Monex Europe: Markets welcome CBRTs continued embrace of economic orthodoxy

26 oktober 2023

The Central Bank of the Republic of Turkey has raised the main policy rate by 500bp today, in line with broad market consensus in a move that brings the one week repo rate to 35%. 

Whilst the continued policy tightening comes as little surprise given an inflation rate running at more than 60% YoY, the size of today's rate rise still falls on the hawkish end of economist expectations, with some having looked for a smaller dose of monetary tightening.

For markets then, this is a clear signal that the CBRT continues to view inflation dynamics with concern, and is willing to take robust policy actions to weigh against price growth pressures, weighing against fears of a return to unorthodox monetary policy that has been the norm for Turkey in recent years.

Following a shaky start to her tenure, Erkan has done much for the CBRTs credibility with markets, having now shown a consistent commitment to tightening policy over recent meetings. As such, the most notable takeaway from today's decision was the lack of reaction in USDTRY, with the pair remaining largely unmoved, a sign that investors are becoming increasingly comfortable with the policy outlook.

Heading into today’s announcement, it was clear that whilst the CBRT has visibly become more hawkish under Governor Erkan’s stewardship, the erratic nature of recent policy changes has been challenging for markets looking to gauge the CBRTs new reaction function.

Consequently, economists had expected anything from 250bp to 500bp of policy tightening to be delivered in today's announcement, though with a majority suggesting risks are skewed to the upside in light of the recent reacceleration in price growth and inflation risks emanating from the Middle East conflict.

Indeed, having slowed earlier in the year, the most recent set of inflation figures showed CPI increasing by 61.5% YoY in September, up from 38.2% in June, with growth of 4.8% MoM recorded for September alone. Core inflation has been rising too, highlighting the domestically driven nature of this upshoot in price growth, having risen from 45.5% YoY in April to print at 68.9% last month.

Admittedly, an uptick in price growth had been predicted in the July inflation report, but the run rate of inflation is currently tracking above even those forecasts.

Perhaps most troubling though is that this pickup in price growth has translated into a rise in inflation expectations. 12-month ahead projections for CPI growth have climbed from 29.9% YoY in May to reach 45.3% in October, and the CBRT’s October survey of market participants expects the current inflation surge to continue, projecting a 70% inflation rate by year end. 

Given this context, the last policy meeting on September 21^st saw the CBRT raise the one-week repo rate by 500bp, taking it to 25%, and it is unsurprising to see this followed up by a further 500bp increase today.

The press release that accompanied the announcement pointed to the third quarter inflation reading that exceeded expectations, alongside strong domestic demand, stickiness in services inflation and a deterioration in inflation expectations that continue to put upward pressure on inflation as just some of the factors weighing in favour of today's decision.

Although policymakers also noted that whilst year-end inflation is projected to be close to the upper bound of the forecast range provided in the July Inflation Report, the underlying trend in monthly inflation is on course to decline.

Even so, given the Monetary Policy Committee's aim to anchor inflation expectations and establish a disinflationary course in 2024, a repeat of last month's decision is a logical move, helping establish a reliable reaction function which should in turn help contain inflation expectations going forwards.

Looking forward, the CBRT has once again reiterated its goal to continue to make its decisions in a predictable and data driven framework, noting that 'monetary tightening will be further strengthened as much as needed in a timely and gradual manner until a significant improvement in inflation outlook is achieved'.

This reinforces recent comments from Finance Minister Simsek, suggestive that the CBRT would need to achieve positive real rates to combat the inflation problem, though it is also notable that he has also commented that 'Monetary policy stance is tighter than what headline policy rate would suggest', referring to the continued use of alternative tightening measures.

Taken together, this suggests to us that further monetary tightening is in the pipeline for this year, especially with real rates remaining deeply negative and loose financial conditions persisting as a consequence.

As such the MPC is likely to raise rates by 500bp again at the November policy meeting in our view, though risks to this call are skewed to the downside. In particular, with local elections due in March, there may be some hesitancy to continue tightening policy at the current rate, suggesting a step down in the pace of hiking is possible.

For now though, markets appear to have welcomed the CBRTs continued embrace of economic orthodoxy, with USDTRY virtually unmoved on today's announcement, a notable development given the explosive price action seen in response to policy announcements earlier this year.