Turkish rate hike could curb domestic steel demand

Turkey's central bank raised its benchmark interest rate by more than 6 percentage points to 24pc today, sparking strong appreciation of the embattled lira versus the US dollar.

The hike exceeded market expectations and pushed the lira to $1:TL6.16 at 14:00 GMT, compared with $1:TL6.40 at yesterday's close. That said, the exchange rate stood at around $1:TL3.77 at the beginning of the year, which means the lira has lost almost 64pc against the dollar this year.

Turkey's large current account deficit and reliance on dollar debt had intensified fears that the weak currency could spark a full-blown banking and balance of payments crisis. This has hampered domestic construction and steel buying, and the large rate rise and subsequent lira appreciation assuaged these concerns to some extent.

Most mills were not offering material to the domestic market, waiting for more clarity and stability in the exchange rate. A few others revised lira-denominated domestic prices downward after the rise of the currency. Lower lira-denominated prices could spur some domestic demand in the short run, especially given the fact that most traders have low stocks.

But the stronger currency could negatively impact Turkish finished product exports, while in the medium-term high interest rates may crimp domestic consumption and lower economic growth.

Turkey's economic growth slowed to 5.2pc year on year in the second quarter, down from 7.4pc in the first quarter. Government spending and exports mitigated the decline in consumer spending and investment.

Lower consumer spending has already hit house sales in Turkey and is likely to weigh on demand for white goods and automotive sectors further over the coming weeks, which could hurt mills.

Turkish steel producers might shift volumes to export markets to make up for slower sales at home. But Turkey is facing challenges here too after the US doubled tariffs on Turkish steel to 50pc. The EU has imposed a quota system on steel imports, and is watching Turkish shipments closely. Previous large markets in the Middle East and North Africa have also been closed off to Turkey in recent years.

Traders do not expect a significant and sustained improvement in the lira because of the large volume of foreign currency debt of Turkish companies. The total long-term debt of Turkey's metals sector stood at $2.4bn at the end of June, central bank data show.

In addition, geopolitical risks, such as escalating tension in Syria's Idlib province as well as the soured relations with the US, could weigh on the lira over the coming days, traders said.

Overall, even though a stronger lira following today's interest rate hike could see a slight pick up in domestic demand for steel as traders could replenish inventories taking advantage of lower lira-denominated prices, in the longer run it is likely to curb economic growth which could have a more profound impact on Turkey's steelmakers.