(Bloomberg) -- Past dithering on inflation is hampering the Turkish central bank’s ability to prop up the weakening economy today.
While the lira crashed and prices soared over the summer, Governor Murat Cetinkaya and colleagues hesitated until September before finally raising interest rates. The legacy of that delay means even with Turkey sliding toward recession, the central bank is busy trying to quell inflation and keep investors on side for fear of unsettling the currency. The result is an economy painfully squeezed by rates Morgan Stanley estimates are double the level for emerging markets as a whole.
“There is now zero scope for monetary policy experimentation,” said Timothy Ash, a strategist at BlueBay Asset Management in London. “In effect the central bank now has to rebuild its credibility by maintaining a hawkish policy stance for longer than perhaps the underlying data might suggest.”
The bank hiked borrowing costs only after investors dumped the lira -- in part because they worried that policy markers, who’ve balked in other times of crisis, weren’t doing enough to control prices. As policy makers increasingly take their cue from the market, President Recep Tayyip Erdogan has dialed down pressure on the central bank to reduce borrowing costs.
The Turkish leader, who once declared himself an “enemy of interest rates,” has instead resorted to market interventions to control price increases. He’s gone as far as deploying police to monitor stores and sending officials to inspect onion warehouses.
Monetary easing in Turkey remains a question of when, not if. While price growth has decelerated by almost 5 percentage points in the past three months, and the central bank is projecting an even bigger decline by year’s end, the benchmark rate has stayed at 24 percent since an increase of 625 basis points in September.
“The real test will be when inflation declines significantly, likely late in the second quarter,” said Credit Agricole SA strategist Guillaume Tresca. “The central bank has regained some credibility but it is still fragile. It takes months to reassure markets.”
Relief won’t be in sight any time soon if concern over investor perception continues to set the tone for the central bank’s actions. Easing won’t start until the second quarter, with the key rate ending this year at 20 percent, according to the median forecasts of economists polled by Bloomberg.
Traders are mostly on the same page. The one-year dollar-lira swap has hovered around 22 percent since December, which suggests the market has priced in at least 300 basis points of cuts over the next 12 months.
If the market’s expectations are at odds with the official view, “it could prove difficult for the central bank to signal an interest-rate cut without potentially undermining the lira’s stability, which is a crucial factor to maintain inflation on the downside trajectory,” said Rabobank strategist Piotr Matys.
“One could argue that policy makers guide market expectations -- not the other way round,” he said. “For this notion to be valid, a central bank needs very high credibility.”
--With assistance from Onur Ant.
To contact the reporters on this story: Paul Abelsky in Dubai at pabelsky@bloomberg.net;Cagan Koc in Istanbul at ckoc2@bloomberg.net
To contact the editors responsible for this story: Lin Noueihed at lnoueihed@bloomberg.net, ;Onur Ant at oant@bloomberg.net, Amy Teibel, Constantine Courcoulas
©2019 Bloomberg L.P.
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