LEX Has Turkey thrown in the towel?
Inflation globally is running well above central bankers’ targets. Turkey’s central bank governor on Tuesday buckled under the pressure, almost doubling next year’s target from 4 to 7.5 per cent.
The change is a nod to reality – prices rose nearly 11 per cent year-on-year in May and the target has been missed for the past two years. But it comes at a risky time. Turkey will need up to $135bn in external financing this year, according to Citi, and must therefore retain investors’ confidence. Changing the inflation target could, paradoxically, actually enhance the central bank’s shaky credibility, already bolstered by a 50-basis point increase in policy interest rates in May. But, coming just a month after Turkey’s $10bn loan agreement with the International Monetary Fund expired, it risks further damage.
In part, this is because inflation is not the only indicator moving the wrong way. Turkey’s current account deficit seems likely to rise to 7 per cent of gross domestic product in 2008 and foreign direct investment inflows are falling. In real terms, the currency has lost more than a 10th of its value since December.
However worrying such trends are for investors, though, they seem unlikely to presage another of Turkey’s periodic financial crises. The underlying economy is stronger than it has been for years. Since 2001 hyperinflation has been tamed, growth has been strong and government finances have been transformed. The budget surplus – before interest payments – is now 5 per cent of GDP and gross government debt has fallen from 76 to 39 per cent of GDP. Now the government has placed the public finances on a sound footing, it has legitimately chosen to increase infrastructure spending and to reduce the primary budget surplus.
This is a brave moment for the authorities to choose to change inflation targets and loosen the fiscal reins. But it provides salutary evidence of how much progress Turkey has made in reducing its vulnerability to external shocks.
