Turkish central bank starts reining in credit after lira plunge

Turkey’s central bank has started to lift some funding costs and analysts said it could go further on Friday tightening such backdoor policy tools to head off more lira weakness after it plunged to record lows.

A drop in the currency over the last two weeks showed the limits of Turkey’s costly interventions in the FX market and prompted speculation that the central bank would be forced to buck political pressure and raise its policy rate from 8.25%.

Officials from the central bank and financial regulator discussed the volatile market action with bank executives late on Thursday. After the meeting, bankers estimated that so-called backdoor tools could be used to effectively tighten policy by up to 300 basis points.

“As we have seen several times in the past, the central bank is looking to change its funding composition and increase lira costs rather than hiking rates,” an asset and liability management banker said.

The central bank has moved in recent days to raise the average rate of funding to 7.88%, up from 7.34% in mid-July. The funding rate was sharply reduced in March to limit financial fallout from the coronavirus pandemic.

But after the lira hit a historic low of 7.3175 versus the dollar on Thursday, the bank said in a statement such liquidity facilities will be phased out as of early August.

Goldman Sachs analysts said it will likely lift the average funding rate as high as the policy rate, which has been set at 8.25% since June after an aggressive year-long monetary easing cycle.

They added that the lira weakness could also prompt the bank look to other so-called backdoor tools – as it did in March of last year – including raising the rate on an overnight window from 9.75% and even lifting a late lending rate from 11.25%.

In a separate statement on Friday, the central bank said it will halve the current liquidity limits offered to primary dealers under open market operations as of Monday.

In a readout of the three-hour Thursday meeting, Turkey’s bank association said that Central Bank Governor Murat Uysal discussed liquidity management and funding policies in the upcoming period.

It added decisions are taken with “strong coordination, close contact, and a positive contribution approach.”


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