The Turkish Economy, like many emerging economies, is suffering from a declining currency – the Lira. This is partly due to the US Federal Reserve expecting to increase interest rates over the next few months – higher interest rates tend to increase the value of a country’s currency. With a falling lira the cost of Turkey’s imports has increased which has fed through into inflation – this is at the same time that the economy is contracting. The dilemma for the Central Bank of the Republic of Turkey (CBRT) is whether to increase rates and stabilize the currency or to lower rates to boost economic growth.
With an election in June this year the Turkish President Recep Tayyip Erdogan wants the CBRT to lower rates and thereby stimulating economic growth. This he feels would increase GDP from its current rate of 1.7% but more importantly assist him and his Justice and Development party to a fourth straight election victory. However the CBRT has been lowering interest rates in an environment when the inflation rate is above the 5% target as well as a falling lira (see chart from The Economist) – this month they have kept interest rates at 7.5%. Erdogan has criticised the central bank for their lack of aggression in cutting rates and accused the central bank governor and his team of “treason.” It seems that this outburst has in itself caused the lira to fall and the currency to hit an all time low against the US$ earlier this month. Erdogan believes that cutting interest rates will reduce inflationary pressure which goes against all the evidence from central banks globally and mainstream economics.
If Erdogan does get to serve a fourth term who would bet against him trying to claim back some of the central bank’s independence and have government play a more influential role in controlling interest rates.
Source: The Economist