Turkey’s Self-in­flicted Cri­sis of Con­fi­dence

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Turkey ap­pears closer to a full­blown cur­rency cri­sis to­day than at any point since the rul­ing AK party took power in 2002. In the past three months, the lira has lost al­most a fifth of its value against the dol­lar, as both global and do­mes­tic in­vestors lose con­fi­dence in their coun­try’s eco­nomic prospects. Pre­vi­ous episodes of lira weak­ness, in 2011 and 2014, were driven by ex­ter­nal events - the eu­ro­zone debt cri­sis and the “ta­per tantrum” that hit many emerg­ing mar­kets. This time, the main wor­ries are Turkey’s wors­en­ing se­cu­rity prob­lems and its tur­bu­lent pol­i­tics.

Some of the dam­age is due to cir­cum­stances be­yond the gov­ern­ment’s control, but much of it is self-in­flicted. The lethal spill-over from the Syr­ian con­flict has been wors­ened by Turkey’s ini­tial tol­er­ance of ji­hadi net­works and Pres­i­dent Re­cep Tayyip Er­do­gan’s de­ci­sion to sac­ri­fice a chance of peace in the Kur­dish south east for elec­toral gain.

A purge of sus­pected Gu­lenists fol­low­ing July’s at­tempted military coup has be­come in­dis­crim­i­nate. Its ef­fects on busi­ness are wide-rang­ing. Ar­rests of ex­ec­u­tives and as­set seizures dis­rupt sup­ply chains; of­fi­cials hes­i­tate to sign rou­tine doc­u­ments in case they are later deemed com­plicit with a Gu­lenist com­pany; and for­eign in­vestors fear their part­ners may be im­pli­cated.

All this is al­ready hav­ing a sap­ping ef­fect on the econ­omy, which suf­fered a sharp con­trac­tion in the third quar­ter. The lira’s weak­ness is bound to ex­ac­er­bate this. Turk­ish com­pa­nies have his­tor­i­cally been adept at man­ag­ing large for­eign cur­rency debts, but even if they avoid de­fault, many of them will now come un­der strain. Cash that could have been used for in­vest­ment will have to go to­wards debt ser­vice; and lay-offs may be­come nec­es­sary, at a time when the slump in tourism is al­ready adding to unemployment.

Add to this a ris­ing oil price that will widen Turkey’s no­to­ri­ously large cur­rent ac­count deficit, and ex­pec­ta­tions of ris­ing US in­ter­est rates that will present a challenge for many emerg­ing mar­kets. It would not take much to make for­eign lenders re­con­sider their huge exposure to Turkey’s banks.

The gov­ern­ment is us­ing some of the levers at its dis­posal to prop up con­sumer de­mand and to mit­i­gate the ef­fects of the lira’s fall. But it re­mains un­will­ing to con­front the re­al­ity that the cen­tral bank does not have the re­serves needed to fight off a sus­tained run on the lira, and a swift and size­able in­crease in in­ter­est rates is nec­es­sary to sta­bilise the cur­rency.

In 2011 and 2014, the cen­tral bank did in­deed de­liver emer­gency rate rises to stem de­pre­ci­a­tion. Now, its in­de­pen­dence eroded by years of threats and hec­tor­ing from Er­do­gan, its abil­ity to act is in doubt. The pres­i­dent, hav­ing dis­pensed with most of his more ortho­dox eco­nomic ad­vis­ers, be­lieves high in­ter­est rates cause rather than quell in­fla­tion. He prefers to blame eco­nomic prob­lems on a ne­far­i­ous con­spir­acy of in­ter­na­tional fi­nanciers.

In this con­text, the sug­ges­tion that in­vestors will re­gain con­fi­dence if Er­do­gan can only se­cure the ex­ec­u­tive pow­ers needed to com­plete his grip on power is ab­surd. He threat­ens the ba­sic func­tion­ing of Turkey’s in­sti­tu­tions.

True, there might be a tem­po­rary respite from elec­tion­eer­ing - and mar­kets of­ten pre­fer pre­dictable autocracy to in­ef­fec­tual demo­cratic gov­ern­ments. Vot­ers too will some­times ac­cept eco­nomic hard­ship if it can be blamed on out­siders - wit­ness Vladimir Putin’s pop­u­lar­ity since the sanc­tions de­ployed against Russia. But it is un­likely that Turk­ish vot­ers - who first backed Er­do­gan be­cause he promised and de­liv­ered un­prece­dented pros­per­ity - will feel the same way.

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