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The tsar and the sultan (queen) meddle with monetary policy

Governor Erdem Başçı did indeed save the best for last during his briefing on the Central Bank’s first Inflation Report of the year on Jan. 28. At the Q&A session, he said the monetary policy committee (MPC) would cut interest rates at an emergency meeting on Feb. 4 if annual inflation fell more than one percentage point in January.

Here is the intro. to my latest Hurriyet Daily News column, where I discuss probably the weirdest announcement from the Central Bank of Turkey- which is quite a thing in itself, given that CBT is not known for orthodoxy and had done pretty weird stuff in the past. I explain the motivation behind their conditional rate cut and relate to another weird central bank decision- I then explain what these two decisions have in common. HINT: The title!:) Anyway, as always, you can read the whole thing at the HDN website– and get me some more clicks to increase my column’s popularity:)

I have a couple of additional points to make, but I should first tell you why the sultan is now a queen- well, because s(he) wants to be one:)… A recent Telegraph article has all the details…

Moving on to more serious matters, I did not have enough space to go over all the inconsistencies in the Central Bank’s announcement: For one thing, if you don’t think the Central Bank bowed to pressure, let me try to convince you: The Bank (as well as all the market economists) already knew before the last regular monetary policy committee (MPC) meeting that inflation would fall more than one percentage point in January. So why not cut then? The Bank would tell you that they wanted to ascertain the fall in inflation, but as an Aussie friend used to say, that’s just ballacks (did I spell that right- or is it bullocks?)…

Anyway, there are many other questions you might ask. In fact, Murat Ucer of Turkey Data Monitor and Global Source/Istanbul Analytics did ask many smart questions in his short note right after Basci’s announcement. Here is an excerpt:

Doesn’t this hugely contradict another thing Basci has said and has been saying for some time, that “we shall be cautious till inflation outlook really improves”? And most importantly, can the lira handle this rush? As we discussed briefly in our Quarterly report released yesterday, there are the rates that the Bank sets (weekly repo, O/N corridor), and there is the rate that the lira or “the reality on the ground” sets (which is the money market rate). So since the lira is not CHF or a reserve currency, isn’t the CBRT worried about reversals, despite the ECB-QE and all that? Isn’t the Bank worried at all — after such a lousy track record of missed inflation targets and confusing monetary policy experimentations — that the pricing behavior might have actually worsened and that despite all the favorable base effects, we could see inflation creep up more than they are foreseeing in Q4? Does it make sense to react so aggressively and impatiently to just one observation (January inflation)? Wouldn’t this sort of approach add to volatility? Isn’t this making Turkish monetary policy perhaps a heaven for short-term traders, but certainly a hell for any body trying to make longer term decisions? 

As you can see, the CBT announcement was inconsistent from many different angles… Anyway, moving on, a journalist from Spanish El Pais newspaper I recently talked to asked me why Erdogan was so fixated on lower rates. Easy answers would be: 1. For religious reasons. 2. He believes that lower rates beget lower inflation, contrary to economic theory. There may be a truth to both, but I would argue that neither is the main reason: Leading indicators are hinting that the economy is losing steam. For example, the have a look at the Turkish Statistical Institute’s (TurkStat’s) new Economic Confidence index, which is simply a leading indicator that includes the evaluations, expectations and tendencies of both consumers and producers on general economic situation. Simply put, it is a weighted average of existing confidence indicators of consumers and seasonally adjusted manufacturing industry (real sector), services, retail trade and construction sectors:

Since TurkStat only recently started publishing the index and since it only goes back to 2012, its accuracy as a leading indicator has not been tested. But the picture is nevertheless not good, as you can see. This is the last thing Erdogan would want before the crucial general elections in June, where he’d try to secure enough majority (as you can see, I am not even pretending that he is apolitical and impartial) so that  he could take the constitutional changes for a presidential system to the polls even if he doesn’t have the necessary 2/3 majority in the Parliament…

Then, the main question is, will the rates cuts actually work in jumpstarting the economy? According to state-run Anatolian Agency, they would- but they are not what you would call “an objective source”:). I won’t claim they will not have any effect (apologies for the double negation), but I would not expect miracles from them, either. But as I was explaining to the El Pais journalist, near-zero real rates will enforce the savingless, domestic-demand based growth model that is behind the country’s current account deficit, and is therefore unsustainable. But I don’t think Erdogan cares much about that at this point…

Moving on, you might be wondering: Didn’t the Central Bank foresee that its announcement would weaken the lira? Well, as I explained in the column, since a fall of at least one percentage point in inflation was kind of given, the announcement gave currency traders a sure bet for shorting the lira. But it was also a sure bet for equity and bond guys for going long. I guess Basci and the Bank were assuming that flows into the latter would prevent the lira from weakening too much. Unfortunately, global developments destroyed their plan: The Fed’s perceived tighter stance, Greek worries and the Russia rate cut I mentioned in the column all added pressure to emerging market (EM) currencies. As an American philosopher:) once said, “life is like a box of chocolates: You never know what you’re gonna get”:)…

Speaking of Russia, despite its title, my column was mainly on Turkish monetary policy- mainly because I am not an expert on Russia, but there is a lengthy Bloomberg View column written by Russian Leonid Bershidsky (I am sure I misspelled his last name) if you are interested. And speaking of titles, careful readers probably noticed that the title of the column is different from the title of the blog. I like the blog title more. Don’t ask me why I didn’t use the same one in HDN, though: As the same American philosopher said, “that’s all I have to say about that”:)….

Last, but not the least, you may be wondering my lira and policy rate expectations. I can tell you that the lira weakness and volatility will make cuts very difficult for the Central Bank going forward. Erdogan, his confidantes and the government, on the other hand, will pressure the Bank for more cuts as soon as the lira normalizes. However, rate cut expectations can prevent the lira from normalizing. Really, really confusing stuff, at least for me… So in short, I honestly have no clue what will happen to lira and rates in the short-run, but my spider senses are calling for lower rates, and therefore, weaker lira. But one thing I can confidently tell you is that whatever happens, all the policy rates (weekly repo, borrowing, lending, average funding) as well as the money market rates will end up higher than today at the end of the year, as the Central Bank pays for another premature round of rate cuts…

Anyway, I have to go now, as I’ll watch the Superbowl. GO PATS!

One Response to “The tsar and the sultan (queen) meddle with monetary policy”

koylugozeliMarch 8th, 2015 at 3:39 pm

Very nice post. İ hope Erdem Bascı reads your posts! just like Ben Bernanke reads krugmans blog! :)