The Turkish Lira is plunging despite high growth. Why?

Turkey had a record growth rate of 7.4 percent in 2017. As of April, the lira has depreciated by 8 percent in 2018. This trend, it seems, will continue. Can we say that record growth has made the Lira more vulnerable? And if so, why?

Let me start with the salient characteristics of the Turkish economy. Turkey has always suffered from a low savings rate. Turkey has always had a current account deficit. Since it did not have enough resources to fund its growth, it borrowed from foreigners. This is just how the country is built. So if Turkey grows at an exorbitant rate, it needs to borrow more. That means 7.4 percent has consequences. Fair enough.

But this by itself could not be a reason for the Lira’s depreciation. It is not about speeding up growth per se, but rather speeding up in this global and regional environment with current economic policies. That’s what makes the difference. Let me try to define what I have in mind.

First, the global environment. Financial markets have moved from quantitative easing (QE) to quantitative tightening (QT). This is a hell of a change. “QE is a period of too much money chasing too few bonds while QT is just the opposite” said a Bank Of America analysis. Scarcer money chasing many more bonds means more competition for funds. This means higher interest rates and higher funding costs. This is not good for a country that needs to borrow to grow. Borrowing always means being more vulnerable. Need to borrow more now makes your country more vulnerable just by definition. That’s one way global developments are hastening the depreciation of the Lira.

Second, regional dynamics are quickly changing. The Syrian Civil War continues to weigh Turkey down. It derailed the Kurdish reconciliation process and brought back Ankara’s existential fears. Now that the winners and losers have become more visible on the ground, the war will enter a new stage where a new constitution is to be written. Turkey has so far acted together with Russia and Iran out of practical reasons, but it has a different vision of the endgame than those countries. Turkey’s traditional allies in the West lack a clear-cut Syria strategy, and even if they did, it would also likely to conflict with Ankara’s interests. So it looks like Turkey is going to go through a tough time geopolitically.

In this new global setting, the West is likely going to take a tougher stance against the revisionist powers of Russia and Iran. Taking one quick look at the people around President Trump, it is entirely conceivable that Turkey might also be put into that basket of countries. The prospect of that kind of friendly fire won’t do good for the Lira.

Third, Turkey lacks a smart game plan. And that’s putting it mildly. Ankara is focused on the 2019 elections, and very few think seriously about the changing ecosystem we are in. Domestic monetary easing in an era of global tightening is not a smart decision, but it appears inevitable.

I have to confess that what is happening and what is about to happen is not even interesting economics. It is basic. So obvious. It is like the story of a murder foretold. Like the case of Tansu Çiller in April of 1994. That year, the Lira depreciated 50 percent when the Treasury cancelled T-Bill auctions and left all that Lira in the market with no instrument to mop up the liquidity. A rather boring tale in terms of economics, but fascinating for someone interested in the way institutions in nascent democracies work.

Soon after the 1994 crisis, someone on a panel in Washington DC said “Why bother to write something on this, this is like asking what will happen to a pressure cooker if you leave it on the oven too long. You don’t need a degree in chemistry to know that the thing is going to explode.” You really don’t.

This commentary was published in Hürriyet Daily News on 07.04.2018


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Notes from Turkey: It’s the economy, stupid

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