Turkish central bank ups inflation forecasts but signals no sharp rate hike

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Turkey’s central bank sharply raised its forecasts for inflation this year and next on Thursday on the back of a weak lira and high oil prices, but signaled that a major interest rate hike to defend the currency was not an option.

The bank has been battling the lira’s falls to record lows and stubbornly high inflation for months. But it has steered clear of raising interest rates in the face of political pressure to support flagging economic growth ahead of a June general election.

President Tayyip Erdogan, whose ruling AK Party built its reputation partly on a decade of rapid growth, has railed against high rates and accused those who defend them of treason.

The bank left rates unchanged last week but used other tools to shore up the currency, hiking what it pays on lira reserves and cutting the cost of borrowing dollars.

Announcing the bank’s quarterly inflation report, Basci said liquidity conditions indicated that monetary policy was tight enough for now.

He said the bank may need to take a “moderate” step if extreme weakness in the lira impacted inflation expectations.

But he made clear the sort of dramatic move seen in January 2014, when the bank raised its main one-week repo rate by 550 basis points at an emergency meeting, defying government pressure, was not on the cards.

“We had a very harsh policy reaction last year. We are not in a position to do that currently,” he told a news conference in Istanbul, saying that exchange rate fluctuations could persist for some time but would not leave “permanent damage.”

The lira, which has underperformed major emerging markets peers for much of this year, appeared unmoved by the comments, trading at 2.6625 to the dollar by 0950 GMT, off the record low of 2.7435 hit last Friday.

The bank raised its 2015 year-end inflation forecast mid-point to 6.8 percent from 5.5 percent in its previous quarterly report, and its 2016 year-end forecast to 5.5 percent from 5 percent. It kept its mid-term forecast at 5 percent.

Basci said core inflation was improving but high food prices had limited the improvement in the headline numbers in the first quarter. He said he wanted inflation to fall below 6.2 percent this year, helped by government action on food prices.

“If we don’t take additional precautions in food, things will be difficult,” he said.

Basci said he expected economic activity to pick up gradually after a weak first quarter. Inflation, he predicted, would peak at 8 percent this month and fall thereafter.

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