The monetary transmission mechanism in Turkey

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Procedia Computer Science 00 (2019) 000–000 Available online at www.sciencedirect.com Procedia Computer Science 00 (2019) 000–000

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Procedia Computer Science 158 (2019) 1088–1094

3rd World Conference on Technology, Innovation and Entrepreneurship (WOCTINE) 3rd World Conference on Technology, Innovation and Entrepreneurship (WOCTINE)

The monetary transmission mechanism in Turkey The monetary transmission mechanism in Turkey Ahmet İncekaraaa, Akmyrat Amanovbb * Ahmet İncekara , Akmyrat Amanov * Istanbul University, Istanbul 34116, Turkey Istanbul University, Istanbul 34116, Turkey b Istanbul University, Istanbul 34116, Turkey a a b

Abstract Abstract The effects of the interest rate decisions taken by the CBRT on the yields on the Government Domestic Debt Securities, stock The effects of the interest rate been decisions taken the CBRT the yields on the Government Domestic Debt Securities, stock prices, and exchange rate have a matter of by concern by theon market. The markets may have been priced these assets before the prices, ratetohave beenthe a matter concern by the market. The markets have been priced these before the decisionand as exchange they attempt predict interestofrate decision. Therefore, in this study,may the relationship among the assets CBRT`s interest decision as they to these predictassets the interest rate decision. in this study,expected the relationship among the CBRT`s interest rate decision andattempt yields on is analyzed by makingTherefore, a distinction between and unexpected interest decision in rate decision yields on these is analyzed by making a distinction betweencorrectly, expected aand unexpected decision in policy interestand rate. In order to assets establish the relationship between the variables unit root test interest was implemented. policy interest rate. order ittowas establish relationship between the variables a unit root test was According to the testInresults, decidedthe that the appropriate methodology was correctly, ARDL modeling. According to implemented. findings, it is According to the therelationship test results, between it was decided thatinterest the appropriate methodology was rates ARDL modeling. According to findings, is revealed that the policy rate and long-term interest is strong. Moreover, it was observed it that revealed that therate relationship between the policysignificant interest rate andon long-term interest is strong. wasCBRT observed that the unexpected decision had a statistically effect stock prices. Asrates a result, it can Moreover, be said thatit the interest the rate decisiononhad a statistically on stock As a result, it can be said that theisCBRT interest rateunexpected decisions are effective long-term interestsignificant rates and effect the stock pricesprices. and monetary transmission mechanism effective and rate decisions are effective on long-term interest rates and the stock prices and monetary transmission mechanism is effective and strong. strong. © 2019 The Author(s). Published by Elsevier B.V. © 2019 Published Elsevier B.V. © 2019 The The Authors. Author(s). Publishedbyby B.V. committee of the 3rd World Conference on Technology, Innovation and Peer-review under responsibility of Elsevier the scientific Peer-review under responsibility of the scientific committee of the 3rd World Conference on Technology, Innovation and Peer-review under responsibility of the scientific committee of the 3rd World Conference on Technology, Innovation and Entrepreneurship Entrepreneurship Entrepreneurship Keywords: Interest Rates; Monetary Policy; Asset Pricing Keywords: Interest Rates; Monetary Policy; Asset Pricing

1. Introduction 1. Introduction The impact of policy interest rate changes on long-term interest rates and other assets has always been a matter of The impact policy interest rate changesfollow on long-term interest rates othertoassets always been athe matter of concern. Whileof financial market participants the policy interest rateand in order adjusthas their portfolios, central concern. While financial market participants follow the policy interest rate in order to adjust their portfolios, the central bank follows long term interest rates to control the effectiveness of the monetary policy. Therefore, in this study, it is bank follows term interest to BİST100, control theand effectiveness of the monetary policy.rate Therefore, examined howlong long-term interestrates rates, exchange rate react to the policy decision.in this study, it is examined how long-term interest rates, BİST100, and exchange rate react to the policy rate decision.

* Corresponding author. Tel.: +90-538-359-0812. address:author. [email protected] * E-mail Corresponding Tel.: +90-538-359-0812. E-mail address: [email protected] 1877-0509 © 2019 The Author(s). Published by Elsevier B.V. 1877-0509 2019responsibility The Author(s). Published Elsevier B.V. Peer-review©under of the scientificbycommittee of the 3rd World Conference on Technology, Innovation and Entrepreneurship Peer-review under responsibility of the scientific committee of the 3rd World Conference on Technology, Innovation and Entrepreneurship

1877-0509 © 2019 The Authors. Published by Elsevier B.V. Peer-review under responsibility of the scientific committee of the 3rd World Conference on Technology, Innovation and Entrepreneurship 10.1016/j.procs.2019.09.150

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The aim of the central bank is to reach the final targets with the instruments it uses. The mechanism that examines the effect of monetary policy decisions on final targets is called the monetary transmission mechanism. The central bank may target price stability, full employment, and stability of financial markets with monetary policy. However, the central bank can reach these targets indirectly, because these targets are influenced by long-term interest rates. While the central bank has the power to control short-term interest rates directly, it does not have such power directly over long-term interest rates. Therefore, when examining the monetary transmission mechanism, it should first be investigated whether the central bank has control over long-term interest rates. On the other hand, markets follow long-term interest rates in order to adjust their portfolios and make investment decisions. As is known, rising interest rates have a contractionary effect on the economy. Because the expected increase in market interest rates will attract investors from real production to financial markets. For this reason, it is important to investigate the relationship between policy interest decision and BIST100. Since the exchange rate is also important during investment decisions, the relationship between the policy interest rate and the exchange rate should be included in the analysis. As is known, the positions related to long-term interest rates, BIST 100 and exchange rate are taken before the interest rate decision. Some of the interest rate decisions taken by the central bank may have been estimated and priced. For this reason, interest decisions should be categorized as expected and unexpected interest rate. In this study, this distinction between the expected and unexpected interest decision in policy interest rate is provided by market-based measurements. In addition, yields on all Government Domestic Debt Securities were categorized according to their maturities and post-decision changes were recorded. Time series of the unexpected interest rate decision, expected interest rate decision and yields on all GDDS were converted into monthly frequency after being obtained on a daily basis. Time series of the BİST100 and exchange rate were obtained directly on a monthly basis. In order to establish the right model, the stationary levels of time series were investigated. While some variables were stationary at the normal level, some variables become stationary when the first differences of them are taken. The ARDL method is preferred when stationary levels are inconclusive. For this reason, the study was conducted by establishing the ARDL model. According to tests it is observed that, while there is statistically significant positive causality from policy surprises to long-term interest rates, there is no statistically significant relationship between expected policy decisions and longterm interest rates. Moreover, there is a statistically significant negative causality from policy surprises to the BIST100 index. Finally, it was observed that interest rate decisions had no effect on the exchange rate. As a result, it can be said that the CBRT interest rate decisions are effective on long-term interest rates and the stock market. The contributions of this study to the literature are as follows: (1) worked with current data, (2) more data sets are used, (3) distinction between unexpected and expected changes in policy rate is done, (4) exchange rate and BIST100 are included in the analysis, (5) the first part of the monetary transmission mechanism is tried to be clarified. 2. Literature Many empirical studies have been carried out on the relation among short-term interest rates, long-term interest rates, and stock market performance. Table 1 provides information on these studies. Table 1. Empirical studies Country Author Period Cook & Hahn [2]

USA, 1974-1979

Kuttner [6]

USA, 1989-1992

Findings and Conclusion In this study, the effects of the changes in the FED interest rate on the bond and bill interest rates are examined. According to the findings, the bond rates` and bill rates` response to interest rate change of FED was statistically significant and there was a positive relationship. In addition, it was observed that the responses are getting smaller, while the maturity of the bond and bill is getting longer. In this study, the relationship between FED interest rate and long-term interest rates is examined. In addition to the previous methodology, the distinction between unexpected and the expected interest rate decision in policy rate was done. As a result, it was concluded that the response to the unexpected part of the monetary policy rate was stronger and the response to the expected part was very low.

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Edelberg & Marshall [4]

Bernanke & Kuttner [1]

İnal [5]

Demiralp & Yılmaz [3]

USA

USA

Turkey, 2001-2006

Turkey, 2002-2009

3

In this study, the relationship between the policy interest rate and long-term interest rates was obtained using the VAR method. According to the findings of the study, it was found that long-term interest rates showed a significant response to the unexpected rate decision. In addition, it was observed that the responses are getting smaller, while the maturity of the bond and bill is getting longer. This study examined the relationship between the policy interest rate and stock prices by comparing the unexpected and the expected interest rate. According to the findings, it was found that stock prices only reacted to unexpected rate decisions. This study examined the effects of policy rate decisions on long-term interest rates by distinguishing between surprise and expected interest rate decision. According to the findings, there was a positive and significant relationship from unexpected rate decisions to long-term interest rates. Moreover, it was observed that the responses are getting smaller, while the maturity of the bond is getting longer. This study examined the effects of the policy interest rate on stock prices and benchmark interest rate by using expectation surveys. According to the findings, the benchmark interest rate only reacted to the unexpected rate decision. However, it was observed that the same inference with stock prices was not possible.

3. Data and methodology In this study, the effect of the policy rate decisions on the yields of the GDDS, BIST100 and exchange rate were examined. The mathematical representation of the model to be established is as follows: (3.1)

∆𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅 = 𝐶𝐶𝐶𝐶 + 𝛽𝛽𝛽𝛽1𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑅𝑅𝑅𝑅𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒 + 𝛽𝛽𝛽𝛽2𝑢𝑢𝑢𝑢𝑢𝑢𝑢𝑢𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒𝑒 + 𝑢𝑢𝑢𝑢𝑅𝑅𝑅𝑅

In this equation, ∆Rt represents the change in the yields of assets, β1expected represents the expected interest rate decision, β2unexpected represents the unexpected interest rate decision, ut represents changes outside the interest rate decision. In order to install these models, (EXPECTED), (SURPRISE), (DBIST100), (DUSD), (QUAR), (HALF), (YEAR), (YEARH), (TWO), (THRE), (FIV) variables are used. The study covers the period 2002M2-2018M12. The frequency of the variables is monthly. The variables, EXPECTED and SURPRISE represent the expected and unexpected parts of the interest decision, respectively. These variables were obtained by using policy rate decision and GDDS which has minimum maturity. The CBRT adopted the overnight borrowing rate as a policy rate during the period of 2002-2010 and used the weekly repo rate as a policy tool after 2010M5. Therefore, while the overnight interest rate is taken into consideration for the periods 2002A2-2010A4, weekly repo is taken into consideration for the 2010A5-2018A12 period range. The next step in obtaining these variables was to determine the date on which the interest rate decisions would be priced by the market. In the next step, the yields of the GDDS with minimum maturity were found. The yield on the day before the pricing was deducted from the day yield on which the interest rate decision was priced by the markets and SURPRISE variable was obtained. Then, the value of SURPRISE was deducted from the interest rate decision and the EXPECTED variable was obtained. The following table presents these values. Table 2. Overnight borrowing rate as a policy instrument Response Overnight Change in Expected date of borrowing points markets rate 20/02/2002 57 -200 -45 14/03/2002 54 -300 -192 08/04/2002 51 -300 -108 30/04/2002 48 -300 -306 05/08/2002 46 -200 -98 11/11/2002 44 -200 -127

Unexpected -155 -108 -192 6 -102 -73

Notes

Monetary Policy Board meeting dates were not known in advance. Interest rate decisions were announced at 10:00 am after the meeting day.

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Ahmet İncekara et al. / Procedia Computer Science 158 (2019) 1088–1094 Author name / Procedia Computer Science 00 (2019) 000–000 25/04/2003 04/06/2003 16/07/2003 06/08/2003 18/09/2003 15/10/2003 05/02/2004 17/03/2004 08/09/2004 20/12/2004 11/01/2005 09/02/2005 09/03/2005 11/04/2005 10/05/2005 09/06/2005 11/10/2005 09/11/2005 09/12/2005 28/04/2006 08/06/2006 26/06/2006 21/07/2006 14/09/2007 17/10/2007 15/11/2007 14/12/2007 18/01/2008 15/02/2008 16/05/2008 17/06/2008 18/07/2008 20/11/2008 19/12/2008 16/01/2009 20/02/2009 20/03/2009 17/04/2009 15/05/2009 17/06/2009 17/07/2009 19/08/2009 18/09/2009 16/10/2009 20/11/2009

41 38 35 32 29 26 24 22 20 18 17 16.5 15.5 15 14.5 14.25 14 13.75 13.5 13.25 15 17.25 17.5 17.25 16.75 16.25 15.75 15.5 15.25 15.75 16.25 16.75 16.25 15 13 11.5 10.5 9.75 9.25 8.75 8.25 7.75 7.25 6.75 6.5

-300 -300 -300 -300 -300 -300 -200 -200 -200 -200 -100 -50 -100 -50 -50 -25 -25 -25 -25 -25 175 225 25 -25 -50 -50 -50 -25 -25 50 50 50 -50 -125 -200 -150 -100 -75 -50 -50 -50 -50 -50 -50 -25

Table 3. Weekly repo as a policy interest rate Response Weekly Change in date of Repo points markets Rate 20.05.2010 17.12.2010 20.01.2011 04.08.2011 18.12.2012 16.04.2013 16.05.2013 28.01.2014 22.05.2014 24.06.2014

7,00 6,50 6,25 5,75 5,50 5,00 4,50 10,00 9,50 8,75

-50 -25 -50 -25 -50 -50 550 -50 -75

-98 -224 -179 -97 -200 -91 -174 -115 -116 -102 -57 -11 -70 -45 -15 -51 -27 22 -5 -24 144 106 12 -11 -42 -39 -53 -30 -15 53 48 35 -34 -87 -95 -177 -120 -73 -31 -17 -48 -31 -45 -56 -27

Expected

-36 -41 -40 -30 -52 -34 490 -10 -55

-202 -76 -121 -203 -100 -209 -26 -85 -84 -98 -43 -39 -30 -5 -35 26 2 -47 -20 -1 31 119 13 -36 -8 -11 3 5 -10 -3 2 15 -16 -38 -105 27 20 -2 -19 -33 -2 -19 -5 6 2

Unexpected

-14 16 -10 5 2 -16 60 -40 -20

Monetary Policy Board meeting dates were announced in advance. The meeting was held at 15:00 and the interest rate decision was announced the next day at 09:00.

Since 2006, Monetary Policy Board meetings were held between 14:00 and 17:00. Interest rate decisions were announced between 17:0019:00.

Notes

Interest rate decisions were still announced after the end of work.

As of 2011, the Monetary Policy Board changed its press announcement time. The announcement of the monetary policy decision for the year 2011 was set at 14:00.

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17.07.2014 20.01.2015 24.02.2015 24.11.2016 01.06.2018 07.06.2018 13.09.2018

8,25 7,75 7,50 8,00 16,50 17,75 24

-54 -77 -26 18 723 152 630

-50 -50 -25 50 850 125 625

5

4 27 1 32 127 -27 -5

QUAR, HALF, YEAR, YEARH, TWO, THRE and FIV variables respectively represent the yields on 3-month, 6month, yearly, 18-month, 2-year, 3-year, and 5-year Government Domestic Debt Securities. While the variables with the same maturity were obtained, the most traded GDDS was selected. After that, simple yields on GDDS were taken into consideration according to the closing price. The policy rate decisions and yields on GDDS are carefully selected on a daily basis. Then, these time series were transformed into monthly data. If more than one interest decision was taken within one month, the sum of the values was calculated and added as data. Time series of yields on GDDS was provided by Borsa Istanbul. The DBİST100 and DUSD variables represent the changes in the yield of the BİST100 index and the USDTRY parity compared to the previous month. These variables were obtained from the EVDS system. Descriptive statistics of variables is given in Table 4. Table 4. Descriptive Statistics of Variables Mean Median Maximum

Minimum

Standard Dev.

EXPECTED

-25.12

-43.50

875.0

-414.0

178.5

Observation Number 64

Source

SURPRISE DBIST100

-30.35 1.28

-12.50 1.51

150.0 29.74

-209.0 -23.12

66.07 8.518

64 204

BIST EVDS

DUSD

0.723

0.085

20.69

-8.41

3.93

204

EVDS

QUAR

-28.15

-7.50

91.00

-213.0

59.88

64

BIST

HALF

-32.26

-11.50

79.00

-290.0

63.39

64

BIST

YEAR

-29.95

-16.00

314.0

-323.0

77.12

61

BIST

YEARH

-11.40

-6.50

213.0

-169.0

49.93

52

BIST

TWO

4.18

-1.00

267.0

-109.0

54.12

43

BIST

THRE

-6.39

-5.00

143.0

-127.0

36.93

46

BIST

FIV

-4.28

-4.00

123.0

-76.0

29.63

45

BIST

TEN

-9.33

-7.00

21.00

-58.00

18.99

15

BIST

BIST

In the table above, it was seen that the TEN time series did not have the sufficient number of observations and thus was excluded from the analysis. Then, in order to find the appropriate model, it was first tested whether the variables contain a unit root. Since the economic model generally has higher autoregressive processes, the ADF unit root test is applied. When this test is applied, the appropriate number of lags included in the model is determined with the help of the Schwarz information criteria. The results are shown in Table 5. Table 5. Unit root with break test results for series

ADF

Level

Level Prob.

1st Difference

1st Dif. Prob.

EXPECTED

-1.025

0.26

-2.913*

0.00

SURPRISE

-2.043*

0.04

DBIST100

-9.873*

0.00

DUSD

-6.869*

0.00

QUAR

-4.398*

0.00

HALF

-3.170*

0.00

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Ahmet İncekara et al. / Procedia Computer Science 158 (2019) 1088–1094 Author name / Procedia Computer Science 00 (2019) 000–000 YEAR

-0.596

0.41

YEARH

-3.587*

0.00

TWO

-8.981*

0.00

THRE

-10.06*

0.00

FIV

-6.733*

0.00

TEN

-1.897

0.06

-5.306*

1093

0.00

MacKinnon (1996) one sided p-values. * Significant at the 5 % level

According to the results of the unit root with break tests, SURRISE, DBIST100, DUSD, QUAR, HALF, YEARH, TWO, THRE, FIV and TEN are stationary at a normal level while EXPECTED and YEAR become stationary when the first difference of them are taken. ARDL modelling and bounds testing are suitable when the unit root results are inconclusive. Moreover, it is seen that all series are stationary at the 1st difference, and the hypothesis that the data are I (2) is clearly rejected. 4. Findings In order to see the effects of the EXPECTED and SURPRISE on the yields on GDDS, DUSD and DBIST, the ARDL model was estimated which included the current and past values of the EXPECTED and SURPRISE with the previous values of according variable. In the specification and estimation of an ARDL model, the intercept and trend variables were included as regressors. The appropriate number of lags included in the model is determined with the help of the Akaike and Schwarz information criteria. One of the advantages of the ARDL model is that it allows the application of the Bounds Test. According to this test, the null hypothesis is that there is no long-term relationship between the variables. Bounds Test results are given in Table 6. It is seen that the F-statistic for the Bounds Test these values clearly exceeds the 5% critical value for the upper bounds. Therefore, the hypothesis of no long-term relationship is strongly rejected. Another advantage of the ARDL model is that it allows for estimating long-term coefficients. Long-term coefficients are shown in Table 6. Table 6. F-Bounds test and long-run coefficients INSTRUMENTS

F-Bounds Test

EXPECTED

SURPRISE

DBIST100

16.73*

0.003

-0.061*

DUSD

13.54*

-0.007

0.003

QUAR

16.73*

0.027

0.701*

HALF

9.08*

0.187

0.454*

YEAR

25.52*

0.036

0.487*

YEARH

27.07*

0.109

0.651*

TWO

26.31*

0.212

0.818*

THRE

40.40*

0.104

0.434*

FIV

17.51*

0.115

0.501*

* Significant at the 5 % level

Through the ARDL modeling, specific findings have been obtained: (1) The unexpected rate decision affects the yields on government securities, rather than the expected interest rate decision. There is a positive causal relationship from SURPRISE to the yields on GDDS. A 100-point increase in unexpected in rate decision increases the yield on 3-month GDDS 70-point, 6-month GDDS 45-point, yearly GDDS 49-point, 18-month GDDS 65-point, 2-year GDDS 82-point, 3-year GDDS 43-point, and 5-year GDDS 50-point. Therefore there is a strong transmission from the unexpected interest rate decision to the long-term interest rate. (2) In particular, the central bank has a very high control power over the 2-year GDDS and 3-month GDDS.

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(3) It is observed that, while EXPECTED have no statistically significant effect on the BIST100, SURPRISE have a statistically significant effect on BIST100. There is a negative causality from SURPRISE to the BIST100. A 100-point increase in unexpected rate decision decreases the yield on BIST100 by %6. In other words, rising interest rates create a contractionary effect on the economy. (4) Both EXPECTED and SURPRISE have no statistically significant effect on the exchange rate. There is no significant relationship between interest rate decisions and the exchange rate. 5. Conclusion The relationship between the policy interest rate and long-term interest rates is strong. In particular, there is a strong transmission from unexpected interest decisions to long-term rates, rather than expected interest decisions. The central bank has a significant control power over the yields on 3-month GDDS and 2-year GDDS. Moreover, it was observed that the unexpected rate decision had a significant effect on the stock prices and that there was a negative relationship between them. As a result, it can be said that the CBRT interest rate decisions are effective on long-term interest rates and the stock prices and monetary transmission mechanism is effective and strong. References [1] Bernanke, Ben ve Kuttner, Ken (2005). “What Explains the Stock Market’s Reaction to Federal Reserve Policy?” The Journal of Finance 60 (3): 1221-1257. [2] Cook, T., Hahn,T. (1989). “The Effect of Changes in the Federal Funds Rate Target on Market Interest Rates in the 1970s.” Journal of Monetary Economics 24, 331-51. [3] Demiralp, S., & Yilmaz, K. (2010). “Para politikası beklentilerinin sermaye piyasaları üzerindeki etkisi.” TÜSİAD-Koç University Economic Research Forum working paper series. [4] Edelberg, W., Marshall D. (1996). “Monetary Policy Shocks and Long Term Interest Rates.” Economic Perspectives 20: 2-17. [5] İnal, D. G. (2006). “Türkiye’de para politikası faiz kararlarının uzun dönemli faizler üzerindeki etkisi." Uzmanlık Yeterlilik Tezi, Ankara: Türkiye Cumhuriyet Merkez Bankası. [6] Kuttner, K. (2001). “Monetary Policy Surprises and Interest Rates: Evidence from the Fed Funds Futures Market.” Journal of Monetary Economics 47(3): 523-44.