The Turkish Currency Crisis, Put Simply

By Blog Writer George Royce

Before the June 24th Turkish General Elections this year, Erdogan explicitly proclaimed that if he were to be elected as the country’s president for the second time in a row, he would exercise more direct controls over the economy. 53% of the electorate put their faith in him and he has been true to his word, adopting the style of an ‘executive president’ to shift the nation’s economy. However, what is currently going on in the Turkish economy is nothing short of a currency collapse and possible debt crisis. 

On August 10th, Trump decided to hit Turkey with a series of sanctions and tariffs, such as up to 50% on imported steel from America. This could have been prompted by the fact that an American Christian pastor Andrew Brunson was detained in 2016 and accused of being involved in the coup attempt to overthrow Erdogan. However this was merely the second in the one-two punch that started off the crisis as the ratings agency Moody’s downgraded 19 Turkish banks, saying that “The downgrades reflect Moody’s view that the operating environment in Turkey has deteriorated, with negative implications for the institutions’ funding profile.” This has done exactly what it was intended to do, as foreign investors have been thoroughly spooked and have been trying to ditch their operations in the country. Since the Turkish economy relies heavily on US-dollar investment into the country, the lira started to fall as investors, businesses and banks started to climb out of the boat. 

Also, on August 10th The European Central Bank took the mass exodus of investment in the country as a call that it must heed. The bank openly said it was concerned about how much European businesses were exposed to the Turkish economy. It is possible that Erdogan’s distinct lack of response to early rumblings of economic collapse triggered such a move by the ECB. It is noted that Erdogan has not sought to fight the immediate impact of inflation by increasing interest rates. In fact, this is exactly what economic entities like the IMF recommended as standard procedure. Instead, Erdogan put his son-in-law in the position of Finance Minister, presumably to stop anyone else from veering from his own line of thought. Staggeringly, Erdogan has said he believes higher interest rates are wrong on religious grounds, and argues they do not align with his belief in sharia law. Erdogan is not known as a supporter of secularism and indeed has a large Islamist following. This could be why so far there has been no public outcry surrounding Erdogan’s mishandling of the economy for almost 5 years. 

Essentially what this means is that the economic community has lost confidence in the Turkish economy for a number of reasons that have had a domino affect. Staying true to his word, Erdogan began to exercise executive powers over the Turkish economy, and all but threw the autonomy of the Turkish Central Bank into the garbage. Investors and lenders see this kind of authoritative action as state-run economics 101. It's viewed as thuggery, because if the president doesn’t like the unbiased monetary policy of the central bank, he can (and has) taken control of it and can puppeteer the economy however he wants.

Central banks raise interest rates to combat a drop in currency value, as there is simply more money to be made from foreign investment, therefore it's demand and value will steadily increase. Higher central bank interest rates also make treasury bonds more lucrative, which will put some economic power back in the hands of the bank. Instead Erdogan wishes to defy consensus logic, and has chosen to wait it out. This is contrary to what a central bank would recommend, hence why he put a member of his family in the position of Finance Minister who he trusts to obey his vision.

The lira has plummeted, losing up to 60% of its value against the dollar. This is a huge problem for Turkey as it has to produce more of the devastatingly devalued lira for each dollar paid back,  while the dollar is continuing to rise. This is a game of catch up Turkey is never going to win. On top of that, investors into the country want their returns in the US dollar also. The Turkish economy has been riding on imports for years, which has meant domestic business and export market become more marginalised.

Germany is Turkey’s largest lender in Europe. It hoped that Turkish government bonds would yield a healthy return but since the currency crisis began, it has watched nervously. However as of August 29 Ulrike Demmera, a government spokeswoman, has hinted that Germany will not offer financial aid to the ailing Turkish economy. She said “our position remains unchanged.” 

Help could be on the way as Qatar plans to pump $15 billion into Turkey in an attempt to stabilise the issue and maintain its own investments. Chinese investors have also been hit hard by the sudden crisis. Despite this, China is planning on investing $3.6 billion into infrastructure projects which won’t have much of an effect on the current problems Turkey is facing.

Erdogan is in a very tight spot. Increasing interest rates would be helpful, as it would steady the lira and methodically bring it's value back up. Cutting spending or increasing taxes won’t alleviate the bigger problem that is the lack of foreign investment confidence, which Turkey’s economy relies heavily upon. Erdogan has greatly exposed Turkey to the US dollar, seemingly tying a lead weight around the economy now that he and Trump are at odds. However one cannot help but see the Turkish crisis as Erdogan’s own doing. It is a prime example of what can happen when you hitch your entire economy to a foreign currency, and primarily choose to look beyond your own borders to spur growth rather than support domestic business. 

Sources and further reading

Image: World Economic Forum @flickr

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