Another week, another shock to the Turkish lira. The currency plunged to a fresh historical low after Turkey’s central bank slashed its policy interest rate on Thursday by 2 percentage points.
In making the cut, the central bank showed it is the world’s only major monetary policymaker that is neither raising rates nor thinking about doing so, but reducing them instead.
We have been here multiple times before: faced with a choice between the orthodox and the unorthodox, Turkish authorities double down on the latter. Thursday’s cut was at least twice the size of what was expected on financial markets. But this week was not merely more of the same. Recent events suggest change may be on the way. The question for investors is how long it will take.
One sign of movement came in a report from Tusiad, Turkey’s largest and most powerful business association, calling for “central bank independence and cautious monetary and fiscal policy” as the basis of lasting prosperity. It followed a critique days earlier by Omer Koc, chair of one of Turkey’s most prominent business groups, of the country’s “exhausting” inflation.
Both can be seen as veiled but pointed attacks on President Recep Tayyip Erdogan and his policy beliefs, in which high interest rates cause inflation rather than curing it, and the route to prosperity is through credit-fuelled consumption.
Such comments, in fact, are not especially new. Business leaders have made similar remarks in the past without causing a stir. But now, analysts say, the momentum is moving against the government and the opposition is setting the news agenda.
“It feels like the opposition are becoming confident they can actually win, and that the [ruling] AKP is increasingly desperate, that they see Erdogan as fallible,” said Timothy Ash of BlueBay Asset Management.
One illustration of such opposition agenda-setting came on Thursday. Hours before the rate cut, Kemal Kilicdaroglu, leader of the biggest opposition party, the CHP, urged the central bank not to “take orders” on monetary policy — a reference to the widely held assumption that it is Erdogan, not the central bank governor, who sets interest rates.
It was the latest such intervention of several. Last Friday, in a rare visit to the central bank, Kilicdaroglu reportedly warned the governor he had a legal duty to maintain the central bank’s independence. He then made a similar, public warning to civil servants that they would be held liable for carrying out “unlawful orders” after a change of government.
Such threats are backed up by opinion polls, showing opposition parties moving into a lead over Erdogan’s AKP and its allies. The once hugely popular president, who did so much to energise Turkey’s economy after he took office two decades ago, risks falling victim to the inflation he has drastically failed to cure. Its damage is being keenly felt by voters, analysts say.
But investors should not assume Erdogan will leave the scene any time soon. No election is due until 2023. Some analysts argue that the president will use the central bank’s already inadequate foreign exchange reserves to engineer another credit-fuelled bounce to the economy and call for a vote in the first quarter of next year, before things get irredeemably worse.
But most expect Erdogan to tough it out, in the hope that Covid-19 will recede and next year’s tourist season will rescue both the economy and his electoral prospects.
A little over a month ago, the Financial Times reported that investors were tiptoeing back into Turkey after fleeing instability earlier in the year. That has turned out to be a bad bet. In just a few weeks, global conditions have changed dramatically. The US Federal Reserve, which was previously content to “look through” rising inflation, is preparing to raise interest rates. Global growth is slowing, dragged down by the crisis in China’s property sector. Energy prices have soared — particularly bad news for Turkey, which imports much of its energy.
It is a dangerous mix, says Ray Jian, portfolio manager at Amundi, Europe’s largest fund manager. “There’s a high oil price, a dovish central bank when everybody else is quite hawkish, and tightening global financial conditions when Turkey is one of the emerging markets that most relies on external finance.”
Those tempted back to Turkey last month were drawn in by a period of relative currency stability and the prospect of high returns on local currency government bonds. But with this week’s plunge in the lira, that equation has turned against them. Any investors thinking of holding on for a change of government and a return to orthodox policymaking will need long horizons and strong nerves.
Source: Economy - ft.com
