The head of Turkey’s central bank mounted a defense of its crisis-era policies on Thursday, downplaying a sharp drop in FX reserves and dismissing concerns that it was defending the currency from falling past key levels.
In an online presentation, Governor Murat Uysal said the coronavirus pandemic brought on “extraordinary circumstances” in which temporary volatility was expected in the bank’s financial buffer https://tmsnrt.rs/3bOJYmo.
Yet in a nod to the growing cash crunch, Uysal said he continued to hold talks on foreign swap lines with several central banks. He declined to give details and said no attempt had been made with the International Monetary Fund, an option President Tayyip Erdogan has dismissed on political grounds.
The central bank also lowered its inflation forecast for end-2020 to 7.4%, from 8.2% earlier, opening the door to more rate cuts. Steps were taken to slow the outbreak are expected to tip the economy into its second recession in less than two years.
“In such extraordinary periods, the volatility in exchange rates and reserve volatility can rise,” Uysal told journalists and economists in the presentation.
The central bank has stepped in to backstop much of Turkey’s financial response to the pandemic, including buying a record of some $5 billion of government bonds since the end of March, most of it from an unemployment insurance fund.
The money-printing has put pressure on the Turkish lira, which has fallen 14% so far this year, slowing the expected drop in inflation.
At the same time, the central bank has aggressively burned through its foreign reserves to fund, via swaps, unorthodox efforts by Turkey’s state banks to prop up the lira, which has hovered just below 7 versus the dollar since mid-April.
Based on reserves data and the calculations of traders, the state banks have sold at least $32 billion in dollars this year, already matching the value of last year’s market interventions.
The result has been a dramatic fall in the central bank’s net FX reserves to below $25 billion as of mid-April, from more than $40 billion at the beginning of 2020. Excluding the swaps with state banks, some economists say the net reserves may have already fallen into negative territory.
“Volatility is normal…and in our reserves, it is due to extraordinary circumstances, this is temporary,” Uysal said, adding the lira’s decline in recent months shows the bank is not targeting certain levels.
“We are not acting to defend the exchange rate,” he said. “There might be situations or periods that we cannot manage merely with the interest rate, so we value exchange rate stability.”
The lira <TRYTOM=D3> dipped 0.6% to 6.9885 against the dollar on Thursday.
Analysts say stretching the central bank’s reserves too thinly could in a worst-case result in Turkey failing to service some of its relatively high external debt costs of some $170 billion this year.
“One country we remain bearish on is Turkey,” said Sara Grut, a Goldman Sachs emerging markets strategist in London.
“They have a pretty large funding gap. A lot of that is corporate debt and the risk is that this spills over to the sovereign, which has very limited reserves,” she said.
The inflation downgrade leaves the door open for the bank to extend an aggressive easing cycle that began in July when the policy rate was 24% and has seen the bank cut rates eight straight times to 8.75%. Real rates for lira depositors have been negative for a few months.
The bank revised its oil price assumption sharply down to $32.6 per barrel from $60, which would have a significant impact on the energy-import dependent country.
The bank continues to expect inflation will fall to 5.4% at the end of 2021 and converge gradually to a target of 5%.
Inflation currently stands at 11.86%. A Reuters poll showed economists expect it to fall to 10.88% in April.