Turkey’s Central Bank Raises Interest Rates to Tackle Inflation
Turkey’s central bank made the decision to increase its key interest rate by 250 basis points to 17.5% on Thursday. This move aims to combat the country’s ongoing issue of high inflation. The rate hike was lower than what analysts had predicted, and the central bank stated that further tightening would be implemented until a significant improvement in the inflation outlook is achieved.
Turkish Lira Declines Following the Rate Increase
Upon the announcement of the interest rate hike, the Turkish lira depreciated by approximately 0.5% against the US dollar, with an exchange rate of 26.92 lira per dollar. Earlier this week, concerns in the market regarding the rate increase being below expectations led to a fresh record low for the lira at 26.9 per dollar. The currency has experienced a 30% devaluation against the dollar throughout this year.
The Journey to Address Inflation Begins
In June, Turkey raised its interest rate for the first time in over two years. This decision followed the appointment of policymakers who were committed to implementing economic orthodoxy in order to tackle inflation. Turkey gradually reduced its policy rate from 19% in late 2021 to 8.5% in March, as inflation surged to 80% and eventually eased to just under 40% in June.
A Shift in Monetary Policy Strategy
Conventional economic wisdom suggests that raising interest rates helps to curb inflation. However, Turkish President Recep Tayyip Erdogan, a staunch critic of interest rates, has advocated for lowering rates instead. Erdogan refers to interest rates as “the mother of all evil” and has expressed his opposition to their use.
Analytical Criticisms of the Rate Increase
Analysts were largely disappointed with the central bank’s decision, viewing it as a mistake. Timothy Ash, an emerging markets strategist at BlueBay Asset Management, described it as a “terrible decision” and expressed doubts about the ability of Turkey’s finance minister and central bank chief to implement effective policy tightening. The rate hike in June, which amounted to a 650 basis point increase, also fell short of market expectations.
Bartosz Sawicki, a market analyst at Conotoxia Fintech, noted that today’s decision to raise rates was lower than what most market forecasts had predicted. There are concerns about whether a gradual tightening approach is sufficient to restore credibility and establish price stability after years of unorthodox policies.
The Central Bank’s Response to the Lira’s Depreciation
Despite the significant depreciation of the lira against the dollar since Erdogan’s re-election in May, the central bank does not appear to be alarmed by its recent decline. This is evident from the lower-than-expected rate hike, suggesting that the central bank may have a differing perspective on the current state of the currency.
