If you comment so much on the exchange rate, you will be stuck in a difficult position when circumstances change.

I have been chattering about 'commenting on exchange rate'. I could not fully enjoy this as the Jackson Hale speech of Bernanke interrupted it. Today let me continue from where I stopped.

Since the late 2010, the Central Bank (CBT) has been giving statements implying that they target depreciation of the Lira. The statements were a bit implicit at the beginning, but later the CBT started to make more explicit declarations. The latest example to this was the remarks by the CBT Governor on July 27 in a meeting to introduce the inflation report. He said:

"As a reflection of the policies we have been implementing, the value of the Turkish Lira (TL) continued to differentiate from the currencies of countries in a similar country group with Turkey, as desired (Figure 3)." The mentioned Figure 3 is titled "the TL and the Currencies of Other Developing Countries". It gives the values of the mentioned currencies against dollar with daily exchange rate movements beginning with October 1, 2010. For clarity purposes, the figure takes the average of the dollar exchange rate as of October 1, 2010 and the value of TL against dollar for the same date as 1.

The message is clear

The figure broadly says the following: At the date of the speech, the dollar/TL exchange rate was 1.14 whereas the average value of other countries' currencies against dollar was 0.97. In other words, the TL depreciated while the currencies of other countries in question appreciated. The quotation above stated, "The value of the Turkish Lira (TL) continued to differentiate ..., as desired" Combined with what the figure says, the message is clear: "We have been targeting to increase the exchange rate (depreciation of the TL) since October 2010."

A couple of weeks later, increase in the risk perception across international markets pushed the exchange rate up, leading to a change in the rhetoric. This time, the CBT started to complain about the depreciation over expectations and stated that the exchange rate should have been lower. This U turn alone is a good example why the central banks of countries like Turkey shall not comment on the exchange rate in periods of high uncertainty.

Though this is good, it is as clear as a day and is not at all interesting in academic terms. This one is more interesting: In implementing the new monetary policy, the CBT put into effect two policy tools other than the repurchase rate: required reserve ratios and the width of the interest rate corridor (the difference between the interest on the CBT's overnight lending and borrowing). The former aimed to limit the rapid credit supply growth. The purpose of the second tool was initially declared to be discouraging short-term capital inflows. Later reports and remarks implied/stated that the width of the corridor was used to ensure the depreciation of the TL in the "desired" direction.

Communication asymmetry

Now, think about it: Do not you see a weird communication asymmetry? At the end of 2010 on the beginning of 2011, the CBT said, "We are cutting the borrowing interest on the CBT and expand the interest corridor in order to discourage short term capital inflows (we aim to push up the exchange rate)". Then, two weeks ago, it should have "honestly" implied/declared, "We have increased the borrowing interest and thus narrowed down the corridor because the exchange rate increased and we therefore want to encourage short term capital inflows (push down the exchange rate)."

If you comment so much on the exchange rate, and if you do this sinuously through the short term capital inflows (hot money), you will be stuck in a difficult position when circumstances change: If the exchange rate increases steeply, you cannot say that the decisions were made to encourage short term capital inflows but still, everyone thinks so anyway. This is what I meant with communication asymmetry. The moral of the story: Officials of countries like Turkey should not comment on the exchange rate in periods of uncertainty.

This commentary was published in Radikal daily on 01.09.2011