stubbornly high inflation. The tepid rally in the lira following the rate hike and the uncertainty surrounding President Erdogan’s snap elections suggests the Bank’s latest efforts may prove ineffective in anchoring the lira and tempering inflationary pressures, given the underlying structural issues that are stoking the fire. However, the CBRT has proven it will intervene despite Erdogan’s unorthodox opposition to higher interest rates and will likely aim to reinforce its credibility as an independent institution in upcoming meetings. As such, if the lira continues to tumble or inflation expectations pick up, the Bank may be prompted to act at its next monetary policy meeting on 7 June, just ahead of the 24 June elections.

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