Turkey holds rate at 37% as Middle East war stokes inflation fears

Turkey's central bank kept borrowing costs at 37% as renewed Middle East hostilities drove energy prices higher, threatening to reverse disinflation progress.

Turkey's central bank held its benchmark one-week repo rate at 37% on Thursday as escalating conflict in the Middle East pushed energy prices higher, complicating what had been a gradual path toward lower borrowing costs.

"While the central bank has offered hints that it would like to begin cutting rates, it continues to stress caution in its approach," said Andrew Birch, associate director of European economics at S&P Global Market Intelligence.

The bank last cut its key rate in January. It also left the overnight lending rate at 40% and the overnight borrowing rate at 35.5%. Turkey imports about 71% of its energy needs, according to International Energy Agency data, making it one of the most exposed emerging markets to the oil-price spike triggered by the Iran conflict.

The hold dashes hopes that emerged after a brief US-Iran peace deal in mid-June, which had temporarily tempered inflation expectations and fueled speculation the central bank could resume its easing cycle as soon as the third quarter. With Brent crude elevated and natural-gas prices rising, the bank's May forecast of 24% year-end inflation — up sharply from a prewar projection of 16% — now appears optimistic.

In June, Turkey's annual inflation rate fell to 32.1%, its lowest reading since the war began, offering the first concrete evidence that the central bank's tight policy was gaining traction. The bank acknowledged the improvement, saying the underlying trend of inflation declined slightly in June, but cautioned that leading economic indicators point to a temporary pickup in July.

The central bank in May sharply raised its inflation forecasts across the board. It now projects inflation ending 2026 at 24%, up from a prewar estimate of 16%. The 2027 forecast was lifted to 15% from 9%, and the 2028 projection to 9% from 8% — a sign that policymakers expect the energy shock to leave lasting scars on the price landscape.

Energy Dependency and the Inflation Channel

Turkey's vulnerability to energy-price swings is structural. The country imported 71% of its energy in 2024, per IEA data, leaving the lira and domestic prices acutely sensitive to every escalation in the Middle East. A peace deal between the US and Iran in mid-June briefly lowered the risk premium embedded in oil futures, but the resumption of hostilities erased those gains. Brent crude has risen more than $12 a barrel since the deal collapsed, according to market data.

The transmission into Turkish inflation is direct: higher oil and natural-gas costs feed into electricity generation, industrial production, and transportation, cascading through the economy within weeks. The central bank said it would continue to closely monitor the impact of geopolitical developments on the inflation outlook.

Forward Outlook

Birch said the central bank may begin to lay the foundation for a rate cut in the fourth quarter if inflation continues to fall in the coming months. That timeline, however, depends on energy prices cooperating — a condition that looks increasingly uncertain. The bank's next policy meeting is scheduled for late August, where it will have to weigh any further deterioration in the geopolitical landscape against the progress already made on domestic disinflation.

For emerging-market investors, Turkey's predicament offers a cautionary tale: even a credible tightening cycle can be derailed by external shocks beyond a central bank's control. The lira, already under pressure from the energy import bill, faces additional headwinds if the conflict widens and oil prices push higher.

This article is for informational purposes only and does not constitute investment advice.