Turkey Finally Stamps Out Credit Oddity as Hikes Lift Loan Rates

(Bloomberg) — A financial anomaly that wreaked havoc on Turkish banks has ended after 10 months, in the first explicit sign that policy makers are getting a better grip on the cost of money after years of ultra-low interest rates.

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Commercial lending rates at the start of August surged to near 31% — the highest in five years — surpassing the interest banks pay on lira deposits of up to three months, according to the latest official data. The discrepancy had put pressure on bank margins following regulatory measures that sought to stabilize the Turkish currency.

An abrupt tightening of monetary policy is finally feeding through to the economy after two rate hikes and steps to scale back the incentives for lenders to attract lira deposits.

The central bank has also moved to drain excess lira liquidity in financial markets that suppressed its borrowing rate and offset the impact of tighter policy.

Improving the transmission of rates into the economy has emerged as a priority for central bank Governor Hafize Gaye Erkan since she took over in June. During a presentation last month, the governor said the gap between the policy benchmark and market rates should be narrowed, with a simplification of regulatory measures helping close the spread.

Regulations under Erkan’s predecessor pushed banks to reward savers for lira deposits and proved critical in keeping the Turkish currency stable ahead of May elections by deterring demand for dollars.

But the approach resulted in distortions that brought deposit rates to a two-decade high.

The new tack since June has pushed the weighted average rate offered on lira deposits of as long as three months down for six straight weeks. It was at 27.8% as of Aug. 4, down from a peak of near 42% in late June.

With inflation on the rise and already running at almost 50% in annual terms, the risk is that savers will continue to look to stocks and gold as a hedge against runaway prices.

Even after Turkey’s first rate hikes in over two years, the central bank’s benchmark remains some 30 percentage points below inflation, among the biggest differentials in the world.

Still, the monetary transmission mechanism is on the mend now that the gap between lending and deposit rates has turned positive.

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