How did Turkey’s economy turn into a disaster?
The signs of Turkey’s disastrous economy are all around. Long lines snake outside discounted bread kiosks. The price of medicine, milk and toilet paper are soaring. Some gas stations have closed after exhausting their stock. Angry outbursts have erupted on the streets.
“Unemployment, high living costs, price increases, and bills are breaking our backs,” the Confederation of Progressive Trade Unions said last month.
Even before the coronavirus pandemic and supply chain bottlenecks began walloping the world’s economies nearly two years ago, Turkey was trying to ward off a recession as it struggled with mountainous debt, steep losses in the value of the Turkish lira, and rising inflation. But in recent weeks that slow-moving train wreck has sped up with a ferocious intensity. And the foot that’s pushing hardest on the accelerator belongs to the country’s authoritarian president, Recep Tayyip Erdogan.
Why is this happening now?
Turkey’s economic problems have deep roots but the most recent crisis was caused by Erdogan’s insistence on lowering interest rates in the face of galloping inflation — precisely the opposite tactic of what economists almost universally prescribe.
Erdogan, who has ruled Turkey for 18 years, has long resisted that particularly painful prescription, but his determination to keep cutting interest rates even as the country’s inflation rate tops a staggering 21% appears to be pushing Turkey past a tipping point.
Normally, investors and others look to a nation’s central bank to keep inflation in check and set interest rates. But Erdogan has repeatedly shown that if Turkey’s central bankers and finance ministers won’t do what he wants, he will get rid of them, having already fired three in two years.
The value of the lira has nose-dived in recent weeks, and on Monday hit a record low — reaching 14.3 to a dollar, from about 7 to the dollar earlier this year — pushing some businesses and households that have borrowed money from abroad into bankruptcy. The currency’s steep decline means prices for imported goods keeps rising. Shortages are common and people are struggling to afford food and fuel. The youth unemployment rate is 25%. The president’s popularity is sinking and his opponents have become emboldened.
With an election coming up in 18 months, Erdogan seems convinced that his strategy will enable the Turkish economy to grow out of its problems. Most economists, however, say a crash is more likely.
When did Turkey’s economic problems begin?
Erdogan’s aggressive pro-growth strategies have worked for him before. Since he began governing Turkey in 2003, he has undertaken expensive infrastructure projects, courted foreign investors and encouraged businesses and consumers to load up on debt. Growth took off.
“Turkey was considered to be an economic miracle,” during the first decade of Erdogan’s rule, said Kadri Tastan, a senior fellow at the German Marshall Fund based in Brussels. Poverty was sliced in half, millions of people swelled the ranks of the middle class, and foreign investors were eager to lend.
But Erdogan’s relentless push to expand became unsustainable. Rather than pull back, however, the giddy borrowing continued.
The increasingly unstable economy was caught in a bind. High interest rates attracted foreign investors to accept the risk and keep lending, but they would stunt growth. Erdogan was unwilling to accept that trade-off, and continued to support cheap borrowing as inflation took off and the currency’s value declined.
And he insists that high interest rates cause inflation — even though it is low interest rates that put more money into circulation, encourage people to borrow and spend more, and tend to drive up the prices.
“Erdogan has his own economic philosophy,” said Henri Barkey, a fellow at the Council on Foreign Relations.
The economy seesawed between these conflicting goals until 2018 when growing political tensions between Turkey and the United States caused the value of the lira to topple.
The political standoff eased, but the underlying economic problems remained. Erdogan kept pushing state banks to offer cheap loans to households and businesses and the borrowing frenzy continued. “Things never really normalized,” said Selva Demiralp, an economist at Koc University in Istanbul.
What is Erdogan’s approach to interest rates and what do economists say?
By keeping interest rates low, Erdogan argues that consumers will be more eager to keep shopping and businesses will be more inclined to borrow, invest money in the economy and hire workers.
And if the lira loses value against the dollar, he says, Turkey’s exports will simply become cheaper and foreign consumers will want to buy even more.