L ra rema ns extremely frag le

Global l qu d ty cond t ons or pol cy m ssteps could hurt the TRY aga n n 2019. After a turbulent summer, the l ra has rall ed thanks to the mass ve h ke by the CBRT and mprov ng relat ons between Ankara and Wash ngton. In our basel ne scenar o, we assume Turkey w ll not be h t by any major new U.S. sanct ons n 2019. That sa d, geopol t cs w ll rema nar sk. Issues l ke the renewal of the Iran an o l wa ver, Turk sh arms deals (del very of Russ an m ss le systems, the sale of U.S. jets on hold), or tens ons n the M ddle East w ll almost certa nly come nto focus next year. The economy has entered a rebalanc ng phase. The r sk of a hard land ng (a deep drop n output) has already altered the course of pol cy-mak ng, but 2019 w ll nevertheless be extremely challeng ng from the growth perspect ve. Runaway nflat on has started to feed nto expectat ons w th year-on-year CPI seen at 17 percent on a one-year hor zon. Overall, the l ra w ll rema n extremely vulnerable due to domest c econom c weaknesses and the reced ng t de of l qu d ty, desp te an mprov ng current account. Fundamentals have dramat cally deter orated n 2018.

Inflat on soared to 25 percent n

October, growth fell to 5.2 percent n 2Q, and the current account has rema ned largely negat ve at 6.5 percent of GDP. The s tuat on s unl kely to mprove n the short term, as the economy was far nto overheat ng terr tory. The IMF expects nflat on to rema n at double-d g t levels, and growth should collapse to 0.4 percent. In turn, th s should mpact the f scal def c t, wh ch could soon exceed 5 percent of GDP. On the pos t ve s de, the pressure on the current account should ease cons derably: the def c t should shr nk to 1.4 percent of GDP ow ng to TRY deprec at on. Also, on the pol t cal front, tens ons w th the U.S. could ease follow ng the release of the Amer can pastor. The r sk of default s largely d scounted n the sovere gn curve, and we keep a small overwe ght pos t on on Turkey. (December 6)