Turkey’s lira hits new low as bank debts rise
TURKEY’S banks are dangerously reliant on short-term foreign debt and risk a full-blown crisis unless drastic measures are taken to stabilise the plummeting Turkish lira.
President Recep Tayyip Erdoğan has refused to grasp the nettle of fiscal austerity or call in the International Monetary Fund to restore credibility, falling back on defiant rhetoric as the financial meltdown threatens to metastasise.
The currency weakened to a record low of $5.57 to the dollar, crashing over 5pc yesterday in what is fast turning into a disorderly rout. The lira has lost 37pc since late February, a brutal shock for firms with $220bn (£171bn) of hard currency debt.
The latest drama follows the failure of make-or-break talks in Washington. Mr Erdoğan risks escalating sanctions in a political showdown with the Trump administration over an American pastor held for alleged espionage.
The lira slide has combined with an incipient debt crisis. Yields on five-year sovereign debt surged 47 basis points yesterday to a crisis-high of 21.2pc.
“Erdoğan has run out of luck: it is a perfect cocktail. When yields spike like this, public finances become unsustainable very quickly,” said Lars Christensen, an emerging market expert at Markets and Money Advisory.
“The question for markets is figuring out whether Erdoğan is turning into another version of Maduro in Venezuela – disconnected from reality and blaming everything on a global conspiracy – or whether he is more like Vladimir Putin. Putin has always understood that in the end an economic crisis could threaten his rule, and must be avoided.”
In a surreal twist, there is scarcely a word on the unfolding crisis in most of Turkey’s newspapers, a sign of the suffocation of the free media under Mr Erdoğan’s authoritarian one-man rule.
The plunging currency has left banks and large parts of the corporate sector scrambling to cover dollar debts.
The country has built up $180bn of foreign loans on maturities of less than one-year. Much of this is benign intracompany debt or trade finance, but a large chunk is not.
The current account deficit has reached 6.5pc of GDP after rampant overheating and pre-electoral pump priming. Gross financing needs over the next 12 months have ballooned to $230bn.
A constant inflow of foreign capital is needed to plug the funding gap. This leaves Turkey acutely vulnerable to crumbling confidence and a “rollover” shock. Foreign exchange reserves of $73bn have fallen far below the IMF’S minimum safety threshold.
The “Turkish Tiger” is suddenly staring into the face of a boom-bust recession and the sort of “balance sheet” hangover that has bedevilled Brazil since 2012.
Yasemin Engin from Capital Economics said the strains are spreading to
the Turkish banking system. “Rising defaults could lead to a build-up of counterparty risk,” she said.
Many of the companies with dollar debts operate in real estate, construction, or the local power sector. They do not have a revenue stream in dollars to offset their hard currency liabilities, and only half have protective hedges.
The ratio of private sector credit to GDP has surged by 45 percentage points since 2004, a classic red flag. This is doubly risky, since in Turkey’s case it is no longer covered by stable internal deposits.
“Much of the recent credit binge has been funded by borrowing from foreign wholesale markets. If foreign funding were to dry up, a credit crunch would ensue,” she said.
One investment banker with close ties to Turkey said the country’s banks are more vulnerable than they look on dollar exposure. While they have passed on the dollar exchange risk to companies, they are coming under political pressure to show forbearance and stretch out debt. It is covert restructuring at the cost of the banks.
Huseyin Aydin, head of the Turkish banking association, said the banks were in rude good health and “do not see any problem extending new loans”.
Foreign banks with $267bn of exposure to Turkey are starting to suffer fallout. The legendary “big short” investor Steve Eisman is targeting Spanish lender BBVA, which makes almost a
‘Much of the recent credit binge has been funded by borrowing from foreign wholesale markets’
third of its profits in the country though its holdings in Guaranty Bank. BBVA’S shares have fallen 15pc since mid-may.
Mr Eisman is also shorting Unicredit on Turkish risk. France’s BNP Paribas, the Dutch bank ING and HSBC all have substantial interests in the country.
Tim Ash from Bluebay Asset Management said Turkey’s credibility is at “rock bottom” after the central bank’s failure to stem the currency slide with rate rises. The last straw was the appointment of Mr Erdoğan’s son-in-law as finance minister, replacing a marketfriendly Merrill Lynch veteran.
The worry is that investors with $50bn in foreign portfolio funds – a jumpy breed – may start to pull out, setting off a capital flight crisis. Mr Christensen said Turkey’s difficulties would normally be manageable with a standard austerity package of rate rises and fiscal tightening, but first Mr Erdoğan has to recognise that the current course is untenable.
Emerging market countries were able to get away with credit booms and deficit spending when interest rates across the developed world were near zero. It is a different story in 2018 as the monetary tide turns. The US Federal Reserve is raising rates briskly, draining the pool of worldwide dollar liquidity.
Emerging markets have racked up $7.2 trillion of dollar debt in loans, bond issues and equivalent derivatives. Argentina and Turkey were living the furthest beyond their means on foreign funding, and were the most exposed.
The question is whether Indonesia, South Africa, Lebanon, Colombia and Hungary, among others, risk the same fate as the global cost of borrowing ratchets relentlessly upwards.