The Turkish central bank has almost doubled its key interest rates in the fight against high inflation. The decision is a reversal of the previous monetary policy – and is likely to be related to the new head of the central bank.
Under new leadership, the Turkish central bank is making a major change of course in monetary policy due to persistently high inflation and currency turbulence. The central bank, led by its new boss Hafize Gaye Erkan, announced that the key interest rate would be raised from 8.5 to 15.0 percent. On average, however, economists had expected an even greater increase and forecast a key interest rate of 20 percent.
The central bank also announced further interest rate hikes. In February, she lowered the key interest rate by 0.50 points, citing the severe earthquake in the south-east of the country as the reason for her decision.
Reversal of controversial monetary policy
Despite the very high inflation, President Recep Tayyip Erdogan had repeatedly advocated interest rate cuts and put heavy pressure on the central bank. Contrary to prevailing economic theories, he believed that high interest rates encourage inflation.
The monetary authorities have lowered their key interest rate from 19 percent in 2021 to as low as 8.5 percent – even though the inflation rate had reached a 24-year high of 85.5 percent last October. Western central banks such as the US Federal Reserve and the European Central Bank (ECB), on the other hand, fight inflation with higher interest rates.
After his re-election a few weeks ago, Erdogan signaled a change in his controversial monetary and financial policy. His newly appointed Finance Minister Mehmet Simsek will take swift steps with the central bank, Erdogan recently said: “Following our finance minister’s considerations, we have accepted that he will take swift action in consultation with the central bank.”
New Fed Chair with a strict interest rate policy
Erdogan has described himself as an “interest enemy”. After his re-election, however, he heralded the transition to a stricter interest rate policy with Simsek and the new head of the central bank, Erkan, who was trained in the USA. Erdogan said he was determined to push inflation down to single digits from the current 40 percent level. However, he will stick to his policy of “low inflation and low interest rates”.
The current interest rate policy has triggered a currency crisis. The national currency, the lira, lost 44 percent in value in 2021 and another 30 percent in 2022. This exacerbates the inflation problem because the country, which is poor in raw materials, purchases many goods from abroad and has to pay for them in foreign currency. The authorities have therefore tapped into the central bank’s reserves to stabilize the currency. Still, the lira has already fallen about 20 percent this year.