World markets were taken by surprise by a large rise in Turkish interest rates on 28/1/14. In an attempt to combat a falling lira and rising inflation, the Turkish central bank raised its overnight lending rate from 7.75% to 12%. Following the decision, the lira appreciated by over 3%.
Since the start of this year, the Turkish lira had depreciated by 7.1% and since the start of 2013 by 22.8%. Along with the currencies of several other emerging economies, such as India and Brazil, speculators had been selling the Turkish currency. This has been triggered by worries that the Fed’s tapering off its quantitative easing programme would lead to a fall, and perhaps reversal, of the inflow of finance into these countries; in the worst-case scenario it could lead to substantial capital flight.
Consumer price inflation in Turkey is currently 7.4%, up from 6.2% a year ago. The central bank, in a statement issued alongside the interest rate rise, said that it would continue with a tight monetary policy until the inflation outlook showed a clear improvement.
The Turkish Prime Minister, Tayyip Erdogan, has been opposed to rises in interest rates, fearing that the dampening effect on aggregate demand would reduce economic growth, which, as the chart shows, has been recovering recently (click here for a PowerPoint of the chart). A slowing of growth could damage his prospects in forthcoming elections.
World stock markets, however, rallied on the news, seeing the rise in interest rates as a symbolic step in emerging countries stemming outflows of capital.
Turkey raises interest from 7.75pc to 12pc The Telegraph (28/1/14)
Emerging markets forced to tighten by US and Chinese monetary superpowers The Telegraph, Ambrose Evans-Pritchard (28/1/14)
Turkey Gets Aggressive on Rates The Wall Street Journal, Joe Parkinson (28/1/14)
Turkish central bank raises lending rate to 12% BBC News (28/1/14)
Asian stock markets stage relief rally after Turkey rate rise BBC news (29/1/14)
Turkey raises rates to halt lira’s slide Financial Times, Daniel Dombey (29/1/14)
Turkey Rate Increase Stems Lira Drop as Basci Defies Erdogan Bloomberg Businessweek, Onur Ant and Taylan Bilgic (29/1/14)
Fragile economies under pressure as recovery prompts capital flight The Observer, Angela Monaghan (2/2/14)
Main Economic Indicators (including Turkish data) OECD
Data on Turkey, World Economic Outlook database IMF
Turkey price indices Central Bank of the Republic of Turkey
- Why did the Turkish central bank decide to raise interest rates by such a large amount?
- Why has the Turkish lira been depreciating so much over the past few months? How has this been linked to changes in Turkey’s balance of payments and what parts of the balance of payments account have been affected?
- Why did global stock markets rally on the news from Turkey?
- What will be the impact of the central bank’s actions on (a) inflation; (b) economic growth?
- How has the USA’s quantitative easing programme affected developing countries?
Turkey has experienced rapid economic growth in recent years and has attracted large inflows of foreign capital. The chart below illustrates how growth in real GDP in Turkey in most years since 2000 has considerably exceeded that in the OECD as a whole (click here for a PowerPoint). As you can see from the chart, growth in Turkey over the period has averaged 4.5%, while that in the OECD has averaged just 1.8%.
Indeed, Turkish growth has been compared with that of the BRICs (Brazil, Russia, India and China). However, like the BRICs, Turkey has been experiencing slowing growth in the past few months. Indeed, the slowdown has been especially marked in Turkey.
In recent years Turkey has benefited from large inflows of foreign capital. Partly these were direct investment flows, encouraged by a large and rapidly growing internal market, boosted by a rapid expansion of consumer credit, and also by a growing export sector. But to a large extent, especially in recent years, there has been a large rise in portfolio and other investment inflows. This has been encouraged by a large increase in global money supply resulting from policies of quantitative easing in the USA and other developed countries.
But the economic climate has changed. First investors have become worried about the conflict in Syria escalating and this impacting on Turkey. Second Turkey’s large financial account surpluses have allowed it to run large current account deficits and have maintained a high exchange rate. Third the tapering off and possible reversal of quantitative easing have led to recent outflows of finance from various countries perceived as being vulnerable, including Turkey.
The effect of this has been a depreciation of the Turkish lira and upward pressure on inflation. The lira has fallen by 14% since the beginning of 2013 and by nearly 7% since the beginning of August alone.
The question is whether the supply side of the Turkish economy has become robust enough to allow the country to ride out its current difficulties. Will foreign investors have sufficient faith in the long-term potential of the Turkish economy to continue with direct investment, even if short-term financial inflows diminish?
Turkey’s economy faces uncertainties amid possible military intervention in Syria Xinhua, Fu Peng (29/8/13)
Turkey may cut 2014 growth target to 4% Turkish Daily News (8/9/13)
Turkish lira at record low, threatening growth Daily News Egypt (7/9/13)
Turkish lira may need higher interest rates to escape emerging markets rout Reuters, Sujata Rao and Seda Sezer (20/8/13)
Turkey Economic Crisis: Crises from Both Sides Wealth Daily, Joseph Cafariello (9/8/13)
Western financial prescription has made Turkey ill The Observer, Heather Stewart (1/9/13)
Turkish Deputy PM Babacan calm amid economic fluctuations Turkish Daily News (8/9/13)
The Fragile Five BBC News, Linda Yueh (26/9/13)
Economic growth rates (annual) for Turkey, Brazil, Russia, India and China: 2000–13 IMF Economic Outlook Database (April 2013)
Quarterly growth rates of real GDP for OECD countries and selected other countries and groups of countries OECD StatExtracts
Turkey and the IMF IMF
Turkey: data World Bank
Links to Turkish Official Statistics Offstats
Country statistical profile: Turkey OECD Country Statistical Profiles
Spot exchange rate, Turkish Lira into Dollar Bank of England
- Why has the Turkish economy experienced such rapid growth in recent years and especially from 2010 to 2012?
- Why has Turkish growth slowed over the past year?
- Why has “Western financial prescription made Turkey ill”
- Why has the Turkish lira depreciated? What has determined the size of this depreciation?
- What are the beneficial and adverse effects of this depreciation?
- Why must any surplus on the combined financial and capital accounts of the balance of payments be matched by a corresponding deficit on the current account?
- How is a tapering off of quantitative easing likely to impact on developing countries? What will determine the size of this impact?
- Istanbul has lost its bid to host the 2020 Olympic Games? How is this likely to affect the Turkish economy?