CBT's Tightening Efforts and the Turkish Lira: Analyzing the Path Forward

TRY: Will 250bp of CBT tightening be enough?

The Central Bank of Turkey (CBT) meets today to set interest rates. In focus will be the pace at which monetary policy is tightened as new central bank governor Hafize Gaye Erkan pursues more orthodox monetary policy. So far, it is fair to say that the pace of policy tightening over recent months (900bp) has disappointed market expectations. And another 250bp rate hike to 20% in the one-week repo today would still leave real rates deeply in negative territory given inflation is running at close to 50%.

As ING's Chief Economist Muhammet Mercan writes in his detailed preview of the meeting, the more modest tightening can perhaps be explained by the central bank looking at a variety of adjustments in the unorthodox tools and quantitative tightening to complement the rate hikes. There is also some speculation that the pace of rate hikes could possibly quicken given three newly appointed members to the Monetary Policy Committee.

What does this all mean for the Turkish lira? While 35% implied yield through the three-month forwards does make the lira a high yielder, it does not seem as though the lira has yet attracted international demand for the popular carry trade. If the central bank can bring inflation and inflation expectations down, making real rates far less negative, then the lira could start to find some broader support. Otherwise, gradual depreciation on the back of high inflation looks to be the most likely path.