The Turkish Central Bank ends the foreign exchange protection plan, moving toward orthodox policies.

On Sunday,Foreign exchange payment providers the Central Bank of Turkey abandoned an increasingly costly plan that protected lira deposits from depreciation against foreign currencies, marking a shift towards a more conventional interest rate policy.

The Central Bank removed the target restrictions on banks for the lira deposit protection scheme, also known as the KKM program.

The Central Bank now aims for banks to set new targets to transition KKM accounts into regular lira accounts, partially to prevent businesses and individuals from continuing to renew their KKM accounts.

According to another decree in the Official Gazette, the Central Bank also raised the reserve requirement ratios for foreign currency deposits, actively encouraging customers to use regular lira accounts.

In an effort to stop the historic plunge of the lira, the Turkish government introduced the KKM plan at the end of 2021. Amidst rising inflation, the government took an unorthodox approach by cutting interest rates.

Since then, KKM accounts have swelled to 3.1 trillion lira (about $117 billion), accounting for about a quarter of total bank deposits. Over the past two years, the lira has depreciated by about 68%.

To compensate for the depreciation costs of the KKM, the Central Bank paid approximately 300 billion lira ($11 billion) in June and July. This month's cost is estimated to be 350 billion lira.

Last month, the lira was stable, reaching a historic low last week, closing at 27.02 to the dollar.

In May, Erdogan was successfully re-elected and appointed new finance ministers and Central Bank governors, leading to significant policy shifts, including a 900 basis points rate hike. Authorities also pledged to abandon previous regulations aimed at curbing inflation and balancing the trade deficit.

The Central Bank stated that the KKM will stabilize macro-financial conditions through support for lira deposits and promised to take more similar actions.

According to the Official Gazette, the reserve requirement ratio for foreign currency deposits maturing in less than a month was raised from 25% to 29%, while the ratio for deposits maturing in less than a year remains at 25%.

Former Central Bank Chief Economist Hakan Kara commented that by increasing deposit rates while eliminating KKM accounts, the Central Bank is trying to kill two birds with one stone. However, raising the official rate did not have to be so cumbersome.

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