Turkish lira rises after rate hike

The Turkish lira gained sharply after the central bank raised interest rates today and the stronger currency may help limit the rise in the country's energy import costs while higher rates may put more pressure on the financial performance of energy firms.

The lira rose by 3pc against the US dollar compared with a day earlier, reaching its strongest level since August at TL6.2/$1, after the central bank lifted its policy rate by 6.25pc to 24pc. The stronger lira will help lower import costs for the economy, which relies heavily on imported fuels for its energy needs.

The lira has posted steep losses since the beginning of 2018, after the central bank resisted lifting rates despite the highest rate of inflation since 2004 in the previous month under political pressure. Turkey's president Recep Tayyip Erdogan, who took on more powers over the economy with this year's referendum, opposes higher interest rates.

The lira was down by 62pc on the year as of today against the dollar. Further weakening of the lira would increase energy import costs for Turkey, as benchmark crude and coal prices firmed since the beginning of the year. Brent crude reached $79.47/bl yesterday, having closed at $66.75/bl the previous year. And coal benchmark API 2 rose to $100.63/t yesterday, after dropping to as low as $75.86/t in March 2018. Higher crude prices may also drive gas imports costs up, as the country imports gas with oil-indexed contracts.

Turkey's energy imports — including natural gas, crude, oil products, coal and power — cost $37.2bn last year, rising from $27.2bn in 2016, because of higher prices. Energy imports rose further this year, reaching $24.7bn in January-July, compared with $20.1bn in the corresponding period last year. The lira's recent losses may raise Turkey's import costs further, as the currency has dropped by 25pc since the end of July.

Power and gas sectors

Turkey's state-owned gas firm Botas and energy regulator EPDK reflected higher costs in these sectors by raising tariffs multiple times this year. If the lira's gains persist, it may help Botas keep tariffs unchanged unless oil-indexed prices rise sharply.

In the power sector, day-ahead prices rose in line with higher fuels, delivering 70pc higher on 1 August-14 September at TL310.22/MWh compared with January-July, following a 50pc gas tariff hike by Botas. Imported coal and gas covered 50pc of total power generation in January-August this year.

Gas-fired power plants in Turkey have become more exposed to foreign exchange risks recently, as Botas started reflecting costs more often than in previous years. The firm's decision to keep regulated gas prices unchanged for more than a year between October 2016 and November 2017, despite the weaker lira and higher oil-indexed prices, forced it to raise prices sharply this year.

Higher interest rates may put more financial pressure on energy firms that own thermal power plants, as some of these companies are negotiating refinancing of their debt with banks. Lira revenues and foreign currency debt weighed on the financials of Turkish firms, as the weaker lira drove down power prices in dollar terms.