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Turkiye's bigger-than-expected interest rate hike 'positive step' to tame inflation

Xinhua | Updated: 2023-08-25 09:30

ANKARA -- Turkiye's central bank on Thursday announced a bigger-than-expected interest rate hike of 750 basis points to control inflation, ratifying a return to a more orthodox monetary policy, experts said.

The bank raised its benchmark rate to 25 percent from 17.5 percent, the biggest hike since it started a tightening cycle in June.

In its statement, the bank's monetary policy committee said it "decided to continue the monetary tightening process to establish the disinflation course as soon as possible, to anchor inflation expectations, and to control the deterioration in pricing behavior."

The new hike is well above market expectations that were betting on a 250 basis points interest rate increase to tame stubborn inflation.

"This is a surprising move, raising interest rates from 17.5 percent to 25 percent is a significant action," Yalcin Karatepe, an Ankara-based economist and scholar, told Xinhua.

"Nobody expected the interest rate to be increased to 25 percent. It's not a miracle on its own, but it's a positive step," Aysel Gundogdu, a finance expert and scholar from Istanbul, wrote in a post on X, previously known as Twitter.

Turkiye's lira strengthened almost 2 percent against the U.S. dollar after the central bank's strong interest rate hike.

The central bank embarked on a tightening cycle after President Recep Tayyip Erdogan appointed former bankers Hafize Gaye Erkan as central bank governor, and Mehmet Simsek as the head of the Treasury and Finance Ministry in June. Both bankers were considered as market-friendly figures.

"We are determined, price stability is our biggest priority!" Simsek wrote in a post on X following the rate hike decision on Thursday.

Signaling a change of policy, the central bank has tightened its one-week repo rate by 900 basis points from June to July, raising it from 8.5 percent to 17.5 percent.

However, the question still remains whether the latest move of monetary tightening move will tame the rampant annual inflation rate, which stood at 47.8 percent in July, experts say.

The inflation is on an upward momentum because the government implemented tax increases on a wide range of goods to address its budget deficit and reconstruction costs rose significantly after the deadly earthquakes in southeastern Turkiye in February.

Last month, the central bank more than doubled its year-end inflation forecast to 58 percent, up sharply from 22.3 percent. The bank expects inflation to peak at around 60 percent in the second quarter of 2024, before a gradual drop.

Meanwhile, the government announced on Sunday that it would discourage citizens and businesses from depositing money in foreign currency-protected accounts, a scheme launched in late 2021 amid the Turkish lira's continued depreciation.

According to Hakan Kara, former chief economist with Turkiye's central bank, the accounts have cost the state some 20 billion U.S. dollars this year alone as the lira has lost over 30 percent of its value against the greenback since the start of the year.

"The government wants to gradually get rid of this scheme, which has proven very costly," he wrote in a post on his X account.

Experts believe this is the latest move of the new economic team handpicked by Erdogan to support economic orthodoxy following his re-election in late May for a third term.

Previously, Erdogan implemented an unconventional monetary policy of lowering interest rates to combat stubborn inflation. However, this strategy has since been abandoned by the new economic team because it stoked additional inflation.

More conventional economic policies have yielded some positive results as a first current account surplus was recorded in June, for the first time in 18 months.

This means that more money came into the country than it went out mostly due to tourism revenues and lower energy imports during the summer, analysts say.

Yet, there are still serious challenges ahead for the Turkish economy, warned Emre Alkin, an Istanbul-based economist and scholar.

"Tax increases may be necessary, but they will accelerate inflation in the midterm, therefore stoking the cost-of-living crisis, and creating more poverty and hardships for most of the population," he said in his video blog.

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