(Bloomberg) — Turkey will probably suffer a shallower economic contraction than first anticipated, according to Goldman Sachs Group Inc. and Deutsche Bank AG, which also predicted the country’s interest rates may have to rise far higher.
“As the ability of Turkey’s central bank to intervene in the market declines in tandem with its foreign currency reserves, we think that monetary policy will need to tighten to slow the pace of imports, encourage inflows and discourage dollarization,” Goldman economists Kevin Daly and Clemens Grafe said in a report to clients.
Thanks in part to a surge in credit, Goldman said gross domestic product will shrink 3.5% in 2020, a revision of its previous outlook for a 5% decline. Deutsche Bank also improved its full-year forecast to a drop of 2.5%, less than the minus 5.1% seen earlier, which it predicts will be followed by a recovery of about 4% in 2021.
As a result of a “more limited contraction,” Goldman’s economists expect the current-account deficit at 4% of GDP in 2020.
In response, Turkey’s policy rate could end the year at 12% and reach 14% by the end of the first half in 2021, according to the report. Goldman’s previous calls were for the benchmark to rise to 10% by the end of this year and 14% by end-2021.
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“The main risk to this view is that the authorities tighten policy too little, too late as they prefer to remain supportive of growth,” Daly and Grafe said.
The one-week repo rate has been at 8.25% since May and will likely be kept unchanged at a meeting this Thursday, according to most analysts surveyed by Bloomberg.
While avoiding an outright rate hike, policy makers have started tightening liquidity by using fringe tools as the lira hit consecutive record lows in past weeks. Deutsche Bank expects Turkey’s funding rates to reach “at least 12% — with upside risks in case FX does not stabilize.”
The average cost of cash provided by the central bank was at 10.39% on Friday, rising from as low as 7.34% in mid-July, as policy makers began to provide funding through the late liquidity window at their highest rate.
Goldman said the central bank may stick with that approach. It will likely raise the late liquidity lending rate to 12% from 11.25% on Thursday, according to a separate report from the U.S. bank.
Tighter monetary policy will likely mean a weaker recovery in demand, which could translate into GDP growth of only 3.5% in 2021, according to Goldman.
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Treasury and Finance Minister Berat Albayrak said this month that Turkey’s economic expansion “will be significantly above 5%” next year if the country doesn’t experience another major wave of the coronavirus.
“The downside risks remain high” for Turkey’s economy, Deutsche Bank analysts said in a report. “The sectors that have been the most severely impacted by the crisis — tourism, restaurants and manufacturing are likely to take significant time to reach their pre-crisis levels.”
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