August 6, 2018

Breakingviews: Tough Turkish Talk

by Breakingviews.

President Tayyip Erdogan is engaged in too many squabbles for the Turkish lira’s good. He has already alienated global money managers, who worry that his influence is preventing the central bank from doing enough to curb inflation. Now, relations with the United States have turned tetchy. The tougher the line that Erdogan takes with the world’s largest economy, the more investors will punish Turkish assets.

The lira’s latest travails are a taste of what could come. The currency fell 2 percent to a new record low of 5.19 against the U.S. dollar on Monday, the first chance traders had to react to the U.S. announcement on Friday of a review of Turkey’s duty-free access to its markets. The move was a riposte to Ankara imposing retaliatory tariffs on U.S. goods in response to American tariffs on steel and aluminium.

Granted, only about $1.7 billion of Turkish goods may be affected, roughly one percent of last year’s exports. But Ankara is also riled because Washington has announced sanctions against two Turkish ministers in response to the trial in Turkey of an American Christian pastor. The risk is that Erdogan ramps up the rhetoric rather than trying to calm tensions with his NATO ally, further spooking markets.

That would be harmful to a country which relies on foreign money to fund itself. The current account deficit was 5.5 percent of GDP in 2017 and could widen as the 27 percent decline in the lira’s value against the dollar so far this year pushes up import costs. And, as the International Monetary Fund pointed out in April, gross external debt of around 50 percent of GDP and the economy’s large annual refinancing needs, equivalent to roughly 20 percent of GDP, leave Turkey vulnerable to swings in exchange rate valuations and market confidence.

Those risks may start materialising. Policy rates of 17.75 percent look less impressive after accounting for inflation, which is running at nearly 16 percent, its highest in more than 14 years. And Erdogan’s call on Friday for citizens to convert their hard currency and gold into lira may make investors wonder how quickly official reserves are being used up. Erdogan has a firm grip on political power after winning elections in June. But his control over what happens to the economy is weakening.

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