Turkey central bank stuns markets with huge rate hike

Irving Hamilton
September 13, 2018

However, the property and construction market has become a concern for investors anxious that Turkish companies that borrowed heavily to profit from a boom may struggle to repay loans in foreign currencies, as the weakened lira means there is now more to pay back.

All 11 economists in a Reuters poll forecast the bank would tighten, but with the rate hike predictions ranging between 225-725 basis points as the bank balances concerns over lira weakness with worries about an economic slowdown.

The bank described the hike as a "strong monetary tightening to support price stability".

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

President Recep Tayyip Erdogan on Wednesday appointed himself the chairman of Turkey's sovereign wealth fund and named his son-in-law and Finance Minister Berat Albayrak as deputy chairman.

But Erdogan - who has been accused by critics of pressuring the nominally independent central bank - had earlier charged the bank with failing to control inflation and again aired his unorthodox view that low rates bring inflation down. It has still lost 38 percent of its value against the US currency this year. The government has transferred to the TVF stakes worth billions of dollars of state assets, including stakes in flag carrier Turkish Airlines, major banks and fixed-line operator Turk Telekom.

The bank said it was hiking its main interest rate by 625 basis points to 24%, double the market consensus for the raise.

Erdogan past year said the fund needed a "reorganisation" after the first chairman Mehmet Bostan was removed from his post in September 2017.

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"Interest rates are the cause, inflation is the result". The rate hike could squeeze growth further, but independent experts say it is needed to contain inflation of about 18% and support the currency.

Phoenix Kalen, director of EM strategy at Societe Generale, said the market was both pleased and confused by the bank move.

The fall in the value of the lira in recent months has pushed up the price of everyday items in Turkey and raised fears the country is sliding into an economic crisis.

Piotr Matys, emerging markets foreign exchange strategist at Rabobank, said the central bank had taken a decisive step which should allow it to gradually restore confidence in the lira.

He has repeatedly blamed the central bank for high inflation, which hit nearly 18% last month, its highest level since 2003.

Piotr Matys at Rabobank said Turkey also needed to resolve its trade dispute with the United States and rebalance the economy away from big infrastructure projects and consumer spending.

President Recep Tayyip Erdogan ordered a decree on Thursday announcing that contracts for sales, rent and leasing must in future be made in lira.

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