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Inflation Outlook Unchanged, Turkey Tees Up More Rate Cuts

Turkey Close to Turning Point of Its Dash for Single-Digit Rates

(Bloomberg) --

Turkey’s central bank made no changes to its inflation outlook for the end of this year and next, reinforcing a message of confidence that it’s keeping a lid on prices despite a pickup in cost pressures and rapid-fire cuts to interest rates under the new governor.

Policy makers still project inflation at 8.2% in 2020 and 5.4% by the end of 2021, according to their quarterly report. Small increases to estimates for oil prices, labor costs and Turkey’s output gap were offset by improvements in the underlying trend of inflation and tax adjustments.

Speaking in Ankara on Thursday, Governor Murat Uysal said that food inflation, a major driver of price growth this year, isn’t yet forecast to soften. Uysal added that he sees no inflationary pressure from Turkey’s economic recovery, even as growth is forecast close to its potential.

By treading carefully with no adjustments to expectations, the central bank is underscoring a change in its guidance, which now assumes a more gradual pace of easing after last year’s massive rate decrease. Further cuts could still be in store even as the governor has for now 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.

“Turkey has offered high real interest rate in 2019,” Uysal said. “Since then, neutral rates in developed markets have declined, monetary policies have been adjusted in developing markets. Considering these facts and our year-end inflation forecast, I can say, Turkey offers positive real rates.”

Inflation Outlook Unchanged, Turkey Tees Up More Rate Cuts

In its rush to lower rates into single digits, the central bank this month pushed Turkey’s benchmark into negative territory when adjusted for inflation.

But economists surveyed by Bloomberg are now predicting a more measured approach ahead, forecasting 125 basis points of rate cuts over the next five meetings. That compares with 1,275 basis points of cuts delivered in the past five meetings, which brought the rate to 11.25%.

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“Basing real rates on projected -- rather than realized -- inflation would allow the central bank to heed Erdogan’s calls for more easing while maintaining positive real yields for investors. But the central bank’s inflation forecast needs to be spot on, or it risks a run on the lira.”

-- Ziad Daoud

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Uysal said last week that price growth will start decelerating from the next quarter and drop to single digits from the second half. It approached 12% in December, driven by increases in the cost of food, clothing and fuel.

Turkey’s Monetary Policy Committee more than halved its benchmark rate in the five meetings chaired by Uysal, who was appointed in July after his predecessor was fired for defying President Recep Tayyip Erdogan by not lowering borrowing costs.

‘Competitive’ Lira

The lira’s newfound stability might still embolden the central bank. Turkey’s currency is the best performer in developing Europe against the dollar so far this year, but it traded near the weakest level in eight months on Thursday.

“The current exchange rate remains competitive,” Uysal said on Thursday. “Turkey’s central bank does not have a target exchange rate. Stable exchange rates have supported inflation expectations last year.”

Inflation Outlook Unchanged, Turkey Tees Up More Rate Cuts

Traders say the currency’s stability comes as periodic dollar sales by state banks have limited the downside for the lira, while demand for hard currency by local investors has capped any upside. Uysal said he expects state banks to continue being active in the currency market.

“The timing of the next move depends on the currency,” said Nigel Rendell, a senior analyst at Medley Global Advisors LLC in London. “While the global backdrop is mildly supportive and the lira is broadly stable, we’d expect Turkey’s central bank to keep going, but the incremental reductions will be less.”

--With assistance from Barbara Sladkowska, Constantine Courcoulas and Ugur Yilmaz.

To contact the reporters on this story: Cagan Koc in Istanbul at ckoc2@bloomberg.net;Onur Ant in Istanbul at oant@bloomberg.net;Inci Ozbek in Istanbul at iozbek2@bloomberg.net

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

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