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  • Turkey's Macro View, Part 1: Tightening Interest Rate Spreads And Increasing Predictive Power Of The Relative Purchasing Power Parity (PPP) Relationship

    Turkey's Macro View, Part 1: Tightening Interest Rate Spreads and Increasing Predictive Power of the Relative Purchasing Power Parity (NYSE:PPP) Relationship

    DECEMBER 20, 2010

    tags: Currency, Exchange rate, Interest rate, Middle East, Purchasing power parity, Recreation, Turkey, Turkish Lira

    What do recent spreads between the Turkish interest rate and interest rates in the U.S. and the Euro area suggest about the behavior of the exchange rates between the Turkish Lira and the other two currencies?

    Recent spreads between the Turkish interest rate and interest rates in the U.S. and the Euro area suggest that the behavior of the exchange rates between Turkish Lira and the other two currencies adjust according to the Relative PPP condition. As Turkey's CPI Index rate of change has dropped, Relative PPP has become an increasingly better predictor of future exchange rate changes [See Charts 1, 2, & 3]. In addition, the declining interest rate spreads witnessed primarly post-inception of the New Lira, exposes that exchange rate changes are less volatile, facing shorter swings from year-to-year. Also, as interest rate spreads have decreased overtime, exchange rates between the Turkish Lira and the other two currencies have adjusted faster and more closely correlated.

    (click to enlarge)Chart 1: Turkish Inflation Rate Changes and Turkey's Interest Rate Differentials

    (click to enlarge)Chart 2: Interest Rate Spread Behavior and Turkey's Inflation Rate Changes

    Chart 3: Reliability of Turkey's Relative PPP Relationship When
    Used for Determining Future Changes in the Lira/$ Exchange Rate

    Dec 29 1:36 AM | Link | Comment!
  • U.S. Asset Return Correlations – New Precedent for Stocks, Bonds, and Commodities
    U.S. Asset Return Correlations – New Precedent for Stocks, Bonds, and Commodities
    DECEMBER 20, 2010

    Prior December 2007, financial advisors and investment managers could diversify their asset classes across stocks, bonds, and commodities, relying on their low to no correlation returns to ensure relatively-safe portfolio gains across the economic cycles. However, Post-December 2007,correlations between these assets shot-up dramatically to where they stand today, which you can find conveniently located in the table below. Most people attribute the rise in correlations between these three asset classes to the credit crunch. So the question becomes, did massive deleveraging or a drop inconsumer spending directly enable the spikes in correlations between these asset classes? Many deem this case-in-point for the recent increases in correlated returns between developed and emerging stock markets. I plan to explore this issue in greater depth.

    As a side note, Reuters recently released an article mentioning that post-Obama‘s new fiscal policymeasures, correlations between stocks and bonds regressed to their normal lows. “The markets for equities and government bonds have returned to their long-term pattern of moving in opposite directions as a result of a U.S. tax cuts deal that is expected to boost spending there.”
    Click here to read the article from Reuters

    To be continued… 

    Dec 29 1:33 AM | Link | Comment!
  • Turkey’s Macro View, Part 2: Source of Historical Inflation Problems and the Current Improving Inflationary Environment
    Turkey’s Macro View, Part 2: Source of Historical Inflation Problems and the Current Improving Inflationary Environment
    DECEMBER 21, 2010

    Chart 1: Moving Averages for Turkish Money
    Supply
     and Turkey’s CPI Index Changes

    Turkey’s Central Bank monetary easing policy was the major source of the enormous growth in Turkish inflation, or increases in growth of Turkey’s CPI index. Best case-in-point can be found in the years 1994 to 1999 when Turkey’s Central Bank tried staving off recession, which came to fruition as negative real GDP growth rates in 1994 and 1999, -6% and -5% respectively. In both instances, Turkey’s Central Bank exponentially increased Turkish money supply, heavily depreciating the Turkish Liraagainst the US Dollar in an attempt to grow net exports and, implicitly, nominal and real output growth, which caused spikes in Turkey’s Consumer Price Index (NYSEARCA:CPI). Data from the past 35 years ofTurkish history reveal near perfectly positive correlation between Turkey’s Money Supply Year-Over-Year % Changes and Turkey’s Consumer Price Index (CPI) Year-Over-Year % Changes [Correlation Coefficient = +0.890]. Further, Turkey’s Central Bank tried so hard to prevent negative real output growth, that they abused monetary easing policy, resulting in colossal increases in the Turkish inflation rate [See Charts 1 and 2] and enlarging the government deficit as a ratio to GDP [See Chart 3].

    Chart 2: Correlation between Turkish Money
    Supply and Turkish Inflation Rate Changes

    From 1994 to 1999, Turkey’s average inflation rate jumped to 85% per annum and totaled 510% for these years. Further, from 1981 to 2010, excluding 1994 to 1999, Turkey’s inflation rate averaged 39% per annum and totaled 971%, which says that in the 6 years, from 1994 to 1999, Turkey’s inflation rate increase made-up 53% of the total increase seen in the other 25 years of data. These data reaffirm that Turkey’s Central Bank was targeting Lira devaluation, in order to stave off recession in Turkey. From 1988 to 1994, the correlation between Turkish Lira/US Dollar exchange rate depreciation and money supply growth was almost perfectly negative [Correlation = -0.95], exhibiting a near 1% depreciation in the value of the Lira against the Dollar for every 1% increase in the money supply growth rate. When Turkey’s economy was in peril, from year-end 1993 through 1999, the money supply grew 8,048%.

    Also, confirming that Turkey’s Central Bank used monetary easing to rescue and grow economic output in Turkey, from 1994 to 1997, Turkey’s money supply growth had a relatively positive correlation to increases in Turkey’s real GDP from 1995 to 1998 [Correlation = 0.56], along with a near perfect positive correlation to increases in nominal GDP [Correlation = 0.91]. Evidently, in this particular time period, Turkey’s Central Bank short-run and mid-run monetary policy was set to maintain positive nominal and real output growth amidst poor economic conditions in Turkey, knowing that money supply effects on real output growth could not extend beyond mid-run monetary policy. From 1981 to 2010, excluding recession years and the period from 1994 through 1999, Turkey’s Central Bank did not pump money supply into the economy with the purpose of bolstering Turkey’s real GDP growth [Correlation = 0.06], solely growing nominal output [Correlation = 0.77] but less so than during times of recession. The answer becomes clear that the source of inflation in Turkey’s history stems directly from Turkey’s Central Bank monetary policy, the worst of which emanated from compound effects brought on by the Central Bank’s decision to target large increases in both real and nominal output growth during recessionary periods.

    Chart 3: Turkey’s Central Bank Monetary Policy and Resulting

    Swings in Turkey’s Government Deficit as Ratio to GDP 

    Dec 29 1:31 AM | Link | Comment!
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