BofA Sees Limited Inflation Risk in Turkey, Expects Rate Cut from Central Bank

Turkey's inflation rate for December stood at 1.03%. This figure fell short of the consensus estimate of 1.6% and Bank of America's (BofA) forecast of 1.5%. The slowdown in inflation was attributed to a decline in unprocessed food prices, particularly with a 1.7% monthly drop in fresh fruit and vegetable prices, which had seen significant increases in the previous two months.

Additionally, food inflation decreased from 5.1% to 1.3%, while service inflation fell from 1.6% to 1.1%. The monthly inflation for the core B index, excluding volatile items, also slowed from 1.5% to 1.2%.

BofA economists emphasized that, on a seasonally adjusted basis, Turkey's headline inflation was expected to average 2.4% in the fourth quarter, down from 3% in the third quarter. The core B index's inflation was projected to decrease from 2.6% to 2.4%.

The report noted that the recent minimum wage increase falling at the lower end of expectations posed limited upward risk to BofA's 25% inflation forecast. Additionally, BofA suggested that if administrative price changes aligned with expected inflation instead of retrospective indexing, inflation could materialize at lower levels.

Regarding monetary policy, BofA stated that the Central Bank of the Republic of Turkey (CBRT) should continue to ease its monetary policy through interest rate cuts. The CBRT had reduced the policy rate by 250 basis points in December, as anticipated by BofA.

Despite the absence of a predetermined cycle and fewer meetings scheduled throughout the year, BofA now expects another 250-basis-point cut in January. This forecast was made in light of the lack of a CBRT meeting in February. BofA maintains its prediction that the policy rate will drop to 30% by the end of the year, following seven cuts of 250 basis points each.

Bank analysts believe that as long as positive real interest rates are maintained, Turkish lira (TRY) savings will remain attractive throughout the year. They anticipate a real appreciation of the TRY but note that the potential for value increase is diminishing as inflation decreases.

As a result, BofA revised its year-end forecast for the USD/TRY exchange rate from 44 to 41.