Turkey Hikes Interest Rates, Lira Plunges as Erdogan Reverses Disastrous Policies

Erdogan immediately fired every central bank governor who tried to raise interest rates over the past three years, but Erkan – a 44-year-old Princeton-trained former Wall Street executive, and the first female central bank governor in Turkey’s history – appears to have been recruited specifically to reverse Erdogan’s delusional policies and bring some peace of mind to nervous Turkish investors.

The 6.5 percent hike was just large enough to rattle the Turkish business sector by making it appear Erdogan had lost his nerve, but not large enough to affect inflation by much. The lira plunged 8.5 percent to a record low of 25.74 against the dollar on Friday before recovering a little in the afternoon.

“The transition appears to be more gradual than we had thought,” Goldman Sachs said delicately on Friday, speaking for many analysts who were expecting a much larger interest rate hike – something on the order of 20 percent, rather than the 15 percent Erkan delivered.

Central bank executives hinted more interest rate hikes are coming, while Turkish officials said it was necessary to proceed slowly to avoid chaos in the banking sector. The Central Bank of Turkey’s monetary policy committee said it intends to bring inflation down to five percent, which could require interest rates of 40 percent or higher.

University of Liverpool senior political lecturer Ozge Zhinioglu told the BBC that Erdogan clearly “has to do something for the economy,” but if he moves too quickly to embrace “orthodox economic policies” by sharply raising interest rates, the effects would “hit a large section of society, and he wouldn’t want to have that impact on local elections.” 

As Zhinioglu pointed out, it would be impossible to raise interest rates so dramatically without having a dramatic effect on Turkish households. During the presidential election, Erdogan’s leading opponent Kemal Kilicdaroglu blasted the incumbent president for creating an economy where working people run up huge balances on their low-interest credit cards just to buy fuel and food at inflationary prices.

People wait for a bus in front of a poster showing the portrait of Turkey’s President Recep Tayyip Erdogan on May 10, 2023, in Istanbul, Turkey. Erdogan has been in power for more than two decades — first as prime minister, than as president — but his popularity has recently taken a hit due to Turkey’s ongoing economic crisis. (Photo by Burak Kara/Getty Images)

On the other hand, emerging markets analyst Timothy Ash warned that if Erkan does not “front-load rate hikes” immediately, she might find herself “always playing catch-up with the market and waiting in the ante-room of the presidential palace to plead for rate hikes.”

The Financial Times reported Turkish investors were unimpressed by Erkan’s “baby step in the right direction,” and they are skeptical Erdogan will ever allow Erkan and Finance Minister Mehmet Simsek to do what really needs to be done.

In addition to raising interest rates, Simsek promised to move Turkey into a “free foreign currency regime,” which would mean lifting regulations that have made it difficult for Turkish firms and consumers to build foreign currency reserves.

JPMorgan warned that Turkey’s current trajectory, inflation will hit 50 percent by the end of 2023, exceeding its previous forecast of 45.5 percent.