Monday, 22 October, 2018

Turkey central bank surprises markets with big rate hike

Image of eurusd daily chart Erdogan appoints himself chairman of Turkey's sovereign wealth fund
Ginger Lawrence | 14 September, 2018, 04:15

Turkey's central bank has raised its key interest rate to 24% in a dramatic bid to control rocketing inflation and prevent a currency crisis.

Thursday's decree and Erdogan's remarks come after the lira's drastic fall in value against the United States dollar last month, during one of the worst diplomatic rows between North Atlantic Treaty Organisation allies Washington and Ankara.

The currency has lost 40 percent of its value against the dollar this year, hit by concerns about Erdogan's influence on monetary policy and more recently by a diplomatic spat between Turkey and the US.

Several emerging markets have confronted the same struggles, dogged by a strengthening USA dollar that makes it more hard for countries such as Turkey to pay back hefty external debt.

But just hours before the CBRT decision, president Erdogan had dubbed interest rates as a "tool of exploitation", with the lira sliding further.

Neil Wilson, chief market analyst at Markets.com said: "This was a definite statement from policymakers, but the risk now is that the market tries to test the central bank's resolve: the horse may have already bolted".

"However, one swallow doesn't make a summer", she warned.

Earlier in the day, Erdogan published an executive decree that forces contracts between two entities in Turkey to be made in liras rather than foreign currencies.

There had been indications from the bank that it would raise rates after inflation came in at almost 18 percent in August.

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The central bank said deterioration in pricing behaviour continued to pose upside risks on the inflation outlook, despite weaker domestic demand conditions.

A "tight stance in monetary policy will be maintained decisively until inflation outlook displays a significant improvement", it added.

The bank´s intervention was the latest aggressive rate hike to calm economic turbulence in an emerging market after the Argentinian central bank´s recent hike from 45 to 60 percent on August 30.

"Turkey needs structural reforms to increase productivity, to decrease its dependence on short-term portfolio flows and to decrease the rigidness in the labour market".

Currently, the interest rates are below the annual inflation level in Turkey. "If you say 'inflation is cause, the rate is the result, ' you do not know this business, friend".

Anthony Skinner, director of Middle East and North Africa at Verisk Maplecroft, told AFP he believed the hike had already been agreed.

Erdogan a year ago said the fund needed a "reorganisation" after the first chairman Mehmet Bostan was removed from his post in September 2017. They increased the cost of cash to commercial lenders by around 150 basis points last month by forcing them to use a borrowing tool costlier than the one-week repo rate.

The lira had weakened earlier on Thursday before the central bank decision as Erdogan's fierce criticism of the central bank and high interest raised doubts in investors' minds about how much the bank might tighten policy.