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    Fighting against inflation back on the agenda?

    Fatih Özatay, PhD26 April 2012 - Okunma Sayısı: 993


    The CBT started to tighten the monetary policy and prioritize anti-inflationary targets, which must be considered as steps in the right direction.

    By the time you are reading these lines, the Central Bank of Turkey (CBT) will have announced the second inflation report of the year. This report is of special importance given the current picture marked with high levels of CPI and a tight CBT monetary policy.

    Between the early 2010 and 19 October 2011, average short-term interbank market interest rate was 6.5 percent.  After that date, average market interest rate reached 10 percent. Therefore, the CBT decided to tighten monetary policy substantially. Monetary tightening was handled keeping the one-week repo rate, which the CBT calls the “policy rate”, constant at 5.75 percent. For this reason, I argued in my previous commentary that the one-week repo rate was no longer the actual policy rate of the CBT. The Bank has been using a different policy rate since November 29th. This rate is called the “funding cost” corresponding to the interest on CBT borrowing to banks. The average value of the rate since November 29th was 8.2 percent.

    The main objective of the recent attempt of monetary tightening seems to be fighting with inflation, which increased considerably in the recent period. We all know the driving forces behind the inflationary hike. First relates to the actions of the CBT as well as the fall in the international risk appetite. The policy that aimed to depreciate lira and that had been implemented over a prolonged period since the end of 2010 caused the exchange rate to increase. This movement intensified with the deepening of the European crisis. The second factor that pushed inflation has nothing to do with the CBT. Raises in the prices of certain public goods and services as well as the hike in international energy prices put an upwards pressure on consumer prices. 

    Cumulative inflation target for the period between the beginning of the explicit inflation targeting regime in 2006 and the end of 2011, was 37.1 percent. The level of cumulative inflation in the same period was realized at 63.8 percent, however. In other words, in the 2006-2011 period, Turkey diverged from the inflation target, with the realization standing 26.6 points above the target. This is not a negligible divergence. Compared to the majority of rival exporters, Turkey still is a high-inflation country and this damages its competiveness. Thus, the battle against inflation is not won yet.

    The potential threat on financial stability due to the rapid credit expansion in 2010 and the upwards pressure on lira caused by the short-term FX capital inflows forced the CBT to seek a new monetary policy as of October 2010. The framework focused on the aforesaid elements, which created the impression that fighting against inflation became a secondary objective. Due to the recent upwards trend in consumer prices, the CBT started to tighten the monetary policy and prioritize anti-inflationary targets, which must be considered as steps in the right direction.

    This commentary was published in Radikal daily on 26.04.2012