Turkey slashes rates more than expected, lira hits record low

REUTERS/Srdjan Zivulovic

• Rate cuts began last year, causing a historic currency crash in December
• Annual inflation rose above 83% in September
• Government expects inflation to fall to 65% by year-end  

Turkey’s central bank slashed its policy rate by a more-than-expected 150 basis points (bps) to 10.5 percent on Thursday, and promised to halt the easing cycle urged by President Tayyip Erdogan after another similarly-hefty cut next month.

The move pushed the lira to a record low near 19 to the dollar and comes after Erdogan repeatedly advocated for the unorthodox easing cycle and specifically called for single-digit rates by year-end.

“Going forward, we now expect another 150 (basis point) cut in November, which will bring down the policy rate to nine percent and end the cutting cycle,” Goldman Sachs research analysts said in a note.

Annual inflation rose above 83 percent in September and central banks globally are racing in the other direction to tighten policy, setting Turkey well apart with a deeply negative real rate.

The Turkish central bank said it cut the one-week repo rate because financial conditions need to support the growth momentum in industrial production and the positive trend in employment.

“The committee evaluated taking a similar step in the following meeting and ending the rate cut cycle,” it said.

The Turkish lira weakened to an all-time low of 18.6150 versus the dollar after the announcement. It has weakened 29 percent this year, on top of a 44 percent slide in 2021.

“The Turkish policy mix remains unsustainable and will eventually either lead to a policy reversal or to an economic downturn,” said JPMorgan in a client note, forecasting a 2023 move to 25 percent that could take the real rate to positive territory late next year.

“We think that it is reasonable to expect that policymakers will choose to avoid an economic downturn and will therefore sharply increase interest rates to address the (current account) deficit funding issues and stabilise the exchange rate.”

Thirteen of 20 economists in a Reuters poll had predicted the central bank would on Thursday cut rates to 11 percent. Six said it would hold steady at 12 percent, while one forecast a cut to 11.50 percent.

The bank shocked markets in August and September by slashing its interest rate by 100 bps each time to revive a cooling economy. Easing became the consensus expectation after Erdogan earlier this month said the bank would continue rate cuts every month “as long as I am in power”.

Argentina, another large economy with an over 80 percent inflation rate, is set to keep its benchmark rate at 75 percent.

The rate cuts that began last year in Turkey caused a historic currency crash in December and sent inflation soaring.

Priority to Exports and Investments 

Erdogan has prioritised exports, production and investments as part of an economic programme that aims to lower inflation by flipping Turkey’s chronic current account deficits to a surplus.

That target is all but unattainable this year due to the surge in energy prices and a global economic slowdown that is likely to hit Turkey’s exports.

The government does not a see a surplus in the next three years. It sees inflation falling to 65 percent by the end of this year and to 24.9 percent at the end of 2023.

Since the cuts in the last two months the central bank has taken steps to lessen the gap between the policy rate and banks’ lending rates and to boost lira deposits.