David O'Byrne in Istanbul -
There is one sure sign that indicates when a Turkish economic crisis is serious - when the TV news channels report live from a warren of alleyways at the back of Istanbul's 650 year old Grand Bazaar. Located close to the gold and jewellery section of the bazaar, the area has served for the past 30 odd years as an ad-hoc currency market, even on occasion eclipsing the formal market. Such as in early 2001 when the lira slipped its dollar peg and lost 60% of its value overnight and the new rate was established from the back of the bazaar.
And so it was on January 27 with Turkish broadcasters dutifully dispatching crews to report live from "the street" as the Lira sank to historic lows of 2.3616 to the dollar and 3.2345 to the euro.
Whether officials at Turkey's central bank in Ankara were watching the currency tickers or the TV news is unclear, but by lunchtime they had announced plans for an emergency meeting of the Bank's Monetary Policy Committee (MPC) with an announcement to be made at midnight on January 28.
News that the Central Bank of Turkey (CBRT) may be planning to do something more than the minimal tinkering with its interest rate corridor announced the previous week certainly calmed the markets, with exchange rates falling back to TRY2.31 to the dollar and TRY3.16 to the euro, but left a number of questions unanswered.
Foremost among them being just what was the CBRT planning to do that would have to wait to midnight to be announced. Commenting on the news of the meeting, one Istanbul-based economist noted wryly that it could be because whatever the bank will then announce is considered unsuitable to be viewed by children.
Certainly it appears to make little sense. Tuesday will see the bank releasing its first inflation report of the year, detailing its inflation targets for the year and any planned changes to the interest rate would appear to be relevant given that they can be expected to impact the inflation rate. Unless of course the bank has so little faith in its own targets it no longer matters.
Speculation as to what the CBRT plans to announce at midnight has understandably been intense with a consensus of most economists and commentators expecting the bank to tighten the upper end of its interest rate corridor by around 300 basis points (bp), which would see the effective upper end of the corridor moving from 7.75% to around 10.75%. But, says Lars Christensen of Danske Bank, "the uncertainty about the size of the possible rate is large."
According to Inan Demir, chief economist at Turkey's Finansbank, writing in a briefing note: "Any rate hike needs to be aggressive enough to push the short term rates into double digit territory. The level of short term rates should be sufficient to cover the risk premium that Turkey faces, and the most straightforward way of delivering this is to offer the highest carry in EM [emerging market] universe."
However, he also cautions that in order to end the pressure on the currency, the bank will have to actually implement the increased rates on in the interbank market or risk more pressure on the currency.
Turkey, of course, is not alone in facing such sudden pressure on its currency. Emerging markets as a whole have been hard hit by the US Federal Reserve's decision to begin tapering its quantitative easing
However, Turkey's position has been exacerbated by its unusual political conditions, with a beleaguered administration eager to bolster its position ahead of local elections in March, presidential elections in the summer and general elections next year.
While a collapsing currency may look to be a clear vote loser, the government of Prime Minister Tayyip Erdogan is reckoned to prefer a weak lira to a sharp slow down in growth that higher interest rates may bring.
The newly appointed economy minister, Nihat Zeybekci, cautioned last week that the central bank should avoid increasing interest rates warning of possible dire results for the economy.
According to Naz Masraff, an analyst at the London-based Eurasia Group consultancy, the government's main opposition to hiking interest rates is not economic so much as ideological. In a briefing released last week, Masraff warns that the government's opposition to raising interest rates stems from its religious opposition to interest earnings per se, opposition that saw it blaming last year's anti-government protests on a mysterious and previously unheard of group called "the interest rate lobby".
"Now that the government has tied its hands with this rhetoric, Erdogan would see any rate hike as a personal liability," Masraff explains, warning that such politicization of the operations of the central bank is not without risks.
Whether or not the bank is prepared to go against the government and hike rates will become clear on Tuesday at midnight.
The risks, though, already appear to be clear with another run on the currency the likely result of failing to take sufficient action.
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