The scale of Turkey’s economic mess might prove too big for the country’s newly assembled “A-team” of policy makers on the economy to overcome, a veteran analyst of Turkish markets warned on September 21.
In a note to investors, Timothy Ash at RBC BlueBay Asset Management, said: “I spoke this week at a conference and highlighted that Turkey now has the A-Team in terms of policy makers at the MoF [Ministry of Finance], and the CBRT [Central Bank of the Republic of Turkey], and if anyone can manage through all this without a systemic crisis it is this team.
“But I just worry that the scale of the problem is too large—unwinding all the financial alchemy that was put in place by the previous team before the elections—even for the current crew… ultimately the IMF might be required at least to provide the bazooka. Perhaps this can be provided by new Gulf money, but it needs to come sooner rather than later.”
Ash put out his note shortly after the CBRT announced another policy rate hike, this time of 500bp, taking the benchmark to 30%.
Said Ash: “It’s interesting that the market was a little disappointed with the 500bps policy rate hike today—some had been expecting another 750bps following on from the hike of that order last month.
“But this is a solid statement of intent from the CBRT, and let’s not forget that they have already hiked 2150bps in this hiking cycle. And, many people had assumed that terminal rates, even on an opposition win in the [May] elections would be around 30%.”
Turkish finance minister Mehmet Simsek and CBRT chief Hafize Gaye Erkan “et al”, added Ash, “will no doubt argue that if you put 2150bps in rate hikes, and likely more to go, fiscal tightening and macro prudential measures together, the combined impact will be to subdue growth, and eventually win through on inflation.
“The challenge still is dollarisation as the authorities try and unwind the FX-protected deposit scheme (KKM), which with high inflation still (65%) and heavily negative real interest rates still seeps into demand for dollars. High inflation and a wide current account deficit, plus the need to rebuild diminished FX reserves also weighs on the lira, risking a devaluation inflation spiral.
“They need to break that still and that has to be through managing inflation expectations, which is why rate hikes are still required. The drag on managing expectations I guess is the assumption that local elections due in March 2024 will ultimately cap the level of growth sacrifice that can be tolerated by the palace.”
Following the announced rate cut, Liam Peach at Capital Economics said in a note that “a lot more tightening still needs to be delivered … and we think rates will rise to at least 35.0% by year-end.”
He added: “Turkey’s central bank is now doing what many investors had hoped they would by raising interest rates sharply and taking a more serious stance against inflation. Recent comments suggest that President [Recep Tayyip] Erdogan has given his backing to the central bank, reversing is previous unorthodox views. All of this is helping to maintain investor optimism in this policy shift and keep Turkey’s sovereign dollar bond spreads near multi-year lows.
“Further hikes will need to be delivered in the coming months. Policy rates in Turkey remain deeply negative in real terms and there’s an acknowledgement from policymakers that bringing down inflation will take time—we don’t expect real interest rates to turn positive until 2025.”
Provided the policymakers persist with their tightening cycle and maintain clear and convincing guidance, a lot of optimism that has built up among investors should continue and “Turkey’s imbalances should start to show clearer signs of improvement next year”, Peach said.
Thomas Gillet, lead analyst on Turkey at Scope Ratings, was quoted by Bloomberg as observing after the rate hike: “Inflation has been rising more rapidly than the policy rate since July. Reversing that trend so that the central bank gets ahead of the curve is certainly one of the biggest challenges currently.”
James Wilson, EM sovereign strategist at ING, was reported by Reuters as concluding that the fourth rate hike in as many months "is probably not enough in itself to convince investors that inflation is being brought under control".
He added: "We expect further rate hikes will be needed before the end of the year, although the overall direction of policy towards a more hawkish bias should in general be taken as a positive by investors."