MNI INTERVIEW: FX Passthrough Key To CBRT Outlook - Cangoz

Lira weakness means Turkey will miss its 2025 inflation target, with monetary policymakers likely to consider tightening further before June’s meeting via measures such as adjusting funding rates or reserve requirements, a former senior government advisor told MNI.

Although the sharp depreciation after March 19 has partly reversed, the lira has depreciated by 2–2.5% per month on average, suggesting continued FX pressure, M Cokun Cangoz said in an interview. 

Some of the inflationary impact of the depreciation will be absorbed by tighter monetary policy, with the CBRT having raised the policy rate from 42.5% to 46%, the overnight lending rate from 46% to 49%, and the overnight borrowing rate from 41% to 44.5% in April, and by subdued domestic demand, he said.

“The passthrough from exchange rate depreciation to inflation typically peaks within three–six months. However, due to high real interest rates and tight domestic demand, we expect the current TRY depreciation to primarily affect prices via imported goods and input costs,” Cangoz said.

“Core goods inflation—which is sensitive to FX and import content—may rise in the short term but could remain moderate if the exchange rate stabilises. However, if depreciation continues, second-round effects via wages and inflation expectations may lead to more persistent inflation.”

INFLATION FALLS

Annual inflation fell to 37.9% in April, while in May market participants’ year-end expectations stood at 30.4%, and 25.1% 12-months ahead. Firms' and households' 12-month inflation expectations were 41.7% and 59.3% in April, respectively. (See MNI INTERVIEW: CBRT Will Raise Target, Tighten - Demiralp)

“We expect inflation to end the year 1.5–2 points above the CBRT’s upper target of 29%, contingent on global commodity price developments,” said Cangoz, a director at Ankara's Economic Policy Research Foundation of Turkey (TEPAV), who has previously held high-level roles at both the Turkish Treasury and the World Bank.

Ultimately, inflation’s magnitude and persistence will depend on the duration of TRY weakness and CBRT policy credibility, he added.

“[The CBRT|] will also monitor whether the FX passthrough is abating, as suggested in the CBRT’s recent working paper. Depending on incoming data before the June MPC, the Bank may consider additional steps—such as adjusting funding rates or reserve requirements—to reinforce tightening,” he said.

“On reserves, with CDS levels still elevated, external borrowing may remain limited. Instead, reserve buildup is likely to depend on portfolio inflows, improved FX sentiment, and resident de-dollarisation driven by high real rates.”

While January–March data did not indicate significant fiscal tightening, recent statements from the Treasury and Finance Ministry— which have focused on reducing tax evasion and increasing tax fairness—suggest a potential shift toward a more disciplined stance, despite the government’s political and social priorities, Cangoz said.

But fiscal policy could be used to mitigate the impact of trade tariffs, for example via targeted support or competitiveness-enhancing incentives such as R&D subsidies, he added. 

FISCAL CONSTRAINTS

However, while Turkey’s debt-to-GDP ratio appears low, actual fiscal space is constrained by FX exposure and off-budget liabilities.

“Any fiscal response should be temporary, well-targeted, and non-distortionary to avoid undermining macroeconomic stability in a high-inflation environment.”

Given that only 2% of Turkey’s GDP is linked to U.S. demand and most exports are to non-U.S. markets, a 10% tariff change alone is unlikely to significantly affect sovereign risk premia, with recent political and regional developments having had a more material impact. 

Increased risk perception in March, which led to foreign outflows, higher CDS spreads, and a pause in external issuance, forced Turkey to rely on reserves to meet its debt obligations, and at the same time to turn to domestic borrowing - pushing up local yields and shortening maturities. 

“Looking ahead, external borrowing is likely to resume—albeit at higher costs—to support reserves, particularly if risk sentiment improves,” Cangoz said.