A short anatomy of the Turkish crisis
Corporate, foreign debt amplify woes,
This year has been an annus horribilis for the Turkish lira and the New York-listed Turkey exchangetraded fund. The lira has lost a catastrophic 35 per cent against the US dollar while the Turkish ETF is down a dismal 50 per cent, horrific even amid an emerging market bear market. President Erdogan’s economic team lost the confidence of the world financial markets after he bullied his central bank governor not to raise interest rates and his conviction that Turkey’s 16 per cent inflation rate was due to high interest rates engineered by a conspiracy of foreign bankers he brands as “economic terrorists”.
Turkish woes have been amplified by its systemic US dollar-denominated corporate and bank foreign debt. Turkey has the highest current account deficit in Europe, making it hostage to daisy chains of offshore hot money. A stronger US dollar, a hawkish Fed, a rise in Libor, an exodus of offshore funds from the Bosphorus money markets, the appointment of Erdogan’s son-in-law to replace the respected Mehmet Şimşek as the finance minister, the crackdown on civil society after the summer 2016 abortive military coup d’état and the threat of US sanctions have all combined to create the meltdown in the lira and the Istanbul 100 stock exchange index.
Erdogan recently described interest rates as the “mother and father of all evil” and accused a former central bank governor of “treason” because he dared to voice a need for higher interest rates to combat inflation. In fact, in the surreal topsy-turvy world of Erdoganomics, high interest rates are seen the cause, not the result of high inflation.
The Turkish state is a member of Nato and a candidate member of the EU but Ankara’s relations with the West has seriously deteriorated in the past decade. The Magnitsky Act (named after a Russian lawyer murdered in jail after he uncovered a tax heist by Kremlin insiders) was used by the Trump White House to sanction two ministers in the new Erdogan government. Turkey also backed the losing side in the Syrian civil war and has strained relations with major Arab states. The Kurdish secessionist movement in Anatolia, led by the banned PKK, has flared up again after a ceasefire with the government broke down. When Tukey’s AKP first came to power in 2002, Erdogan was hailed as a visionary statesman and economic reformer who checkmated the Praetorian instincts of Turkey’s generals, the protectors of its secular Kemalist ideology. Now Erdogan has morphed into a populist, authoritarian, anti-Western leader who has jailed more than 100,000 members of the Turkish bureaucratic elite and more journalists than anywhere in the world. Erdogan is the most powerful leader of the Turkish Republic since its founder Kemal Ataturk but Turkish politics has never been so polarised as it is now. This is not a nation poised to embrace radical economic restructuring.
It is ironic that Turkey was branded as the “Anatolian Tiger” in Erdogan’s first decade in power, thanks to 7 per cent GDP growth, the evolution of a new class of entrepreneurs and the highest foreign direct investment flows in the history of the Turkish Republic. Yet the Achilles heel of Turkey has been the spectacular collapse of its currency against the US dollar amid a chronic balance of payments and foreign debt crisis.
Turkey faces a banking crisis, a currency crisis, a political legitimacy crisis, a foreign policy crisis and a central bank credibility crisis at a time of 16 per cent inflation and alarming rise in Libor rates. The Ankara central bank is impotent and distrusted by Planet Forex. HSBC estimates Turkish banks and conglomerates need to repay $70 billion in external debt between now and summer of 2019. Moody’s has warned of a spike in corporate loan defaults and a banking crisis. It is no coincidence that the Istanbul stock exchange’s bank index has plummeted 35 per cent in 2018.
Foreign investors have scrambled to sell Turkish government T-bills, Eurobonds, bank shares, corporate debt and mutual funds. It does not help that the current account deficit has risen to 6 per cent just as the Powell Fed has turned more hawkish on rates, boosting King Dollar. The 50 per cent rise in crude oil prices has also hit Turkish balance of payments. Erdogan has ruled out an IMF bailout. So Turkey faces the grim prospect of capital controls and a deep recession.
Drop in the turkish Lira against the us dollar 35%