Record core inflation shows challenge Turkey faces on interest rates

Turkey’s core inflation accelerated to the highest on record, underscoring the challenge economic authorities face in slowing inflation to levels that would enable cuts in interest rates.

The rate increased to 12.3 percent in December, the highest since January 2004, from 12.1 percent the previous month, the statistics agency in Ankara said on Wednesday. The lira dropped 0.1 percent to 3.7111 per dollar.

Turkish President Recep Tayyip Erdoğan, facing re-election in 2019, has criticised bankers for keeping interest rates high as he seeks to spur economic growth through measures including a state-sponsored loan guarantee scheme. Rates on loans charged by the nation’s banks have risen to as high as 20 percent in recent weeks.

Consumer price inflation slowed to 11.9 percent in December, matching a level reached in October, from 13 percent the previous month. The figure was in line with economists’ expectations. The increase in producer prices slowed to 15.5 percent from 17.3 percent.

However, the core inflation readout, which usually lags the headline figure, indicates that overall inflation may not slow as much and as quickly as the central bank and government expect.

“The continued rise in core inflation is a reflection of the central bank’s loose policy stance,” said Tim Ash, senior emerging markets strategist at BlueBay Asset Management in London.

Turkey core inflation

Rates of inflation are also eroding spending power in Turkey, meaning the population has less money to spend on luxury items or to secure loans to buy big-ticket items such as cars and housing.

Sales of motor vehicles fell 21 percent on an annual basis during November, according to the latest data published by the Automotive Manufacturers Association (OSD). Total sales of motor vehicles in the first 11 months of the year fell by 3 percent to 839,626 units.

Declines for the lira against all major currencies during 2017 have also hurt spending power and impacted inflation negatively.

The lira weakened on Dec. 14, when the bank raised interest rates for its late liquidity window by 0.5 percentage points to 12.75 percent, less than economists expected. The bank said it had left the door open to future rate hikes, saying its “tight monetary policy stance” would be maintained until the inflation outlook showed a “significant improvement.”

The consumer price inflation figure for December falls outside the central bank’s upper estimate of 10.3 percent for the year. Inflation is expected to gradually converge toward a target of 5 percent in the 2018-2020 period, the bank said in its monetary policy outlook for this year, published in early December.

The figures show there is still a “huge amount of work to do for the central bank given their 5 percent target,” Ash said.

Inflation in Turkey is more than triple the average in the G20 group of industrialised nations. The next highest inflation rate of 6.6 percent is in Mexico, followed by India with 4.9 percent. Brazil and Russia, which also compete with Turkey for investor capital, have rates of 2.7 percent and 2.5 percent, respectively.

As well as facing re-election next year, Erdoğan's ruling Justice and Development Party (AKP) will also fight parliamentary and local elections. Erdoğan is seeking a mandate from voters for full implementation of his presidential system of government, labelled by critics as a means for full authoritarian rule.

Economic performance up to the election will be key to Erdoğan's chances of success.

Economic growth, which has replaced inflation as the focus of the Erdoğan government since the financial crisis, slowed in the third quarter of the year despite the government injecting some 250 billion lira of capital into a credit guarantee scheme to help firms extend the maturity of their debts and free up capital for investment. The rate of expansion fell to a quarterly 1.2 percent in the three months to September from 2.2 percent in the second quarter.

Last week, the government announced an increase in the minimum wage of 14 percent for 2018 as it sought to protect low wage earners from the effects of inflation. Still, the revised net monthly salary of 1,603 lira is less than a third of the 5,238 lira that a family of four needs to spend per month on food, clothing, rent and other essential items, according to data provided by labour union TÜRK-İŞ.