Turkey in first rate hike for 3 years to boost lira

Istanbul: The Turkish central bank on Thursday announced a surprise hike in its main interest rate, the first in nearly three years as it battles to prop up the embattled lira.

The monetary policy committee of the bank said the one-week repurchasing rate was being lifted to 8.0 percent from 7.5 percent, the first rate hike by the bank since January 2014.

The hike initially prompted a rally in the value of the Turkish lira but it then lost ground after the European Parliament voted to freeze EU membership talks with Turkey.

The lira has lost over 10 percent in value against the dollar over the last month amid doubts over Turkey`s flagging growth and fears the drive by President Recep Tayyip Erdogan for a presidential system will create more instability.

The bank is nominally independent but its decision follows a number of high-level political meetings on the economy including talks at Erdogan`s palace late on Wednesday.

"The decision to begin the tightening cycle was clearly motivated by the fall in the lira," said William Jackson, senior emerging markets economist at Capital Economics in London.

He said the lira`s losses this month were the worst among any emerging market currency and even more severe than those of the Mexican peso which was battered in the wake of Donald Trump`s election in the US.The bank said exchange rate movements due to heightened global uncertainty and volatility pose "upside risks" to the inflation outlook. 

It said the rate hike was aimed at containing the "adverse impact of these developments on expectations and the pricing behaviour".

Inflation in October was 7.16 percent, still well off the bank`s target of five percent.

Prime Minister Binali Yildirim called the rate hike "hasty" but said the central bank made its own decision.

"God willing, it will be good," he told the state-run TRT television. 

"In principle we are not in favour of (an) increase in interest rates."

Erdogan has pressed for lower rates to boost growth, which some economists fear has slipped into negative territory in the third quarter due to an output slump after the July 15 failed coup.

He spooked markets on Wednesday with a new diatribe against the central bank, saying people`s rights should not be "wasted" by high interest rates. 

"They say, `the central bank is independent, it`s this, it`s that`. Okay let it be independent, but I am a politician," he said.The lira had been under pressure in the hours before the decision, which markets saw as a test of the central bank`s ability to resist political pressure for an expansionary monetary policy.

The lira reversed earlier losses to immediately recover on the rate hike news, at one point gaining 0.75 percent in value against the dollar on the day.

But underlining the currency`s vulnerability, investors were alarmed by the non-binding European Parliament vote to freeze membership talks and the lira lost ground again to hit new historic lows.

The lira has now lost 1.43 percent in value against the dollar on Thursday to trade at 3.44 lira to the greenback.

Inan Demir of Nomura said that Turkey`s high current account deficit, slow growth and political risks would continue to count against the lira despite the hike.

"We think these steps may slow the pace of depreciation, but will not be able to change the direction."

Ozgur Altug at BGC Partners in Istanbul said that the bank "provided the message that it can hike its interest rates when it is needed", adding that the move looked like a "one-off hike rather than a tightening cycle."

In other rate moves, the overnight borrowing rate remained intact at 7.25 percent but the overnight marginal funding rate was raised to 8.5 percent from 8.25 percent, the bank said on its website.

The last major rate hike by the central bank dates back to January 28 2014 when it held an emergency meeting in response to a plunge in the lira.

Then, it dramatically upped the one week repo rate to 10 percent from 4.5 percent and the overnight marginal funding rate to 12 percent from 7.75 percent.