Emerging Markets: Turkey Currency Outlook Deteriorates As Inflation Forecasts Raised

By Win Thin

The Turkish lira is under pressure today, and is also due to some market concerns with central bank credibility. The bank today revised upwards its inflation forecasts for 2011 from 5.9% to 6.9%, citing higher oil prices and taxes. Governor Basci said that the forecast assumes “limited tightening” in H2 as well as loan growth of 20-25%. If the inflation target is 5.5%, why then should tightening be limited? This is very similar to what’s happening in Brazil, with Turkey continuing to rely on unorthodox policies for a hoped for (but so far unseen) impact on inflation. The 2012 forecast was raised from 5.1% to 5.2%. Credit growth is expected to slow in Q2, while inflation will probably accelerate in Q2, decelerate in Q3, and then accelerate in Q4, Basci said. By continuing to focus on credit growth, it appears that the central bank is no closer to abandoning its experiment in unconventional policy. As such, we expect continued tightening via reserve requirement hikes rather than rate hikes.

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Like in Brazil, Turkey macroprudential policies simply have not worked. Turkey policy-makers are focusing on two things, loans and the current account. Interestingly, inflation has eased to 4% y/y in March, due largely to base effects. PPI rose over 10% y/y in Q1 and so pipeline pressures point to higher inflation ahead, as Basci seems to be warning. Consumer loans grew 40% y/y in March, up from 35% y/y in November, while the current account gap has continued to widen. In February, the 12-month deficit hit a high of -$54.9 bln and with imports growing 45-50% y/y so far in Q1, shows no sign of narrowing. Unlike Brazil, however, Turkey is seeing very little in the way of FDI, and so the 12-month total only covers about 16% of the current account gap. Brazil enjoys total coverage, and so Turkey is much more vulnerable to sudden outflows of hot money financing. QTD and YTD, TRY near the bottom of the EM league table, and given Turkey’s continued reliance on unconventional policies, we believe TRY is likely to continue lagging the wider EM rally.

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Turkey money and loan growth

Turkey external account

Turkey interest rates and inflation

Turkey FDI and current account

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