Guldem Atabay: A poor start to the New Year for the economy

Summary:

Turkey’s January macroeconomic data underline the growing difficulty of achieving a durable disinflation while maintaining growth. Inflation remains high and sticky, driven primarily by food and services prices, while industrial activity continues to contract amid weak demand and renewed cost pressures. At the same time, the trade deficit is widening again, raising concerns over the sustainability of the external balance as growth expectations remain elevated.

Inflation Stays Stubborn Despite Marginal Annual Decline

January inflation data once again highlighted the resilience of Turkey’s high and sticky inflation regime. Consumer prices rose 4.8% month-on-month, well above market expectations. On an annual basis, headline inflation edged down only marginally, from 30.9% to 30.7%, underscoring the limited progress achieved so far in slowing price pressures.

Producer prices offered little relief. Domestic producer inflation increased 2.7% on the month, with the annual rate easing to 27.2%. Despite the moderation, cost pressures across the supply chain remain elevated, indicating that disinflation has yet to take hold in a meaningful or self-sustaining way.

Food Prices Drive the Upside Surprise

The core story behind January’s inflation surprise lies in food prices. Food and non-alcoholic beverage prices surged 6.6% month-on-month, a sharp acceleration compared with the 3.9% increase recorded in the same period last year. As a result, annual food inflation jumped from 28.3% to 31.7%.

The spike was driven mainly by unprocessed food prices, pointing to deeper structural issues rather than temporary seasonal factors. Problems related to agricultural production, supply constraints, rising input costs, and inefficiencies across the food supply chain continue to feed directly into consumer prices. This suggests that food inflation is becoming an entrenched component of the broader inflation problem, rather than a transitory shock.

Core Inflation Improves, But Remains Far From Comfort

Core inflation indicators provided little cause for optimism. The B and C indices eased to 30.1% and 29.8% year-on-year, respectively, marking a more visible decline compared with December. However, these levels remain extremely high, and the pace of improvement is slow.

The persistence of elevated core inflation highlights the challenge facing policymakers: even as some headline measures show mild easing, underlying price dynamics remain inconsistent with medium-term inflation targets.

Services Inflation Signals Deeply Distorted Pricing Behaviour

Services inflation continues to paint the clearest picture of entrenched inflationary behaviour. On an annual basis, services inflation declined from 44% to 40.4%. While this may appear encouraging on the surface, a 40% services inflation rate still reflects severely distorted pricing mechanisms.

More importantly, seasonally adjusted monthly services inflation remains elevated at 2.7%, pointing to ongoing momentum rather than a decisive slowdown. Backward indexation, weak inflation expectations, and rigid pricing behaviour are keeping services inflation stubbornly high, reinforcing the stickiness of overall inflation.

Targets Drift Further Out of Reach

Seasonally adjusted headline inflation stood at 2.88% month-on-month, a level incompatible with the authorities’ year-end target of 16%, even considering the upper tolerance band of 19%. Under current dynamics, these targets appear increasingly unattainable.

As a result, a further upward revision to the central bank’s inflation forecast in its first Inflation Report of the year—potentially toward 20%—appears almost inevitable.

Beyond base effects, the room for a lasting disinflation remains limited. With growth expectations exceeding 4%, inflation in the 25–28% range by end-2026 appears more realistic than official projections suggest.

From a monetary policy perspective, a move to cut the policy rate below 30% by year-end would likely come at the cost of renewed inflationary pressures, rather than durable price stability.

Manufacturing Sector Continues to Deteriorate

January data from the Istanbul Chamber of Industry’s Manufacturing PMI confirm that a recovery narrative in industry has yet to emerge. The PMI slipped from 48.9 in December to 48.1, signalling a modest but persistent deterioration in manufacturing conditions.

More significantly, the index has now remained below the 50-point expansion threshold for 22 consecutive months, suggesting that the weakness is structural rather than cyclical in nature.

Weak Demand Forces Defensive Corporate Behaviour

Ongoing weakness in new orders continues to shape corporate behaviour across the industrial sector. With demand failing to recover, firms are cutting production, reducing employment, and scaling back purchasing activity. Rather than expanding capacity, companies are focused on preserving existing operations, reflecting a cautious “wait-and-see” stance.

This fragile demand environment has been compounded by a renewed acceleration in inflationary pressures. In January, both input costs and output prices rose sharply, reaching their highest levels since April 2024.

For manufacturers, this represents one of the most challenging scenarios: rising costs alongside weak sales volumes. Under such conditions, maintaining profit margins becomes increasingly difficult.

A Self-Reinforcing Contraction Cycle

The combination of slowing production, weak new orders, falling employment, and reduced purchasing activity suggests that industrial contraction is becoming self-reinforcing. Firms are forced to raise prices to cope with higher costs, which further suppresses demand. As demand weakens, production and employment come under additional pressure.

This vicious cycle constrains both growth and disinflation, leaving the economy with limited policy room to manoeuvre.

Sectoral PMI Confirms Broad-Based Fragility

January sectoral PMI data reinforce the picture of widespread fragility. New orders showed no meaningful recovery across most sectors, with growth recorded only in chemicals, plastics, and rubber. In all other sectors, demand remained weak.

Without a clear rebound in new orders, the modest production growth observed in some areas is unlikely to be sustained in the coming months.

Cost pressures further complicate the outlook. After showing tentative signs of easing late in 2025, input costs re-accelerated across all sectors in January. These increases were passed directly into output prices, resulting in a simultaneous rise in production, costs, and prices—a risky combination for both domestic demand and competitiveness.

External Trade Deficit Widens Further

Foreign trade data from the Trade Ministry show a $8.4 billion trade deficit in January. According to official statistics, the rolling 12-month trade deficit widened from $92.0 billion in December 2025 to $92.9 billion in January 2026.

Exports declined 3.9% year-on-year to $20.3 billion, while imports remained broadly flat at around $28.7 billion. Intermediate goods exports fell 4.4% to $10.2 billion, while consumer goods exports dropped 10.6% to $7.0 billion. Capital goods exports rose 5.8% to $2.6 billion, offering limited offset.

External Balance Risks Remain Manageable, For Now

The continued widening of the trade deficit, despite relatively moderate oil prices, is a development that warrants close monitoring. However, a projected current account deficit of around $33 billion for the year suggests that external imbalances, while widening, have not yet reached levels that pose immediate risks to the exchange rate.

That said, the combination of persistent inflation, weak industrial momentum, and a widening trade gap leaves Turkey’s macroeconomic outlook increasingly constrained as policymakers attempt to balance growth, price stability, and external sustainability.

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