De-dollarisation continues, a CBRT hike on Thursday will help pick up the pace
Summary:
- Positive data showing that locals had sold $2.1bn of FX and gold last week, bringing the two week sales to $3.2bn. Against this foreign flows were around flat for the fourth week in a row.
- More statements were made this week regarding the S-400s, as well as the US demanding that Turkey immediately release Osman Kavala. The Biden administration is taking a more forceful stance with Turkey, with any rapprochement requiring Erdogan to step back from some of his demands.
- The CBRT meet on Thursday, I expect to see a 50–100bps hike as higher than expected inflation prints continue to pressure the CBRT to back up their hawkish rhetoric with a hike.
- Current account data showed the 14th consecutive month of deficit in Turkey as elevated gold purchases continued to keep the current account deficit wide. The tentative de-dollarisation data coming from the CBRT indicates that the current account might begin to tighten in the first months of this year.
- CBRT year-end inflation survey showed that expectations for end-2021 inflations have risen to 11.23% from 11.15% in January. This is further above the CBRT’s year-end forecast of 9.4%, which itself is predicated on a lowering of inflation expectations.
Positive flow data showed that locals had sold $2.1bn of FX and gold savings in the week ended 5th February to bring the two week hard currency selling to $3.2bn. Foreign inflows continued to be flat, for the third week in a row.
An encouraging continuation of the recent de-dollarisation of local savings seen in Turkey, with local FX and gold savings falling $2.1bn in the week ended 5th February. Combined with the $1.1bn of sales in the week ended 29th January this brings two week sales to $3.2bn, as interest rate hikes and increased CBRT credibility look to have persuaded local savers to begin the process of switching savings from hard currency back into the lira. Given the size of FX deposits in Turkey ($233bn) any move from local savers to switch from FX and gold back into the lira will put significant downward pressure on USDTRY given the volumes involved. Potential upcoming sanctions from the EU and US will be important to watch, as any move to impose harsh sanctions on Turkey will be taken negatively by local savers and prompt a switch into hard currency. In addition, any move towards easier policy from the CBRT will reduce the bank’s credibility, and restart dollarisation.
Local de-dollarisation picking up has lead to flows being positive for TRY over the last two weeks (local flows in blue, international flows in orange, net flows in green)
In slightly less positive news, foreign flows to Turkey were around flat for the fourth week in a row with -$183.2mn of BIST equity sales being offset by $140.5mn of TurkGB purchases and $33.8mn of private sector bond purchases. Foreign inflows slowing is a negative, as the CBRT and the government have both said that attracting foreign investment is vital for Turkey to both achieve price stability, and return to strong growth. With this said, I think the current slowing of inflows to Turkey is a pause as the market awaits confirmation that the CRBT will continue their orthodox monetary policy, and eyes the potential EU/US sanctions before returning to the market. QNB Finansbank have said that internationals have cut their short USDTRY exposure by $200mn this week, which looks like it fits the price action as we saw jumps in USDTRY spot and paying of the offshore FX swap curve early in the week.
Although the flat flows from internationals are a negative, this is offset by the de-dollarisation process beginning from local savers. Any significant shift of these savings back into lira will be a big tailwind for the next move lower in USDTRY. The CBRT have said that the de-dollarisation process is key for them to consider buying back USD through auctions, so if this continues I would expect to see the CBRT lean into this flow and arrest the fall in USDTRY. I don’t think the CBRT are ready to re-enter the market at this point, however another few weeks should see the CBRT begin to make noises about plans to buy USD back.
There continues to be rhetoric traded back and forth between the US and Turkey, with this week seeing comments from both sides regarding the S-400s and imprisoned political activist Osman Kavala.
This week saw Defence Minister Akar make the suggestion that the S-400 missiles could be deployed in a similar way to Greece’s use of the S-300s, with this an example of a NATO ally being allowed to deploy Russian defence equipment. This suggestion was rebuffed by the US, who said that the only solution to the S-400 issue was for Turkey to give up the missile system, and that CAATSA sanctions would remain in place until this was done. This continues the US’s stance that a full repudiation of the S-400 system is necessary for sanctions to be lifted. I also think that there is a high chance there will be some talk of new sanctions being applied to Turkey if Turkey does not give up the S-400s. Bipartisan opposition to Turkey remains strong (54 senators signed an open letter to President Biden urging him to take a forceful stance against Turkish human rights abuses), and I would expect to see some mention of enhanced sanctions over the coming months if Turkey doesn’t give up the missiles.
The US also made a call for Turkey to immediately release the imprisoned political activist Osman Kavala, with these calls rejected by Turkey who said that the case was working its way through the Turkish court system and that foreign actors shouldn’t be trying to influence the domestic courts.
The continued S-400 back-and-forth, the open letter from the Senate, and the call for Kavala’s release clearly show that the Biden administration is taking a more hardline approach with Turkey, looking to ensure that Erdogan knows he must step back from his recalcitrance in order for US-Turkish relations to be repaired. I continue to believe that the S-400 situation will be resolved with the missile system being mothballed and never made operational, with the risk of further sanctions also rising as a method to force Turkey to give-up the weapons.
The CBRT meet for the second time this year on Thursday, I expect a 50–100bps rate hike given the continued acceleration in headline and core inflation.
The most recent inflation data showed an acceleration in headline inflation to 14.97%, and worryingly an increase in core inflation to 15.50% in January from the December reading of 14.30%. This higher core inflation reading has brought core real rates (repo rate minus core inflation) to only 150bps, which is skinny in my view given the CBRT’s wish to keep a strongly disinflationary monetary policy stance. In addition, the risks to inflation are to the upside as acknowledged by the CBRT given increasing global food prices, higher oil prices, and the continued strong economic performance in Turkey with Governor Agbal saying that he expected 8.5% annualised growth in Q4.
Turkish inflation continues to rise (CPI in white, core CPI in blue)
Given the continued acceleration in inflation, I believe the CBRT will want to act to keep the credibility they have won in the eyes of the market, as well as get ahead of the building of inflationary pressures that could see CPI continue to miss to the upside. I expect to see a 50–100bps increase in the repo rate on Thursday, with continued strong rhetoric in the statement that the CBRT stand ready and willing to act should upside risks to the inflation forecast materialise. The OIS market is currently pricing 20–25bps of hike, however the Bloomberg survey expectations are for no change given the CBRT did not hike last month when the same arguments could have been made.
Current account data showed the 14th consecutive month of deficit, however the tentative signs of de-dollarisation seen in CBRT data indicate that the deficit may tighten in the first months of this year as gold purchases slow.
The Turkish current account posted another month of deficit in December, with this the 14th month in a row that the country’s current account has been in deficit. This also brings the 2020 full year current account deficit to $36.7bn, the highest since 2017. This deficit has been the result of the CBRT’s easy money policies both increasing domestic demand, as well as causing Turks to move some of their savings into gold. In addition, the tourism season was wiped out by the coronavirus pandemic, with tourism a key source of income and foreign currency for the Turkish economy.
Turkey’s current account has been in deficit for 14 months
Turkish tourism has suffered greatly due to the coronavirus
The recent data from the CBRT showing a tentative start to de-dollarisation should be a boon to the Turkish current account in 2021, with a reduction in gold imports allowing the current account deficit to tighten. A reduction in the demand for gold should see the Marshall-Lerner Condition begin to hold for Turkey, and the devaluation in the lira since the beginning of 2020 should lead to a delayed improvement in the current account balance. In addition, the recent move to tighten monetary conditions should also put pressure on the current account to tighten as the reduction in credit stimulus should see a lowering of imports.
The big unknowns for the Turkish current account in 2021 are the economic recovery in the Eurozone, and whether the country will have a 2021 tourism season after 2020’s was cancelled. The EU is Turkey’s largest export destination, with the economic recovery there vital for Turkish export volumes and hence the current account. Given the stuttering vaccine rollout in the EU it looks as if the economic recovery in the Eurozone could continue to be weak, which will limit the pickup in Turkish exports in 2021. In addition, the slow pace of vaccine rollout looks to be raising question marks about the likelihood of the 2021 tourism season being as large as hoped. Should tourism not rebound in the way that many had hoped for, this will be a negative for the Turkish current account balance.
The CBRT inflation expectations survey showed that year-end inflation expectations have risen from 11.15% in January to 11.23% in February, further away from the CBRT’s year-end forecast of 9.4%.
The CBRT’s inflation expectations survey saw year-end inflation expectations rise to 11.23% from 11.15% in January, as recent upside surprises to CPI readings have pushed expectations for CPI higher. This is particularly problematic for the CBRT as their year-end CPI forecast of 9.4% is predicated on a -0.5 point contribution from lower inflation expectations. Although inflation expectations have fallen since the appointment of the new economic team in November, there is a risk that inflation expectations remain elevated, which would lead to the CBRT having to revise their year-end inflation target higher. This is another reason for the CBRT to hike rates at their February meeting, in order to lower inflation expectations back towards the CBRT’s year-end forecast.
Turkish inflation expectations continued to rise in February, however they have fallen since the new economic team was appointed in November
The CBRT’s 9.4% year-end inflation forecast includes a -0.5 point contribution from falling inflation expectations
