Erdem Başçi: Recent economic and financial developments in Turkey
Speech by Mr Erdem Başçi, Governor of the Central Bank of the Republic of Turkey, at the
press conference for the presentation of the April 2015 Inflation Report, Istanbul, 30 April
2015.
* * *
Accompanying charts can be found at the end of the speech.
Distinguished Guests,
Welcome to the briefing held to convey the main messages of the Inflation Report of April
2015.
The report typically summarizes the economic outlook underlying monetary policy decisions,
shares our evaluations on macroeconomic developments and presents our medium-term
inflation forecasts, which were revised in view of the developments in the last quarter, along
with our monetary policy stance. In addition to the main text, the report includes eight boxes
entailing interesting and up-to-date analyses on various topics. The boxes present the effects
of the supply chain and fuel prices on fresh fruit and vegetable prices, the cost structure of
firms and cost-oriented inflationary pressures, and the reflection of parities and energy prices
on non-gold export and import prices. Moreover, there are studies elaborating on the
minimum wage and the distribution of wages, the flow dynamics of unemployment in Turkey,
the export decisions of firms, and Turkey's convergence experience. Titles of the boxes are
shown on the slide. All of these analyses shed light on noteworthy issues in the Turkish
economy. I strongly recommend that you read these boxes, which will soon be published on
our website.
I would like to commence my speech by reviewing the global economic outlook, given its
undeniable influence on our policies. The first quarter of 2015 was marked by the ongoing
turbulence in global financial markets, which was attributed to the continued divergence
among global monetary policies, the uncertainties over the normalization process and the
feeble economic activity. In this context, portfolio flows to emerging economies remained
weak and the volatility of exchange rates increased (Chart 1). Similarly, emerging market risk
premiums exhibited a fluctuating pattern (Chart 2). In this period, global economic activity
remained weak. Growth rates in emerging economies started to slow down following the fast
recovery after the global financial crisis, recording the lowest levels in the post-crisis period
as of 2014. Looking at advanced economies, the US economy continues to perform relatively
strong, while growth in the EU is still weak despite the limited recovery in economic activity in
the last quarter of 2014. Leading indicators regarding the first quarter of 2015 signal a limited
improvement in global economic activity. Moreover, the EU economy, which is crucial for the
external demand for Turkish exports, has shown signs of recovery.
Volatility across global markets had implications for the Turkish economy as well, causing
fluctuations in risk premium indicators and exchange rates. We believe that this period of
heightened global uncertainty poses several opportunities and challenges for the Turkish
economy. Falling commodity prices help to improve inflation and the external balance by
affecting input costs positively. Additionally, the increase in disposable income driven by
declining energy prices is likely to support growth. Low levels of long-term interest rates are
also contributing positively to the economy. In an environment of low global interest rates,
extending the maturities of external debt and supporting prudential borrowing will strengthen
financial stability. However, the weak global economy weighs on growth by restraining
exports. Moreover, the high volatility in the euro/dollar parity caused by the divergence
among monetary policies may have an adverse effect on the export outlook owing to
Turkey's external demand composition.
Our annual growth saw some deceleration in 2014. On the production side, the
supplyrelated contraction in the agricultural value-added was a factor in this slowdown. On the
expenditure side, net exports were the main contributor to growth. Thus, the current account
balance improved substantially in 2014. Data released for the first quarter of 2015 point to a
loss of pace in economic activity driven by both domestic and external demand. We expect
economic activity to display a moderate and gradual recovery following the sluggish first
quarter.
The positive effects of our cautious monetary policy stance and macroprudential measures
helped core inflation indicators improve further in the first quarter of the year. High food
inflation, however, was the key factor delaying the decline in consumer inflation. The inflation
outlook has somewhat deteriorated due to cost pressures, yet we believe that disinflation will
resume due to the cautious monetary policy stance and a likely correction in food prices.
1. Monetary policy and financial conditions
In the first quarter of 2015, the Central Bank of the Republic of Turkey (CBRT) implemented
measured cuts in interest rates and maintained its cautious monetary stance by employing a
tight liquidity policy (Chart 3). In view of the improved core inflation indicators, we lowered the
one-week repo auction rate from 8.25 percent to 7.75 percent in January and later to
7.5 percent in February. Moreover, we lowered overnight borrowing and lending rates by
50 basis points each in February. We kept rate cuts modest in January and February due to
the ongoing global uncertainty, volatile energy prices, rising domestic food prices and the
relatively high levels of inflation expectations. The CBRT average funding rate has been
slightly above 7.5 percent due to the recent liquidity policy implementation.
We stated that uncertainty in global markets and elevated food prices necessitated
implementing a cautious monetary stance. Thus, we emphasized that we would closely
monitor inflation expectations, pricing behavior and other factors that affect inflation and
maintain the cautious monetary policy stance until there is a significant improvement in the
inflation outlook. Given this outline, we kept our tight monetary stance (Chart 5). Thus, the
yield curve has remained nearly flat (Chart 6).
As you all know by now, we have taken several measures regarding foreign exchange
liquidity due to the recently heightened volatility in exchange rates. Starting from 27 February
2015, we set the amount of foreign exchange selling auctions more flexibly. On 10 April, we
announced that on days when deemed necessary the FX selling auction amount might be
increased by up to USD 30 million above the pre-announced minimum amount. Additionally,
on 10 March 2015, in order to meet the temporary foreign exchange liquidity needs of the
banking sector and to reduce the TL-denominated intermediation costs, we made some
technical adjustments to different tranches of the reserve option coefficients. Again, to this
end, we raised the remuneration rate for the required reserves maintained in Turkish lira by
50 basis points at the Monetary Policy Committee (MPC) meeting in April, effective as of the
8 May 2015 maintenance period.
Moreover, in order to lessen macro financial risks and to support prudential borrowing, we
raised the required reserve ratios applied to non-core FX short-term liabilities of banks and
financing companies to encourage banks to extend the maturities of external borrowing. In
addition, in view of global interest rate developments, we reduced the rates applied to banks'
one-week maturity FX borrowings from the CBRT on 9 March and 22 April 2015.
Accordingly, we lowered the one-week FX deposit interest rate, which was 7.5 percent for
USD and 6.5 percent for EUR before early March, to 4 percent for USD and 2 percent for
EUR as of 24 April.
As you can see on the slide, thanks to our tight monetary policy stance and macroprudential
measures, the loans provided to the nonfinancial sector continued on a moderate course in
the first quarter of 2015. Adjusted for exchange rate changes, loans provided to the
nonfinancial sector increased by 17.6 percent year-on-year and by 16 percent based on
annualized 13-week moving averages that cover the first quarter of 2015. Although annual
loan growth may increase slightly in the short term, due to the weak base from the past year,
we expect no acceleration for the underlying trend and loans will keep growing at a
reasonable pace given the modest course of financial conditions. A comparison of consumer
and commercial loans shows that commercial loans continue to grow more rapidly than
consumer loans. The annualized growth rate of commercial loans moved closer to the
2007-2014 average towards the end of the first quarter of 2015, whereas the annualized
growth rate of consumer loans remained below the 2007-2014 average (Charts 7 and 8).
The macroprudential policies in recent years have helped to bring the credit expansion rate
to sustainable levels and to direct the loan composition towards encouraging production
rather than consumption. In this sense, we see that the faster growth rate of commercial
loans contributes to both the rebalancing process and to financial stability.
2. Macroeconomic developments and main assumptions
Now, I will talk about the macroeconomic outlook and our assumptions on which our
forecasts are based. First, I will summarize the recent inflation developments, and then
continue with the domestic and foreign demand outlook.
In the first quarter of 2015, annual consumer inflation declined by about 0.6 points from
end2014 to 7.61 percent, overshooting the forecasts of the January Inflation Report (Charts 9
and 10). In this period, core inflation saw a major improvement but the elevated food inflation
curbed the fall in annual inflation. Food prices continued to follow an unfavorable course in
the first quarter and remained the highest contributor to annual inflation with 3.47 points.
After pulling inflation down notably in the fourth quarter of 2014, oil prices started to rise in
February, and consequently the positive impact of the energy on inflation has been
restrained.
The ongoing cautious monetary policy along with prudent fiscal and macroprudential policies
are having a favorable impact on inflation, especially inflation excluding energy and food
(core inflation indicators). Accordingly, in the first quarter the underlying trend of core inflation
indicators registered a significant quarter-on-quarter improvement (Chart 11). Due to
developments in food and oil prices and in TL-denominated import prices in the first quarter,
inflationary cost pressures gained some strength compared to the previous period. Yet, our
cautious monetary policy stance and the moderate course of domestic demand have
contributed to restrain these pressures. High food prices continued to pass through to prices
of catering services, bringing the annual food and catering services inflation that accounts for
about 30 percent of the consumption basket up to 14 percent as of March. In this period,
consumer inflation excluding food and catering services declined further to 4.82 percent
(Chart 12).
To sum up, despite the notable improvement in core inflation indicators during the first
quarter, rising food prices put a restraint on disinflation. In this period, oil prices and
TLdenominated import prices led to cost pressures on inflation. With accommodative weather
conditions and possible policy measures, food inflation may have ample room to decline. We
expect the measures that the Food Committee (the Food and Agricultural Products Markets
Monitoring and Evaluation Committee, founded in December 2014) might suggest will drive
food inflation down. Thus, with our ongoing cautious monetary stance and with an outlook of
food inflation receding to the average of previous years, consumer inflation is likely to slow
further in the second half of the year. Yet, food prices continue to constitute an upward risk
on the inflation outlook.
Now, I would like to give a brief account of developments in economic activity and the
shortterm outlook on which the inflation forecasts are based. According to the Gross Domestic
Product (GDP) data for the last quarter of 2014, economic activity was largely consistent with
the outlook presented in the January Inflation Report. In the last quarter, the GDP rose by
2.6 percent and 0.7 percent on an annual and quarterly basis, respectively. Real growth
stood at 2.9 percent in 2014 (Chart 13). An analysis of national income components on the
production side indicates that the contraction in agricultural value-added led by adverse
weather conditions lowered the growth rate of 2014. Data on the expenditures side reveal
that in the last quarter, final domestic demand rose owing to the increase in private
consumption demand as it did in the previous quarter (Chart 14). Across the year, net
exports stood out as the leading contributor to growth among the expenditure items.
Data regarding the first quarter of 2015 suggest a weak outlook in economic activity.
Industrial production remained unchanged in the January-February period compared to the
last quarter of 2014. Among March indicators, the Business Tendency Survey (BTS) and the
PMI data also signal that the weak production outlook may continue. External demand
remains weak due to slowing global economy and geopolitical tensions. Accordingly, we
expect that economic activity will follow a sluggish course in the first quarter of 2015 and then
settle into a gradual track of moderate recovery. Downside risks regarding external demand
persist due to geopolitical developments, while the signals for recovery in Europe suggest a
favorable outlook for exports. On the production side, growth may be boosted by agriculture
provided that accommodative climatic conditions increase agricultural added value alongside
the base effect caused by the decline in 2014.
We estimate that the rebalancing in the current account that started in 2011 will continue in
2015. The low levels in the international energy prices cause a notable decline in energy
imports and support the foreign trade balance (Chart 15). Moreover, our cautious monetary
policy stance and the macroprudential measures bring loan growth rates to plausible levels
and improve the loan composition in favor of commercial loans, thus contributing to the
rebalancing of the current account deficit. Accordingly, we see that the export/import
coverage ratio has been improving significantly (Chart 16).
As you all know, food, energy and import prices also play a great role in inflation forecasts.
Therefore, before moving on to forecasts, I will briefly talk about our assumptions regarding
these variables.
In the first quarter of 2015, oil and import prices remained above our projections, while import
prices in USD stood below the path projected in the previous Inflation Report (Chart 17).
Accordingly, we revised our assumption for average oil price upwards by 9 percent for 2015,
and 5 percent for 2016. Considering the possibility of a correction in food prices, especially
one that may stem from unprocessed food, we left the end-2015 food inflation forecast
unchanged at 9 percent.
Our medium-term projections are based on the assumption that tax adjustments and
administered prices are consistent with inflation targets and automatic pricing mechanisms.
The medium-term fiscal policy stance is based on the Medium Term Program projections
covering the 2015-2017 period. Accordingly, we assume that a cautious fiscal stance will be
implemented and the primary expenditures to the GDP ratio will decrease gradually.
3. Inflation and the monetary policy outlook
Now, I would like to present our inflation and output gap forecasts based on the outlook I
have described so far.
Our medium-term forecasts are based on a framework that a cautious monetary policy
stance will be maintained by keeping the yield curve flat until there is a significant
improvement in the inflation outlook. Moreover, we envisage that the annual loan growth rate
will continue to hover around the recent reasonable levels in 2015, also thanks to the
macroprudential measures. Accordingly, we expect inflation will be, with 70 percent
probability, between 5.6 percent and 8 percent (with a mid-point of 6.8 percent) at end-2015
and between 3.7 percent and 7.3 percent (with a mid-point of 5.5 percent) at end-2016. We
estimate that inflation will stabilize around 5 percent in the medium term (Chart 18).
In sum, we revised our end-2015 inflation forecast, which was presented as 5.5 percent in
the January Inflation Report, upwards by 1.3 points (Chart 18). This revision was led by the
higher-than-projected oil prices compared to the figures in the January Inflation Report
besides the import prices in TL. Accordingly, we estimate that the revision in oil prices and
the movements in import prices in TL will push the year-end inflation forecast upwards by
0.4 and 1 point, respectively. The downward revision in economic activity and the output gap,
on the other hand, lowered the end-2015 inflation forecast by 0.1 point. Moreover, we revised
the end-2016 inflation forecast, which was set as 5 percent in the previous report, upwards to
5.5 percent. We attribute 0.3 point of this revision to the lagged effects of the developments
in TL-deominated import prices and 0.2 point to the upward revision in oil prices for 2016.
In addition to these forecasts, we discuss alternative scenarios on the inflation outlook and
the global economy in the Risks section of the Inflation Report. You can examine the Report
for details.
While concluding my remarks, I would like to thank all my colleagues who contributed to the
Report, primarily those at the Research and Monetary Policy Department as well as the
members of the Monetary Policy Committee, and thank every one of you for your
participation.
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