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Turkey: TCMB delivers expected rate hike

Fri, Jul 18 2008, 13:18 GMT
by Peter Possing Andersen

Danske Bank A/S

 The Turkish central bank (TCMB) has announced that it has raised its key borrowing rate by 50bp to 16.75% - in line with our and consensus expectations. The TCMB has therefore delivered its third rate hike of 50bp in as many rate decision meetings, reversing most of its H2 2007 cutting. The TCMB has kept its key lending rate unchanged at 20.25% thus reducing the gap between the two key rates due to liquidity conditions.

 TCMB says that it may again lift rates moderately going forward and that the timing and size of additional hikes will depend on global markets, external demand, and fiscal policies, among other factors. The bank is sending a clear message to policy-makers about loosening the fiscal stance. We see this basically as a reiteration of the statements from the June meeting.

 The bank, which recently raised its inflation target for 2009 from 4.0% y/y to 7.5% y/y, in a move that weakened its creditability somewhat, said today that supply-side shocks present upside risks to inflation going forward. Upward inflationary pressures have increased recently; the lira has weakened in H1 2008 and global food and energy prices have risen significantly. Furthermore, there is strong evidence of spill-over effects to inflation expectations in Turkey, which have risen significantly recently in Q2. Latest data, however, show that inflation expectations for the next 12 months may have peaked. We are still expecting another rate hike from the TCMB over the summer and then expect it to hold its key rate at 17.25% - although much will depend on market conditions and the case against the AKP.

 The reaction in local markets was limited as the decision was widely expected. However, rates, yields and USD/TRY have fallen markedly in Turkey over the past couple of days, we believe because of growing investor expectations about when the TCMB will end its tightening cycle and re-initiate monetary easing. The bullish sentiment was not only visible in bond markets, but also in equity markets. The sentiment had a helping hand from Turkey's Constitutional Court rapporteur, Osman Can, who recommended yesterday that the AK Party not be closed nor receive any financial penalties. It is not compulsory to adhere to his report, however, and in recent key rulings the court has not followed Can's recommendations. We see a fifty-fifty chance that the AKP will be closed. A ruling is expected in early August. If the court rules against the party, an early parliamentary election is likely and political stability will fade and financial markets could come under large selling pressure. Until we receive the verdict we will not recommend entering long positions in the Turkish bond markets. However, if the ruling turns out positive, the case for entering the Turkish fixed income markets could become more attractive.

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Published on  Fri, Jul 18 2008, 13:20 GMT