Interest-Rate Obsession May Doom Turkey's Erdogan

Marc Champion writes editorials on international affairs. He was previously Istanbul bureau chief for the Wall Street Journal. He was also an editor at the Financial Times, the editor-in-chief of the Moscow Times and a correspondent for the Independent in Washington, the Balkans and Moscow. He is based in London.
Read More.
a | A

It is possible that Turkish Prime Minister Recep Tayyip Erdogan will be undone not by the corruption probe he is suppressing, but by his fixation on low interest rates.

For several years Erdogan has been pushing the idea that higher interest rates are inherently bad, and indeed -- contrary to conventional economic theory -- cause inflation. His view is that the central bank's job should be to target a real-terms interest rate of zero.

This belief has been inconvenient for central bank chief Erdem Basci, who has had to find workarounds to raise rates and tighten liquidity in the market without lowering the bank's policy rate. He has done that remarkably well, in part by creating a band around the weekly repurchase rate in which to maneuver. Over time, though, Erdogan has tied himself to his odd theory on interest rates ever more tightly, insisting that economists, bankers and journalists who disagree with him are part of a global conspiracy to slow Turkish growth and score profits off higher Turkish rates.

It's worth quoting some of his ideas. "As we lower the market rate, inflation will be lower," he said in January 2012. He said to the Tukson business that: "In effect, we have to zero the real interest rate, this should be our goal, this is what we should achieve," so as not to "make money from money."

Last year, the Gezi Park protests became part of the conspiracy too. Now, so is the corruption investigation launched against members of his government and family by a group of religious conservatives who are former allies. So is anyone who criticizes his purging of the judicial system and police force in order to suppress the probe.

Erdogan's obsession threatens to do real economic harm. The Turkish lira is continuing its long downward slide, having lost 21 percent of its value over the last year already. That must lead to inflationary pressures, because it takes a growing number of lira to buy the same dollar or euro-denominated imports. Turkey has a chronically high current account deficit (currently 7.2 percent of gross domestic product) because it is in part an assembly economy, importing raw materials and semi-finished goods in order to manufacture and export finished ones. So there is a large capacity in Turkey to transmit this inflationary effect through the economy.

Inflation surprised economists in December by ticking upward to 7.4 percent, at a time when global commodity prices are subdued. The normal thing for a central bank to do at this point would be to start easing the main policy rate up from the current 4.5 percent, heading off inflation by putting a floor under the currency.

Perhaps Basci will surprise with a hike next week, but it seems unlikely: Erdogan has tied himself so tightly to the mast of his interest lobby conspiracy that to raise the policy rate now would look like a political defeat. In the short term, higher rates would also risk pushing growth lower. Morgan Stanley this week cut its 2014 growth forecast for Turkey to 2.9 percent, from 3.9 percent, due to political turmoil surrounding the corruption charges, and Erdogan can't afford a further slowdown. He needs to shore up voter support ahead of local and presidential elections, and Turkey's swing voters move with the economy, as in most countries. At best, Basci will resort to more workarounds.

Turks may forgive corruption allegations if the government is also overseeing strong economic growth. They won't, however, forgive Erdogan if his obsession with zero real interest rates leads to rising prices sucking money from their pockets, and if the central bank's ensuing hard stop to rein in inflation costs them jobs.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
Marc Champion at