Turkish President Recep Tayyip Erdogan’s demand for lower interest rates sent the lire to a new all-time low, but many traders have seen this before.
Turkish President Recep Tayyip Erdogan’s demand for lower interest rates sent a brief shock wave through the pound as the currency hit a new all-time low.
But among traders and analysts, the reaction has been: we’ve all seen this before. After Erdogan sacked his previous central bank governor in March, it was only a matter of time before he began to embark on the path of lowering rates.
“Turkish history is well known and has been going on for quite some time now, so I feel like investors wouldn’t have been caught off guard,” said Todd Schubert, Head of Income Research fixed at Bank of Singapore Ltd. “There is little risk of large outflows of foreign funds.”
In an interview with a state broadcaster on Tuesday night, Erdogan said it was “imperative” for the central bank to lower interest rates, giving vague reference to the summer months as a target date. The lira weakened as much as 3% after the news broke, then stabilized at 8.63 per US dollar.
The currency has already been beaten by bets that Turkey would ease its policy, plunging 14% against the dollar this year, the biggest drop among emerging market currencies.
Whether Erdogan will be able to carry out his plans remains to be seen, and the outlook for Turkey’s monetary policy is far from clear. In separate remarks on Wednesday, central bank governor Sahap Kavcioglu told investors fears of a premature cut in interest rates were unfair.
Another reason volatility has been limited is that many international investors have already pulled out of Turkish assets after previous bouts of turmoil.
The dollar-lira’s one-month implied volatility has remained near its lowest level since February. The BIST 100 stock index was stable on Wednesday.
The reaction was moderate because it was so well anticipated, said Henrik Gullberg, London-based macro strategist at Coex Partners. “This is what the markets have been waiting for,” he added.
Investors interpreted Erdogan’s March decision to sack his market-friendly central bank governor as proof of his resolve to take control of monetary policy and implement his unorthodox rate cut plan in the face of dizzying inflation.
However, the weak pound and faster inflation make it even more difficult for the new head of Turkey’s central bank, Governor Sahap Kavcioglu. It would take an extreme currency depreciation, probably around 30% based on historical trends, for Erdogan to change his mind about rate cuts, Gullberg predicted.
“We have seen this development many times before,” said Emre Akcakmak, portfolio advisor at East Capital in Dubai. “Investors don’t want to see another episode of premature rate cuts, especially now that inflation is stubbornly high.”
(Add central bank governor’s comments to sixth paragraph.)