Turkey interest rate rise: When will President Erdogan reverse course in face of raging inflation?
Turkey’s monetary policy continues to ignore the inflationary reality in the country. Analysts are increasingly puzzled as to how Turkey will move next on interest rates.
With Turkey President Recep Tayyip Erdoğan tightening his grip on policy even as price rises surpass 83%, can interest rates go lower, or will the pressure of 24-year high inflation be too much to handle? We take a look at the outlook for the Turkey interest rate.
What are interest rates and how are they set up in Turkey?
Interest rates are the percentage of interest charged on borrowed money, and the amount paid out on deposited cash.
They are determined by central banks, which usually have independent control over monetary policy. They set a base rate that commercial banks follow, often with a certain target of inflation. For the past 10 years, the Turkish central bank’s target was a 5% interest rate.
A central bank will increase the base rate in times of high inflation in an attempt to quell demand and calm prices – high interest rates deter borrowing and encourage saving.
Banks will reduce interest rates during a deflationary period, such as a recession, to stimulate growth in the private sector by making borrowing and investing cheaper, while making it less profitable to save.
Turkey interest rates are set by The Central Bank of the Republic of Türkiye (TCMB), which has remit over price stability, financial stability, exchange rate regime, printing and issuing bank notes, and payment systems.
The TCMB enjoys formal independence, meaning it should take monetary policy decisions based purely on its own objectives of price stability and not on advice from the government.
However, that hasn’t stopped Turkey’s autocratic president Erdoğan from firing central bank governors and officials in pursuit of interest rate cuts that will stimulate the economy in the short run.
ING economist Muhammet Mercan wrote in a note:
What is your sentiment on USD/TRY?
Turkey interest rate history
The Turkey interest rate has been on a downward trajectory since 2019. Despite inflation increasing more than fourfold in that time, rates have halved from the 24% of three years ago. Turkey interest rate news in the following months was decidedly more dovish.
Rates went as low as 8.25% in the wake of initial Covid-19 induced lockdowns, before prudence was exercised amid rising inflation in 2021 to return rates to 19%. Since then, though, there has been a return to steep, expansionary-driven cuts. Rates stayed at 14% for the first seven months of 2022, before seeing 100 basis points (bps) cuts in August and September.
The bank cut rates by another 150 bps at its latest meeting in October, leaving current interest rates in Turkey at 10.5%, which managed to spook markets that were already expecting a more modest cut.
ING’s Turkey economist Muhammet Mercan wrote in a note after the country’s prior 100 bps cut in September:
What’s driving interest rates in Turkey?
Recent dovish moves by Turkey’s central bank are in total contrast to the country’s macroeconomic situation. While Turkey has traditionally flirted with inflation higher than the target of 5%, prices have soared out of control in the last two years.
Inflation was chugging below 20% through most of 2021, benefiting from low oil prices as Covid-19-induced lockdowns continued to affect the globe.
But prices spiked in December 2021, when the Consumer Price Index (CPI), the key inflation gauge, hit 36.08%, up from 21.31% the previous month following huge Turkish lira (TRY) volatility in response to the Turkey interest rate being slashed.
The indicator saw another big jump in January 2021 to 48.69%, and has continued its ascent. In September, CPI eclipsed 83%, the highest level in 24 years. Transportation prices rose by 117%, indicating it costs more than double what it did last year to travel, while food inflation exceeded 93% and housing jumped past 84%. Core inflation measures, which strip out highly volatile food and energy prices, were below 50%. Analysis by the Economist Intelligence Unit (EIU) wrote:
“In the closing months of 2021, the president, Recep Tayyip Erdogan, forced the Central Bank of Turkey to cut interest rates, prompting further repeated slides in the value of the Turkish lira, which have pushed up the prices of imports.
“Rising global prices for energy raw materials, foodstuffs and other commodities, exacerbated by Russia’s invasion of Ukraine, have also contributed to soaring prices since then.”
In most economies, that figure would be enough to inspire a huge rate hike to calm markets and prices. Turkey, though, is holding firm.
While Erdoğan doesn’t yet see massive price increases as a reason for a Turkey interest rate hike, he has had to sacrifice the value of Turkey’s currency. The Lira has fallen to all-time lows against the US dollar and the euro as prices continue to rise with limited intervention from the central bank. ING economist Mercan wrote:
Analysts think Turkey’s recent increase in foreign exchange reserves has alleviated the requirement to lift rates too quickly.
"The additional funding implies that the need to tighten policy to avoid an external funding gap has declined substantially, and we think policy-makers will use this space to support growth," Goldman Sachs wrote in a note shared with Reuters, where the firm upgraded its gross domestic product (GDP) forecast for Turkey to 5.5% from 3.5%.
USD/TRY exchange rate
An increasingly weak lira further increases prices in Turkey through more expensive imports, which can also affect input costs for businesses. But a weaker Turkish currency does also encourage exports by making them cheaper for other countries, boosting positive trade.
Monetary policy decisions might seem more irrational than normal without the context of an upcoming election in June 2023.
In a September address, the president pledged to build half a million new homes for low-income families over five years, a plan he estimated would cost 900 billion lira, equivalent to more than $48bn.
Fitch Ratings downgraded Turkey’s credit rating to a B- on the back of months of market volatility, rising inflation, and a reluctance to cut rates. That will affect interest the country gets on borrowing. The agency wrote:
Turkey interest rate forecast for 2022, 2023 and beyond
ING economist Muhammet Mercan said in September that he thought it unlikely that interest rates would go up again in the near term to combat inflation, which is expected to remain elevated, noting:.
“Additional rate cuts, in our view, would be dependent on developments in the period ahead. A worsening global backdrop weighing on exports and higher FX volatility, coupled with ongoing momentum loss in credit growth, is expected to weigh on private consumption and investment.
“We have already seen a notable slowdown in July IP and have seen a weakening PMI index and deterioration in other sentiment indicators in recent months. Against this backdrop, the CBT would be able to come up with additional moves to ease financial conditions.”
FocusEconomics panellists foresaw the one-week repo rate ending 2022 at 12.59% and 2023 at 19.90%.
In a web conference heard by Reuters, an analyst for Fitch said they didn’t expect interest rates to see major changes before Turkish elections next June.
Trading Economics’ model, as of 26 October, expected the Turkey interest rate to hit 9% by the end of this quarter before rising to 10% in 2023 and 14% in 2024.
In its Turkey interest forecast of 10 october, ING expected rates to stay flat at 12% through the end of 2024. It’s unclear whether that outlook has changed in light of the latest cut.
Note that analysts' predictions on Turkish interest rates can be wrong. Their forecasts shouldn’t be used as a substitute for your own research. Always conduct your own due diligence. Remember that your decision to trade or invest should depend on your risk tolerance, expertise in the market, portfolio size, and goals. And never trade money that you cannot afford to lose.
FAQs
What is the interest rate in Turkey?
As of late October 2022, interest rates in Turkey were at 10.5%, after the central bank cut rates by 150 basis points earlier in the month.
Why is Turkey's interest rate so high?
Interest rates are relatively high in Turkey because of soaring inflation, which surpassed 83% in September. Many argue they should be higher, but for President Erdoğan’s opposition.
Will Turkey raise interest rates?
Analysts didn’t expect interest rates to increase until at least the election next June, with some expecting them to increase to 14% by 2024. Trading Economics’ mode, asl of 26 October, expected the Turkey interest rate to hit 9% by the end of this quarter before hitting 10% in 2023 and 14% in 2024. In its Turkey interest forecast, as of 10 october, ING expected rates to stay flat at 12% through the end of 2024. Meanwhile, FocusEconomics panellists foresaw the one-week repo rate ending 2022 at 12.59% and 2023 at 19.90%.
Note that analysts' predictions on Turkish interest rates can be wrong. Their forecasts shouldn’t be used as a substitute for your own research. Always conduct your own due diligence. Remember that your decision to trade or invest should depend on your risk tolerance, expertise in the market, portfolio size, and goals. And never trade money that you cannot afford to lose.
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