The Central Bank of the Republic of Turkey (CBRT) is determined to maintain its tight monetary stance until a convincing decline in inflation is seen and will deliver further tightening if necessary, it said Wednesday after cutting its 2019 inflation forecast.
The bank revised its inflation forecasts down to 14.6 percent for this year from 15.2 percent in its previous report, governor Murat Çetinkaya said Wednesday during the presentation of the bank's first quarterly inflation report in 2019.
The main message of the report, according to Çetinkaya, is that tight monetary policy will be maintained until the bank sees a "convincing improvement" in inflation. "In this respect, an additional tightening in monetary policy could be introduced when necessary, he said.
He remarked that inflation is projected to converge gradually to the 5 percent target under a tight policy stance and enhanced policy coordination focused on bringing down inflation.
Inflation Report 2019-I in Five Question: pic.twitter.com/5ibHIs6fCY— CentralBankofTurkey (@CentralBank_TR) January 30, 2019
Following the report's release, the Turkish lira gained ground against the U.S. dollar. The lira gained around 0.76 percent in value against the dollar and traded at 5.26 against the greenback at 3:25 p.m. local time, down from 5.30 as of 9:30 a.m. in the opening session.
The governor further emphasized that the increased contribution from demanded conditions to disinflation, the deceleration in the underlying trend of inflation as well as the significant decrease in oil and import prices assumptions, altogether played an important role in the downward revision in inflation forecasts for 2019.
While financial conditions are expected to support a mild recovery of the domestic demand amid the improving inflation outlook and the declining country risk premium, according to the governor, the contribution of net exports to growth is expected to continue as well in 2019.
Annual consumer prices in Turkey fell to 20.3 percent in December, recording a 0.4 percent decrease from 21.62 percent in November, according to the Turkish Statistical Institute (TurkStat). Inflation dropped for the second month in a row in line with the expectations of the government and the markets.
Following the strong monetary tightening it delivered in September to support price stability, the CBRT maintained its tight monetary policy stance in December and January, highlighting the risks to price stability.
Under a tight policy stance and enhanced policy coordination focused on bringing inflation down, inflation is projected to converge gradually to the target, the bank said in the report.
Accordingly, inflation is projected to be 14.6 percent at the end of 2019 and then fall to 8.2 percent at the end of 2020 and 5.4 percent at the end of 2021, before stabilizing around 5 percent over the medium term. Thus, with a 70 percent probability, inflation is expected to be between 11.9 percent and 17.3 percent (with a mid-point of 14.6 percent) at the end of 2019 and between 5.1 percent and 11.3 percent (with a mid-point of 8.2 percent) at the end of 2020, according to Çetinkaya.
"This is exactly the sort of message that I think many market participants wanted to hear from the central bank," Matys said.
"The lira will basically continue to play an important role and if the currency continues to appreciate or at least remain stable and inflation continues to fall, then perhaps the central bank could cut rates in Q2."
The CBRT has left its policy rate unchanged since September when it hiked 6.25 percentage points to 24 percent. It lastly decided to keep its benchmark one-week repo interest rate constant at 24 percent on Jan. 16.
Çetinkaya further noted that after the October Inflation Report, import prices in the Turkish lira decreased on the back of the appreciation of the Turkish lira and the drop in crude oil prices, and the underlying trend of inflation decelerated owing to tax cuts in some goods and the subdued domestic demand.
He said the decline in the assumption for import prices in terms of the Turkish lira made a decreasing impact of 0.5 points on the end of year inflation forecast.
Also, the bank's report noted that the 3.2-point-lower consumer inflation realization in the final quarter of 2018 than previously forecast in the October Inflation Report and the decline in the underlying trend of inflation excluding the tax-cut effect reduced the end of 2019 inflation forecast by 0.6 points. Moreover, the revision in the assumptions for tax adjustments and administered prices had an upward effect of 0.2 points at the year's end inflation forecast, according to the report.
Çetinkaya said that the output gap, which they expect to make a greater contribution to disinflation in the upcoming period, is forecast to have a 0.3-point downward impact on the inflation forecast for the end of 2019.
"Nevertheless, unit labor costs are expected to exert an upward impact of 0.4 points to the end of year inflation forecast. Consequently, the end of 2019 inflation forecast has been revised downwards by 0.6 points compared to the October Inflation Report," the governor added.
The inflation forecast for 2020 was decreased to 8.2 percent from 9.3 percent, a 1.1 point revision compared to the previous report.
On the other hand, the bank said the downtrend in crude oil prices accelerated in recent months. "Thus, actual prices were lower than the assumptions made in the October Inflation Report. Given the recent fall in crude oil prices on spot and futures markets and the judgments on future crude oil prices, the October assumption of $80 per barrel is revised down to $63 per barrel for 2019," it said.
"The assumption for the average annual increase in dollar-denominated import prices for 2019 is also revised downward, albeit by a much smaller margin than the oil price assumption," Çetinkaya said.
Commenting on the main massages of the report as well as the governor, İş Portföy chief economist Nilüfer Sezgin said the downward revision does not mean that the central bank will rush to expansionary monetary policy.
"In order not to think that the interest rate will be kept at its current level throughout the year, the expression of tightness of the monetary policy being made in the form of 'required tightness' means that the dose of tightening will be made depending on inflation, namely interest cuts could be made," Sezgin told Anadolu Agency.
She stated that the downward revision in the 2020 inflation forecast of 1.1 points and the assessments that the domestic demand will rejuvenate in the second half suggest that there may be a significant interest rate cut in the second half of this year if inflation falls as expected.
Underlining that the situation was in line with market expectations, she said the messages given for the short term show a hawkish stance.