Moreover, the report also incorporates a study that examines recent developments in foreign exchange and derivatives markets by relating them to monetary policy decisions. Two boxes also clarify the new policy approach we are currently implementing. The former discusses the place of the reserve requirements in the monetary policy and its channels to influence economy, while the latter discusses the relationship between price stability and financial stability within the context of the inflationtargeting regime. Lastly, the sources of our revisions of inflation forecasts during 2010 are explained in a study that we designed within the context of our liability of accountability. Before moving on to the Central Bank’s assessments of inflation outlook and economic activity, which I will cover in detail shortly, I would like to summarize the current global conditions that continue to be determinant of the domestic economic outlook. The world economy continued to recover gradually in the final quarter of 2010, while downside risks remained a major concern for advanced economies. Financial institutions, firms and households in advanced economies are still undergoing the process of balancesheet repair, limiting the contribution of private consumption and investment to the economic recovery. On the other hand, the relatively less affected emerging economies are recovering steadily amid robust domestic demand (Figure 1). BIS central bankers’ speeches  1  This growth discrepancy between advanced and emerging economies and its implications for the Turkish economy became the key determinants for the Central Bank of Turkey’s (CBRT) monetary policy strategy in the fourth quarter.
Inflation is expected to stabilize around 5 percent in the medium term (Figure 24). Hence, assuming that a limited monetary tightening will bring credit growth rate down to 20–25 percent in 2011, our revised forecasts indicate that inflation would be close to the target by the end of 2011. I would like to highlight that the envisaged monetary tightening in 2011 may be through various combinations of different policy tools. The monetary tightening could be implemented by either required reserve ratios or policy rates, or a combination of both. Moreover, during the tightening process, both instruments could move in either the same or the opposite direction. Yet, it should be emphasized that the baseline scenario envisages the net impact of the policy mix on credits and domestic demand to be on the tightening side. We believe that evaluating our forecasts in comparison with those presented in the previous Report would serve to provide a better understanding of the changes in forecasts. As I have mentioned earlier, the rapid decline in unprocessed Food Prices pulled short-term inflation forecasts down, while the upward revision of oil and other commodity price assumptions drove end-2011 inflation forecasts higher (Figure 25). The output gap has been revised slightly upward for the last quarter of 2010 (Figure 26). Moreover, taking into account the lagged effects of monetary tightening, the output gap is assumed to close slower than what was suggested in the previous report.