Turkey Policy-Making Paralysis Promises More Markets Tumult
(Bloomberg) -- Turkey is set for another week of financial-market turmoil with its face-off with the U.S. showing no sign of abating.
While officials in Ankara, Istanbul and Washington have the means to stem the mayhem that sent the lira down 25 percent in the past month, the will to deploy them was absent through much of the weekend, with Recep Tayyip Erdogan maintaining his defiance toward the U.S. and financial-market orthodoxy in speeches Sunday.
Pressured by U.S. sanctions and a new constitutional order that concentrates power in Erdogan’s hands, Turkey’s central bank and finance ministry did little more than monitor the worst market beating since the rout that took out much of the country’s financial sector in 2001. The nation’s Banking Regulation and Supervision Agency did step in early Monday to limit the amount of foreign currency and lira swaps, and swap-like transactions, to 50 percent of banks’ legal shareholder equity.
Finance Minister Berat Albayrak sought to calm investors Sunday evening in a newspaper interview. He said the ministry has prepared an action plan that will be announced Monday, with the nation’s institutions ready to take the “necessary steps” to calm markets.
Turkey is “living very dangerously,” Jacob Funk Kirkegaard, a senior fellow at the Peterson Institute for International Economics in Washington, said in a Bloomberg Television interview. “If the central bank in Ankara was truly independent, I think that it’d be raising interest rates now and rapidly so."
Turkey’s lira extended its precipitous slide Monday, with the selloff spreading to other emerging market currencies. It weakened past 7.23 per dollar to a new record low in thin trading in Asia, before paring losses to 7.0060 at 11:09 a.m. in Singapore. The South African rand also fell to its weakest in more than two years, while the Mexican peso dropped almost 2 percent against the greenback.
While investors are pleading for dramatic central bank action to bolster the lira, Turkish officials fear that even a huge increase in borrowing costs could be quickly offset by another round of U.S. sanctions, according to two people familiar with the thinking of the country’s economic administration.
The bottom line in this line of thinking in Ankara: Until relations between the two NATO allies are restored, no policy lever is worth pulling.
As of Sunday, Erdogan showed no willingness to meet President Donald Trump’s condition for mending ties: releasing a U.S evangelical pastor, Andrew Brunson, who’s been imprisoned in Turkey for almost two years on charges of participating in a 2016 attempted coup.
Given Erdogan’s rhetoric -- he called for resistance and vowed not to give in to threats - a solution requires either a gesture from the Trump administration allowing Erdogan to save face, or a humiliating reversal by the Turkish president. Neither looks likely.
‘Whatever It Takes’
A Turkish acknowledgment of the dangers ahead is nevertheless needed to soothe markets and even if the central bank provides only a stop-gap solution, it should still be done, according to Refet Gurkaynak, a professor of economics at Bilkent University in Ankara.
“Both because the lira return will matter some and, more importantly, because it will signal that they are not looking at off-market solutions such as capital controls, conversion of FX deposits" and other unorthodox policies, he said. “To work, it will have to be large and would have to be accompanied by a ‘whatever it takes’ statement."
Last week, some investors were calling for the 17.75 percent benchmark rate to be jacked 1000 basis points.
Seen from another angle, Gurkaynak adds, letting the pastor go would also only provide a respite for the economy already plagued by hundreds of billions of dollars in foreign debt, runaway inflation and one of the world’s largest current-account deficits.
“Deep down the problem is the lack of any kind of governance in the country," he said. “It would be very hard for this government to convince anyone that they are capable of designing and carrying out a sensible program."
Win Thin, a strategist at Brown Brothers Harriman in New York, agreed, calling the pastor “a sideshow."
“The lira was in trouble and under pressure even without these heightened tensions with the U.S.," he said, adding Turkey suffers from “a lack of market-friendly officials.”
“Policy making is too top-heavy and run by Erdogan, and he simply has no idea how markets work," he said. “In past crises, market-friend officials played a larger part, but now they have been ejected or marginalized."
The paralysis in Ankara follows snap elections in June that kept Erdogan in charge and handed him extraordinary powers and weakened parliament, putting a 2017 referendum into action. Some analysts speculate the early vote was a tactical move to act before economic imbalances became manifest. When Turkey voted last year for a shift to a presidential system, Erdogan’s advisers thought they’d need at least two years to pass legislation necessary to prepare for the structure.
So Erdogan’s victory at the elections on June 24 washed away the old Turkey but there wasn’t a new system in place on June 25. That became obvious in the flood of decrees he has since published, one of them giving him greater control over the central bank. Interviews with dozens of officials at Turkey’s institutions over the past months show that many of them, even at the highest levels, don’t know what the new system means for them or for their agencies. With that kind of power vacuum, everyone simply defers to the leader.
Still, in private, officials say they know what’s needed, namely central bank and fiscal tightening, an end to the spat with the U.S. and a message reassuring investors about the independence of monetary policy. But they also know they need all of those things at the same time, and there’s only one person who could coordinate and approve such action.
As of Sunday, there was no sign that Erdogan was willing to do that.
On relations with the U.S., Erdogan said Turkey was willing to say “bye-bye" to its old ally as he said it was working day and night for new partners and fresh markets. On interest rates, he called them a tool that merely makes the rich richer, and vowed never to give in for as long as he’s alive. He also ruled out an agreement with the IMF, saying those calling for it were really calling for the nation to relinquish its political independence.
“It was clear Turkey would not be governable this way and it is not," said Gurkaynak, the professor in Ankara.
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