Economists at some of the biggest Wall Street banks are divided over how long Turkey can sustain its extraordinarily low interest rates, with JPMorgan Chase & Co. and Goldman Sachs Group Inc. now expecting a sharp policy reversal soon after elections slated for May.
(Bloomberg) — Economists at some of the biggest Wall Street banks are divided over how long Turkey can sustain its extraordinarily low interest rates, with JPMorgan Chase & Co. and Goldman Sachs Group Inc. now expecting a sharp policy reversal soon after elections slated for May.
The central bank may need a massive rate increase to heights not seen in at least a decade, according to JPMorgan and Goldman Sachs, who both predict the benchmark will rise to 30% in the third quarter, or more than triple its current level.
Morgan Stanley and ING Groep NV see Turkey keeping its key rate at 9% through the rest of the year, according to the latest forecasts compiled by Bloomberg. Barclays Plc expects a hike to 25%, while Bloomberg Economics anticipates an increase to 35% in the third quarter.
The elections are increasingly shaping up as a watershed moment for monetary policy in Turkey, which last saw a hike almost two years ago and boasts among the world’s most deeply negative rates when adjusted for inflation.
While nominally independent, the central bank under Governor Sahap Kavcioglu has hewed close to the wishes of President Recep Tayyip Erdogan. The Turkish leader holds the unconventional view that low rates tame — rather than cause — faster price growth.
A year from now, Turkey may have a benchmark rate almost 20 percentage points higher than its current level, according to market-implied policy rates calculated by Bloomberg.
At stake for investors is the prospect that the lira could regain its carry-trade appeal with a return to orthodoxy. The Turkish currency was the second-worst performer in emerging markets last year, prompting the central bank to spend an estimated $108 billion via back-door interventions.
Foreign investors have largely exited from the country’s local debt and show little willingness to risk long-term exposure to Turkey’s bonds given the political uncertainty ahead.
A similar dynamic has played out in the stock market, with Turkish equities going from the world’s best performers last year to the worst this month.
Erdogan has wielded greater power over the central bank since 2018, firing all three of Kavcioglu’s predecessors for taking a line he deemed insufficiently dovish. But his sway became even more evident last year as he pressed for lower rates to turbo-charge the economy ahead of elections.
What Bloomberg Economics Says…
“If the central bank decides to remain accommodative after the elections, that would call for restrictions on capital flows to mitigate mounting risks. Instead, we foresee a strong policy reversal in the second half of the year as more likely.”
— Selva Bahar Baziki, economist. Click here to read more.
Despite raging inflation, policymakers cut rates by 500 basis points and into single digits last year. The steps followed explicit calls by Erdogan to ensure money is cheap, while encouraging targeted lending toward exporters and investment-oriented firms.
Since Turkish officials have ruled out a U-turn from their current policies, the possibility of higher rates may hinge on Erdogan’s setback in the elections. The opposition alliance, formed of six parties, said they would ensure the central bank’s “independence” if elected to power but without explicitly commenting on the outlook for rates.
A policy reversal in case Erdogan clings to power is “highly unlikely,” said HSBC Holdings Plc’s economist, Melis Metiner. Should the opposition win, the outlook “remains uncertain” but it’s likely that there’ll be a return to “conventional macro policymaking,” she said in a report this week.
Erdogan has said on numerous occasions that he only wants rates to go down.
“As long as this brother of yours is in this position, the interest will continue to decrease with each passing day, each passing week, each passing month,” the president said during a speech late last year. “Investment does not come with high interest rates.”
In this year’s first quarterly inflation report last Thursday, Kavcioglu provided no explicit guidance on rates. At a meeting only days earlier, the Monetary Policy Committee removed a phrase on current rates being at an “adequate” level, a sign interpreted by some economists that lower borrowing costs are in the offing.
Read more: Turkey Keeps Up Suspense on Rates With Inflation View Intact
The central bank has a track record of not always being consistent or deviating from its guidance. Despite the MPC’s statement last July that rates would stay unchanged, it lowered the benchmark by 100 basis points the following month.
The central bank’s upbeat outlook on inflation also bodes well for lower rates. Its projections haven’t changed and still show price growth ending this year at 22.3%, from 64.3% in December.
When asked last week to elaborate on his plans, Kavcioglu only pointed to earlier statements that laid out general conditions for cutting rates.
“We never say we’ll lower, hold or keep rates the same,” he said. “That would be wrong.”
–With assistance from Harumi Ichikura and Barbara Sladkowska.
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