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Reuters: Turkish inflation climbs to near 20% amid rate cuts

Article published: 3 Nov,  2021

IB Economics syllabus: Macroeconomics (inflation, monetary policy), The Global Economy (exchange rates)

The Turkish lira

There are A LOT of articles about the worst performing currency of 2021: the Turkish lira. This article above focuses on the easy (expansionary) monetary policy of the Turkish central bank and how it has contributed to an inflation rate of over 20%, but you can also find articles about how the lira weakened following the central bank’s moves:

Inflation

So back to inflation: guess what, even the in those who study the IB Economics syllabus know that when interest rates are cut, consumption and investment should increase in the future for 2 reasons:

  1. Lower borrowing costs (means more purchases of goods and services by households, and more purchases of capital by firms)
  2. Lower returns on deposits sitting in banks (savings)

Whenever consumption and investment increase, this boosts aggregate demand (AD), which therefore shifts right and leads to increased average prices. And yes, that is what we call inflation. To be more exact, demand-pull inflation. So when this type of inflation is higher than the target (yepp, 21% is just a little bit higher than the central bank’s target of 5%), then usually tight (contractionary) monetary policy is used in the form of raising interest rates. Now that is the exact opposite of what the Turkish central bank has done… So let’s see if this series of interest rate cuts has helped push inflation down in Turkey:

36% inflation!!!! Hmmmm probably our textbooks are right then, and easy monetary policy is perhaps not the best idea to try and lower inflationary pressures

Source of image: Unsplash.com

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