ANKARA, Turkey (AP) — The Turkish central bank will face a crucial challenge on Thursday as it seeks to adopt more conventional economic policies in response to soaring inflation. This comes after President Recep Tayyip Erdogan, who was recently reelected, sent mixed signals regarding the approach that many hold responsible for exacerbating the cost-of-living crisis.
This highly anticipated meeting will mark the bank’s first decision on interest rates since the appointment of internationally respected officials to lead both the bank and the finance ministry. While a significant rate increase is anticipated, it remains uncertain whether it will be sufficient to alleviate concerns in the market.
These appointments were interpreted as a signal that Turkey would change its course and abandon Erdogan’s unconventional belief that reducing interest rates combats inflation. In contrast, conventional economic theory suggests the opposite, and central banks worldwide have been swiftly raising rates to address surges in consumer prices. This includes the Bank of England, which is also likely to announce a rate hike on Thursday.
Erdogan, who has positioned himself as a staunch opponent of high borrowing costs, has made statements indicating both acceptance of his new finance minister’s policies and an unwavering commitment to his own views. This has raised concerns about the autonomy of Turkey’s central bank and its ability to act independently.
During his remarks on Wednesday, Erdogan asserted that decisive measures would be taken to combat inflation, emphasizing the government’s efforts to shield a significant portion of the population from its impact.
Despite soaring inflation reaching an alarming 85% last year, the central bank succumbed to pressure from Erdogan and reduced its key interest rate from approximately 19% in 2021 to 8.5% earlier this year. Official figures indicate that inflation has since moderated to 39.5% as of last month. However, an independent research group called ENAG claims that the true inflation rate stands at 109%.
Economists argue that Erdogan’s unconventional belief regarding interest rates has worsened the economic turmoil in Turkey, resulting in currency instability and a cost-of-living crisis. These issues have significantly affected households, making it challenging for many to afford essential goods such as food, housing, and other necessities. In contrast, Erdogan maintains that his economic model prioritizes growth, exports, and employment.
Furthermore, experts point out that the central bank has significantly diminished its foreign currency reserves in an attempt to bolster the Turkish lira before the recent elections. Consequently, the currency has experienced a devaluation of approximately 21% against the US dollar since the beginning of the year.
The extent of the expected hike in the Turkish central bank’s benchmark interest rate remains uncertain.
A substantial increase from the current 8.5% to approximately 20% may not fully satisfy the markets, but it would be seen as a signal of a shift towards more orthodox monetary policies in the future, according to Can Selcuki, director of the Turkiye Raporu polling agency and a former World Bank economist for Turkey. If the rate were to rise to around 30% to 35%, it would indicate that the central bank is actively targeting inflation moving forward.
Following his reelection, Erdogan reappointed Mehmet Simsek, a former Merrill Lynch banker and previously Erdogan’s finance minister and deputy prime minister until 2018, to lead the economy. Simsek stated soon after his appointment that Turkey had no choice but to return to a more rational approach.
In another indication of a move towards pragmatic policies, Erdogan appointed Hafize Gaye Erkan as Turkey’s first female central bank governor. Erkan, a former co-chief executive of the now-defunct First Republic Bank based in San Francisco, replaced Sahap Kavcioglu, who had overseen a series of interest rate cuts.
Erdogan had dismissed three central bank governors who resisted pressure to lower interest rates before appointing Kavcioglu in 2021. Naci Agbal, who succeeded Kavcioglu, was removed from his position shortly after raising rates.
Despite these changes, there are still doubts about whether the newly appointed officials will be able to adhere to their preferred policies as the country approaches local elections in March 2024.
Selcuki noted that the current priority is to implement some form of tightening, which is an undesirable process for any incumbent government ahead of elections.
Critics argue that the government’s recent decision to increase the minimum wage by 34% is aimed at mitigating the impact of inflation on households in the lead-up to next year’s vote.