Turkey's central bank made another significant interest rate hike on Thursday, further straining the country's household budgets, which were already burdened by the rising cost of essential goods like food.
The benchmark one-week repo rate was raised by a significant 500 basis points to 40 percent, exceeding economists' predictions of a 250-basis-point hike to 37.5 percent. While this marked the sixth consecutive rate hike under the new governor's leadership, Turkey's central bank indicated that interest rates were nearing the threshold required to begin curbing inflation.
The bank underlined that it would keep interest rates elevated for an extended period to curb inflation and foster sustained price stability.
The move aims to address soaring inflation and the declining Turkish lira. According to the latest data from the Turkish Statistical Institute (TurkStat), Turkey's annual inflation dropped to 61.36 percent in October from 61.53 percent in September.
In its most recent quarterly inflation report, Turkey's central bank revised its year-end inflation forecasts for this year and the next. The bank now expects inflation to climb from around 61.4 percent in October to a peak of 70-75 percent in May before subsiding to about 36 percent by the end of 2024.
Despite the decreased inflation, the overall macroeconomic situation remains highly challenging, Bartosz Sawicki of Conotoxia Fintech in Warsaw said.
The lira has declined by 35 percent year to date against the dollar and has plummeted by over 80 percent in the last five years. As of writing, it stands at 28.9075, showing a 0.44 percent increase from its previous closing rate of 28.7799.
Apart from the cooling inflation, the central bank indicated that recent indicators point towards a moderation in domestic demand due to the impact of monetary tightening on financial conditions.
"Getting high and volatile inflation under control will be a long and difficult process. We will continue to use all tools available in a determined way to ensure disinflation."
Hafize Gaye Erkan, Governor of the Central Bank of Turkey
Changing policies
Turkish President Recep Tayyip Erdogan had previously advocated for unconventional interest rate cuts to combat inflation and even dismissed central bank governors who disagreed with his approach. This policy drew widespread criticism, with many attributing Turkey's economic woes, including a currency crisis and soaring living costs, to Erdogan's unconventional method.
In contrast, central banks across the globe tightened their policies to combat rising consumer prices triggered by the post-pandemic economic recovery and the ongoing conflict in Ukraine.
This strategy contributed to a sharp depreciation of the lira in 2021. In response, the government implemented a protective scheme, also known as KKM, shielding lira deposits from foreign exchange fluctuations.
After he was reelected in May, Erdogan appointed a new economic team. He and the team have since abandoned his low-interest-rate policy. Under the leadership of Governor Erkan, the central bank has implemented a series of drastic interest rate hikes, raising the benchmark rate from 8.5 percent to the current 40 percent.
The bank also gradually exited from the KKM scheme, driving the proportion of lira deposits started to increase. Apart from this scheme, the share of lira deposits in Turkey's banking system has grown by seven percent in the past three months, surpassing 38 percent in total, as government measures to curb dollarization gain traction.
Central bank officials have reported an influx of funds into the Turkish lira from large corporate investors based on the west coast of the United States. Reuters reported that discussions with foreign funds suggest these inflows are expected to continue.
The central bank also implemented additional measures to bolster financing opportunities for export-oriented businesses. This includes imposing a ceiling on rediscount credit interest rates for exports and foreign exchange-generating services.