has continued to be an indicator for money markets. based on the information currently available, the level of the liquidity in the market in 2007 ( i ) the increase in base money, ( ii ) coupon and principal redemption by the treasury to the central bank, ( iii ) treasury ’ s foreign exchange debt payments financed by its domestic currency borrowing will have a lowering effect, while ( i ) the central bank ’ s net foreign exchange purchases, ( ii ) interest payments to be made by the central bank for reserve requirements and for excess liquidity absorbing transactions, ( iii ) the decline in treasury cash accounts with the central bank will have an increasing effect on liquidity. based on the assumption that the foreign exchange payments of the treasury would exceed the foreign exchange inflow, and by taking the central bank fx buying auction program into consideration, the excess liquidity in the market is expected to continue within reasonable limits in 2007, even though temporary liquidity shortages may occur. however, as in previous years, it is not possible to make a precise forecast regarding the net foreign exchange payments of the treasury, the amount of the central bank ’ s foreign currency purchases and the balance of treasury cash accounts with the central bank. depending on the variations of these variables, the market liquidity may change significantly. as long as the excess liquidity in the market remains at reasonable levels, as foreseen in the main scenario, the central bank will continue to withdraw the excess liquidity in the market, on an overnight basis, via new turkish lira deposit operations in the interbank money market within the cbrt and repo transactions in the repo and reverse repo market of istanbul stock exchange. accordingly, overnight interest rates will continue to realize at the level of the borrowing rate of the central bank. thus, the overnight borrowing rate of the central bank will continue to be the benchmark interest rate with respect to monetary policy. in case of a permanent liquidity shortage in the market, the benchmark short - term interest rate will be the average interest rate of the repo auction, not the daily borrowing interest rate of the central bank. therefore, in case of liquidity shortage, the interest rate taken as a benchmark by the market would have become higher merely due to the decline in liquidity. in order to avoid any negative impacts, the central bank could revise its interest rates – provided that the inflation outlook is stable – so as to encounter the pressure created by the liquidity shortage. however,

that frequent changes in targets are likely to have adverse effects on inflation expectations and pricing behaviors, which could damage the credibility of the future commitments. for this reason, it is important in the upcoming period that targets should be left intact as long as inflation is expected to converge to targets within a reasonable period of time. transmission mechanism and control horizon central banks in both developed and developing countries experience serious uncertainties regarding the lagged effects of monetary policy on inflation. considering the fact that the relationship between macroeconomic variables changed remarkably along with the structural transformation in the economy after the 2001 crisis, it is assessed that the mentioned uncertainty in turkey is at least as high as those in other countries. however, in light of the recent normalization experience, it is possible to produce forecasts about the period required for monetary policy to influence inflation. the latest observations indicate that the period needed for monetary policy measures to affect domestic demand varies between 3 to 9 months, while the change in demand influences inflation in a period between 3 months and 1 year. this leads us to the conclusion that the impacts of monetary policy on inflation spread over a period of one and a half years on average. in this context, taking into account the lagged impacts of monetary policy, the central bank defined the policy horizon as approximately one and a half years in the main policy statement published last year. although it is forecasted that the impact of monetary policy on inflation will show itself in a more lagged manner and that the control horizon may be extended as the normalization process of the economy continues, the control horizon is maintained as one and a half years at this stage. there is no doubt that this period may be extended or shortened depending on the extent of shocks and the period needed for their influence to reflect on prices. the impacts of various shocks on inflation may differ according to time and period. as a consequence, the period required for inflation to converge to the target again will be announced after the occurrence of shocks and the determination of their sources, if there is a significant deviation from the target. forecast horizon the forecasts presented in the inflation reports published throughout 2006, covered a period of one and a half years. from 2007 onwards, forecasts will refer to a two - years period. this change aims to help economic agents to predict the future better. furthermore, forming a comparable forecast period with the results of the expectations survey will provide us with the opportunity to analyze and assess inflation forecasts more easily. 1 inflation forecasts and interest rate path while