LIRA FALL A POLITICAL PLOT, SAYS ERDOGAN
Libor may reach 4% by next summer, writes Matein Khalid
istanbul — President Recep Tayyip Erdogan on Sunday said the crash of the Turkish lira, sparked by a bitter dispute with the United States, was a “political plot” against Turkey and warned Ankara would now seek new markets and partners.
The dispute between the two Nato allies — which reached new intensity over the detention of an American pastor in Turkey — has hammered the lira and also raised questions over the future partnership between Washington and Ankara.
The already embattled Turkish lira tumbled some 16 per cent to new record lows against the dollar on Friday as US President Donald Trump said he had doubled steel and aluminium tariffs on Turkey.
All eyes will be on the lira when foreign exchange markets reopen on Monday after the weekend pause. But Erdogan indicated he was in no mood to offer concessions to the United States, or financial markets.
“The aim of the operation is to make Turkey surrender in all areas, from finance to politics,” Erdogan told ruling party members in the Black Sea city of Trabzon. “We are once again facing a political, underhand plot. With God’s permission we will overcome this,” he added.
Erdogan appeared unworried by the punitive measures imposed by the US, saying Turkey could turn to other partners and again terming the crisis an “economic war”.
“We will give our answer, by shifting to new markets, new partnerships and new alliances, to the one who waged an economic war against the entire world and also included our country,” Erdogan said.
“Some close the doors and some others open new ones,” added Erdogan, who has built closer ties over the last years with countries from Latin America, Africa to Asia.
Erdogan appeared to indicate that the entire alliance between Turkey — which joined Nato in 1952 with strong American backing — and Washington was at stake.
Catastrophic events took place last week in the money souks of the Bosphorus. The Turkish lira plunged 14 per cent against the US dollar on Friday alone. The shock waves of the Turkish lira’s free fall led to panic selling in emerging market currencies and the euro. The financial markets have lost all confidence in President Recep Tayyip Erdogan and his son-in-law/Finance Minister. Erdogan has ruled out an IMF bailout and opposes central bank rate hikes even though the inflation rate is 16 per cent. Even though the Turkish lira is has lost 40 per cent in 2018, I am not tempted to bottom fish as tensions with Washington escalate and systemic risk in Turkish banking soars.
As a feared, US dollar short term rates have begun to rise, as the rise in Libor and even Eibor in the past few months attests. There have been seven rate hikes by the FOMC since the US central bank began its tightening cycle in December 2015. In addition, the Federal Reserve has shrunk its balance sheet by $300 billion to $4.2 trillion. By year end, the Fed Funds rate target will be 2.25-2.50 per cent. The Fed’s balance sheet will shrink by a cumulative $750 billion in 2018 and 2019. This will happen at the same times as Uncle Sam goes on a borrowing spree via US Treasury bill issuance. Three month Libor, the bellwether interest rate for global finance, is now 2.3 per cent, the anchor behind King Dollar. I can easily envisage three-month Libor at least a 150 basis points higher or almost four per cent next summer. This will have a seismic, even traumatic impact on financial markets. For instance, a collapse of the US and UK commercial real estate market is now possible and I expect a wave of corporate defaults/bank failures in leveraged emerging market economics. Turkey is just the tip of the iceberg. A world addicted to reckless borrowing and colossal debt loads will now learn to pay the price of its leveraged greed as a rising Libor spawns the next credit crunch. This is a replay of 2008 and King Dollar will be the only real refuge/ safe haven currency on the planet though the Japanese yen could again surge to 100.
The fall in the euro to 1.14 is a testament to the monetary divergence between the Federal Reserve and the ECB. US economic growth has also surged while German GDP growth has disappointed relative to expectations. Political risk in Italy and an Élysée Palace scandal has also led to weakness in the euro even though Mario Draghi has tried to talk money market rates higher. Industrial production data from Spain, the highest GDP growth, major economy in the eurozone, was a disappointment. Unless the euro convincingly scales its 50 day moving at 1.1670, the strategic default trade de jour is to remain short the single currency against King of King Dollar, heir to Darius, Cyrus and Xerxes.
The short-term reaction to the diplomatic spat between Saudi Arabia and Canada is to short the loonie at 1.30 for a 1.33 target. It is significant that the Canadian dollar is also underperforming most G10 currencies after Tuesday’s classic bearish reversal. Saudi pension fund selling of Canadian dollar bonds will exacerbate loonie weakness amid illiquid August trading. However, I believe the downside risk to the Canadian dollar will be limited due to stronger than consensus economic data momentum, geopolitical/supply risk in a light crude oil market and money market expectations of a 25 basis point Bank of Canada rate hikes this autumn. This means that the loonie remains a “buy on dips” strategy as the scale of Saudi-Canada trade is too small to warrant any permanent damage to Canada’s balance of payments. Risk reversals in the foreign exchange option market do not really indicate any real demand for loonie weakness protection.
Sterling’s fall below 1.28 is due to speculation that Britain is heading for Brexit without a trade deal with the EU. This is the reason sterling has also slumped to 10 month lows against the euro. The risk of a nodeal Brexit, estimated at 60 per cent by Trade Secretary Liam Fox, leaves sterling vulnerable to further selling in the months ahead, particularly if UK economic data momentum stalls. Chicago futures positioning data indicate that both leveraged funds and real money accounts have increased short cable bets. In this milieu, I can easily envisage 1.25 as a strategic target and ING Bank estimates the euro-sterling rate that reflects no deal Brexit risk as 0.92.