The markets are still clutching at straws in the hope that re-elected President Recep Tayyip Erdogan will after all reset Turkey’s economy with some orthodox economic policies.
Spirits rose on May 30 when a more substantial indicator arose of some possible market orthodoxy ahead. In Ankara, Erdogan met Mehmet Simsek, a market-friendly former finance minister. Turkey’s president, entering his third decade at the helm, might announce a new cabinet as early as June 2. Timothy Ash at BlueBay Asset Management responded: “It increasingly looks like Simsek will be appointed to a senior economic policy position in the next Erdogan administration.”
Erdogan, re-elected on May 28, has said his new economic team will have “international credibility”. About time, chorus the critics, but will Simsek, a former chief economist at Merrill Lynch, really be on the team? Not long back he said would refrain from “active politics”. And besides, whoever is on his team, Erdogan is wont to do whatever he claims is best, other voices be damned.
By the early hours of May 31, the Turkish lira had burst through to a new record low of 20.7 versus the dollar. It’s down 24% in the past 12 months alone, 95% in the past 15 years.
What happens to the equivalent of $121bn that Turks have put in special FX-protected lira savings accounts if the lira heads for the sky? The government would be on the hook for quite a payout.
Traders are fretting more than ever that Erdogan’s economic policies are “unsustainable”. Many are agog that he’s been returned to office despite plunging the country into the worst economic crisis it has suffered in more than two decades. “It’s not the economy, stupid,” say Erdogan watchers, pointing to his Islamist and identity politics and the strong affections held for him among his conservative base. Others still worry about the holed security that was exercised around many ballot boxes.
Liam Peach at Capital Economics in London concluded: “Turkey cannot continue with very low interest rates, very loose fiscal policy and burning through all sorts of foreign currency reserves for much longer.”
Turkey’s FX reserves plunged by $27bn as the central bank attempted to prop up the lira and finance a current account deficit at near-record levels ahead of the elections.
Net reserves, a figure that strips out liabilities, are in effect zero, and deeply negative when excluding tens of billions of dollars in money borrowed from the local banking system, JPMorgan was on May 30 quoted as reminding the markets by the Financial Times.
Clemens Grafe, an economist at Goldman Sachs in London, told the FT that the reserves were now “close to levels when previously lira volatility sharply increased”.
And Erdogan? Straight after winning the Sunday run-off vote, he said he would stick with his low-interest rate policy, even though official inflation is running at more than 40%. Take heart, however, for he’s “an economist”, as he reminded CNN in an interview just prior to election day.
“If anyone can do this, I can do it,” he added post-election, saying: “[The central bank’s main interest rate] has now been reduced to 8.5% and you’ll see inflation will also fall.”
Erdogan is in dire need of some well-heeled friends. If you see him boarding a plane in upcoming days, he may be off to the Gulf. He said last week that Arab states provided funds that helped stabilise Turkey’s economy in recent months. A few more stabilisers would come in handy.
A call to Vladimir Putin might be another option. As the big vote loomed, Putin gave the okay to a lengthy delay by Ankara in paying the huge gas bill it gets from Moscow, and to who knows what else. The Russian leader has his own book-keeping to worry about right now, but he might come through again for his fellow strongman.
For a short-term FX boon, the summer tourist season is ahead. But still things don’t add up.
“Be ready for the worst, which may entail formal capital controls or serious deposit flight from the banking system,” wrote Atilla Yesilada, at the GlobalSource Partners consultancy in Istanbul.
"Generally, the assumption is that whoever comes into power in terms of the economic team, the lira needs to be weaker," concluded BlueBay’s Ash.
"If Erdogan hires Simsek, he is being pragmatic," he added.
Viktor Szabo, investment director on the emerging markets debt team at abrdn, was reported by Reuters as saying a rise in Turkey bond prices showed that investors "continue to cover their shorts, in the hope of more sensible economic policies".
"The country will continue to be led by a president who believes in heterodox policies," Szabo added.
"Simsek would be a more market-friendly face for the finance ministry but why should investors believe he will be any more empowered to correct course than his predecessors, given Erdogan’s ultimate veto?" said Hasnain Malik, head of equity research at Tellimer.
“If the ultra-expansive monetary policy continues, the country risks a further sharp depreciation of the lira and greater risks for the financial sector, especially if the Fed continues to raise interest rates,” advised Richard Grieveson, deputy director and Turkey expert at wiiw. “In 2018 [when Turkey experienced a currency crisis], we clearly saw the problems this monetary policy can cause, especially in combination with adverse external conditions,” pointed out Grieveson.