The slump in Indonesia’s rupiah this month following a 50 basis-point increase in interest rates highlights the risk for Turkey’s central bank should it fail to raise borrowing costs sufficiently to curb outflows.
Turkey’s central bank will boost the top rate of its three-pronged policy today by between 50 and 100 basis points, keeping the others unchanged, surveys of economists by Bloomberg show. Governor Erdem Basci needs to exercise boldness because an increase seen as too small risks fueling a selloff in lira assets while two-year yields are the third highest in emerging markets, according to Julian Rimmer at CF Global Trading U.K. Ltd.
“The bigger the hike the better,” Rimmer, a broker in London, said by e-mail yesterday. “Anything less than 100 basis points will smack of political bias or timidity.”
Turkey and Indonesia are facing pressure on their currencies as rising U.S. Treasury yields attract capital out of emerging markets, with the two countries using the inflows to fund their current-account deficits. The rupiah had the biggest decline this month among 24 emerging markets, while the lira gained. Both countries have the lowest investment-grade rating from Moody’s Investors Service and Fitch Ratings.
Bank Indonesia is confident the currency will stabilize after the changes, Deputy Governor Perry Warjiyo said in a mobile-phone text message on July 15. The rupiah weakened 1 percent since policy makers raised the reference rate July 11.
“The market doesn’t think 50 basis points is enough,” Kenneth Akintewe, a Singapore-based fund manager at Aberdeen Asset Management Plc (ADN), said by e-mail yesterday. “Many houses are calling for further rate hikes” even though Indonesia’s central bank is trying to signal that they are not necessary, he said.
Foreign investors need Turkey’s central bank to raise interest rates by at least 1 percentage point to restore a rally in the bond market and lira, according to JPMorgan Chase & Co. and Commerzbank AG analysts last week. Those investors sold $1.3 billion in stocks and bonds in the two weeks to July 12, and the central bank has sold $6.55 billion of foreign exchange defending the lira since June 11, leaving reserves at $103.4 billion, the lowest level since January.
“The central bank’s net reserves can finance only 10 months of external financing needs,” JPMorgan economist Yarkin Cebeci said in a report yesterday. “Higher domestic rates are required to attract much-needed portfolio inflows.”
The central bank will probably keep its overnight borrowing rate at 3.5 percent today and its one-week repo rate at 4.5 percent, according to Bloomberg surveys of economists.
Turkey’s current-account deficit will be 6.8 percent of gross domestic product this year, according to the median of 22 economist estimates on Bloomberg. That compares with a 2.1 percent gap for Indonesia, another survey showed.
While Indonesia’s deficit is smaller, “we expect it to be quite persistent this time round,” Enrico Tanuwidjaja, South Asia economist for Royal Bank of Scotland Group Plc in Singapore, said by e-mail yesterday. Like Turkey, Indonesia faces a choice between higher rates to stabilize the currency or lower rates to boost growth, and Indonesia’s central bank will go for growth, he said.
Indonesia’s economy will probably expand 6.05 percent this year, more than the 4 percent growth forecast for Turkey, according to Bloomberg surveys.
The lira was little changed at 1.9115 per dollar at 10:05 a.m. in Istanbul today. The currency weakened 3.6 percent since May 22, when Federal Reserve Chairman Ben S. Bernanke said he was considering scaling back the central bank’s $85 billion a month in bond purchases. The rupiah lost 4.3 percent in the period and Brazil’s real tumbled 8.6 percent, the biggest drop among emerging-market currencies. Brazil’s central bank raised its main interest rate by 50 basis points on July 11.
The extra yield investors demand to own Turkish dollar-denominated debt over Treasuries fell one basis point to 230 basis points yesterday, compared with 281 in Indonesia and 211 for Brazil.
The yield on two-year lira bonds rose three basis points, or 0.03 percentage point, to 8.91 percent, the highest among major emerging markets after Brazil and India. Indonesia’s yield at 7.16 percent ranked fourth.
“Turkey’s current-account deficit leaves it vulnerable in the event of a fresh deterioration in investor sentiment,” Neil Shearing, chief emerging-markets economist at Capital Economics in London, said in an e-mailed report yesterday. He predicted a 100 basis-point increase in the overnight lending rate today. “Changes thereafter will be determined by movements in the lira.”
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