Turkish central bank wins respect for offbeat policy

As the CBRT gears up for its next policy-setting meeting, its success or failure could sway the monetary policy approach of central banks in other fast-growing emerging markets which face similar challenges.

Turkish central bank wins respect for offbeat policy

World Bulletin/News Desk

When Turkey's central bank cut interest rates last month, its decision aroused a mixture of approval, criticism and sheer confusion about exactly what the decision aimed to achieve.

Some economists suggested the bank was trying to ease pressure for the lira currency to strengthen; others that it was worried about slow economic growth. Some argued it should have raised rates, not cut them. Economy Minister Zafer Caglayan complained the cuts were months too late.

The controversy was par for the course under the bank's iconoclastic governor Erdem Basci, who over the past 2-1/2 years has given Turkey one of the most complex monetary policy mixes of any major economy.

The Turkish central bank (CBRT) has been criticised for being soft on inflation, for failing to curb excessive loan growth at Turkish commercial banks - and for being baffling.

"Inflation is declining, but the merits of the CBRT's policy framework have not been fully established," the International Monetary Fund grumbled in an annual report last September.

It said different parts of the Turkish economy were interpreting central bank policy differently, and urged the bank to "avoid the impression that objectives and tools are at times in conflict".

However, the bank has won growing respect from financial markets and mainstream economists.

As central bankers in sickly developed economies replace inflation-busting efforts with money-printing, Basci has the complex task of ensuring that the cheap funds flooding into Turkey find productive use and do not simply pump up prices or make banks indiscriminate in their lending.

He can claim that while Turkish bond and equity prices are at record highs, the lira, whose wild swings destabilised the economy in years past, has been steady against the U.S. dollar since early 2012.

In January, the London-based magazine The Banker recognised Basci as "Central Bank Governor of the Year", saying the CBRT "had moved ahead of other emerging markets" in designing steps to cope with volatile international capital flows.

As the CBRT gears up for its next policy-setting meeting this Thursday, its success or failure could sway the monetary policy approach of central banks in other fast-growing emerging markets which face similar challenges.


Turkish policy is largely the brainchild of Basci, a 46-year-old former academic who taught in Turkey and Britain before becoming CBRT deputy governor in 2003. In April 2011 Turkey's president appointed him to a five-year term as governor.

Instead of hiking interest rates to fight high inflation, as orthodoxy might suggest, the monetary policy committee chaired by Basci has kept rates low to support economic growth during successive crises elsewhere. By preventing appreciation of the lira, this has helped to fuel Turkey's export boom.

To deter destabilising flows of speculative money into Turkey, Basci created a wide "corridor" between the rates at which the CBRT can borrow and lend in the overnight money market, and manipulated funding costs inside the corridor.

He tried to rein in commercial bank lending growth and limit inflationary pressure not with traditional interest rate rises, which would have invited in more money, but by hiking the reserves which banks must store at the central bank. A refinement of the system allows some of the reserves to be held in foreign exchange and gold, adding to the complexity.

Basci's policy is a radical response to the boom-bust cycles that plagued Turkey in past decades. It has removed some of the traditional certainties of central banking, such as the idea that a rise of inflation should be met by higher interest rates - one reason the policy has proved so controversial.

Some analysts detect another factor behind the criticism of Basci: the political and social changes that Turkey has undergone over the past decade under the rule of the AK Party which, to the dismay of secular Turks, has relaxed the state's control over the expression of religion.

Basci's wife wears an Islamic headscarf, and many Turks believe this was a reason why the country's then-president, the staunchly secular Ahmet Necdet Sezer, vetoed him as CBRT governor in 2006.

"Scepticism over Basci had to do a lot with social and sociological sensitivities," said Osman Cevdet Akcay, chief economist at Yapi Kredi Research in Istanbul, who describes Basci as a "borderline genius". "The financial community did not give him the benefit of doubt when he took office."

The soft-spoken, politically adept Basci has avoided getting into slanging matches with his critics, but he has defended his policy on the grounds that ensuring stability of the financial system has become a priority in an uncertain global environment.

"Nowadays, since we have fiscal prudence in Turkey, we are focused more on financial stability and how to minimise the side-effects of extremely volatile international capital flows," he told CNBC television in February.


Many economists feel the jury is still out on Turkey's policy experiment, and may remain so for several more years.

While Turkey has ridden out the global crisis more comfortably than most big economies, that is at least partly due factors such as its young and fast-growing population and its conservative regulation of banks, which is handled by another government body.

Economic growth slowed sharply to 2.2 percent last year, but bank lending growth has stayed uncomfortably high, at around 19 percent against the CBRT's medium-term target of 15 percent. Inflation has not entirely been tamed; it was 6.13 percent in April, above the year-end target of 5 percent.

"The basic problem with Turkish monetary policy is that it bites off more than it can chew," said Emre Deliveli, an economist and columnist who has worked at the CBRT as well as international institutions such as the World Bank.

Deliveli said it would have been better for Turkey to have made more use of fiscal policy to support growth and rein in demand when necessary.

Such a complicated monetary policy can create risks, he said; for example, letting banks count more of their foreign exchange holdings toward reserve requirements fuelled a jump in short-term external borrowing by banks.

This borrowing climbed to $62.5 billion in February from $45.3 billion at the end of 2011, central bank data shows. That is not a problem now, Deliveli said, but could become one if, for example, the lira lost its stability and fell sharply.

Akcay said that while Basci's approach had been successful, like any good policy it could run into difficulties when certain thresholds were hit. For example, although keeping a slightly undervalued lira and killing volatility in the currency might both be desirable, achieving them simultaneously may draw excessive capital inflows - a result Turkey is trying to avoid.

He said Basci's policy was still proving hard to swallow for Turkey's urban, predominantly secular financial sector, where political support for the AK Party was at best around 10 percent, far below the level in the country as a whole.

"Governor Basci had to prove himself worthy of the task though his qualifications clearly made him an excellent choice, and there are less doubters now than there were in the past - that probably is as good as it gets," Akcay said.

Last Mod: 15 Mayıs 2013, 17:39
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