What the Taylor Rule Predicts for the Case of TurkiyeOsman Cenk Kanca
The Taylor rule is a simple monetary policy that suggests how central banks can mechanically arrange their interest policies in accordance with inflation-output deficit. This study aims to test the Taylor rule on the Turkish economy in particular. In this context, the study uses quarterly data from 2003 Q1-2019 Q4 for the Turkish economy along side certain vector autoregression (VAR) models as a time series method. As a result of the performed analyses, the interest rates in Turkiye were determined to not occur in accordance with the Taylor rule. This empirical result does not conform with the basic objective of the Turkish Central Bank, whose goal was to maintain price stability for this period. Thus, the Central Bank, being responsible of monetary policies, can be said to need to pay attention to the movements of inflation when establishing interest policies.
Taylor Kuralının Türkiye Örneğinde TahminiOsman Cenk Kanca
Taylor kuralı, merkez bankalarının politika faizini enflasyon-çıktı açığına göre mekanik olarak ayarlayabileceğini ileri süren basit bir para politikası kuralıdır. Bu çalışma Taylor kuralını Türkiye ekonomisi özelinde test etmeyi amaçlamaktadır. Bu kapsamda, Türkiye ekonomisinin 2003:1-2019:4 dönemine ait üçer aylık veriler ve bazı zaman serisi yöntemlerinden (VAR) yararlanılmıştır. Yapılan analiz sonucunda, Türkiye’de faizlerin Taylor Kuralı’na göre hareket etmediğine yönelik bulgular tespit edilmiştir. Bu ampirik sonuç, söz konusu dönem için ana amacı fiyat istikrarının tesisi olan TCMB’nin temel hedefi ile uyumlu değildir. Para politikasından sorumlu Merkez Bankası’nın faiz politikalarını oluştururken enflasyonda oluşabilecek hareketlenmelere daha çok dikkat etmesi gerektiği ifade edilebilir.
One of the focal points regarding the developments and ongoing debates in macroeconomic theory and policy after the 1990s is the Taylor rule, which provides the relationship between interest and the inflation-output gap, and the policy practices this rule puts forth. Various monetary policy reaction models have been developed that examine the relation ships among production, inflation, and interest rates in economic theory. Taylor (1993) suggested that the Central Banks responsible for monetary policy should change short-term interest rates in the same direction as the difference between the actual inflation-output gap and the targeted inflation rate, with this view later being called the Taylor rule. The Taylor rule allows a central bank to use the short-term interest rate as a monetary policy tool and is more generally based on ensuring sustainable economic growth and price stability (Taylor, 1996). Taylor (1993) introduced this rule specifically to the US Federal Reserve (FED), and since then it has become a widely used and discussed model in other countries’ economies.
When looking at the interest rate practices in Turkiye, market interest rates pre-1980s are seen to have been determined by the political authority. In the 1980s, interest rates were occasionally left to market forces, and after 1989, they were completely left to market forces. As the monetary authority, the Central Bank of the Republic of Turkiye (CBRT) initiated an inflation targeting strategy in 2002, and used short-term interest rates as the main policy instrument when applying the inflation targeting regime.
The aim of this study is to develop an opinion on whether Taylor’s rule is valid for the Turkish economy. This study aims to test Taylor’s rule based on a data set of the Turkish economy and a time series analysis and has been organized as follows. The introduction provides the theoretical background regarding the Taylor rule. The second section presents summaries of some studies on the subject. The third section defines the model, the data set, and the econometric methods used in the study and discusses the empirical findings. The last section evaluates the empirical findings.
In order to determine at what level the central bank should set policy rates within the framework of the Taylor rule, the study discusses the Turkish economy within the scope of quarterly data for the period 2003 Q3-2019 Q4. For this purpose, the study uses the variables of nominal interest rate (𝑖𝑡 ), inflation gap (p𝑡 −p𝑡 ∗ ), and output gap (𝑦𝑡 −𝑦𝑡 ∗ ) by taking the traditional Taylor rule equation as a reference. Model 1 takes the deposit interest rate (12-month average) as the short-term nominal interest rate. The difference between the consumer price index (CPI, or actual inflation) and the targeted inflation data announced by the CBRT (i.e., expected inflation) is used to define the inflation gap, and the industrial production index (IPI) is used to represent GDP for the output gap. The output gap is obtained by subtracting the potential series obtained by applying the Hodrick-Prescott filter from the available series. IPI and CPI series are seasonally adjusted usingthe X12 procedure. Next, the study representsthe logarithmic interest rate as LFAIZ, inflation gap as INFLATION, and logarithmic production gap as LGDP. The data set for the three variables used in the study was compiled from the CBRT Electronic Data Delivery System. The vector autoregressive (VAR) models preferred in this study are among the standard analysis tools forexaminingthe dynamic relationships between macroeconomic variables and are used extensively in applied econometrics (Lovrinovic&Benazic, 2004, p. 30). VAR is applied when the variables used in the macroeconomic models are not known for certain to be purely exogenous or not. The VAR approach was developed by Sims (1980) and examines all the selected variables together in a system integrity without imposing any restrictions on the structural model.
The study first examined whether the series are stationary or not with the help of both the augmented Dickey-Fuller (ADF) and Phillips-Perron (PP) tests. Under the traditional Taylor rule, the interest rate is expected to react positively to increases in the inflation-production gap. When examining the impulse-response functions, the policy interest rate is seen to react negatively to the inflation gap and positively to shocks in the production gap. On the other hand, variance decomposition results show 5% of the variance inthe interest rate to beexplained by the inflation gap at the end of the 10 year period; 8% of the variance was also explained by deviations in the output gap. These empirical findings indicate the traditional Taylor rule to not be valid for the case of Turkiye, with the changes in the interest rate being due to production gap deviations rather than the inflation gap. This situation can be interpreted as the Central Bank of the Republic of Turkiye needing to consider the production gap rather than the inflation gap when making interest rate adjustments. The central bank, whose main objective is to establish price stability, is believed to take into account fluctuations in inflation when formulating its interest policy, which may have positive effects on the general course of the economy.