UPDATE 3-Turkey takes further steps against currency gains

Tue Feb 19, 2013 9:35am EST

Related Topics

* Overnight borrowing, lending rates cut by 25 bps

* One-week repo rate stays at 5.50 percent

* Required reserves raised to control loan growth

* Further rate cut possible (Adds analyst comment, details on market reaction)

By Seda Sezer and Seltem Iyigun

ISTANBUL, Feb 19 (Reuters) - Turkey's central bank cut two of its three main interest rates on Tuesday in a bid to prevent speculative capital inflows from boosting the lira currency too sharply, while also taking steps to cool domestic loan growth.

A healthy economic outlook and the gradual move of its credit ratings to investment grade has boosted the appeal of Turkish assets, forcing officials to take steps to battle a flood of cheap cash from central banks in the developed world that threatens to knock its economy off balance.

The bank shaved a quarter point off its borrowing and lending rates but kept its central one-week repo policy rate, which it cut by 25 basis points in December, unchanged at 5.50 percent.

It also raised reserve requirements to keep loan growth in check, increasing the amount of lira and forex that lenders have to hold with the bank as it strives to keep a lid on Turkey's current account gap while supporting growth and capping the lira.

"The central bank is now probably at the front of the pack in running the most complicated monetary policy the world has ever seen," said Timothy Ash, head of emerging markets research at Standard Bank.

"The combo of lower policy rates to try and deter hot money inflows and prevent the over appreciation of the lira, and macro prudential policy to counter the impact on domestic credit growth, continues."

The lira weakened in response while two-year Turkish bond yields sank 13 basis points to 5.64 percent, a tick away from a record low. Added to earlier moves, the rate changes brought the overnight borrowing rate and the lending rate to 4.5 percent and 8.5 percent respectively.

All 12 economists in a Reuters poll had expected it to keep its policy rate on hold at 5.50 percent, while five said they were expecting the bank to trim both ends of the interest rate corridor by 25 basis points.

Eleven had forecast a rise in lira required reserves.

POLITICAL PRESSURE

The complicated policy mix has drawn criticism from international investors and economists in the past, but the bank has largely come up trumps by keeping Turkey growing steadily and robustly at a time when others are not.

The bank said a rebalancing of the economy was on track with exports continuing to rise and domestic demand following a moderate pace, but said credit growth had accelerated significantly amid "strong" capital inflows.

"We are seeing a dovish bias on the side of the rates corridor, but also a more prudent bias from the standpoint of reserve requirements," said Benoit Anne, head of emerging markets strategy at Societe Generale.

"It's a pretty credible policy mix."

Still, the bank has come under attack from some government ministers who say it is doing too little to boost growth.

The economy is expected to have grown just 2.5-3 percent in 2012, below the government's 3.2 percent forecast and less than half the pace of the previous year, a slowdown some ministers have blamed partly on cautious monetary policy.

In November, the bank said it would cut interest rates in a measured way if the real exchange rate reached 120-125 on an index measuring the weighted average of domestic prices relative to prices of its trade partners.

The rate rose to 120.16 in January, although the lira has since weakened against the dollar.

"The (central bank's) priority is likely to remain on the financial stability side in the near term," said Sengul Dagdeviren, senior vice president at ING Bank.

"(That) means lower overnight borrowing rates, to the extent real lira exchange rate upward pressure remains, and higher required reserves." (Editing by Nick Tattersall and Patrick Graham)

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