Turkey’s Rate Cut Amid Climbing Inflation Signals More to Come

(Bloomberg) -- The Turkish central bank’s decision to lower a benchmark rate amid climbing inflation is fueling expectations that regulators will keep cutting.

The bank trimmed its overnight lending rate by 25 basis points to 8.5 percent on Tuesday, the sixth consecutive reduction. The one-week repurchase and overnight borrowing rates were kept at 7.5 percent and 7.25 percent respectively. All of the decisions were in line with economists’ forecasts in a Bloomberg survey. The lira gained.

The cut comes amid renewed pressure by President Recep Tayyip Erdogan to boost growth with lower lending costs. In its decision, the rate-setting committee led by Governor Murat Cetinkaya said the recent spike in food prices could revert soon and core inflation would improve gradually. But the bank’s outlook is out of step with market expectations that inflation will remain above 7 percent over the next two years, said William Jackson, a senior emerging markets economist at Capital Economics in London.

Global Conditions

“The council’s relentlessly dovish stance suggests that further rate cuts are on the cards -- we have now penciled in another 50 basis points of cuts this year,” Jackson said. “We had actually expected the monetary policy committee to leave all its key interest rates unchanged as a result of the deteriorating inflation outlook.”

The decision suggests policy makers were influenced by global conditions and the performance of the currency after the failed coup, Jackson said in an e-mailed note.

The consumer inflation rate rose by more than a percentage point to 8.79 percent last month while the core index, which strips out the impact of volatile items such as food and gold, was little changed at 8.7 percent. Annual price gains are expected to slow to 7.6 percent at the end of this year and finish 2017 around the same level, according to forecasts compiled by Bloomberg. The bank’s official forecast is 5 percent.

Although price gains accelerated last month, the core index “remains benign” and gives the central bank room to cut rates, Barclays Capital analyst Durukal Gun said in an e-mailed report on Aug. 19. The bank will maintain an “accommodative” monetary policy given risks to economic growth and other central banks’ “easing bias,” said Gun, who accurately predicted the overnight lending rate reduction.

Easing Pace

The bank has cut the overnight lending rate 225 basis points since March. The monthly pace slowed to 25 basis points in each of the last two decisions following the July 15 coup attempt, after three reductions of 50 basis points.

The bank said global conditions helped to mitigate the coup’s impact on financial markets as it narrows its corridor of the three main interest rates.

“The adverse impact of domestic developments in mid-July on market indicators has been largely reversed due to an improved global risk appetite and the recent measures,” it said.

The lira, which weakened as much as 6.8 percent after the failed coup, strengthened after the decision, trimming losses since the takeover attempt to 2 percent. It was trading 0.1 percent higher at 2.9377 per dollar at 5:13 p.m. in Istanbul.