A fragile compromise on economic management

Former Deputy Prime Minister Ali Babacan, who was Prime Minister Ahmet Davutoglu’s choice, was not nominated to be deputy prime minister in charge of economic affairs. However, it wasn’t Berat Albayrak, the son-in-law of President Recep Tayyip Erdogan, who supports the president’s economic views, who was nominated either. Mr. Albayrak will join the government, but in a post related to energy matters. Rather, it was the previous finance minister, Mehmet Simsek, who was nominated as deputy prime minister for economic affairs.

I believe this choice expresses a fragile, last minute compromise between the president and the prime minister. Profound divergence on economic management, specifically on monetary policy, in the incumbent Justice and Development Party (AKP) goes back to a harsh interest rate fight that occupied the economic agenda this spring. On the eve of the June 7 election, Mr. Erdogan had harshly pressured the management of the Central Bank of Turkey, accusing them of pursuing not only a wrong monetary policy but a policy opposing national interests, and asked them to make radical cuts in interest rates. Nevertheless, Mr. Babacan, as the top economic decision maker at the time, had the courage and the perseverance to support the central bank management. Mr. Erdogan was obliged, finally, to back off his claims, as markets had started to show their bad temper. Even Mr. Davutoglu did not take a clear position in this fight — but since he did not join Mr. Erdogan in pressuring the central bank, it was felt that he had confidence in Babacan’s views. Babacan, who declared he would be ending his political life, announced, however, his candidacy for the Nov. 1 election at the last minute, under the insistence of Mr. Davutoglu. Nevertheless, it was easily observed in the media that Mr. Erdogan had already opted for promoting his son-in-law to an economic affairs post in the government.

Finally, the president and the prime minister found a compromise with Mehmet Simsek, who shares similar views with Mr. Babacan but has neither his weight nor his experience. I do not believe, however, that the compromise on Simsek represents a compromise concerning the divergence on monetary policy. The choice of Mr. Simsek appears, instead, to be a last minute solution for overcoming a basic dilemma. The profound divergence on monetary policy is prone to drive the AKP government through new clashes with the central bank and its interest policy. In the last few weeks, Mr. Erdogan clearly showed he has not given up his position on this issue. He declared at least three times that in order to revive sluggish investments, the central bank must sizably decrease its interest rates. However, the central bank plays deaf and continues to make what it believes to be the right decisions. It decided not to change its interest rates at last month’s monetary policy meeting held on Tuesday, and stated in the press release, “Future monetary policy decisions will depend on the inflation outlook. Taking into account inflation expectations, pricing behavior and the course of other factors affecting inflation, the tight monetary policy stance will be maintained.”

So, what about inflation? Currently, it revolves around 8 percent, while the policy interest rate of the central bank is 7.5 percent. Core inflation is above 8 percent and it is on a growing path. The central bank forecast 6.5 percent inflation for the end of 2016, but expectations are now at 7.4 percent. Moreover, if the US Federal Reserve decides in December to start increasing its interest rates, the Central Bank of Turkey will be obliged, as it has already announced, to also increase its policy interest rate for controlling a drift in the exchange rate. On one side, there is the conviction of the president of republic; on the other side there is an opposite conviction of the central bank. What kind of compromise can we expect from Mr. Mehmet Simsek?


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