Turkey's central bank set for interest rate cut this week

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Turkey's central bank set for interest rate cut this week

As Turkey prepares for tighter policy, the world looks to ease tensions.

Turkey's central bank has started setting the stage for an interest rate cut long hoped by President Erdogan, although most analysts don't think it will pull the trigger this week after inflation plunged and the lira fell.

The bank has kept its benchmark rate at 19% since March when Erdogan installed Sahap Kavcioglu as its latest governor. That makes it one of the world's highest policy rates - although so too is Turkey's inflation rate @Refini.tv 3 laX 5 UN, which touched 19.25% last month

Ahead of an ECMP meeting that is set for 2 p.m. 1100 GMT in Ankara tomorrow, here are four key questions:

After months of hawkish talk that allowed the lira to recover from an all-time low in June, the central bank has changed its tune in the last few weeks.

Kavcioglu had held conference calls with investors on Sept. 1 and did not repeat a longstanding pledge to keep the policy rate above inflation. Two days later, data showed inflation did indeed surpass 19% https: tmsnrt.rs 3 yTLHBq, leaving real rates negative.

Kavcioglu also began downplaying this headline inflation figure and instead stressed that a core measure - which is less - is more appropriate given the fallout from pandemic.

In a speech on Sept. 8, he said a near 30% spike in food inflation represents short volatilities so the bank will focus more on the core measure that dipped to 16.76%. He added that policy was tight enough and predicted a falling price trend in the fourth quarter.

Investors have taken all this as the dovish turn that suggests rate cuts are on the way. Some have warned of a policy mistake if they come too early.

Fourteen of 17 economists polled by Reuters expect easing to begin in the fourth quarter, with two forecasting it will begin this week, including the Institute of International Finance.

Although most expect a nominal rate cut, the bank's new guidance indicates it would not be surprising to see one on 23 September if it takes a slight deceleration in core inflation as permanent, said Ozlem Derici Sengul, founding partner of Spinn Consulting, in Istanbul.

Several analysts say Erdogan seems to be becoming impatient for monetary stimulus given loans are expensive and he faces a tough election no later than 2023. A few say a rapid rate cut could even signal plans for an early vote.

In recent months, the central bank has urged patience due to unexpected inflation pressure brought on by rising global commodities prices and a surge in summer demand as pandemic restrictions eased.

Despite the risk of currency depreciation https: tmsnrt.rs 3 neUCLN and stubbornly high inflation, Erdogan will likely get what he wants soon.

A self-described enemy of interest rates he removed the last three central bank chiefs over a 20 - month span due to policy differences.

In June, Erdogan said he spoke to Kavcioglu about the need for a rate cut after August.

In early August he explained that we will start seeing a fall in rates given it was not possible for inflation to rise any more.

At the same time, market tensions are set to increase as President Erdogan piles pressure on political pressure for rate cuts, while inflation pressure is building, said Phoenix Kalen, global expert in emerging markets research at Societe Generale.

The annual headline inflation should remain high through October and begin to dip in November due to the base effect of a rise late last year, since which it has continued to rise.

The government expects inflation to decline to 16.2% by the end of this year, while Goldman Sachs and Deutsche Bank do 16.7%. That should provide a window for at least one rate cut in the fourth quarter, most analysts say.

However, because Turkey imports heavily, further currency weakness could push inflation higher and complicate or even thwart any tightening. High import costs were reflected in the 45.5% expansion in the producer price index last month.

Another risk is that the U.S. Federal Reserve removes its pandemic-era stimulus sooner than expected, which would raise yields and hurt currencies of emerging markets with high debt, like India.

Analysts say the biggest problem is the central bank's lost credibility in face of political interference, leading to years of double-digit price rises and little confidence that inflation will soon return to a 5% target.

Ricardo Reis, a professor at the London School of Economics, who presented a presentation on September 8: https://www.brookings.org pdf at the Brookings Institute found that Turkey's inflation anchor seems definitely lost based on market expectations data from 2018 to 2021.

When Kavcioglu downplayed inflation pressure earlier this month, the lira weakened 1.5% in its biggest daily drop since May. It has fallen nearly 15% since Erdogan replaced Kavcioglu's hawkish predecessor Naci Agbal in March.

The Turkish investors hold only about 5% of the Turkish debt, after reducing their holdings for years.

Still, some say that rebounds in exports, tourism revenues and the foreign reserves of the central bank make lira assets more attractive.

With inventories so low in Europe, I can't see how exports are not going to continue to do well, said Aberdeen Standard Investments portfolio manager Kieran Curtis.

I just felt that there is more of a move towards loosening from the authorities, but I don't think anyone is expecting a cut at the next meeting.

In Turkey, soaring prices for basic goods such as food and furnishings have prompted individuals and companies to snap up record levels of dollars and gold https: tmsnrt.rs 3 jWu3 sl. They held $138 billion in hard currency in this month.