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Turkey’s Central Bank Raises Interest Rates to Combat Inflation

In a dramatic policy shift, Turkey’s central bank has announced a significant interest rate hike, raising it to an unprecedented 40%, marking the highest level in nearly two decades. This move, which represents a stark departure from the unconventional economic approach previously advocated by President Recep Tayyip Erdogan, is aimed at reining in the country’s soaring inflation.

The recent decision to increase rates by 5 percentage points, exceeding market expectations, is the latest in a series of six consecutive hikes. This aggressive monetary tightening comes as Turkey grapples with an inflation rate of 61.36%, which has substantially increased the cost of living and eroded the value of the Turkish lira.

In a statement, the central bank indicated that the interest rates are nearing their peak, suggesting that the current phase of monetary tightening is approaching its end. The bank has set a medium-term inflation target of 5%, a goal that now seems more achievable with the current policy shift.

Shifting Sands

Turkey’s economic trajectory under Erdogan has been marked by high inflation and volatile growth. Since his election in 2003, Erdogan’s administration has pursued ambitious and costly projects, fueling rapid economic expansion, but at the cost of substantial debt and reliance on foreign investment. This strategy propelled Turkey’s GDP to over $1 trillion, ranking it as the 19th-largest economy globally.

However, the economic landscape changed dramatically as inflation surged past 20% in 2019, and the lira’s value plummeted. Contrary to economic norms, Erdogan initially responded by lowering interest rates, a move that many economists believe exacerbated inflation, which climbed over 80% in August 2022.

The recent presidential election, which saw Erdogan narrowly re-elected, marked a turning point in Turkey’s economic policy. June witnessed a pivotal change with the appointment of Hafize Gaye Erkan, former co-CEO of First Republic Bank, as the head of Turkey’s central bank, and Mehmet Simsek, a former senior economist at Merrill Lynch, as the finance minister. This new leadership has steered the country towards more traditional economic measures to tackle inflation and stabilize the currency.

The journey towards economic stability began in June, with an initial rate hike from 8.5% to 15%, setting off the current trend of rate increases. This policy reversal is viewed as a critical step towards restoring economic balance and achieving sustainable growth. As Turkey navigates these turbulent economic waters, the world watches closely, keen to see whether this shift towards conventional economic wisdom will lead the country towards a more stable and prosperous future.