Lira near record low; FX windfall seen paving way for Turkey rate cut

ISTANBUL, Aug 19 (Reuters) – Turkey’s lira was near an all-time low on Friday after a surprise interest rate cut in which the central bank took advantage of a recent windfall of foreign funds to carry on its unorthodox policy experiment, bankers and analysts said.

The currency stood at 18.105 against the dollar at 1102 GMT, slightly weaker than its record low close on Thursday when the rate cut sent it down by more than 1% to as far as 18.15, its weakest intraday level since Dec. 20.

The central bank lowered its key rate by 100 basis points to 13% and said it needed to keep driving economic growth, despite inflation touching nearly 80% and a monetary tightening trend among its peers worldwide. read more

There had been no signal that the easing was coming and analysts predicted more lira depreciation and higher inflation for longer.

While the bank had held rates at 14% since December, when earlier cuts set off a currency crisis, its badly depleted net foreign reserves had nearly tripled since early July to $15.7 billion, data showed.

That reprieve paved the way for the bank to take its latest step down the unorthodox policy path advocated by President Tayyip Erdogan, some analysts said.

“It is important to evaluate rate cut decisions together with the increase in forex reserves in the last couple of weeks. Tourism is very strong and forex income through exporters is high. Apart from that there is an inflow from Russia of around $5-$6 billion,” a senior banker said.

“The central bank could be thinking the reserves will increase further. I want to think they took the rate cut risk with guaranteed foreign financing flow,” added the banker, who was speaking on condition of anonymity.

ERDOGAN’S WAY

Rather than tackling the highest inflation in 24 years with rate rises, as is the approach of other central banks, Turkey’s bank is driving Erdogan’s economic programme of policy stimulus to promote exports, investment and economic growth.

Exports, boosted by targeted low lending rates, have in turn risen. Adding to foreign inflows, Turkey’s tourism season is on pace to nearly match pre-pandemic numbers. Traders also speculate that a funding deal has been reached with Russia, though authorities have not commented.

JPMorgan analysts called the rate hike “opportunistic (and) driven by the fact that net and gross FX reserves have increased…likely due to a combination of tourism revenues that have reduced the CA deficit…and USD deposits from Russian Rosatom for a nuclear power plant project.”

In a sign of market stress, Turkey’s 5-year credit default swaps rose to 780 basis points from 656 a week ago. Yet in a reminder of how investors have fled Turkey in recent years, volatility gauges rose only slightly.

The central bank had slashed rates by 500 basis points towards the end of last year, sparking a currency crisis in December that sent inflation soaring. The lira has lost more than 27% against the greenback so far this year.

The policy-setting committee said it needed to act because leading indicators pointed to a loss of economic momentum in the third quarter and the new policy rate was “adequate under the current outlook”.

Goldman Sachs analysts said in a note that Turkey’s macroeconomic policy mix had become more unsustainable with the latest decision and forecast annualised inflation to rise to more than 90%.

Additional reporting by Marc Jones in London; Writing by Jonathan Spicer; Editing by Kim Coghill, Mark Heinrich and Mike Harrison