Turkey hikes rates to 30% to strengthen hawkish turn

2/2 © Reuters. FILE PHOTO: People stroll at the main shopping and pedestrian street of Istiklal which is decorated with Turkish flags to mark the Victory Day, in Istanbul, Turkey August 30, 2023. REUTERS/Dilara Senkaya/File Photo 2/2

By Daren Butler and Ece Toksabay

ISTANBUL (Reuters) - Turkey's central bank raised its key interest rate by a lofty 500 basis points to 30% on Thursday, marking a second month of aggressive tightening after President Tayyip Erdogan set aside his long opposition to tight policy.

The bank reiterated it is ready to raise rates further as needed to rein in inflation that leapt to nearly 59% in August and is expected to rise into next year. It has hiked rates by 2,150 basis points since June.

The lira slipped to 27.105 to the dollar after the decision, just shy of its all-time low touched last month.

In a Reuters poll, economists forecast a 500-basis-point hike with forecasts ranging from 27.5% to 31%.

The fourth rate hike in as many months "is probably not enough in itself to convince investors that inflation is being brought under control," said James Wilson, EM sovereign strategist at ING.

"We expect further rate hikes will be needed before the end of the year, although the overall direction of policy towards a more hawkish bias should in general be taken as a positive by investors."

Following his May re-election, Erdogan appointed former Wall Street banker Hafize Gaye Erkan to lead the central bank in June as authorities grappled with an economy strained by depleted FX reserves and soaring inflation expectations.

Previously Erdogan had supported a low interest rate policy despite high inflation, which triggered a currency crisis in late 2021 and pushed inflation above 85% last year. Partly due to lira deprecation, annual consumer price inflation is seen rising to around 60% by year end.

Last month the bank shocked with a 750-point hike that was seen signalling a new determination to battle inflation. Rates rose three times more than expected and sparked the biggest single-day lira rally since 2021.

Two weeks later, Erdogan - who since 2018 has repeatedly described himself as an "enemy" of "evil" interest rates - instead said tight monetary policy will help bring down inflation.

TIGHTENING CYCLE

The central bank said policy "will be further strengthened as much as needed in a timely and gradual manner until a significant improvement in the inflation outlook is achieved".

The lira has weakened nearly 70% in two years, primarily due to Erdogan's long-standing opposition to high rates and influence over the central bank. It dropped again this summer as the new economic team loosened the state's grip on forex markets and began shedding unorthodox policies and regulations.

The central bank has also selectively tightened credit and began rolling back a costly scheme, adopted to halt the late-2021 currency crash, that protects lira deposits against forex depreciation.

Based on last week's Reuters poll, economists expect further monetary tightening to lift the policy rate to 35% by year-end, with forecasts ranging between 30% and 40%.

Earlier this month, the government lifted its year-end inflation forecast to 65% and trimmed economic growth forecasts. Erdogan said at the time: "With the support of tight monetary policy, we will bring down inflation to single digits again."