Turkey Central Bank Finally Lifts Lira With Shift to Hidden Rate

Jan 12, 2017 11:59 am ET

(Bloomberg) -- Turkey’s central bank finally gained traction in its efforts to prop up the lira.

The currency surged the most in more than a year after the regulator didn’t offer any funding to local lenders through the usual one-week repo auction at 8 percent on Thursday. Instead, banks were expected to borrow at 10 percent via the so-called late liquidity window, according to a person with direct knowledge of the matter, who spoke on condition of anonymity because the information isn’t public.

With President Recep Tayyip Erdogan often voicing opposition to raising rates, the move shows policy makers getting creative after failing to arrest the decline in the lira -- which after last year’s 17 percent slump, weakened for five days through Wednesday. The central bank lifted interest rates for the first time in almost three years in November to little avail, with Turkey’s economy hurt by terrorist attacks and political instability, and weakening global demand for riskier assets since Donald Trump’s election victory.

“It seems the central bank conducted a ‘backdoor’ monetary policy tightening,” Piotr Matys, an emerging-market currency strategist at Rabobank in London, said by e-mail. “It is too early to judge whether the lira is out of the woods just yet. A substantial rate hike on January 24 may be required if the lira continues to fall ahead of the meeting.”

Rate Demands

Investors have been calling for the central bank to put a floor under the lira with higher interest rates, and when the central bank said on Tuesday it may intervene to protect price and financial stability, the market focused on the omission of any plan to alter borrowing costs. The lira gained only briefly after Tuesday’s announcement, before resuming its decline.

That changed following the lack of a one-week repo auction on Thursday. The lira reversed losses and gained as much as 2.5 percent against the dollar -- the biggest advance since November 2015. It was trading 1.9 percent higher at 3.7903 per dollar at 4:49 p.m. in Istanbul.

“Funding through late liquidity might create a significant tightening,” said Sakir Turan, Odeabank AS economist in Istanbul. “This would of course support the lira in the short term by raising the cost of central bank funding provided to the market.”

The bank’s strategy also got a rare boost from Erdogan, who said the lira was too weak and that the central bank had the tools to “ruin” what he described as a game played by currency traders to bet against the currency.

The yield on Turkey’s 10-year lira bonds fell by 41 basis points to 11.53 percent, according to data compiled by Bloomberg. That, coupled with a drop in the lira overnight forward implied yield, pointed to revived interest among foreign investors for lira-denominated government debt, according to Bora Bocugoz, executive vice president for Treasury and Financial Institutions at Denizbank AS in Istanbul.

‘Clear Direction’

“The central bank has shown market participants a clear direction in a message that also got a boost from President Erdogan,” Bocugoz said by phone. “When the late liquidity window is included, the central bank has a very effective corridor of interest rates” with the highest at 10 percent, he said.

Investors also shrugged off the potential impact of higher borrowing costs on banks, with the Borsa Istanbul Banks Index up 6.2 percent -- the most since November 2015 and outpacing a 4.2 percent increase for the benchmark gauge. Akbank TAS and Turkiye Garanti Bankasi AS, Turkey’s two largest lenders by market capitalization, led the rise.

Local lenders have a total of about $22 billion in borrowing from the central bank, or 4 percent of their liabilities, according to Tomasz Noetzel, a Bloomberg Intelligence analyst.

The lira was “raising concerns about asset quality” in relation to their foreign-currency corporate loans, Kutlug Doganay, a banking analyst at Is Investment in Istanbul, said by phone. So while tighter liquidity conditions are “a negative at first glance,” investors are “focusing on lira stability more,” he said.

--With assistance from Asli Kandemir and Tugce Ozsoy To contact the reporter on this story: Onur Ant in Ankara at oant@bloomberg.net. To contact the editors responsible for this story: Alaa Shahine at asalha@bloomberg.net, Stuart Biggs, Mark Williams

©2017 Bloomberg L.P.