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Turkey's central bank sharply raises interest rates. That could signal an economic turnaround

2023-06-22 19:26
The Turkish central bank has delivered a large interest rate increase, signaling a shift toward more conventional economic policies to counter sky-high inflation
Turkey's central bank sharply raises interest rates. That could signal an economic turnaround

ANKARA, Turkey (AP) — Turkey's central bank delivered a large interest rate hike Thursday, signaling a shift toward more conventional economic policies to counter sky-high inflation following criticism that President Recep Tayyip Erdogan’s approach has made a cost-of-living crisis worse.

The bank raised its key rate by 6.5 percentage points, boosting it to 15%.

The increase — a significant jump from the current 8.5% — is the first since March 2021 and comes after Erdogan appointed two internationally respected officials to head the bank and the finance ministry.

The rate hike is an indication that the country is moving away from Erdogan’s unorthodox belief that lowering interest rates fights inflation.

Traditional economic theory says just the opposite, and central banks around the world have rapidly raised rates to combat spikes in consumer prices — including several decisions across Europe on Thursday, ranging from the Bank of England to Switzerland.

Erdogan — a self-declared “enemy” of high borrowing costs — has said he would “accept” his new finance minister’s policies but also insisted that his views have not changed. That has led to questions about whether Turkey's central bank could act independently.

“We will take decisive steps in the fight against inflation," Erdogan said Wednesday. "We will increase our efforts to protect large sections of our people from the effects of inflation.”

Under pressure from Erdogan, the central bank cut its key interest rate from around 19% in 2021 to 8.5% earlier this year, despite soaring inflation that hit an eye-watering 85% last year. Inflation has eased to 39.5% last month, according to official figures, but independent research group ENAG says the true rate is 109%.

Economists say Erdogan’s unconventional belief has exacerbated economic turmoil, leading to currency and cost-of-living crises that have brought hardship to many households struggling to afford food, housing and other necessities. Erdogan says his economic model prioritizes growth, exports and employment.

Experts also say the central bank has depleted its foreign currency reserves as it tried to prop up the Turkish lira ahead of elections last month. The currency has lost around 21% of its value against the dollar since the start of the year.

Erdogan, who won a third term in a runoff election May 28, reappointed Mehmet Simsek to the helm of the economy. The former Merrill Lynch banker had previously served as Erdogan's finance minister and as a deputy prime minister until 2018.

Simsek said soon after his appointment that Turkey had no other option but to return to a “rational ground.”

In another sign of a move toward more pragmatic policies, Erdogan appointed Hafize Gaye Erkan this month as Turkey’s first female central bank governor. A former co-chief executive of the now-failed San Francisco-based First Republic Bank, Erkan replaced Sahap Kavcioglu, who oversaw a series of rate cuts.

Erdogan had fired three central bank governors who resisted pressure to cut interest rates before appointing Kavcioglu in 2021. Naci Agbal, who proceeded Kavcioglu, was removed from his post days after he raised rates.

Can Selcuki, director of the Turkiye Raporu polling agency and a former World Bank economist for Turkey, said questions remain about whether the newly appointed officials would be able to “stick to their preferred policy” as the country heads to local elections in March 2024.

“What needs to be done right now is some form of tightening, and that is an undesired process for any incumbent before elections,” he said.

On Tuesday, the government increased the minimum wage by 34% — a move that critics say is designed to ease the impact of inflation on households in the runup to next year’s vote.

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Wieting reported from Istanbul. AP videojournalist Mehmet Guzel contributed from Istanbul.