Turkey and Hungary – tales of unorthodoxy

By Mike Peacock
July 23, 2013

A big moment for Turkey. After desperate attempts to shore up the lira by burning through its reserves, the central bank must decide whether to raise interest rates instead.

Prime Minister Tayyip Erdogan, fearing an economic slowdown ahead of elections next year, will not want to see a sharp tightening of policy. Instead, he is blaming shadowy forces for his country’s plight.
But a rate rise might be what is required to prevent a full run on the currency and if that is the case, the earlier it is done the better to calm investor nerves. The central bank sent a strong signal last week that it was minded to push up at least some of its key rates regardless of the political pressure.

The odds are on it raising the overnight lending rate by something between 50 and 150 basis points even though testimony by Federal Reserve chairman Ben Bernanke last week has calmed markets about the speed and scale of U.S. withdrawal of stimulus and allowed emerging markets, including Turkey’s, to settle down somewhat.

In language likely to alarm international investors further, Erdogan and members of his government have accused speculators and a “high-interest-rate lobby” of stoking volatility in financial markets to make a quick profit at the expense of the Turkish economy. Now, he has urged Turks not to use credit cards, accusing banks of locking people into poverty with excessive fees.

The central bank’s signal came after a top level meeting of ministers so it could be that it got the nod to act – good for policy unity but it puts a question mark over its independence and over how dramatically it might act.

The stakes are high and there are interesting parallels with Hungary where Prime Minister Viktor Orban has also thumbed his nose at economic and political orthodoxy, walked away from an IMF deal and essentially got away with it.

The difference is that when he first did so, emerging markets were very much in demand. After the Federal Reserve’s QE exit strategy, they have been right under the cosh.

Hungary’s central bank, now chock full of government appointees, is expected to deliver its 12th successive quarter-point interest rate cut to a new low of four percent. Recent weakness in the forint after the government flagged a new plan to help households indebted in foreign currencies has done little to change analysts’ expectations for more easing.

In the past three years Orban has imposed “crisis taxes” on telecoms and energy firms, and banks have incurred big losses because of his policies. After some respite, the premier – who is also seeking re-election next year – is preparing to modify the contracts borrowers signed with banks to secure foreign currency mortgages. Further losses beckon.

Another potential warning signal came from Hungary’s biggest bank OTP, which said its chief executive had sold more of his shares in the group following the divestment of a hefty slab last week, leading to speculation that he knows about something that is hurtling down the track towards the banks, or that he is acting in protest at the plan to re-write loan agreements to help people with foreign currency mortgages.

Intriguingly, central bank chief Matolcsy will hold a news conference after the central bank’s policy meeting to give “guidance” about rate decisions. A close ally of Orban, he has stopped the custom of regular post-meeting press conferences since taking the helm in March. Joining the forward guidance band wagon?

Both Turkey and Hungary have felt the backwash from the Fed’s announcement of an exit plan from QE. So has South Africa. Its central bank kept interest rates at 5 percent last week, constrained from delivering a cut the economy could do with due to inflationary pressures stemming mainly from the weaker rand. Today, the Reserve Bank issues its annual economic report.

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“Another potential warning signal came from Hungary’s biggest bank OTP, which said its chief executive had sold more of his shares in the group following the divestment of a hefty slab last week, leading to speculation that he knows about something that is hurtling down the track towards the banks, or that he is acting in protest at the plan to re-write loan agreements to help people with foreign currency mortgages.”

Or that his clout is a thing of the past. Note, OTP has a rather interesting ownership structure.

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