Turkey Credit

Morgan Stanley says the Turkish central bank will raise interest rates today, a move that could prove futile for bolstering the tumbling lira given risks the graft crisis embroiling the government will escalate.

Lenders including Morgan Stanley and Goldman Sachs Group Inc. expect the central bank in Ankara to increase its 7.75 percent overnight lending rate by at least 50 basis points, even as the median forecast among 14 analysts predicts no change. Governor Erdem Basci’s two other main rates, which together make up his three-tiered corridor, will be kept at existing levels, separate unanimous surveys show.

While Morgan Stanley economist Tevfik Aksoy sees policy being tightened, it may not be enough to protect the lira, which has plunged 9.5 percent since Dec. 16, a day before the police investigation into corruption ensnared Prime Minister Recep Tayyip Erdogan’s government. Two-year Turkish notes are the worst performing among 18 emerging markets tracked by Bloomberg in the period, with yield climbing 124 basis points.

“There is no guarantee that further complications on the political scene would not result in further weakness in the currency,” Aksoy, Morgan Stanley’s chief economist in London for central and eastern Europe, the Middle East and Africa, said in an e-mailed report on Jan. 17. This would “essentially cause the hike to be wasted,” he said.

Inflation Outlook

Basci said Dec. 24 that he’ll keep interest rates unchanged unless he sees a deterioration in inflation. A combination of liquidity tools and measures to limit growth in consumer loans will be employed before the bank makes any decision on rates, he said.

Price growth accelerated to 7.4 percent in December from 7.32 percent a month earlier, the state statistics office said on Jan. 3. Analysts in a Bloomberg survey predicted it would slow to 7.26 percent.

Inflation expectations for the next 24 months climbed to 6.5 percent, the highest level since December 2011, according to central bank survey of economists released Jan. 17. That’s up from 5.8 percent in May, the data show.

While Basci is “more inclined to keep rates on hold,” given the bank’s statements that policy is sufficiently tight he will go for a “controlled” increase of 50 basis points to prevent a worsening of the inflation outlook, according to Goldman Sachs analyst Ahmet Akarli in London.

Overshoot Risk

“It will not be easy for the monetary policy committee to deliver a rate hike,” Akarli said in an e-mailed note on Jan. 17. “However, a failure to respond to intensifying depreciation pressure on the lira can run the risk of an even larger and more persistent inflation overshoot.”

The lira slid as much as 0.8 percent to a record 2.2508 per dollar, before trading 0.3 percent weaker at 2.2388 as of 6:10 p.m. in Istanbul yesterday. The currency has lost about 17 percent since the Federal Reserve said May 22 it could start to scale back stimulus.

Technical indicators show the shorter-term bullish dollar-lira trend may begin to weaken, raising the prospect of a near-term lira appreciation or pause in its decline. The 14-day ADX study, a measure of strength of the prevailing trend, is now at 42. Readings above 40 indicate that the trend in place is at an extreme and may not be sustained. The daily moving average convergence-divergence, or MACD, which provides buy and sell signals, indicates that the short-term momentum behind the lira’s depreciation is diminishing.

Slowing Growth

Basci vowed in August to keep rates on hold last year as the economy recovered from its worst growth since the recession in 2009. The expansion will probably slow to 3.5 percent this year, from 3.85 percent in 2013, according to Bloomberg surveys of economists.

Growth remains a priority for Basci who will maintain rates so as not to dim Turkey’s outlook further, according to Nihan Ziya-Erdem, an economist at Turkiye Garanti Bankasi AS (GARAN) in Istanbul.

“The central bank clearly stated earlier that it won’t interfere in the foreign-exchange rates using interest rates,” Ziya-Erdem said. “The central bank will not hike rates if economic growth is expected to slow down.”

The yield on Turkey’s two-year lira notes rose 12 basis points, or 0.12 percentage points, to a two-week high of 10.16 percent yesterday. Credit-default swaps, contracts insuring the nation’s debt against non-payment, rose one basis point to 248, within one basis point of an 18-month high reached on Dec. 30.

Political Turmoil

Political “uncertainty” will probably weigh on private investment and consumer sentiment, which will eventually lead to a loss of momentum in economic growth, according to Morgan Stanley. (MS)

Foreign-investor holdings of Turkish debt dropped to $50.4 billion in the week ended Jan. 10, from $71.8 billion in the period ended May 10, according to central bank data.

There is “now a higher probability” for Basci to raise the overnight lending rate given “the very rapid weakening” in the lira, Morgan Stanley’s Aksoy said.

To contact the reporter on this story: Onur Ant in Ankara at oant@bloomberg.net

To contact the editors responsible for this story: Andrew J. Barden at barden@bloomberg.net; Daniel Tilles at dtilles@bloomberg.net

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