Turkey will probably reduce interest rates sharply over the next few months, raising the spectre of a balance of payments crisis, London-based Capital Economics said on Wednesday.
The central bank, under political pressure to loosen policy, may cut the benchmark one-week repo rate by 1 percentage point to 15 percent at a meeting this month, Jason Tuvey, senior emerging markets economist at Capital Economics, said in an e-mailed report.
“With inflation likely to fall back sharply over the next six to nine months, further aggressive easing probably lies in store,” Tuvey said. “We expect the one-week repo rate to be taken down to 12 percent by mid-2022. Given Turkey’s dire external position, however, there’s a significant risk that this triggers a balance of payments crisis.”
Turkey’s central bank has shocked investors by lowering interest rates by 3 percentage points to 16 percent over the past two months, responding to demands from President Recep Tayyip Erdoğan, who has replaced three central bank governors since mid-2019 and faces re-election in 2023. Inflation in Turkey accelerated to 19.9 percent in October, the highest level since the start of 2019, while producer price increases hit a 19-year high.
A slowdown in core inflation in October and, perhaps more importantly, political pressure, means that the central bank may lower rates again at a meeting on Nov. 18, Tuvey said. The reduction in borrowing costs is likely even after the central bank said last month that further room for cuts was limited, he said.
The rate reductions have led to sharp losses for the lira – the currency hit a record low of 9.85 per dollar late last month, taking declines this year to about 25 percent. The lira was trading down 1.1 percent at 9.7 per dollar at 10:07 a.m. local time on Thursday.
Turkey suffered a currency crisis in 2018 after economic stimulus contributed to concerns about financial stability. Last year, the lira sank again as the central bank kept interest rates at below annual inflation, allowing the government to conjure up a borrowing boom by ordering state-run banks to lend at below market rates and pressuring other banks to follow suit.
Ahval