The Turkish central bank is taking decisive action to manage funding costs, pushing the average rates above the benchmark by limiting access to the one-week repo rate. As a result, banks are compelled to seek more expensive funding via the overnight rate. This strategic adjustment reflects the central bank’s careful stance on dollar demand, particularly following the turbulent market conditions last March, which were triggered by the arrest of Istanbul Mayor Ekrem Imamoglu. This incident led to a swift withdrawal from lira-denominated assets, emphasizing the need for cautious monetary policy.

Impact on Local Banking and Currency

The increased costs of borrowing from the central bank are prompting local banks to elevate the deposit rates available to customers. This move aims to retain savers within the local currency, reinforcing stability in a volatile economic climate.

• Current Lira Rate: The Turkish lira stood at 38.42 per US dollar as of 11:00 a.m. in Istanbul, reflecting a slight decline of 1.1% over the past week.
• Foreign Currency Sales: Last week, the central bank’s foreign currency sales reached approximately $3.4 billion, a decrease from $4.3 billion the previous week, according to Erkin Isik, Chief Economist at QNB Turkey.

Despite the recent slowdown in sales, Isik notes that demand for the dollar persists. The lira’s stability, crucial for the central bank’s disinflation efforts, has faced significant challenges, particularly following Imamoglu’s detention, which necessitated an emergency interest rate hike and substantial reserve expenditures to stabilize the exchange rate.

Reserves and Monetary Policy

The central bank’s gross foreign exchange reserves saw a reduction of $3.7 billion during the week ending April 18. To bolster its reserves, the bank collects hard currency from exporters and through payments on exporter loans, although the specifics of these transactions remain undisclosed.

Another unexpected interest rate hike this month, coupled with a commitment to stringent monetary policy, has begun to alleviate some investor anxieties. Morgan Stanley recently indicated a cautious return to the Turkish lira carry trade, suggesting a nuanced shift in market sentiment.

Easing Demand for Foreign Currency

Onur Ilgen, head of treasury at MUFG Bank in Istanbul, remarked on the signs of declining foreign currency demand in tandem with the central bank’s tightening measures. Rising costs associated with hedging and forward contracts are also contributing to a decrease in corporate demand for dollars.

• Forward Rates: The lira’s forward implied yields for one-month and three-month periods have surged to nearly 48%, slightly up from last week.

While there are indications of a gradual reduction in FX demand, Ilgen emphasizes that there remains a lack of interest in the lira from foreign investors, which continues to exert pressure on the currency. The central bank’s strategic decisions will be critical in navigating these economic challenges and ensuring the lira’s stability moving forward.