Turkey’s central bank made a bold move by increasing its key interest rate by 500 basis points to 30 percent on Thursday. This marks a second consecutive month of aggressive tightening, following President Tayyip Erdogan’s surprising shift in policy.
The central bank has reiterated its readiness to raise rates even further if necessary to combat the soaring inflation, which reached nearly 59 percent in August and is expected to continue rising next year. Since June, the bank has already raised rates by a staggering 2,150 basis points.
After the decision, the Turkish lira slipped to 27.105 against the dollar, just shy of its all-time low reached last month. Economists in a Reuters poll had forecasted a 500-basis-point hike, with predictions ranging from 27.5 percent to 31 percent.
James Wilson, EM sovereign strategist at ING, commented that the fourth rate hike in four months might not be sufficient to convince investors that inflation is under control. He believes that more rate hikes will be necessary before the end of the year, but acknowledges that the overall shift towards a more hawkish stance is seen as positive by investors.
President Erdogan, who had previously favored a low-interest-rate policy despite high inflation, appointed former Wall Street banker Hafize Gaye Erkan as the head of the central bank in June. This move came as the Turkish economy was facing challenges due to depleted foreign exchange reserves and rising inflation expectations.
The decision to tighten monetary policy comes after a currency crisis in late 2021 sent inflation soaring above 85 percent last year. The weakening lira and other factors are expected to drive annual consumer price inflation to around 60 percent by the end of this year. The central bank’s surprise 750-point rate hike last month was seen as a signal of its renewed determination to combat inflation.
Just two weeks later, President Erdogan, who had frequently criticized high interest rates in the past, changed his tune and stated that a tight monetary policy would help reduce inflation.
Tightening cycle
The central bank emphasized that it will continue to strengthen its policy as necessary until there is a significant improvement in the inflation outlook. The Turkish lira has weakened by nearly 70 percent in the past two years, largely due to Erdogan’s opposition to high interest rates and his influence over the central bank. This summer, the new economic team began implementing more market-friendly policies and rolling back costly schemes implemented in response to the currency crisis in 2021.
Based on a recent Reuters poll, economists expect further monetary tightening to raise the policy rate to 35 percent by the end of this year, with predictions ranging from 30 percent to 40 percent.
Earlier this month, the Turkish government revised its year-end inflation forecast to 65 percent and trimmed its economic growth forecasts. President Erdogan stated that with the support of tight monetary policy, the government aims to bring down inflation to single digits once again.
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