Since 2006 Turkish central bank has officially been in pursuance of price stability after reforms such as law amendments regarding the formation of the bank differ the way the bank function. Until 2009, the bank irrefutably had been on the path to achieve price stability. However, in the following years, we have seen the bank using non-conservative tools to reach the desired results that have unsurely included the price stability.
Over the past five years, Turkish central bank has failed to lower the inflation rate to 5%, which it set a long-term target for the price stability, while the rest of the world has struggled to slay deflation. According the December 2015 inflation report, consumer price index in Turkey increased by 8.81% y/y. Food prices have been heavily accused for the higher than expected increase which were up 13.7% (nonprocessed foods). This was highly elusive given the country’s food self-sufficiency. But, more importantly, I-index which excludes food, drink, and energy prices (or core inflation as some say) rose by 9.5%, which clearly reveals the central bank’s painful failure.
Tightening was simply what was expected from the central bank in such cases. Turkish central bank referred to the U.S. Federal Reserve’s policy normalization as the trigger to simplify its own monetary policy. However, after the Fed move in December, Turkish central bank kind of postponed its own normalization process, referring this time to high volatility in the financial markets as a prerequisite. As this was one of the worst cases ever happened in the history of communication in central banking, its credibility got shredded again, worsened already dismal expectations. Now, according to the participants of the survey of expectations, a Turkish central bank reaching its inflation target is unlikely to occur in two years.
It is a fact that Turkish central bank has become less and less resistant to political pressures, as concerns about the bank’s independence have remarkably risen. If so, one should argue that the central bank has also lost its influence on the rates in the credit markets. In other words, politicians’ repeated calls for lower rates to boost growth has resulted in or are to result in with a monetary policy that lacks ability to impact interest rates. See the chart below.
At this point the famous issue of output-inflation trade-off springs to mind, and what is so interesting about the Turkish case is that the central bank has presumably managed to fail in both sides. This all has been a central-bank failure of epic proportions.