Turkish Real Rate as Low as Japan’s After Inflation Surprise

(Bloomberg) -- Turkey’s inflation accelerated faster than forecast for a second month, pushing its real interest rates further below zero and to the same level as Japan’s after five rounds of aggressive monetary easing.

While inflation is close to peaking, the central bank might face its most contentious decision under a new governor later this month after pledging to make its next steps “data driven.” Price growth in January exceeded all but four estimates in a Bloomberg survey of 22 economists, reaching an annual 12.2% from 11.8% in December, according to data released on Monday.

The question for Governor Murat Uysal now is whether the central bank has gone too far and too fast in its rush to lower rates into single digits, a goal repeatedly declared by President Recep Tayyip Erdogan. While the outlook beyond this quarter was favorable enough for policy makers to keep the easing cycle alive, last month’s overshoot might give them pause.

Handpicked by Erdogan to replace a governor who failed to comply with his wishes, Uysal took over in July when Turkish rates -- adjusted for inflation -- were the world’s highest. After 1,275 basis points of easing since then, they stand at the same level as Japan, a country that’s suffered years of price declines and has struggled to hit its inflation goal. By contrast, inflation in Turkey has exceeded its 5% target for more than eight years.

It’s “pretty ridiculous how Turkey’s central bank continues to cut policy rates against this backdrop and underscores the political nature of its decisions these days,” said Timothy Ash, a strategist at BlueBay Asset Management in London.

Driven primarily by food, cost pressures are on the rise despite a recent government decision to cancel an automatic tax increase on tobacco and alcohol prices. Separately, Turkey’s state statistics institute on Monday lowered the weighting of items including food, transportation and housing in its consumer-price basket for 2020.

But the share of alcoholic beverages and tobacco was raised sharply to 6.06% from 4.23%, shortly after the announcement of a pause in the tax hike for the first half of this year.

The central bank expects price growth to stay elevated in the first quarter at around 11.5%, keeping Turkey’s policy rate negative in real terms. Uysal has said inflation will start decelerating from the next quarter and drop to single digits from the second half.

Policy makers still project inflation at 8.2% in 2020, according to their quarterly report.

But Istanbul-based Is Investment says “upside risks in food inflation, volatility in oil prices and a weak Turkish lira” may push price growth to 10.5% at the end of the year. It’s set to remain above single digits until the third quarter because of an increase in services prices, Serhat Gurleyen and Daglar Ozkan, analysts at Is Investment, said in a report.

‘Upside Risks’

“Given the upside risks to the inflation path, we expect the central bank to pause its easing cycle in the forthcoming months and try to anchor market expectations toward its baseline inflation path,” they said.

Despite the mild outlook for durable goods prices, the sudden increase in services prices (2.0%), support our view that inflation will remain above single digits until Q3 2020.

Further monetary easing is still only a matter of time, after the central bank made no changes to its inflation outlook for the end of this year and next at a quarterly presentation last week. Uysal has already signaled a more gradual pace of rate cuts awaits after aggressive decreases since July more than halved Turkey’s benchmark to 11.25%.

The governor has stood by his promise of a positive real rate of return to investors, pointing out that yields will run above zero based on the projected path of slowing inflation. Economists surveyed by Bloomberg are predicting 125 basis points of rate cuts over the next five meetings.

While Turkey’s currency has stabilized, it’s depreciated against the dollar in nine of the past 10 weeks, clocking a loss of 0.6% so far this year. It dropped over 11% in 2019.

“Despite a range of administrative price and tax measures, monthly inflation turned higher than expected in January,” said Muhammet Mercan, chief economist at ING Bank AS. “The latest data, along with the low real rate buffer and geopolitical risks, should further contribute to the central bank’s cautious stance.”

(A previous version of this story was corrected to say that food inflation slowed.)

--With assistance from Harumi Ichikura and Barbara Sladkowska.

To contact the reporter on this story: Cagan Koc in Istanbul at ckoc2@bloomberg.net

To contact the editors responsible for this story: Onur Ant at oant@bloomberg.net, Paul Abelsky, Amy Teibel

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