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OPINION:  A perfect storm for Turkish currency

15 April 2020

Currency depreciation is perceived as a “good thing” by most economists, who argue that in flexible exchange rate regimes the brunt of any external or internal shock is largely borne by the currency, rather than output.  This is generally true, but Turkey is an exception. Currency weakness “passes through” to inflation with a 2 month lag, with a 10% depreciation against the American dollar raising trend inflation by approximately 2% over the ensuing 12 months. Additionally, with over $170 billion of foreign debt service coming up in the next 12 months, Turkish banks and corporates suffer from balance sheet effects, that is their FX net worth declines, while they need more TL revenue to service FX debt.  Thus, currency fluctuations in Turkey are no laughing manner.


Realizing this, Erdogan administration has been using Central Bank reserves and state bank traders to intervene in the currency market to stop the depreciation of the currency. It also ordered the banking regulator BRSA to reduce banks’ swap limits with foreign counterparties to 1% of equity from 25% only a few months ago. These measures backfired, helping only to deplete Central Bank reserves. TL continues to weaken, whether other EM currencies are going North or South. Why?  Because Ankara tries to cure the symptoms rather than the disease.


Turkish lira plumbs 2018 crisis lows as virus hits budget finances–Ahval

Turkey’s lira plumbed the levels it traded at during a currency crisis in 2018 as concerns increased about the country’s ability to weather the financial and economic impact of the coronavirus outbreak alone.


The government posted the country’s biggest budget deficit on record, adding to the worries of analysts and investors.


The lira weakened 1.2 percent to 6.91 per dollar in Istanbul at 10 pm, following other developing country’s currencies lower and taking losses for the year to more than 15 percent. The decline over the past 12 months totalled over 20 percent. The currency briefly hit an all-time low of 7.23 per dollar in August 2018 before rebounding to trade stronger than it does today.


Ankara’s refusal for IMF aid spooks investors


Turkey has so far opted not to follow the lead of more than 90 nations and apply for International Monetary Fund assistance to help deal with the COVID-19 outbreak. President Recep Tayyip Erdogan ruled out that option again on Monday. Instead, the country has been exploring the possibility of swap deals with other central banks to bolster its finances.


Instead, the Turkish central bank has sought to defend the lira by selling its foreign currency reserves and by conducting local swap arrangements with state-run banks, meaning its net forex reserves are now in negative territory. Tim Ash, a senior emerging markets strategist at BlueBay Asset Management in London, said that strategy may no longer be sustainable.


“A better approach would be for the central bank and state-owned banks to step aside and let the currency find its right level which would act as an insulating force at this stage for the economy,” Ash said in emailed comments.


Financial Times, Bloomberg and Reuters published several stories claiming CBRT hides the true size of its swap liabilities, inflating its FX reserves. Independent experts, like former top banker Mr. Kerim Rota claim CBRT has no net reserves left.


Over the last 12 months, commercial banks rolled over on average only 70% of their maturing FX debt, adding more pressure on TL.  As exports shrink faster than imports, Turkey’s current account is set to expand at least through spring months, despite spiraling oil prices.  The primary concern through, retail depositors taking their savings out of banks, which according to at least two economists I talked to had already started. My humble estimate is that $10 bn of FX deposits may have been cashed over the last data month.


Why?  Because there is little confidence in Erdogan administration, which views an IMF stand-by as an ideological matter and tries to deal with the economic crisis by cracking down on opposition economics and the social media at large.


Erdogan is obsessed with the idea of “self-reliance”, which has infected his bright and promising scion economy czar:

“Turkey will manage the impact of the COVID-19 outbreak without aid from any international institution, Treasury and Finance Minister Berat Albayrak said in a video published on Twitter on Wednesday, pointing to the financial help it was giving to the economy under a plan worth as much as 100 billion liras ($15 billion).


I fear it will take another currency shock or balance of payments crisis to bring Mr. Erdogan to his senses. 92 countries which tapped IMF credit lines can’t be wrong.


Atilla Yesilada


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