Inflation Potholes Ahead for Turkey After Cutting Rate by Record

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Turkish inflation is in for a bumpy ride before interest-rate cuts might resume in earnest.

After touching a multi-year low this month, prices are set to pick up again, a period of acceleration that will continue through the first quarter, central bank Governor Murat Uysal said on Thursday in Istanbul.

Policy makers lowered their inflation estimate for the end of 2019 to 12%, from 13.9%, in their quarterly report. But further easing at this year’s final meeting in December could be in question after three rounds of cuts brought Turkey’s key rate to 14%.

Turkey has already used up “an important part” of its room to ease monetary policy, Uysal said. “We’re going to shape our decisions based on developments in inflation going ahead.”

The governor needs to make good on his pledge to preserve “a reasonable rate of real return” for investors as he proceeds with what BNP Paribas SA expects to be the most ambitious easing cycle in emerging markets. Uysal has delivered a bigger-than-forecast cut all three times that he’s reduced rates since President Recep Tayyip Erdogan appointed him in July, bringing the cumulative easing under his watch to 10 percentage points -- including a record move in his first month on the job.

Turkish assets could be at risk if rate cuts start to erode their appeal in real terms just as inflation quickens. Adjusted for prices, Turkish rates are still among the highest in emerging markets.

The lira was little changed as Uysal spoke and traded 0.2% weaker against the dollar as of 4:56 p.m. in Istanbul. It’s this year’s worst performer among its peers in developing nations after Argentina’s peso.

“The main trend of core inflation is below our year-end estimates,” Uysal said. “We believe it will move toward single digits starting from the second quarter.”

Below is a summary of Uysal’s comments and revisions to the inflation outlook:

• The end-2020 inflation forecast remains unchanged at 8.2%; price growth is expected to end 2021 at 5.4% and then stabilize around 5% over the medium term
• This year’s food inflation estimate lowered to 10% from 15%; for 2020, the projection is kept at 11%
• The average estimate for oil prices in 2020 lowered to $57.7 per barrel from $62.6; for this year, it’s cut to $63.4 from $65 previously
• The central bank expects headline inflation to remain elevated throughout the first quarter of next year and start decelerating toward single digits from the second quarter, according to a forecast range chart accompanying the inflation report
• Uysal confirmed that the monetary authority is funding banks largely through the swaps market, instead of its repo window. The swap rates are in the vicinity of the benchmark rate

The central bank is looking to roll back its crisis-level monetary settings that were needed after a price spike caused by the lira’s crash in 2018. It cited a faster-than-expected slowdown in food prices and a stable lira for its revisions.

Uysal was guarded when asked what he deems to be a “reasonable” rate of return, an issue on which there’s little consensus among investors. The governor only said it’s a “a difficult subject” and “we don’t want to mention a band for this.”

Currency Crutch

Even as Turkey has stood by its free-floating currency despite more than a year of turmoil, Uysal said state banks have lately been “seen being active” in foreign-exchange markets. He was responding to a question about whether the lenders were intervening to prop up the currency.

The admission marks the first time that a central bank official has spoken openly about state banks wading into the currency market.

While there is no change in the central bank’s policy of boosting reserves, volatility in its foreign holdings is a result of the various instruments it uses and is also “due to some transactions by the Treasury,” Uysal said.

Although he didn’t elaborate, the governor did say Treasury operations that affect the level of central bank reserves include foreign debt repayments and its borrowings, and they can work “both ways.”

--With assistance from Taylan Bilgic.

To contact the reporters on this story: Cagan Koc in Istanbul at ckoc2@bloomberg.net;Asli Kandemir in Istanbul at akandemir@bloomberg.net

To contact the editors responsible for this story: Alaa Shahine at asalha@bloomberg.net, Paul Abelsky, Onur Ant

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