Turkey's Central Bank Lowers Rates to 15.5%

Turkey's central bank lowered its benchmark interest rate by a quarter of a percentage point to 15.5 percent today, the fourth consecutive reduction, after the economy grew at the slowest pace in six years and inflation expectations fell.




Economic growth slipped to 1.5 percent in the third quarter, the slowest pace since a 2001 recession, after the central bank raised borrowing costs by 4.25 points in June and July 2006 to restrain inflation. Since September, the bank has lowered the benchmark rate by 2 points.



The inflation rate was 8.4 percent in December, unchanged from the previous month and more than double a year-end target of 4 percent backed by the International Monetary Fund. While drought and increases in tobacco and fuel taxes drove up inflation from a three-decade low of 6.9 percent in July, price growth will resume its decline in the medium term, the bank said on Dec. 27.




Turkey's 12-month inflation forecast fell to 5.94 percent from 6.14 percent, according to a fortnightly survey of economists and businessmen published by the bank on Jan. 9. Turkey targets inflation of 4 percent this year.

Clearly the central bank is taking the view that the risks from slowing growth and the global environment outweigh inflation concerns at this point.

The prices of unprocessed food - which have been a major part of the headache - appear to have stabilized somewhat in the last two months of 2007, leading to a reduction in the annual inflation of this subgroup. Meanwhile, despite a relative slowdown, processed food prices continued to increase at a rapid rate and the 9.8 percent increase in processed food prices in the second half of the year adversely affected the core inflation indicators. Recent data is suggesting a rather more favorable weather outlook, boding well for the future prices of unprocessed food group. On the other hand, the response of processed food prices to agricultural supply shocks is likely to persist for some time; therefore, price increases in this group may continue for some months into 2008.


Energy prices rose by 0.89 percent in December as a result of hikes in energy items
in the housing group. With these hikes, annual inflation in the energy subgroup
rose to 11.25 percent. A further rise in annual inflation in the energy sector is expected in January due to increases in the price of electricity and natural gas. The bank expect this price adjustment to contribute by 0.6 points to CPI inflation in January.

Year on year increase in the prices of goods excluding energy and unprocessed food climbed to 6.6 percent due to an uptick in processed food inflation and the base effect on the clothing-footwear group. Generally, however, the downward trend in the prices of consumer durables continued in December.

A variety of recent data indicate that the recovery in economic activity continued in the last quarter of 2007. Industrial production rose by 8.3 percent and 7.7 percent year-on-year in October and November, respectively, and the average of October-November period exceeded the third quarter average in seasonally adjusted terms. Seasonally adjusted figures on capacity utilization also suggest that the growth in industrial production continued into December.


Leading indicators on consumption and investment present a similar outlook. Domestic sales of automobiles increased by 36.6 percent quarter-on-quarter in Q4 2007 and picked up markedly in seasonally adjusted terms compared to the third quarter. The moderate growth in consumer loans continued in December. The month-on-month change in automobile loans turned positive in real terms for the first time since June 2007. Real imports of consumer goods, passenger cars and consumer durables in particular, increased significantly on a year-on-year basis in the last quarter of 2007.

Leading indicators for investment demand point to an increase in machinery equipment
investments on a year-on-year and per quarter basis in the last quarter of 2007. In the October-November period, imports of capital goods increased by 36.2 percent relative to the same period last year, exceeding the level recorded in the third quarter in seasonally adjusted terms. Following a rebound in the third quarter, sales of light commercial vehicles maintained the upward trend in the last quarter growing by 23.6 percent in annual terms and recording a discernible rise in seasonally adjusted terms over the third quarter. Meanwhile, sales of heavy commercial vehicles have declined continuously on a monthly basis since September 2007, but rose by 1.6 percent year-on-year in the last quarter. Moreover, seasonally adjusted figures on production and import of machinery-equipment and electrical machinery point to a pick up ininvestments in the last quarter.

In the third quarter, the number of construction permits, one of the leading indicators of construction investments, decreased by 10.8 percent on a year-on-year basis, while the annual growth rate of the construction sector significantly lagged behind the growth rates observed in previous periods. The diffusion index of “the probability of purchasing or constructing a house in the next 12-month period”, compiled from the Consumer Confidence Survey, has been on a downward trend since July 2007, suggesting that the slowdown in the growth rate of housing construction is likely to persist in 2008. On the other hand the significant rise in employment in the construction sector in seasonally adjusted terms which took place during the second and third quarters of the year together with the marked increase in the production of non-metallic minerals in the last quarter signal that the slowdown in construction sector may well be fairly modest.


Exports rose by 13.5 percent in real terms compared to the same period last year according to quantity indices. Early readings on December and January also point to a continued upward trend in exports. Nevertheless, the growth rate of exports was surpassed by the growth rate of imports in the fourth quarter due to recovery in domestic demand and substantial increases in imports. Therefore, the effect of net foreign demand on growth is likely to be negative in the fourth quarter. The expected slowdown in the economic activity of developed countries has increased the downside risks on the course of exports.

In the third quarter of 2007, the pace of productivity growth fell behind real wages in manufacturing industry, leading to an increase in unit labor costs. Nonetheless, the slowdown in employment and the increase in productivity gains in the last quarter of the year points to a possible renewal of the downward trend in unit labor costs in the manufacturing industry.

The lira has gained almost 7 percent against the dollar since the bank began cutting rates in September. Gains for the lira help curb inflation by lowering the cost of imported raw materials and consumer goods.

Turkey Inflation December 2007

Turkish consumer prices rose 0.22 pct in December from November to reach 8.39 pct on a 12-month basis, more than double the government's inflation target, according to data released by Turkstat earlier this week. This made the second year in a row Turkey missed its year-end inflation target under an economic recovery programme backed by the International Monetary Fund (IMF).




Producer prices climbed also by 0.15 pct from November to December for a total increase of 5.94 pct in 2007, the institute said. The Central Bank has blamed higher oil prices and a long-lasting drought for the figure and warned last month planned electricity, natural gas and food prices rises would continue to pose risks to limiting inflation.



In 2006, inflation was 9.65 pct, nearly double the austerity programme's 5 pct target. Tight IMF-backed financial policies had helped the government beat inflation targets over the previous three years, bringing the rate down from 29.7 pct in 2002 to 7.7 pct in 2005. Turkey has set its year-end inflation target at 4 pct for 2008, 2009 and 2010.

Turkish GDP Q3 2007

Gross Domestic Product (GDP) increased by 1.5 percent in the third quarter of 2007 compared with the same period of 2006. This was obviously a slowdown, although the very low year on year performance owes a good deal to slowing growth in earlier quarters than to any special slowdown in Q3. Seasonally adjusted data, however, point to a 0.6 percent decline over the second quarter. Domestic demand gave a strong boost to GDP in Q3, while the public sector impetus slowed; the contribution of net foreign demand, however, was noticeably negative, and this is perhaps the most significant detail. While the lagged effects of the monetary tightening have continued, albeit at a weaker rate, temporary supply shocks in the agricultural sector have accentuated the slowdown in economic activity.



The nine months growth rate of gross domestic product in 2007 has increased by 11.6% to 468 212 million New Turkish Liras in current prices and 3.8% to 121.7 million New Turkish Liras in constant prices while - due to the rise in the value of the lira in comparison with USD - gross national product increased by 19.2% in dollar terms to 348 472 million USA dollar.

The contribution of private consumption demand to growth increased significantly over the third quarter, consistent. In seasonally adjusted terms, private consumption demand, which has grown modestly since mid-2006, increased by 2.3 percent in this period compared to the previous quarter, largely on the back of spending on durables and semi- or non-durables

The year on year growth rate of private final consumption expenditure in Q3 was 3.6, while government final consumption expenditure 6.4%, gross fixed capital formation 5.7%, exports of goods and services 7.5%, imports of goods and services 16.8% (all in constant prices).

On a more positive note, leading indicators for the fourth quarter point to a moderate recovery in economic activity. Industrial production grew by 7.9 percent year-on-year in October and was up markedly from September in seasonally adjusted terms.

Indicators for private consumption and investment demand also suggest a similar outlook. According to the seasonally adjusted data, following a downbeat reading in September, domestic sales of automobiles grew rapidly in the October-November period compared to the third quarter. The CNBC-e consumption index also exceeded its third-quarter average. Moreover, imports of consumer goods jumped in October compared to the same month last year. Seasonally adjusted domestic sales of white goods also rebounded in October but remained below the third-quarter average.

Despite a slowdown in machinery-equipment production, imports of machinery-equipment gained speed in October over September and also the preceding quarter. In addition, both production and imports in the electrical machinery industry increased significantly on a year-on-year and per quarter basis. Following a rebound in the third quarter, domestic sales of light commercial vehicles recorded high growth rates during the October-November period compared to the previous quarter. Imports of capital goods grew sharply by 41.3 percent in October on a year-on-year basis and seasonally adjusted figures point to a continued acceleration. In sum, leading indicators except for machinery-equipment production suggest that investments picked up in the fourth quarter on a yearly and quarterly basis.

Exports continue to expand owing to productivity gains and on the back of strong external demand. Preliminary data indicate that exports recorded a high growth rate in November in dollar terms. Nevertheless, according to quantity indices that exclude the price effect, real exports grew at a lower pace than real imports in the second half of the year. The strengthening demand for imported goods, particularly automobiles and commercial vehicles and other capital goods, signal that the contribution of net foreign demand to growth will continue to be negative in the last quarter.

Turkey Inflation November 2007

Consumer prices rose by 1.95 percent in November, bringing the annual inflation to 8.40 percent. Administered prices accounted for about 1 percentage point of the month-on-month increase in headline inflation. The upward trend in the prices of processed food and catering services group suggest that the drought continued to be effective on food inflation in November as well.




Energy prices edged up sharply in November by 6.78 percent, raising the annual inflation in this group to 11.02 percent. This was mainly attributable to the rise in the prices of fuel oil and LP gas, driven by hikes in the Special Consumption Tax, as well as to the new municipal water tariff in
stanbul. Aside from adjustments in administered prices, the recent increase in international oil prices was also instrumental in the rise of energy prices. The planned hikes in electricity and natural gas prices in the upcoming period, together with the future course of oil prices, pose a significant risk to energy prices.

Despite the decline in the prices of clothing and footwear, the year-on-year inflation in goods excluding energy and unprocessed food posted an increase in November due to significant price hikes in processed food, tobacco products and gold. The prices of consumer durables, on the other hand, maintained its downward trend in November. Following the tax hikes on tobacco products, the prices of alcoholic beverages and tobacco group increased by 6.51 percent month-on-month, bringing the annual inflation rate for this group to 17.21 percent. In other words, nearly 0.85 percentage pointsof the annual CPI inflation stems from the tobacco prices.

Turkey's Performance in 2007

The Turkish lira posted its biggest annual gain yet against the dollar in 2007 as the central bank kept interest rates three times higher than in the U.S. and Prime Minister Recep Tayyip Erdogan won elections in July. The lira rose a record 21 percent versus the U.S. dollar in 2007, more than any emerging-market currency Even the conflict with Kurdish rebels in northern Iraq has failed to dent optimism Erdogan would extend 23 consecutive quarters of economic growth.




The Turkish central bank kept its benchmark interest rate at 17.5 percent until September, before cutting it in each of the past four months by a combined 1.75 percentage points to 15.75 percent. The Fed's key rate is 4.25 percent, while the Bank of Japan's is 0.5 percent, making the lira attractive for the so-called carry trade, where funds are borrowed in low interest-rate currencies and used to buy higher-yielding assets.



Erdogan's Justice and Development Party won July's parliamentary elections with 47 percent of the vote, more than twice that of its nearest rival. The Turkish economy has doubled to $400 billion under Erdogan's government. The country attracted $20 billion in foreign investment in 2006.

Turkish bonds gained in 2007, with yields falling an average 4.58 percentage points, according to an ABN Amro Holding NV Index. Yields rose 7.36 percentage points last year.