The Central Bank of Turkey (CBT) has kept interest rates unchanged at a record low of 6.25 percent, in line with analyst expectations. It underscored that it may narrow the interest rate corridor gradually if global growth concerns and “sovereign debt problems regarding some European economies” dent risk appetite.
Bond yields eased to 8.78 percent from 8.88 percent following the announcement.
Although the decision is no surprise, the CBT is under increasing pressure to change its stance in light of recent data points that suggest its policy is having little bite.
Turkish monetary policy has earned itself the label ‘unorthodox’ due to its strategy of combining record low interest rates - to curb capital inflows - with higher reserve rate requirements to reign in credit growth and surging domestic demand. The current account deficit, a growing concern, has been revised upwards by the IMF from 8 percent to 10.5 percent of GDP in 2011.
A warning by Fitch early Thursday ahead of the monetary policy committee meeting sent the Istanbul Stock Exchange sharply lower. The ratings agency said that the widening current account deficit made an upgrade to investment grade uncertain and that there were signs that the economy was overheating.
Credit data as of July 9th by the country’s banking regulator showed Turkish bank loans grew by 35.65 percent on the year, far off the 25 percent target. Consumer confidence numbers released earlier in the week rose to almost four-year highs, hitting 96.42 points in June. The economy roared ahead by 11 percent in the first quarter, unsettling some investors uncomfortable about the chances of a hard landing down the line.
However, Gizem Oztok Altinsac, economist and vice president at Garanti Securities, does not expect any rate hikes this year, and told CNBC that there is no quick fix for the current account deficit.
“Keeping the rates and RRR unchanged is appropriate at the current stage, since the bank’s main policy leans on the divergence between strong domestic demand and weak external demand”.
In its latest G20 briefing paper, the IMF points out that policymakers in some economies have “fallen behind the curve” and that in the case of Turkey, “there is room for consolidation”. It also noted that to overcome the drawbacks of a rate hike in the current global environment, macroprudential and regulatory policy should be employed flexibly “to deter hot flows and guard against misallocation of capital”.
Turkish authorities have maintained that their policy will take time to work. Prime Minister Recep Tayyip Erdogan told reporters in Ankara earlier this month in reference to the current account deficit that “there is nothing to worry about”.
Now with elections over, there are more calls for the government to implement fiscal reforms. That way “the excess amount could be diverted to reduce the country’s dependency on external inflows”, Ali Cakirogul, strategist at HSBC Private Bank in Turkey, told CNBC.
After easing in June to 6.2 percent, further inflation data next week will shed further light on whether the central bank is on track with its outlook, and its policy.
Following the MPC decision and the Fitch warning, the Turkish lira lost further ground to cross the 1.67 mark against the US dollar. It remains the worst performing emerging market currency in 2011, having lost over seven percent. Although no explicit mention was made in the statement, analysts caution that a reduction in CBT forex auctions to tackle further depreciation of the currency remains possible.
“Staying liquid should be the name of the game, given all the uncertainties in the markets”, Cakirogul added.