First, I will summarize the recent inflation developments, and then continue with the domestic and foreign demand outlook upon which we based our projections. In the second quarter of 2015, annual consumer inflation declined by about 0.4 points from end-first quarter to 7.20 percent, nearing the forecasts of the April Inflation Report (Charts 12 and 13). This improvement in inflation was mainly attributed to declining food inflation, while core inflation increased mostly due to exchange rate developments. In this period, the contribution of the food category to annual inflation was down to about 2.3 points amid a correction in food prices. Yet, the depreciation of the Turkish lira limited the decline in inflation. The ongoing cautious monetary policy along with prudent fiscal and macroprudential policies are having a favorable impact on inflation, especially inflation excluding energy and food (core inflation indicators). However, the lagged effects of the recent exchange rate developments delay the improvement in the inflation outlook. In fact, compared to the first quarter there was a notable deterioration in the underlying core inflation trend in the second quarter (Chart 14). This outlook was largely due to exchange rate-driven cost pressures that became stronger than that of the previous period. The cautious monetary stance and the moderate course of domestic demand continued to limit the spillover from cost pressures into prices. As we projected in the April Inflation Report, food prices exhibited a remarkable correction amid the climatic conditions that accommodated supply in the second quarter.
In addition, emerging-market rates have become extremely sensitive to global monetary policy developments. To contain repercussions on the Turkish economy, we designed a monetary policy framework composed of a wide interest rate corridor and an active liquidity policy. The CBRT’s wide interest rate corridor and the tight liquidity policy strengthened the resilience of the Turkish economy against global shocks and proved to be effective in pursuing the primary objective of price stability. The wide interest rate corridor enables us to raise shortterm rates temporarily above long-term rates when faced with shocks and to keep the yield curve nearly flat or inverted. Accordingly, Turkish lira-denominated long-term rates remain more stable and the economy becomes less sensitive to global long-term interest rate shocks. Moreover, a flat or inverted yield curve constitutes an effective monetary policy stance that supports disinflation. In fact, especially following the strong monetary tightening of early 2014, we all saw that the sensitivity of domestic markets to global interest rates weakened substantially and core inflation indicators have improved significantly (Chart 7). In the upcoming period, following the start of normalization of global monetary policies, volatility in long-term interest rates may decline permanently thanks to forward guidance policies. According to this baseline scenario, the need for a wide interest rate corridor in our country may diminish over time. In that case, we may simplify the operational framework of the CBRT’s interest rate policy gradually.