Tanking Turkish lira stirs fears of economic crisis

Tanking Turkish lira stirs fears of economic crisis
The Turkish lira continued to tank on January 11, falling 4% against the dollar. / Photo: CC
By bne IntelliNews January 11, 2017

The Turkish lira continued to tank on January 11, falling 4% against the dollar to a fresh record low and sparking fears among investors that an economic crisis might be ahead.

Now seen as the most vulnerable of the emerging market currencies, the lira's travails were worsened by the latest figures on Turkey's current account deficit. While beating market expectations, the deficit nevertheless rose by 1.43% y/y to $2.27bn in November.

The lira has plunged 12% against the greenback so far this year and has depreciated by nearly 30% in the past three months. The currency, which lost 17% against the USD in 2016, was by 18:10 Istanbul time down to an all-time low of 3.94 per dollar, although by 18:39 it was being traded at 3.92, up 3.33% d/d. The trading day was also marked by the Turkish central bank warning currency speculators that it was monitoring excessive volatility in the market.

The planned three-month extension of the economically costly state of emergency, brought in after last July's failed military coup along with a purge of tens of thousands of alleged Gulenist supporters, was the main factor in the sharp weakening of the lira, Michael Harris of Renaissance Capital said on January 10 in an e-mailed interview, looking at what conclusions his firm's team of analysts had drawn from the situation. Cost cutting from FX-indebted Turkish corporates, the wave of terrorism that is sustaining the crisis in tourism and the fact that almost all the government's decisions were being viewed through the short-term lens of securing support for an executive presidency were other key factors in the currency situation, Harris added. 

It is not difficult to classify Turkey as among the riskiest markets in the world right now, said Harris, adding: “If the political situation stabilises post the referendum, it’s not impossible to imagine as much as 4-5% growth in 2018, but if it doesn't it could be that the exchange rate hits TRY4-5 per dollar.”

Investor sentiment has also been affected by global anxieties over prospective Fed rate hikes, emerging markets turbulence generated by Donald Trump’s unexpected US election victory and tense relations between Ankara and the EU.

Currency players are also said to be pricing in a possible rating downgrade of Turkey by Fitch. The rating agency is expected to announce its rating review of Turkey on January 27, three days after the central bank’s next scheduled monetary policy committee meeting.

Meanwhile, Turkish government officials continue to take the line that the currency slump has been brought about by FX manipulators. They talk of a mysterious “mastermind” who is said to be behind the currency threats Turkey is facing. A so-called “interest rate lobby”, which allegedly is coordinating moves to push up interest rates in Turkey to fuel its members' profits, is described by the officials. Ankara says it believes the domestic FX markets will stabilise after Donald Trump moves into the White House on January 20.

Market pressure for a rate hike by the central bank has strengthened due to the currency devaluation and the resulting deteriorating inflation outlook. Critics say the bank's board is guilty of inertia in the face of stiff government resistance to putting up interest rates. Its credibility is eroding, they add.

With the current combination of risks clearly set to continue hitting the lira in the months ahead - at least until the referendum, expected for April, on whether there should be an executive presidency - the demon word “crisis” is being articulated more and more often.

Turkey’s still solid budget and public debt metrics as well as its still strong banking industry, which endures despite the ongoing risk perceptions, are the country’s main advantages while dealing with the significant sources of volatility. However, it should be noted that large-scale infrastructure investments, the expected referendum and potential early elections this year, along with the treasury’s rising borrowing costs, are currently corroding the fiscal metrics.

On the plus side, the depreciating lira supports exporters and thus the country's industrial production performance. However, in the fourth quarter of 2016, the early economic data were mixed. The weak lira may have contributed to improving industrial production growth in November by strengthening Turkish exporters’ competitiveness, but at the same time it meant a faltering retail trade, Ege Seckin, a MENA analyst at IHS Markit, said on January 10 in a report.

“The positive impact of rising exports on headline economic activity will be offset by what is expected to be a year of weak retail trade and household consumption gains”, according to Seckin. Seckin said he regarded the central bank’s current policy settings aimed at supporting export growth as sluggish. This sluggishness would cause interest rates to remain low even as inflation accelerated, he added.

Experts viewing the likelihood of an economic crisis are as usual looking at the Turkish economy's soft underbelly, namely its current account deficit. Turkey is heavily dependent on external loans to finance the large deficit. Debt-financed consumption was the main driver of the country’s remarkable economic growth in the last decade. As Turkey is vulnerable to a shift in risk appetite, tightening global liquidity conditions and persistent USD strength, risks over the financing of the wide and widening current account gap have been strengthening.

Another significant concern is the private sector’s huge FX liabilitiesAs economic growth is heading for a slowdown and exports remain weak, Turkey’s corporate sector, especially its tourism companies, may find it difficult to meet their liabilities. A weak and volatile currency is additionally creating problems for local companies that have accumulated a large amount of foreign debt over the past decade.

“The conclusion is the depreciation of the Turkish lira is more likely to impact the banks through broader recessionary trends versus direct defaults”, Harris said.

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