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8/9/2018 Why Can't Turkey Stop Its Economic Nose-Dive?

- Bloomberg

Quicktake

Why Can't Turkey Stop Its Economic Nose-


Dive?
By Constantine Courcoulas, Onur Ant, and Tugce Ozsoy
August 8, 2018, 4:58 PM GMT+2

Turkey’s economic outlook has deteriorated so much that bankers and traders are starting to
talk about the need for an International Monetary Fund rescue -- a taboo topic until recently.
Some even worry that President Recep Tayyip Erdogan will impose capital controls as a last-
ditch effort to avoid raising interest rates and stop a currency plunge. Since an election in
June gave Erdogan expanded control over the economy, concerns have grown that he’ll adopt
some of his less-orthodox economic views and steer an overheated economy off a cliff. The
U.S., meanwhile, has sparked a currency crisis by threatening more sanctions over Turkey’s
jailing of an American pastor on espionage and terrorism-related charges.

1. What’s gone wrong with Turkey’s economy?

For much of Erdogan’s almost 16 years in office, Turkey enjoyed China-like levels of growth.
But unlike China, an exporting powerhouse with a current-account surplus, Turkey runs one
of the world’s largest deficits because its expansion was fueled by foreign debt. That all
seemed fine when the world’s central banks were pumping cash into markets to help pull
economies out of a crisis. But not anymore, as global interest rates rise and investors, less
enamored with emerging markets, pull funds back

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8/9/2018 Why Can't Turkey Stop Its Economic Nose-Dive? - Bloomberg

<https://www.bloomberg.com/news/articles/2018 05 29/why-some-emerging-markets-are-
suddenly-melting-down-quicktake> to developed economies. Turkey missed an opportunity
during this period to direct the tens of billions it received from abroad into long-term
productivity gains, burying much of it in construction projects and shopping malls instead.

2. So how are things looking now?

Not too good. Inflation is above 15 percent, more than triple the central bank’s target. Yields
on government-issued debt are at record highs, and the Turkish lira is melting down. All that
not only hurts consumer sentiment and wallets, it pushes corporate balance sheets closer to
the abyss. Companies that borrowed heavily in foreign currencies now face a growing burden
due to the tanking lira and rising borrowing costs. Instead of reducing government debt and
deferring to the central bank to cool the economy with higher interest rates, Erdogan wants
to keep the party going with low interest rates to finance even more construction.

3. Why have bond prices plummeted?

Turkey has overtaken Argentina as the world’s worst place for sovereign debt investors. The
yield on 10-year bonds has surged to an all-time high, above 20 percent. One reason is that
investors are being scared off <https://www.bloomberg.com/news/articles/2018 08 07/new-
dollar-debt-will-be-elusive-to-turkey-as-u-s-sanctions-bite> . A current-account deficit
estimated to be over 6 percent of gross domestic product this year -- one of the widest gaps in
emerging markets -- requires Turkey to constantly attract funding from abroad. The
government also needs to keep a lid on inflation to avoid scaring investors away, especially
with GDP expansion expected to slow dramatically. While the central bank has raised interest
rates by 500 basis point since April (a basis point is one hundredth of a percent), that hasn’t
been enough to keep inflation in check, and investors fear that Erdogan will continue
pressuring it not to do so.

4. Why is the lira so weak?

Reasons for the decline include political turmoil after a 2016 failed coup attempt against
Erdogan and growing tensions with Europe and the U.S. But the lira is also plunging because
the Turkish administration pursued a growth-at-all-costs agenda that fueled inflation.
Remember, in Turkey, more growth means more debt. The currency’s fall is especially
painful for an economy where even exports are heavily dependent on imports, including
ener y, and for a corporate sector sitting on a net foreign-currency shortfall of more than
$210 billion.

5. Why is inflation so high?


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8/9/2018 Why Can't Turkey Stop Its Economic Nose-Dive? - Bloomberg

At 15.85 percent, inflation is spiraling out of control because the lira’s slide keeps driving up
the cost of imports. Most central banks would have addressed the problem by boosting
interest rates before the currency begins to depreciate, the conventional remedy when prices
are rising too quickly. But investors believe the Turkish central bank’s hands are tied by
Erdogan, who has long opposed high borrowing costs and has his own views on what causes
inflation. That means when the bank finally did act, the damage was already done.

6. What exactly are Erdogan’s economic beliefs?

Erdogan argues that the opposite of the textbook theory is correct: High interest rates
actually cause inflation, he says. So the president has repeatedly called for lower rates at a
time when most economists say they need to be higher. He’s also equated higher financing
costs with treason and railed against what he’s called an “interest rate lobby” of speculators
seeking to exploit Turkey and earn higher returns. For Erdogan, it’s not only an economic
argument, it’s also part of his strate y to win over voter loyalty. His political success was built
largely on promising -- and delivering -- economic benefits to a growing middle class, using
mega-projects to create jobs and showcase Turkey’s rising prosperity. His government
returned to that recipe after the coup attempt triggered an economic contraction. Stimulus
measures, including backing loans through a credit guarantee fund, drove a 7.4 percent
expansion in the first quarter.

7. Will Turkey need an IMF bailout?

That would be a bitter pill to swallow for Erdogan, who takes enormous pride in paying off all
of Turkey’s debt from a previous rescue package, and who claims the country has finally
achieved economic independence. But the reality is that Turkey is just as reliant on the
outside world as ever, perhaps even more so. If foreign lenders stop rolling over their loans to
Turkish banks and companies, the whole economy could grind to a halt in what investors call
a “hard landing" scenario. If that happens, economists are starting to predict that Turkey will
eventually be knocking on the IMF’s door.

The Reference Shelf

A QuickTake explainer <https://www.bloomberg.com/view/quicktake/central-bank-


independence> on central bank independence around the globe.

A Bloomberg report <https://www.bloomberg.com/news/articles/2014 06 29/econ-101-is-


bunk-to-erdogan-in-debate-on-interest-rates-role> on Erdogan’s economic policies.

A QuickTake on Turkey’s recent political dramas


<https://www.bloomberg.com/view/quicktake/turkeys-continental-divide> , including

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8/9/2018 Why Can't Turkey Stop Its Economic Nose-Dive? - Bloomberg

Erdogan’s accumulation of sweeping new powers and his efforts to stifle debate after a
failed coup.

Another Bloomberg explainer on why the U.S. and Turkey are at odds
<https://www.bloomberg.com/politics/articles/2018 07 31/allies-in-name-only-the-u-s-and-
turkey-slug-it-out-quicktake> .
In this article
TRY
Turkish Lira Spot
5.4240 TRY +0.1451 +2.7487%

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