Recep Tayyip Erdogan, Turkey’s president, inspects an honor guard after being sworn in under a new system of government at the Grand National Assembly of Turkey in Ankara, Turkey (Photographer: Arif Akdogan/Bloomberg)  

Turkey Moves to Ward Off Financial Crisis as U.S. Spat Worsens

(Bloomberg) -- Turkey took its boldest steps yet to try to ward off a financial crisis by making it harder for traders to bet against the battered lira and easing rules on restructuring troubled loans that have already topped $20 billion.

Turkey Moves to Ward Off Financial Crisis as U.S. Spat Worsens

As President Recep Tayyip Erdogan intensified a diplomatic feud with his U.S. counterpart Donald Trump with a spate of new import tariffs, the nation’s banking regulator published new rules that have so far succeeded at lifting the lira off record lows. Investors continued to demand higher interest rates.

The measures "are aimed at the symptoms of recent lira weakness and not the cause," said Nigel Rendell, an analyst at Medley Global Advisors LLC in London. "The cure for a persistently weak currency is not rocket science - nor is it liquidity measures and policy tweaks - it is higher interest rates."

Turkey Moves to Ward Off Financial Crisis as U.S. Spat Worsens

Erdogan, who tightened his grip on power in June elections, is refusing to give in to pressure from Trump to release an evangelical pastor who he accuses of aiding a coup attempt against him two years ago. A court on Wednesday rejected an appeal for the release of Andrew Brunson from house arrest.

The lira rallied 3.9 percent gain to 6.1114 per dollar by 4:01 p.m. in Istanbul, building on Tuesday’s 8.4 percent advance, as the banking regulator gave lenders more flexibility in dealing with Turkish companies that are struggling with debt payments.

Short Sellers

It also cut by half the amount of currency swap transactions banks can participate in to 25 percent of shareholder equity, after imposing a 50 percent curb on Monday. By driving up short-term borrowing costs, the move makes it less appealing for investors, like hedge funds, to borrow liras on the offshore swap market so they can bet against, or short, it.

The recovery spilled into the bond market, with yields on 10-year local debt falling 25 basis points to 21.12 percent.

"Measures have come one after another and their impact on markets has started to be seen," said Hakan Binbasgil, the chief executive officer of Akbank Turk AS.

Markets weren’t all rosy. The cost of insuring Turkey’s sovereign debt against default -- already higher than Pakistan and Greece -- increased as the standoff between the two NATO allies took another turn for the worse. Turkey announced on Wednesday a string of new tariffs ranging from 50 to 140 percent on rice, alcohol and cars from the U.S. in retaliation for Trump’s move to slap taxes on Turkish steel and aluminum imports last week.

On Tuesday, Erdogan called on Turks to boycott American electronics, like the iPhone, which have in any case become a lot more expensive as the lira lost almost 40 percent of its value this year.

Debt Burden

The collapse, which intensified this month and triggered contagion that spread across emerging markets, is making it much more costly for businesses to refinance at least $16 billion in bonds denominated in foreign currencies that are due by year-end, according to calculations by Bloomberg.

Turkish companies sit on a net foreign exchange debt pile of $217 billion, equal to about a quarter of gross domestic product, according to central bank data. While officially the bad debt ratio at Turkey’s banks is just 3 percent, lenders are in the process of renegotiating upwards of $20 billion of loans to try to prevent them from going into default.

Turkey Moves to Ward Off Financial Crisis as U.S. Spat Worsens

Against this backdrop, the nation’s banking regulator issued back-to-back statements starting late on Tuesday to try to ward off a crisis. Banks can now extend the maturities, refinance loans, extend new debt to help troubled companies, and seek new collateral. They can also demand debtors sell assets to repay loans. Overdue loans can now be restructured within two years from the day a framework agreement is signed.

In another unconventional step, the regulator said that until markets "normalize," it would temporarily stop applying the effect of day-to-day losses on the securities held by banks to their capital adequacy ratios.

The lira is still down 20 percent in August and many investors will wait for steep interest-rate hikes from the central bank before they return, especially with inflation at a 15-year high of almost 16 percent and climbing. On Tuesday, Turkish companies and banks joined the call for higher interest rates to stabilize the situation.

"This is the usual smoke and mirrors. It can buy time, finger in the dike, but the longer term issues remain," said Tim Ash, a senior emerging-market strategist at Bluebay Asset Management LLC in London.

While policy makers have hiked lending rates by 500 basis points this year to 17.75 percent, they’re under constant pressure from Erdogan to keep rates low because he thinks it’s better for the economy. Before winning near-absolute power in June, he pledged to meddle more in monetary policy.

With the diplomatic spat with the U.S. showing no signs of letting up, Erdogan will be speaking with German Chancellor Angela Merkel on Wednesday and French President Emmanuel Macron Thursday, his spokesman Ibrahim Kalin said in Ankara.

According to Bloomberg calculations, Turkey’s new tariffs affect goods that accounted for $1 billion of imports last year, similar to the value of the metals subjected to higher U.S. taxes. The decision shows Turkey giving a proportionate response to American “attacks” on the Turkish economy, Vice President Fuat Oktay said in a tweet.

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