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Turkey: Higher inflation, looser fiscal policy
Mon, May 5 2008, 08:08 GMT
by Lars Christensen
Last week, the Turkish central bank (TCMB) raised its inflation forecast for 2008 and 2009 significantly and on Friday we received more news that inflation is heading in the wrong direction in Turkey. The Turkish Statistics Institute has published its inflation data: Consumer prices (CPI) grew by 9.7% y/y (+1.7% m/m) in April up from 9.2% y/y in March. This was significantly above the consensus expectation of 9.4% y/y and our expectation of 9.3% y/y. Producer prices (PPI) similarly rose by 14.6% y/y also way above the consensus expectation of 11.6% y/y and our expectation of 10.7% y/y.
The latest inflation numbers clearly confirm that the trend in Turkish inflation is no longer downward and that if the TCMB does not take bold policy action sooner rather than later then we will soon be back to double-digit inflation in Turkey. A fact that is further underlined by not only the CPI numbers but also the recent data for the socalled cost-of-living index for Istanbul that was also published last week. The index rose to 13.8% y/y the highest reading for the index in four years. Furthermore, if one takes a look at the trend in CPI by looking at annualised quarterly changes in CPI, then it becomes quite clear that inflation actually has been trending quite significantly upward since mid-2007, cf, graph below right. Given the upward trend in inflation, we have revised our inflation forecast and now expect average 2008 inflation at 10.2% y/y and inflation in 2009 at 8.1% y/y.
Hence, inflation remains well above the TCMBs inflation target of 4% and given the fact that the TCMB last week quite clearly signalled that it based its inflation forecast on an assumption of monetary tightening in the forecasting period, we are in no doubt that the TCMB will hike its key policy rate at its upcoming monetary policy meeting on 15 May. And we expect the TCMB to be bold and hike by 100bp to 16.25%.
The main reason we believe the TCMB will hike as much as 100bp is that it has come somewhat behind the curve on monetary policy. In fact, our simple Taylor function based on, among other things, inflation and inflation expectations, global risk appetite and movement in the lira indicates that the key policy rate might be as much as 150bp too low given the economic and financial environment at the moment, cf, graph below left.
Over the weekend, the Turkish government provided the TCMB with yet another other reason to tighten monetary policy when the government announced that it would cut the public sector primary surplus to 3.5% of GDP from an already reduced 4.2% of GDP as part of its medium-term economic road. Even though we do not see this as overly irresponsible, a loosening of fiscal policy at this stage does make monetary tightening even more urgent.
Published on Mon, May 5 2008, 08:10 GMT
Danske Bank
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