MNI INTERVIEW: Conditions Right For CBRT Cut -Ex-Deputy Turhan

MNI (LONDON) - Stubborn services inflation should not stop the Central Bank of the Republic of Turkey from beginning to cut interest rates, a former deputy governor told MNI, saying that risks from over-tight policy were growing as record-high interest rates transmit more quickly to the real economy.

Levels of service sector price rigidity are “normal”, and comparable with those in the U.S. and Europe, said Ibrahim Turhan, deputy governor from 2008-2012 and currently founder and chairman at consultancy iQuanta. Seasonally-adjusted goods inflation of 1.2% in September was already low enough for the CBRT “to have easily cut in November if it wanted to,” Turhan said in an interview.

“Inflation shows rigidity for the services sector, but goods inflation is converging to levels in-keeping with the Medium-Term Economic Programme of the government,” he said.

Annual CPI inflation fell to 49.38% in October, but with prices rising 2.97% month-on-month the CBRT held the benchmark one-week repo rate at 50%. It also maintained its hawkish outlook, with most analysts not expecting a cut before 2025. (See MNI EM INTERVIEW: CBRT To Cut In Q1 2025 - Ex-Official Ozatay)

It is no longer a question of if but when disinflation will occur, said Turhan, providing a “guestimate” of inflation ending 2025 close to 20%, then falling to around 12% a year later. The CBRT’s policy rate, at 50%, corresponds to 65% in annually-compounded, risk-adjusted terms, he noted.

“Assuming that one-year-ahead expected inflation is 30%, the current 50% CBRT policy rate accounts for the highest real rate of interest in the whole history of the Turkish republic. We simply don’t need such an excessively tight monetary policy in light of our analysis of factors determining inflation outlook,” Turhan said, dismissing any suggestion that lowering rates sooner rather than later would be comparable with the “irrational and inexplicable” decision to start cutting in September 2021.

FASTER TRANSMISSION

Another argument for easing comes from an acceleration in the speed at which central bank rate setting feeds through into the real economy, he said.

“Under normal conditions one would previously have expected monetary policy lags of around 12 months; today it is more like six to nine months.”

Credit conditions are “really, really very restrictive,” Turhan said, pointing also to macroprudential measures imposing quantitative limits on loan growth. Decelerating economic activity, Turkey’s negative output gap and contractionary fiscal policy next year will further drive disinflation, he added.

Minimum wage rises next year of 25-30% should be in line with the Medium-Term Programme’s consumer inflation forecast of 17.5%, which should form the lower bound of the CBRT's own price forecast, with an upper bound at 22.5%, according to Turhan. Adding 4% for GDP growth, annual inflation of around 26.5% in 2025 looks achievable, he said - with global demand, energy and commodity prices potentially bringing further disinflationary impetus.

“Under those assumptions, even if the CBRT cuts its policy rate to 30% by the end of next year, there will still be a reasonable positive real interest rate and thus I would still expect the lira to remain strong and appreciate in real terms,” Turhan said.

STRONG LEADERSHIP

Turhan described the CBRT’s current leadership as the best he could remember, with a “very decent, very firm, very prudent” approach.

Its decision not to begin easing comes as it rebuilds credibility after years of unorthodox policy, and is also partly due to the “serious problem” presented by the decoupling of household expectations from those of financial experts, he said.

High rates hit goods manufacturers hard while having little immediate effect on services, he said.

“You are also distorting the portfolio choices of investors, because under current global conditions you would expect a higher amount of capital inflow and stock exchange from abroad. But, because of high interest rates and the downward pressure exerted on economic activity, this is not happening,” he said. 

“And for domestic investors, as well for residents, they have switched their portfolio choices towards short-term, interest-giving investments. Those corporates that have access to FX borrowing from abroad can develop a kind of immunity against this environment, but that means you are taking a risk of liability dollarisation for those companies, which is a financial risk in itself.”