Turkey: Hawkish message from Governor Cetinkaya - Rabobank

Turkey faces the prospects of inflation remaining well above the official 5% target for another two years, according to the latest quarterly inflation report published by the Central Bank of the Republic of Turkey (CBRT), notes Piotr Matys, EM FX Strategist at Rabobank. 

Key Quotes

“The central bank markedly raised its end-2018 inflation forecast to 7.9% from 7%. Inflation is envisaged to decelerate to 6.5% by the end of 2019 compared to the previous forecast of 6%.” 

“The main reasons for these significant upside revisions include the assumption that lira’s denominated import prices will be 0.7% higher, output gap will contribute 0.1% and the rest will come from higher than projected inflation in Q4 2017 when consumer prices accelerated sharply on the back of a weaker lira and food prices. The central bank also increased its forecast for average oil prices from USD 56 per barrel to USD 66 in 2018.” 

“During his presentation Governor Cetinkaya reiterated his commitment to maintain tight monetary policy until a “convincing” fall in inflation occurs. The governor also emphasised that the central bank will disregard short-term volatility in consumer prices caused by base effects and will concentrated on the underlying long-term trend.”

“The CBRT’s commitment to maintain tight policy and to raise rates further, if proved necessary, is likely to be put to the test in the coming months. With the euro supported by broad recovery in the Eurozone and the prospects of gradual monetary policy normalisation by the ECB, we remain of the view that EUR/TRY has the potential to set a new all-time high above 5.00 this year. Additional upside pressure on EUR/TRY might come from further escalation in geopolitical risk with focus on prevailing tension between the US and Turkey.”  

“Should such a bullish scenario for EUR/TRY materialises, it will have inflationary consequences, which in turn will require Governor Cetinkaya to seriously consider a rate hike. 

Given the CBRT’s preference for measured rather than decisive moves - as reflected in well-below market consensus 50bps hike in December - we expect a relatively modest 100bps cumulative increase in the late liquidity window rate this year.” 

“Should the outlook for the lira improve considerably and we observe signs of sustainable recovery against both the euro and the US dollar, our hawkish argument for Turkey’s monetary policy will diminish accordingly.”