Turkey’s Post-Coup Chaos Slows Pace of Interest Rate Cuts

  • Analysts revised forecasts after Friday’s failed coup attempt
  • Central bank reduces overnight lending rate by 25 basis points

Turkey's Failed Coup Creates Lira Risk, Says Toprak

Turkey’s central bank slowed the pace of interest rate cuts on Tuesday after the failed coup attempt triggered a sell-off in the currency and sovereign debt.

The bank lowered its overnight lending rate by 25 basis points, short of the 50-basis-point cuts it delivered during the past three meetings, but matching the median estimate in a Bloomberg survey. The one-week repurchase and overnight borrowing rates were kept at 7.5 percent and 7.25 percent respectively, the bank said in a statement.

The Monetary Policy Committee led by Governor Murat Cetinkaya opted for a “measured and cautious step” due to volatility in financial markets, according to the statement. Citing heightened political risk after this weekend’s botched attempt by the military to overthrow the government, several economists scaled back their “cut” predictions, bringing the median estimate to 25 basis points from 50.

“It was a step that increased the central bank’s credibility because it was in line with market expectations,” said Bora Tamer Yilmaz, an economist at Ziraat Invest in Istanbul, who halved his prediction to a 25-basis-point reduction. “Now we have a new central bank expression: measured and cautious, which means 25 basis points.”

Confidence Shattered

The committee trimmed the measure -- the upper limit of a range used by the central bank -- by 50 basis points in each of the past three months amid a favorable global backdrop. Investor confidence was shattered Friday night when tanks rolled in Ankara and Istanbul, and while the local currency pared losses on Monday, bonds tumbled and the cost of insuring the country’s debt soared.

The central bank pledged on Sunday to provide unlimited liquidity to lenders, and said it would support the lira by removing the limits on foreign-currency deposits that commercial banks are allowed to use as collateral. Deputy Prime Minister Mehmet Simsek, a former Merrill Lynch banker, urged investors not to panic, saying Turkey’s economic foundations remained “solid.”

“Recently, domestic developments have led to fluctuations in financial markets,” the central bank said in Tuesday’s statement. “The committee assesses that the recent liquidity measures have alleviated the volatility in financial markets.”

The continuation of the rate-cut cycle -- even with the perceived political risks following the coup attempt -- shows the bank’s priority is growth, Ibrahim Aksoy, an investment strategist at HSBC Asset Management in Istanbul, said in an e-mail. The lira may come under renewed pressure if the current favorable global backdrop changes, he said.

Ratings Review

Although the coup failed, the attempt reflects the political challenges that Turkey faces, Moody’s Investors Service said on Monday. The credit rating company kept Turkey at investment grade, as did Fitch, but put it on review for possible downgrade to junk status, citing the takeover attempt’s potential impact on growth, policy making and Turkey’s ability to finance its external imbalances.

The lira weakened 0.1 percent to 2.9790 per dollar at 3:29 p.m. in Istanbul, bringing the decline since the close a day prior to the coup attempt to 3.4 percent. The benchmark Borsa Istanbul 100 Index dropped 7.1 percent on Monday, the most in three years, before rebounding 1.2 percent on Tuesday. Yields on 10-year government bonds have risen for two days.

More Cuts

The lira’s slump and Turkey’s rising risk premium may force policy makers to maintain rates for now, but their inclination to cut remains in place, according to HSBC economist Melis Metiner.

“We would expect the easing cycle to resume if and when the lira stabilizes,” Metiner said in an e-mailed note a day before the rates decision. Her original call was for a 50 basis-point cut to the overnight lending rate.

Tuesday’s cut took the bank’s so-called interest-rate corridor to its narrowest point since the system was introduced in 2010.

Clemens Grafe, a Moscow-based economist at Goldman Sachs, said before the rates decision that events over the weekend may have reminded the governor that an overly narrow rate corridor “restrains the bank’s policy space to shocks without resorting to emergency rate hikes.” Grafe, who had initially forecast a half-point reduction, said Monday that the bank might instead hold all rates.

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