‘Enemy’ Of Interest Rates Tempts Fate. Again

In yet another exceptionally ill-advised, albeit wholly predictable, move, Turkey cut rates again on Thursday.

The lira responded accordingly, falling to yet another fresh record low (figure below).

The latest chapter in what can only be described as a comically ridiculous saga came just a week after Recep Tayyip Erdogan purged three central bank officials deemed insufficiently convinced that the strongman’s “unorthodox” (an absurd euphemism) views on rates, FX and inflation are viable.

The annotations in the figure (above) mark notable moments in the recent evolution of monetary policy under Erdogan.

CBT governor Sahap Kavcioglu, who replaced the hawkish Naci Agbal in March, kept rates unchanged for his first five meetings. But Erdogan’s insistence on lowering borrowing costs while simultaneously bringing down inflation meant it was just a matter of time before the central bank was forced into another rate cut on the (silly) premise that easing policy would ameliorate price pressures in an emerging market which has lost virtually all credibility when it comes to central bank independence.

What Erdogan wants, Erdogan generally gets. So, Kavcioglu obliged and cut rates last month. Then, he did it again on Thursday.

Read more: Meanwhile, In Turkey

Last month’s cut “surprised” the market. The scare quotes around “surprised” suggest no one should have been taken aback. Even if you knew nothing at all about Erdogan and thus weren’t apprised of the extent to which long periods of tight policy are basically illegal, Kavcioglu essentially pre-announced the move weeks beforehand when he shifted the central bank’s focus to core inflation, which removes food. Happily, core is much lower than headline inflation.

Just in case the situation wasn’t farcical enough already, October’s cut was twice as large as expected. The implied real rate in Turkey is now near -4% (figure below).

Inflation ran at 19.58% in September. Core was 17%, which means even if you use Kavcioglu’s preferred gauge (which, again, served as the excuse for last month’s cut), real rates are still negative. Thursday’s 200bps cut took the policy rate down to 16% (figure below).

At some point, this will be a crisis. Or maybe not. This plays out the same way almost every, single time.

Erdogan pushes things to the absolute breaking point, then makes minor concessions on multiple fronts (usually by giving the central bank leeway to take real steps aimed at arresting the currency’s slide while simultaneously adopting a more conciliatory tone towards whatever geopolitical spat is weighing on sentiment) to restore a semblance of confidence.

Analysts were fatalistic on Thursday. Bloomberg quoted Piotr Matys. “[Kavcioglu’s cut] can be interpreted as a very strong message to market participants that the central bank intends to ease monetary policy regardless of negative consequences of the precipitous fall in the value of the lira.”

The same linked article contained a delightfully dry summary from Cagan Koc, who covers Turkey. “A self-described ‘enemy’ of high interest rates, Erdogan espouses the unconventional hypothesis that reducing them will lead to lower inflation.”


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7 thoughts on “‘Enemy’ Of Interest Rates Tempts Fate. Again

  1. I hesitate to ask a question in a room full of people way smarter than me, but here goes. HR covers Turkey fairly regularly, and I’m not sure why. There’s probably a link to the financial big picture that I’m not understanding. What’s important about Turkey?

    1. Asking a question to a roomful of people smarter than you is way better than asking a question to a roomful of people dumber than you.

  2. H probably includes it for the comedic effect. The last time I went to Turkey, probably late 1990s, we changed some money at the airport. My wife’s calculator didn’t have enough zeroes to calculate the amount of lira we should be getting. When we arrived by taxi at the hotel and paid the bill, we knew we had paid either $4 or $40 for the cab ride, but weren’t sure which. Fortunately we figured out later it was $4. If you go to Turkey, take a calculator with lots of zeroes, it probably takes 4 or 5 more digits by now.

      1. I cannot speak intelligently on macro markets, but HR does tend to couch the market in terms of geopolitics. Turkey (bordering Syria, Iraq & Iran) has been undergoing some significant authoritarian trends while courting Russian defense investments & partnership. Turkey was expelled from the F-35 program 2 years ago for some of these transgressions. This has all been done while maintaining NATO status, important because Istanbul (and the Bosphorus Straight) controls access to the Black Sea for Russia (hence the whole Crimea invasion).

        Turkey is walking the fence courting folks on both sides of it. Their position/stability (geographically and economically) could easily cause ripple effects across Europe.

  3. Donny, your excellent comment disproves your first sentence 😉

    Totally correct about walking the fence. Unfortunately the only one to push back against being “courted” so far has been Putin (i.e. when Turkey downed a Russian fighter jet a couple of years ago).

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