Surprise as Turkish inflation edges down amid growing cost pressures

Surprise as Turkish inflation edges down amid growing cost pressures
By Akin Nazli in Belgrade May 4, 2019

Turkey’s annual consumer price index (CPI) inflation edged down from 19.71% in March to 19.50% y/y in April, the Turkish Statistical Institute (TUIK) said on May 3. The official inflation rate in April was thus recorded at its lowest point since last August’s 17.9%.

A Reuters poll had predicted headline inflation for the fourth month would move up to 20.33% y/y.

The official inflation data for April also showed that food inflation, which has the biggest CPI basket weighting at 23.29%, rose again, climbing to 31.86% y/y from 29.77% in March, despite better weather conditions for agriculture.

Listed inflation for alcoholic beverages and tobacco—which only account for a 4.23% weighting in the basket—jumped to 9.66% y/y in April from 2.71% y/y in March, amid big tax hikes.

Official healthcare prices rose at an annual rate of 19.75% in April compared to 19.72% in March. The health ministry last month hiked the fixed exchange rate for imported pharmaceutical products by 26.4%. Healthcare prices have the second lowest weighting, of 2.58%, in the inflation basket.

Official transportation prices, which have the second largest weighting of 16.78%, rose by 12.55% y/y in April while official housing and utilities prices, which have the third largest weighting, of 15.16%, rose 15.31% y/y.

Impacts not showing through
The average prices of 42 items in TUIK’s inflation basket of 418 items remained unchanged in April while those of 294 items increased and those of 82 items decreased. It is notable that the official data points to widespread rises in CPI basket item prices but the impacts do not show through in the headline inflation figure.

Official domestic producer price inflation (PPI) in April edged up for a second consecutive month after falling for five months in a row. PPI was recorded at 30.12% y/y, higher than the 29.64% y/y seen in March, TUIK said in a separate press release. Official PPI in April stood at the highest level since January’s 32.93%.

Official PPI for electricity and gas rose by 57.87% y/y in April while the official PPI for energy rose by 47.55%.

The increase in input costs in April was the sharpest registered since October last year, IHS Markit said on May 2 in its press release for April’s manufacturing purchasing managers index (PMI) for Turkey. In turn, the rate of output price inflation also quickened to a six-month high.

Turkey’s official PPI stood at 45.01% y/y in October and 38.54% in November.

Bonds now “cheap”
Slowing Turkish inflation has helped to make the country’s lira-denominated government bonds “cheap” for the first time this year, Christian Wietoska of Deutsche Bank said on May 3 following the inflation data release for April, according to Reuters.

The German bank’s models pointed to potentially stellar gains ahead, Wietoska and analytical colleagues added. Deutsche noted that for the first time this year the 10-year local currency bonds were in fact cheap in Deutsche’s bond valuation model.

The Deutsche model’s ‘fair value’ for government bond yields was now 19.10% versus the current market level of 19.50%.

With its year-end forecast for 10-year bonds at 16.0%, Deutsche now saw a 7.2% excess return by year-end (25.7% return in local currency vs an 18.5% FX implied yield return by year-end).

This was the highest expected return for a 9-month time period across all emerging markets that Deutsche had seen in its modelling in more than 12 months.

Meanwhile, a note from Deutsche added that fiscal and economic developments, recapitalisations in the country’s banking sector and changes in portfolio and dollar FX deposit flows were all key things to watch.

“Without improvements on sentiment, it will be difficult to see the reversal of portfolio flows despite the now arguably cheap valuation in local assets,” Wietoska said.

Ideal world if…
There might indeed be an ideal world if we could rely on authoritarian regimes’ official data and avoid all political and geopolitical risks, and if the regimes in question refrained from manipulating their currencies and interest rates. 

“Some will focus on how accurate or realistic these inflation numbers are now,” Timothy Ash of BlueBay Asset Management remarked. Ash has lately become a clear critic of the Turkish government after generally defending it from September to March.

The Reuters Turkish news service recalled that former energy ministry official Yinal Yagan, who was transferred to TUIK following the sharp rise in inflation seen last September, was appointed as head of TUIK last month.

The “significant decline” in annual core inflation to 16.30% in April from 17.53% a month earlier, along with a decline in food prices to be achieved over the summer, showed that Turkey would meet its inflation targets, Turkey’s finance minister and former energy minister, Turkish President Recep Tayyip Erdogan’s son-in-law Berat Albayrak, said on Twitter.

“The Turkish central bank’s messaging to investors has become even more confused over the past week,” Jason Tuvey of Capital Economics said on May 3 in a research note.

“The decline in inflation will be welcomed by the central bank… But the central bank has little credibility and its communications are increasingly confused. In any case, recent experience shows that any changes in policy will be heavily dependent on what happens to the lira. There are a number of potential flashpoints on the horizon, including mounting tensions with the US and continued wrangling over the result of the recent local election in Istanbul,” Tuvey added in a separate research note entitled “Inflation drops, but limited room for policy easing”.

Against this backdrop, Capital contends that, even if inflation falls further, there will be limited scope for policy easing this year. “Sell-offs in the lira could lead to periodic bouts of monetary tightening, most probably via the use of the rate ‘corridor,’” it said.

Wishful thinking”
Julian Rimmer of Investec on April 30 posted a note to investors on the central bank’s latest inflation report. It said: “The Central Bank of Turkey gave everyone a boost [on April 30] by promising that, contrary to all expectations, inflation would indeed still fall to 14.6% at year-end, despite running in excess of 20% for the first third of the year. My degree was English not Maths (‘I can not do hard sums, Sir’, will be one of many heart-rending quotes in the biopic of my so-called career in the City) but I think this requires some remarkable price action between now and year-end to be achieved. I don't blame [the central bank governor Murat] Cetinkaya for indulging in what is so much wishful thinking but if he thought that was going to reverse the lira's apparently inexorable decline then he is sadly mistaken. Still we know, he is told to simply mouth the words given to him by his president and [the president’s] son-in-law.

“Cetinkaya also gave a passable impersonation of Hansel and Gretel by backtracking completely on his statement after the MPC last week wherein the hawkish language was removed. He reinstated it [on April 30] but the net effect of his monetary hokey-cokey is simply to diminish already depleted reserves of credibility further. Cetinkaya also added that reserves could build very rapidly but that's like me saying I expect a surge in commission revenues in May after the cruellest month of April. I'd like it to happen but it won't.

“Tragically, for Turkish corporates who must despair of ever being listed in a market which rewards bottom-up analysis, they are mostly performing very creditably. [Garanti Bank]’s 1Q was commendable and they achieve a high ROE and manage liabilities so successfully but unless the lira reverses direction it will struggle to find buyers. P/bv now 0.64x. It's clear if the mkt does turn, which stock one must immediately buy. [Arcelik] also produced a fabulous set of earnings in a duff consumer economy and raised guidance even. Mgmt here is totally on top of its game. I still don't want to buy it yet.”

In a research note entitled “Three key points on the latest EM currency “sell-off”, Edward Glossop of Capital Economics said on April 30: “In Turkey, political risks have several strands but all come back to deteriorating policymaking under President Erdogan… Stepping back, both [the Argentine peso and Turkish lira] are vulnerable to investor risk aversion because external positions remain weak.

“While last year’s currency crises have caused current account positions to improve, both countries still have large gross external financing needs due to high short term debts. Moreover, there is a clear risk that currency falls themselves exacerbate political risks by keeping inflation high and economies weak… While the Turkish lira and Argentine peso have already fallen a long way in real terms over the past year, high inflation, large gross external financing needs and political risks mean they will probably be hit harder than most.”