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Turkish lira at record low amid higher inflation

Turkey’s lira fell to a record low on Tuesday amid concerns about rising inflation and the fallout from the new year’s day terrorist attack in Istanbul.

The currency dropped 1.5 per cent to TL3.5993 against the dollar. The fall underlines investor disdain for a currency that fell 17 per cent in 2016, marking the second-worst performance among emerging market currencies after the Argentine peso.

Political risk and security concerns have played a significant part in the lira’s decline, and the Istanbul nightclub attack, which claimed 39 lives, weighed on Tuesday’s foreign exchange trading.

The other factor hurting the lira was worse than expected December inflation data, which rose from 7 per cent in November to 8.5 per cent. Sentiment was also fragile across equities and bonds. The Borsa Istanbul 100 share index fell more than 1 per cent after a modest gain in opening trading, while benchmark bond yields rose.

Analysts highlighted that the lira’s decline was fuelling domestic inflation. Turkey’s recession and seasonal effects should be reasons for inflation to be weak, said Lutz Karpowitz at Commerzbank, but government pressure on Turkey’s central bank to avoid interest rate rises was complicating the economic climate.

“The government in Ankara has long since realised that there is a risk of adversity on the currency front, but it stubbornly refuses to draw the correct conclusions,” Mr Karpowitz said.

Piotr Matys, foreign exchange strategist at Rabobank, said the economy had lost momentum since July’s failed coup, and the lira’s fall was always likely to fuel inflation.

Turkey’s economy has gone into sharp reverse, with gross domestic product retreating from a 4.5 per cent increase in the first half of 2016 to a contraction of 1.8 per cent in the third quarter.

“To prevent inflation expectations from deteriorating significantly, it is crucial to stabilise the lira,” said Mr Matys.

“Allowing the lira to weaken further will not only fuel inflationary pressures but may also cause more damage to already fragile consumer confidence and the economy driven mainly by domestic demand.”

Turkey’s central bank, which meets on January 24, raised rates in November for the first time since 2014. It should raise them again to discourage speculators, Mr Matys added.

But as Mr Karpowitz pointed out, the question of the independence of policymakers remained unanswered.

“President [Recep Tayyip] Erdogan has repeatedly asked the central bank to lower interest rates, and at present it is not without risk to oppose the Turkish president,” Mr Karpowitz said.

Economists at JPMorgan, commenting on the central bank’s December decision to keep rates on hold, said the lira’s level would determine the central bank’s next move. They expected rates to remain where they were “unless the lira depreciates in a disorderly way”.

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