The main index in Borsa Istanbul (BIST) plummeted by 15.1 percent, while the interest rate of two-year treasury bonds jumped by 2.08 percent to over 11. When the Central Bank, which was only a “spectator” of the situation, refused to increase the interest rates in its Monetary Policy Committee (PPK) meeting on Jan. 21, the markets went bizarre. When the dollar hit 2.4 liras, the Central Bank realized that “the car was about to go off the cliff” and held an extraordinary PPK meeting on Jan. 28. The decisions taken in the meeting were as extraordinary as the meeting itself and a shocking interest rate hike behind the expectations of the markets was announced. As a reaction to the decision, the dollar eased to 2.17 early in the following day, but later increased to 2.23 liras on the demand from companies. Economists expect the currency to stabilize in a week. But what did the Central Bank do and what will its implications be?
Central Bank takes control
In an aggressive move it made on Jan. 28, the Central Bank increased the one-week repo rate to 10 percent from 4.5 percent, the overnight lending rate to 12 percent from 7.75 percent and the overnight borrowing rate to 8 percent from 3.5 percent.
With this decision, the bank, which has been following up the markets, finally took matters in its own hands. This is seen as a step to repair the Central Bank’s hurt credibility. Also, the bank’s decision to use the interest rate tool efficiently and effectively in the fight against inflation will likely have a positive effect on middle and long term inflation expectations. Experts expect the U.S. dollar to ease to 2.10 against the lira when the high demand from the companies no longer persists. Bankers note that the interest rates for active commercial loans, which total to around 200 billion liras, will increase. The rates for new loans are also expected to be raised.
Growth expectations lowered
The interest rates of the loans for SMEs are expected to increase around 2.5-3 pints compared to the last month, while the increase in consumer loans is expected to be around 1 point. Deposit rate, which was around 9 percent one month ago, is now 10.5 percent. Analysts say the banks’ profits for 2014 will drop by 5 to 6 percent due to the decision. The Central Bank’s decision may also negatively affect growth. In addition to the increase in interest rates for loans, this year will see two elections and the expectations for Turkey’s economic growth for 2014 have been lowered to 2.5-3 percent from 3.5-4 percent.
Emerging countries under
pressure
Danish Danske Bank, one of the biggest creditors of northern Europe, noted in its latest report that dramatic sales loom large in emerging markets, highlighting a few points that trigger the sales. The first subject on the bank’s report is China. “First, the Chinese PMI data for January surprised once again on the downside, increasing market fears of a continued fairly sharp slowdown in Chinese growth. China is now the biggest trading partner for many Emerging Markets – particularly for the commodity exporting Emerging Markets such as South Africa, Russia and Brazil,” according to the report.
Secondly, the ongoing major corruption scandal in Turkey continues to worry investors, Danske Bank noted. “The lira sell-off has gained further momentum after the Turkish Central Bank (TCMB) contrary to expectations did not act aggressively to tighten monetary policy,” the report said.
The third point in the report is Argentine. “The Argentine central bank in a surprise move allowed the Argentine peso to initially drop 13 percent in one day and speculation is now increasing that the central bank is now very close to having run out of foreign currency reserves,” it said.
“Fourth, the ongoing demonstrations in the Ukraine have turned violent this week and the situation is becoming increasingly volatile. Furthermore, we have also seen large demonstrations in Thailand. In fact, it seems that political uncertainty has been rising in a number of emerging markets. Other than Ukraine and Thailand, Turkey is obviously also a concern. Furthermore, it should be noted that we have elections in a number of large EM countries this year, which might further add to political uncertainty – for example, Turkey, India, Indonesia, Brazil and South Africa,” Danske Bank said in its report.
While the markets are concerned by the fluctuations in emerging markets, a report that grouped troubled markets under five topics, prepared by one of the world’s leading independent macroeconomic research institutions Capital Economics, stands out. “The real lesson from recent events is that the need for investors to discriminate between individual emerging markets has never been greater,” the report said, adding that the footsteps of a crisis are being heard in Turkey, Ukraine and Argentina. The report noted that the investors gained expertise in the last crisis in jumping from one market to another, recalling that the crisis, started in Thailand in 1997, hit Europe and spread to Russia. The signs of the process are seen in Latin Americas, Capital Economic said, noting that today the emerging markets have very different characteristics.
In the grouping by Capital Economics, the first group includes Argentina, Ukraine, and Venezuela, where “serial mismanagement by the authorities is now posing a risk to economic stability.”
The second group consists of countries that face weak growth. Turkey, South Africa, parts of Southeast Asia, Chile and Peru “are generally the ones that are most vulnerable to Fed tapering and the shift towards tighter global monetary conditions over the next couple of years.”
Developing European countries that have tried to balance in the last decade make up the third group. “Emerging Europe including Hungary and Romania have the legacy of previous booms continues to cloud the outlook. A combination of the hangover from last decade’s credit bubble and strong financial ties to the euro-zone means that banking sectors are still fragile,” the report said.
The fourth group brings together Brazil, Russia, India, China (BRIC) that all have domestic structural problems. “Their prospects will be shaped by the extent to which policymakers implement economic reform, rather than events in Europe or the actions of the Fed,” the report noted.
The countries “where the outlook is brightening,” namely Korea, the Philippines and Mexico, are in the fifth group. Koreas stands out between these countries with its increasing performance and expanding exports, the Philippines enjoys growth supported by economic reforms. Mexico is supporting its growth by exports market and reforms. Capital Economic warned investors in its report not to confuse the group one countries with the ones in group five.
