Abstract
This Selected Issues paper on Turkey discusses the new monetary framework adopted by the Central Bank of Republic of Turkey (CBRT). Instead of relying on one interest rate as inflation-targeting, the CBRT resorted to raising it as inflation pressures intensify and lowering it as they abate. The first version of the framework does not seem to have achieved significant reduction in external and internal imbalances, but the second version of the framework has witnessed an unwinding of imbalances.
I. Turkey’s New Monetary Framework1
Since late 2010, the Central Bank of Republic of Turkey (CBRT) has been implementing the monetary policy in a manner that commentators and analysts have referred to as unorthodox or experimental. Instead of relying on one interest rate as inflation-targeting central banks usually do—raising it as inflation pressures intensify and lowering it as they abate—the CBRT, in face of strong capital inflows attracted by high nominal interest rates, resorted to utilizing a wide variety of instruments. The CBRT’s rationale is that achieving two objectives—price and financial stability—requires more than just an interest rate-based mechanism.
This note describes and assesses success of the new framework. While it is difficult to conduct proper empirical analysis, given a rather short time period under consideration, a preliminary view can be formed. The first version of the framework, in place until October 2011, does not seem to have achieved a timely or significant reduction in external and internal imbalances. The second version of the framework, currently in place, has witnessed an unwinding of imbalances, but causal links are not obvious and complexity of the framework may have introduced costly distortions.
A. Introduction
1. In the aftermath of the 2008–09 global financial crisis the Turkish authorities faced a challenging environment. From late 2010, strong capital inflows led the Turkish lira (TL) to appreciate, undermining competitiveness, fueling a credit boom, adding to inflationary pressures, and increasing imports. These developments left the economy exposed to the risk of a sudden capital flow reversal. Were the inflows to dry up—either in response to the Turkey’s imbalances or because of changes in the global risk appetite—the lira would have rapidly depreciated, adding to inflationary pressures (this time through the exchange-rate pass-through), affecting balance sheets of banks and corporates that had been borrowing in FX, and undermining overall confidence. Indeed, earlier examples of such reversals led to sharp contractions of output.2
2. The CBRT, operating as an inflation-targeting central bank since 2006, became increasingly vocal about financial stability3 in mid-2010. It pointed to rapid expansion of domestic credit and an increase in external borrowing by corporates and banks, with a significant share of it happening on a short-term basis. Together with real appreciation of the Turkish lira—significantly above what the CBRT considered to be consistent with the fundamentals and driven both by inflation differentials and nominal strengthening of the currency—this initiated a sharp widening of the current account deficit.
Constant Exchange Rate-Adjusted Total Credit Growth
(Percent change)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: Central Bank of Turkey.Constant Exchange Rate-Adjusted Total Credit Growth
(Percent change)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: Central Bank of Turkey.Constant Exchange Rate-Adjusted Total Credit Growth
(Percent change)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: Central Bank of Turkey.
Credit Growth and Current Account Deficit
(Percent of GDP)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Credit Growth and Current Account Deficit
(Percent of GDP)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Credit Growth and Current Account Deficit
(Percent of GDP)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
3. Reliance on a simple, interest-rate guided, framework to fight inflation proved in the CBRT’s view to be counter-productive: interest rates, hiked to combat demand-induced inflation, were attracting inflows and inducing inflationary pressures instead of suppressing them. Thus, the new framework was adopted with a view to deter excessive short-term capital inflows, while changing their composition from short-term to long-term and from debt to equity, and insulating domestic demand from excessive swings.
4. Although it is difficult to assess success of this framework given a short time-span of its implementation, this note allows forming a preliminary view by answering two sets of questions:
How successful has the CBRT’s new framework been from the point of view of inflation targeting? That is, do market participants perceive it as such? How has the new framework affected inflation expectations? Has the CBRT’s ability to affect market rates changed? Have the overall monetary conditions been as tight as needed?
In addition, has the framework helped the CBRT achieve its declared goals of reducing the current account deficit and reshaping the capital flows?
B. The New Framework
Instruments
5. The set of instruments the CBRT has been relying on includes:
(i) The interest rate corridor, delineated by overnight borrowing and lending rates, within which the CBRT varies price of liquidity it provides.
(ii) A set of repo facilities, through which liquidity is injected.
The main ones are quantity and price auctions available to open market operations participants. Currently, the quantity auctions are held on days deemed “ordinary,” and the price auctions on days deemed “extraordinary.” There is also a facility for primary dealer banks, in which liquidity is provided through a quantity auction, and a possibility for the CBRT to inject liquidity via a price auction, executed after regular daily auctions.
For the price auctions maturities are 1-week, 1-month and 3-month, while for the quantity auctions maturity is 1-week. The interest rate for the latter is set by the CBRT and, since May 2010, serves as the policy rate.
(iii) Reserve requirement (RR) ratios, which are differentiated by currency and, since January 2011, by maturity.
(iv) Since September 2011, the CBRT allows for a share of the RR on TL-denominated liabilities to be held in FX and gold. Currently, this share is 60 percent for FX and 30 percent for gold and varying multipliers, Reserve Option Coefficients (ROC), apply.4
(v) Finally, regular and irregular FX auctions, buying or selling. In rare circumstances, the CBRT resorts to direct interventions into the FX market.
6. The CBRT also guides markets’ expectations by announcing certain limits on liquidity flow and stock of liquidity that can be injected via different facilities.
Defining the CBRT effective rate
7. Although the CBRT has an official policy rate, the recent modifications to the framework have effectively reduced its relevance. That and a short period of its existence—since May 2010—make it necessary to establish a more consistent measure of the monetary policy, with a longer history, which herein is referred to as “the effective rate.”
8. The effective rate is defined as the weighted average of the interest rates at which the CBRT injects liquidity through its various facilities on any given day; and as the overnight borrowing rate otherwise.5 This series needs to be introduced because:
(i) Until 2008, the banking system had excess liquidity and the CBRT was withdrawing it;
(ii) Since 2008 and until May of 2010 the CBRT used only price auctions to inject liquidity;
(iii) In May 2010 the CBRT introduced the policy rate, at which it began to provide liquidity via quantity auctions;
(iv) Finally, since December 2011, the CBRT injects liquidity via both types of auctions.
CBRT Interest Rates
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT and IMF staff calculations.CBRT Interest Rates
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT and IMF staff calculations.CBRT Interest Rates
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT and IMF staff calculations.
Composition of CBRT’s Repo Auctions
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Composition of CBRT’s Repo Auctions
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Composition of CBRT’s Repo Auctions
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
9. Thus, in 2006–08 the effective rate is most of the time equal to the overnight borrowing rate; afterwards, whenever quantity auctions are the only liquidity-providing facility used, the effective rate matches the policy rate; and, finally, whenever a price auction takes place—whether by itself or alongside a quantity auction—the effective rate tends to rise above the policy rate as price auctions usually take place in the environment of increased demand for liquidity.
Different versions of the framework
10. Comparing the effective rate with the overnight interbank rate shows that the new framework has, in fact, been implemented in two rather distinct ways during two episodes: firstly, from October 2010 until approximately October 2011 and secondly, from October 2011 onwards.6 The former is the period that started with strong capital inflows and associated difficulties that forced the CBRT to adopt the new framework. The second episode started when inflows weakened and the CBRT faced difficulties stabilizing the exchange rate, prompting it to adjust the framework.
11. At first, the CBRT’s view was that of the overvalued exchange rate, and the new framework was supposed to bring about a correction via nominal depreciation. The CBRT argued7 that high nominal interest rates attracted capital inflows feeding into credit boom and that meanwhile elasticity of demand for credit to interest rates was too low to have any meaningful impact. Instead it had to rely on the RR ratios to combat excessive credit growth. Thus, during the first episode, the CBRT proceeded as follows:
It lowered the overnight borrowing rate, “opening down” the interest rate corridor and a few times adjusted downwards the policy rate;
It tightened the RR ratios and started to differentiate them by maturity, penalizing short-term liabilities;8
By varying the amount of liquidity it was providing via the quantity repo auctions, it generated a lot of volatility in the interbank rates;
Finally, the CBRT continued purchasing FX via regular daily auctions, thus injecting more lira liquidity. The pre-announced amounts were changing in line with perceived strength of capital inflows, increasing as the inflows strengthened and decreasing as they weakened.
12. The policy-induced uncertainty in the short-term market rates was a cornerstone of this strategy and the “interest rate corridor”—formed by the CBRT’s overnight borrowing and lending rates—came to serve as a signaling device. When the CBRT introduced the policy rate, the overnight interbank rates used to be kept close to it, and thus, it was indicating what a short-term investor was likely to earn. As the interest rate corridor was “opened down,” the volatility of the market rates was allowed to increase proportionally with it, even if on average they continued to remain close to the policy rate. Thus, now it was the floor of the corridor that came to indicate a guaranteed rate of return. This, it was hoped, would deter speculative inflows and reverse appreciation of the lira.
CBRT’s Effective Rate and Interbank Rate
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.CBRT’s Effective Rate and Interbank Rate
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.CBRT’s Effective Rate and Interbank Rate
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.
CBRT Policy Rates
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
CBRT Policy Rates
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
CBRT Policy Rates
(percent, compound)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
13. However, altogether these operations led to a significant increase in liquidity provision, which supported credit growth, and thus, turned to be counterproductive in containing the current account deficit or combating inflationary pressures. Eventually, expansion of liquidity led to rapid nominal depreciation, which intensified inflationary pressures and undermined confidence in lira.
14. In August of 2011, when global risk appetitive worsened and capital flows reversed, the CBRT stopped purchasing FX and switched to selling it. It also reduced the volumes of quantity auctions, eventually “opened up” the interest rate corridor, and introduced price auctions (the first one took place on December 29, 2011), which led to an increase in the effective rate. Meanwhile, the RR ratios were lowered and the CBRT left them unchanged from November (for TL) and December (for FX) of 2011 on. The CBRT also stopped its regular FX auctions—be it for purchase or sale—after, in addition to selling $12.7 billion via auctions, it had to intervene two times in 2011 and three times in early January 2012, selling an additional total of $3.4 billion.
15. Since January 5, 2012, the CBRT framework has been as follows: no direct FX operations; no changes in the RR ratios, but provision of incentives for the banks to hold their RRs on TL liabilities in FX and gold;9 and finally, varying daily the amount of liquidity provided via different facilities—one-week quantity and price auctions, and one-month price auctions—thus, varying daily the effective cost of funding.
16. This version of the framework gave the CBRT an ability to switch between tight and loose interest-rate environment on a daily basis, a flexibility it felt it needed given the uncertainties surrounding both the global and domestic real and financial conditions that the CBRT has been facing since the late 2011. Consequently, given the daily volatility in the cost of the CBRT liquidity, commercial banks started to incorporate the top of the interest rate corridor into their pricing decisions.
17. These operations led to two periods of tightened liquidity—at the end of 2011 and in April-July of 2012. Since then, the CBRT has lowered effective rates in what it seems to be an attempt to stimulate the economy. Additionally, in September it decreased the overnight lending rate by 150 basis points to send an additional signal that the effective rates are going to remain relatively low.
Cumulative Liquidity Injections Since Oct., 2010
(Billion of Turkish lira)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Cumulative Liquidity Injections Since Oct., 2010
(Billion of Turkish lira)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Cumulative Liquidity Injections Since Oct., 2010
(Billion of Turkish lira)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
C. Evaluating the New Framework
Market participants’ and analysts’ views about the framework
18. A frequent critique of the new framework is that it makes it difficult to judge objectives and priorities of the CBRT.10 Even though it formally remains an inflation-targeting central bank, many analysts put forward an alternative interpretation, especially when analyzing its strategy in 2012. This interpretation is that the CBRT loosens monetary stance as long as the capital inflows allow for the stable exchange rate. However, whenever the exchange rate comes under pressure, the CBRT tightens to prevent excessive depreciation of the currency, which would feed into inflation and may hurt balance sheets of the corporate that have a significant open FX position.11
19. Indeed, distribution of the effective rates shows that, in spite of elevated inflation, most of the time they are kept around 6 percent. The rates are sometimes hiked, but these periods tend to be short-lived (see below) and the hikes tend to be clustered, suggesting that the CBRT tries to lower the rates but is at times forced to reverse its actions. One also observes an increase in correlation between the lira-dollar exchange and the effective rate since late 2011.
Oct 2011-Sep 2012 CBRT Effective Rate Distribution % (h-axis) / observations (v-axis).
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Source: CBRT and IMF staff calculations.Oct 2011-Sep 2012 CBRT Effective Rate Distribution % (h-axis) / observations (v-axis).
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Source: CBRT and IMF staff calculations.Oct 2011-Sep 2012 CBRT Effective Rate Distribution % (h-axis) / observations (v-axis).
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Source: CBRT and IMF staff calculations.
TL/$(t-1) and Effective Rate (t) Correlation
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
TL/$(t-1) and Effective Rate (t) Correlation
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
TL/$(t-1) and Effective Rate (t) Correlation
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Inflationary expectations
20. Given that the markets may have doubts in the CBRT’s commitment to the inflation target, it would not be surprising for inflation expectations12 to reflect this. Indeed, as the charts below show, until the new framework, inflationary expectations were well approximated by an average of the target inflation and the latest available observation. However, this link broke down at the inception of the new framework and since then, expectations have been broadly flat, affected neither by the very low (in fact, the lowest in 40 years) inflation in April 2011, nor by the very high inflation a year later.
21. This suggests that participants of the surveys, having difficulties interpreting the CBRT’s action, are “rationally inattentive” and report the numbers around the top part of the inflation target band. OECD’s 2012 Economic Survey similarly finds a diminishing role of inflation targets and increasing role of a constant in explaining inflationary expectations.
Inflation Expectations
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.Inflation Expectations
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.Inflation Expectations
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.
Headline and Core Inflation
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Headline and Core Inflation
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Headline and Core Inflation
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
22. An alternative interpretation is that expectations have become well-anchored. However, that would be reflected in behavior of the core-inflation measures as well. Instead, one observes that as the new framework was adopted, they bottomed out and started to steadily increase until peaking in spring 2012.
Affecting market rates
23. The operations of a central bank are effective as long as it can in time and to a needed extent affect market rates. Thus, it is important to examine if the link between the effective rate and the interbank rate has changed.
24. As illustrated in the charts earlier, until introduction of the new framework this link used to be very tight. This spread has intentionally become very volatile when the CBRT introduced the new framework, yet on average it remained close to zero. As the framework changed in late 2011, so did the behavior of the spread: on average it increased and so did its volatility and persistence.
| Average | St. Dev. | Auto-correlation | Maximum | Minimum | Observations | |
|---|---|---|---|---|---|---|
| Oct. 1, 2010- Oct. 14, 2011 | 0.14 | 1.22 | 0.28 | 1.93 | −4.07 | 261 |
| Oct. 17, 2011 -Sep. 28, 2012 | 1.49 | 2.00 | 0.68 | 5.35 | −2.64 | 242 |
| Average | St. Dev. | Auto-correlation | Maximum | Minimum | Observations | |
|---|---|---|---|---|---|---|
| Oct. 1, 2010- Oct. 14, 2011 | 0.14 | 1.22 | 0.28 | 1.93 | −4.07 | 261 |
| Oct. 17, 2011 -Sep. 28, 2012 | 1.49 | 2.00 | 0.68 | 5.35 | −2.64 | 242 |
25. Examining the behavior of the spreads suggests that the behavior of the spread is linked to the strength of capital inflows, which manifest itself in the level and volatility of the nominal exchange rate: when the exchange rate is stable, the spread declines; but with volatile or appreciated exchange rate and low effective rates, the spreads widen, suggesting that markets expect the exchange rate to depreciate and/or the effective rates to tighten.
ISE/CBRT Spread against TL/$ exchange rate
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT and IMF staff calculations.ISE/CBRT Spread against TL/$ exchange rate
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT and IMF staff calculations.ISE/CBRT Spread against TL/$ exchange rate
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT and IMF staff calculations.
ISE/CBRT Spread against TL/$ exchange rate volatility index
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
ISE/CBRT Spread against TL/$ exchange rate volatility index
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
ISE/CBRT Spread against TL/$ exchange rate volatility index
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
26. As argued earlier, in response to weak capital inflows, the CBRT tends to increase the effective rates, and in these circumstances, the spread declines again: with the effective rates high and the market rates bounded from above by the top of the interest rate corridor, the spread is being “squeezed from below.”
Has monetary policy been sufficiently tight?
27. Whatever an operational framework may be, it should result in tightening or loosening of monetary conditions as required by the macroeconomic environment. To assess the appropriateness of the monetary policy stance of the CBRT, the Taylor-rule framework can be used.
28. Traditionally, Taylor rules are estimated as a reaction function, so that the responses to inflation and output gap can be evaluated. Alternatively, Taylor rules are used as benchmarks, against which the actual rates are judged. Both of these exercises are near impossible to do given frequent structural breaks in the way the monetary policy has been conducted and absence of consensus on what the appropriate coefficients should be for a Taylor rule in a country like Turkey. However, the most commonly known Taylor rule—with a response of 0.5 to both inflation and output gaps and real interest rate target of 2 percent, and corrected for Turkey’s time-varying inflation target—can be used to form a view.
29. Comparing this Taylor rule with the actual rates shows that in 2006–08 the latter were, in fact, tighter than what the Taylor rule prescribes and yet, despite this “excess” tightening, both inflation and output gaps were persistently positive. This observation suggests that this particular specification of the Taylor rule is not “tight” enough for Turkey. Observing that in 2010–11 the actual rates were looser—on average by some 350 basis points—than what the Taylor rule suggests, allows to conclude that under the new framework, the monetary policy stance was too loose.
30. An important caveat is that even though the CBRT’s effective rates were not tight enough, the interbank rates were less so, since, as discussed earlier, the operational framework introduced a non-zero spread between the two.
31. One should also note that the specification of the rule discussed herein is that of a closed economy, while in an open economy like Turkey’s, a real exchange rate gap is an additional source of monetary tightening or loosening. Since, according to the staff estimates, the real exchange rate has been some 10–20 percent overvalued in 2010–11, the need for the interest rate tightening was probably not as high as the Taylor rule suggests.
Taylor-Rule Implied and Actual Interest Rates 1/
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ The shaded areas cover the 2008 global financial crisis, when using Taylor rules to judge the monetary policy stance would be inappropriateSources: CBRT; and IMF staff calculations.Taylor-Rule Implied and Actual Interest Rates 1/
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ The shaded areas cover the 2008 global financial crisis, when using Taylor rules to judge the monetary policy stance would be inappropriateSources: CBRT; and IMF staff calculations.Taylor-Rule Implied and Actual Interest Rates 1/
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ The shaded areas cover the 2008 global financial crisis, when using Taylor rules to judge the monetary policy stance would be inappropriateSources: CBRT; and IMF staff calculations.
Inflation and Output Gaps 1/
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Inflation and Output Gaps 1/
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Inflation and Output Gaps 1/
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
What impact did CBRT policies have on external imbalances?
32. In order to evaluate the impact of CBRT policies in reducing external imbalances one needs to examine the variables it has been trying to influence:
The real exchange rate, which in late 2010 was seen as overvalued, and now is seen by the CBRT as in line with the fundamentals;
CPI inflation, headline and core, which is the ultimate objective of the CBRT;
Current account deficit and structure of its financing;
The level of reserves, though not a direct objective of the CBRT but an important buffer in an economy exposed to volatile capital inflows.
33. Looking at these variables (Figure 2), one would arrive at a conclusion that in 2011, the framework did not deliver the desired outcomes: even though the currency depreciated in nominal terms and there were improvements the current account deficit and its financing on a monthly basis, in terms of the rolling12-month sums, the current account deficit continued to widen and inflows of debt in general and short-term debt in particular continued to increase as well. Meanwhile, inflation accelerated from the lowest in 40-years level (April of 2011) to the levels way above the CBRT’s target, “eating up” a significant share of the real depreciation gains. An attempt to defend the currency succeeded in reversing the trend, but also led to a significant loss of reserves before needed tightening was put in place.
CBRT's New Framework
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Source: CBRT and IMF staff calculations.CBRT's New Framework
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Source: CBRT and IMF staff calculations.CBRT's New Framework
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Source: CBRT and IMF staff calculations.
Turkey: How Successful was the CBRT? 1/
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ The vertical line separates two different modifictaions of the framework.Source: Turkstat, CBRT, and IMF staff calculations.Turkey: How Successful was the CBRT? 1/
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ The vertical line separates two different modifictaions of the framework.Source: Turkstat, CBRT, and IMF staff calculations.Turkey: How Successful was the CBRT? 1/
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ The vertical line separates two different modifictaions of the framework.Source: Turkstat, CBRT, and IMF staff calculations.34. The framework adopted in 2012 still needs to be tested. The current account deficit reversed and the debt flows started to decrease while this version of the framework was in place. However, one should take into account that unwinding of external imbalances has been accompanied by a sharp deceleration of the domestic demand, which means that were domestic demand to bounce back, the correction of imbalances may revert. Among the factors that may have contributed to deceleration was the interest rate tightening itself, rather than the way in which the CBRT has delivered this tightening. Finally, in the last few months there was some reversal in improvements of the financing of the current account deficit.
D. Was There an Alternative?
35. The main motivating factor behind the CBRT’s switch to the new framework was its perceived inability to deal with capital inflows. But was this perception well founded?
36. The charts below show that indeed in 2010–12 tightening of the interbank interest rates was associated with widening of the current account deficit, supporting the CBRT’s desire to move away from the traditional framework. However, an analogous chart for 2006–08 demonstrates the opposite: tighter real rates led to smaller current account deficit.
Current Account and Real Interest Rates in 2006-8
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.Current Account and Real Interest Rates in 2006-8
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.Current Account and Real Interest Rates in 2006-8
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculations.
Current Account and Real Interest Rates in 2010-12
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Current Account and Real Interest Rates in 2010-12
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Current Account and Real Interest Rates in 2010-12
(percent)
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
37. What could have led to such a change? Could it be that the Turkish economy has become more attractive for carry-trade flows? While a lot of other factors (such as improved fundamentals, exchange rate expectations, etc) could be at play, from the point of view of an interest-rate differential only, Turkey was, in fact, much more attractive in 2006–8 than in 2010–11 as it can be seen, from a comparison of Turkish interbank rates with policy rates in advanced countries and money market rates in selected emerging economies.13
Interest Rate Carry
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ U.S., U.K., Euro area, Japan.2/ Brazil, Korea, India, Poland.Sources: CBRT; Haver; IFS; and IMF staff calculations.Interest Rate Carry
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ U.S., U.K., Euro area, Japan.2/ Brazil, Korea, India, Poland.Sources: CBRT; Haver; IFS; and IMF staff calculations.Interest Rate Carry
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
1/ U.S., U.K., Euro area, Japan.2/ Brazil, Korea, India, Poland.Sources: CBRT; Haver; IFS; and IMF staff calculations.
Real Interbank Interest Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Real Interbank Interest Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Real Interbank Interest Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
38. While it difficult to link this turnaround in the relationship between the real interest rates and the current account to just one factor, there is one obvious change between these two periods, which is the average level of interest rates. Comparing real interbank rates—whether ex post (8.5 percent against -0.3) or ex ante (11 percent against 0.7)—one sees a dramatic loosening. Consequently, a question arises whether monetary tightening at such low rates means much, especially when memories of much higher interest rates are not in a very distant past.
| Interbank | Corporates | Consumers | ||||||
|---|---|---|---|---|---|---|---|---|
| Nominal | Real | Nominal | Real | Spread | Nominal | Real | Spread | |
| 2006–08 | 17.8 | 8.5 | 23.9 | 14.6 | 6.1 | 21.7 | 12.5 | 4.0 |
| 2010–11 | 7.2 | −0.3 | 12.1 | 4.6 | 5.0 | 19.1 | 11.6 | 11.9 |
| Difference | 10.6 | 8.9 | 11.8 | 10.0 | 1.2 | 2.6 | 0.9 | −8.0 |
| Interbank | Corporates | Consumers | ||||||
|---|---|---|---|---|---|---|---|---|
| Nominal | Real | Nominal | Real | Spread | Nominal | Real | Spread | |
| 2006–08 | 17.8 | 8.5 | 23.9 | 14.6 | 6.1 | 21.7 | 12.5 | 4.0 |
| 2010–11 | 7.2 | −0.3 | 12.1 | 4.6 | 5.0 | 19.1 | 11.6 | 11.9 |
| Difference | 10.6 | 8.9 | 11.8 | 10.0 | 1.2 | 2.6 | 0.9 | −8.0 |
39. It is also interesting to observe how the change in the environment affected various lending rates. In particular, while there is a lot of variability, a comparison of these two periods shows that on average lending rates for corporates have decreased by roughly the same amount as the interbank rates (by 1 percentage point more, in fact), but that consumer rates have declined by much less, and instead the spread against the interbank rates for the latter has substantially increased.14
Nominal Lending Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculstions.Nominal Lending Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculstions.Nominal Lending Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Sources: CBRT; and IMF staff calculstions.
Real Lending Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Real Lending Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Real Lending Rates
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Lending-Interbank Rate Spreads
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Lending-Interbank Rate Spreads
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
Lending-Interbank Rate Spreads
Citation: IMF Staff Country Reports 2012, 339; 10.5089/9781475586572.002.A001
E. Conclusions
40. Despite the short duration of the CBRT’s new framework, which complicates its assessment, its track record is mixed. Its first incarnation, covering the October 2010–October 2011 period, did not lead to a timely or significant improvement in either external or internal imbalances. With the adoption of a revised framework in 2012, improvements have been seen on both fronts. However, it is difficult to disentangle whether these improvements have been brought about by the mechanics of the new framework or by tightening of monetary conditions per se in combination with other factors.
41. It remains to be seen how well the current framework will perform in more testing conditions. In particular, in the case of renewed inflows into Turkey—either because of improvements in the global environment or because of Turkey being seen as an attractive destination—would current account deficit continue to shrink and would its financing structure continue to improve? Likewise, in the case of weak inflows or even outflows, would the pressure on exchange rate lead to sizeable depreciation and potentially a loss of reserves? Under both of the scenarios, the ability of the CBRT to achieve inflation target is likely to be weakened, either because of demand-induced pressures in the first case or because of exchange rate pass-through in the second.
42. Ultimately the success of a monetary policy framework is tied to its ability to achieve the inflation target. Today, even though the headline inflation has started to decrease, the core measures and inflationary expectations remain around 7 percent. In spite of an increase in the CBRT’s gross reserves, net reserves remain low. Meanwhile, the framework leaves an impression that the CBRT may have growth and exchange rate stability higher on its list of priorities than inflation. The latter, instead of deterring speculative flows, may, in fact, attract them. Finally, transmission to the market rates seems to have weakened. Subsequently, the CBRT’s abilities to guide economy-wide interest rates in a quick and meaningful manner may be undermined.
Prepared by Robert Tchaidze (EUR).
In 2001 seasonally-adjusted GDP fell by 11 percent from peak to trough and in 2009 by 13 percent.
Article 4, part I of the Law on the Central Bank of The Republic of Turkey states that “The fundamental duties of the Bank shall be … to take precautions for enhancing the stability in the financial system and to take regulatory measures with respect to money and foreign exchange markets.”
For FX, ROCs are 1.4 for 0–40 percent; 1.7, 2.0, 2.2, and 2.3 for increments of 5 percentage points until 60 percent. For gold, ROCs are 1 for 0–20 percent, 1.5 for 20–25 percent, and 2.0 for 25–30 percent.
The calculations are done on a daily basis, using compound rates.
For simplicity, October 17, 2011 is taken as the starting point of the second episode, although in reality there was a transition period of about three months.
See, for instance, http://www.tcmb.gov.tr/yeni/iletisimgm/Basci_Tek_Eng.pdf
By June 2011, the RRs on short-term TL liabilities were increased to 16 percent from 5 percent in October 2010.
This allows for the CBRT’s gross FX reserves to increase, even if the net reserves stay unchanged. As of August 17, 2012 at least 50 percent of these “converted” RRs should be held in the US dollars.
A number of announcements, coming from the CBRT under the new framework, has roughly doubled, also making interpretation of its actions difficult.
These are quotes from the market commentaries that suggest such an interpretation: “[T]he impulse response function of OMO suggests that the CBT tightens liquidity conditions in response to a depreciation of the lira. The rise in the CBT’s funding rate, in turn, supports the currency, with its maximum impact taking place within 10 days” (Citi); “[There is a] very close link between the monetary policy stance and availability of external financing. Unless the latter is sufficiently ample, monetary policy cannot ease much, no matter how desirable it may be, lest the lira weakens and complicates the inflation outlook and ruins corporate sector balance sheets” (Global Source Partners).
The CBRT conducts surveys twice a month. In these surveys it asks participants about their expectations of inflation 12-months ahead. These surveys are conducted on the 15th and the last day of each month and thus, the participants can take into account the actual inflation realization for the previous month, which is released in the first week of each month. The numbers used in this note are averages of two monthly surveys.
It is also interesting to observe that while from mid-2010 till late 2011 the CBRT managed to maintain market interest rates at levels comparable to other emerging markets, afterwards that proved to be insufficient and the interbank rates had to go up above those in other emerging countries.
Since 2009 the consumers no longer have access to FX lending, while corporate still do, which is likely to explain such a divergence in behavior of the spreads.
