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Turkey: Inflation well ahead of interest rates

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In January, we expect the inflation increase in Turkey to accelerate and to be a high periodical realization. Although the exchange rates have followed a lower course since the end of December, rising commodity prices globally, increasing pressure on producer costs, the phenomenon of managed/directed prices, and the hikes in public services, especially on the energy side, will cause an increase in inflation. Since the inflation, which we expect to rise to 45.5% on an annual basis with a periodic realization of 8.7% in January, will continue to deepen the inflation-adjusted return of Turkish assets in the negative region, there will be a risk that it will keep the foreign exchange demand active with the desire to protect savings from inflation and continue to feed the pressure on the exchange rates at the inflationary point.

 

In December, inflation rose to 36.1%, the highest level since 2002. While the periodical inflation was 13.6%, we saw that the excessive depreciation and volatility of the lira was at the forefront of import-sourced costs and its further absorption in prices through the spillover effect. The said extensive price volatility disrupted the pricing behavior of almost all goods and services groups and created instability. We saw the level of 79.9% in December with the cost pressure accumulated in the PPI, and this time we will see higher levels in the producer channel due to the effect of oil prices, unit cost and inventory costs caused by energy cuts and increased operating costs. We expect the PPI to rise to the level of 92.9% as of January and to show a sticky effect on consumer prices in the coming period.

 

Even though we see lower levels in the exchange rate since the end of December, we will continue to see the effect of the lira weakening with the concept of January, being fed into consumer prices. In this, we need to pass the stage of melting the stocks obtained from high exchange rates. In addition, the size of the inventory replenishment cost is now calculated at the point of manufacturer and retailer. For this reason, exchange rate decreases are far from the point of reflection on prices. In addition, the fact that oil prices, which fell in December, rose again in January due to geopolitical risks, keeps the update on the benchmark prices in energy consumption at the forefront. In this context, the continuation of energy price hikes can be expected. It is necessary to consider the effect of exchange rate and oil/gas prices. A 50% increase in the minimum wage and a sharp increase in service costs will further increase price pressure. In the event that businesses reflect their increasing fixed costs to the prices of goods and services sold, we will see that non-exchange rate factors are also effective on inflation in the coming months through the pass-through phenomenon between PPI and CPI.

 

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The central bank estimates that inflation will end at 23.2% in 2022 and reach the 50% band in the first half of the year. We, on the other hand, evaluate the risks regarding the Central Bank’s forecast path upwards. Our this year-end inflation expectation is 36.7% based on current factors. Although we expect a fluctuating course throughout the year, we expect the upward trend in inflation to be dominant, especially in the period towards the summer months. This shows that an inflation peak can be seen in a band of above 55% during the year, and the base effect brought about by the high periodic realizations of November-December 2021 in the last months of the year may bring the annual inflation down partially. However, as can be seen, we are more hesitant in terms of inflation compared to the Central Bank in our forecasts.

 

If inflation comes in at the rate we expect, Turkey’s real interest rate will reach -31.5%, the lowest rate among the emerging markets followed. We evaluate that policy makers want to move forward within the scope of the new economy perspective, that the Central Bank is willing to maintain a current account surplus and keep interest rates low for this, and that the fight against inflation is intended to be continued with financial products within the scope of liraization, which aim to increase the lira investment incentive. Therefore, we do not expect a policy tightening response from the Central Bank regarding the increasing inflation rates at this stage.

 

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