Turkey... and the fact that you could see it coming doesn't make it any less tragic

ref: "Erdogan rate cut mantra fuels worst lira streak in 20 years", Bloomberg markets 23/11/21

ref: "Turkey and Emerging Markets", FT Unhedged newsletter, 24/11/21

Physically, we haven't visited Turkey THAT often but when we have we have always enjoyed it... beautiful places and friendly people. Which is why we take no pleasure whatsoever in revisiting the country in this blog for an update on the financial storm descending on the nation little more than a month after we were last there.

At that time in mid-October, we were spouting on about the crashing Turkish Lira (TRY) and how USD/TRY had burst up through the significant point of TRY9.00 to the dollar. We said at the time that various banks were adjusting their end-2021 predictions to 10.00 or more, and that given the chances of a currency freefall those estimates looked a mite cautious. Yesterday, USD/TRY hit 13.50, the latest in a succession of record weak levels for the currency. It should be said that after a partial recovery the Lira closed at 13.11, and this morning as we write is trading around 12.50... possibly as a result of a chat about potential foreign exchange intervention and maybe some closing of speculative short positions. Whatever the case, this kind of breather in market movements may not count for a lot in the greater scheme of things unless backed by some fundamental rationale.

We've chosen the Bloomberg and FT pieces to reference (the FT newsletter taking a broader and more in depth look at the possible consequences for emerging markets), but the Lira collapse is covered in all financial media outlets. Well, it would be... this huge move is desperately serious for Turkey and its people. But though the numbers may have changed, the story is still essentially the same as when we looked at things in October... in fact, the story has been the same for a lot longer than that and it's one we know pretty well.

It of course revolves around President Erdogan, something of an iron-man of a leader, and his curious (some would say crazy) belief that rising inflation should be countered by the LOWERING of interest rates. His thinking is that growth, with its attendant job creation and increased exports, is the way to get Turkey out of trouble... and NOT growth-inhibiting rate rises. It's the exact opposite of what any schoolchild might learn in their first economics lesson and contrary to all accepted economic principles. Now, it's true that since the Financial Crisis and now the Pandemic some accepted wisdoms across a range of areas have been adjusted, but Mr Erdogan is on his own on this one.

The most recent official measure of Turkish inflation was a fraction under 20%, but will surely be higher at the next announcement. Mr Erdogan, who as we know sacks central bank officials who disagree with him, has engineered a 4% drop in interest rates since September. Whatever Mr Erdogan's ambitions for the economy, the inescapable fact is that Turkey is a big net importer and the damage done to the currency by the current policy is only making the inflation equation worse... much, much worse. The President has recently used Islamic tenets in a slightly dubious fashion to damn markets as a bunch of usurers, and yesterday's huge move was prompted by another rant that referred to those same markets as "financial acrobats". To put it mildly, the idea that he may change policies seems a long way off.

There's talk of the afore-mentioned foreign exchange intervention and the imposition of some form of capital controls to stem the tide, which frankly can only be stop-gap measures. Foreign money has already largely left the country when faced with such negative real returns (yields minus inflation), a fact that prompted some to hope that much of the impetus behind the move against the currency had already played out. No such luck...

One point of interest is that naturally enough the crashing currency has meant that the Turkish stock markets IN LOCAL CURRENCY have been flying (whilst those quoted in dollars have done the opposite). That may provide some small measure of comfort for wealthier Turks at home but cannot compensate for the effects of inflation allied to the loss of buying power in global markets. Besides, most Turks do not hold stock portfolios and raging inflation diminishes the value of their assets. Things are getting painful. The question is, at what point does discontent become strong enough to force political change?

We are certainly not qualified to speculate on the future for Turkish politics. Opposition parties would be seen by markets as more economically responsible - one former finance minister has likened having Mr Erdogan in charge of monetary policy to putting a child in charge of a nuclear plant. But saying that growing dissent in a democracy will lead to a change in policy or even government, is assuming an awful lot. Mr Erdogan, for all his perceived faults, has both political savvy and grim (ruthless?) determination. He does not seem the type to go anywhere quietly and to an untrained eye a smooth transition of power, should we get to that point, seems a long way from being guaranteed. Even at this advanced stage, things could get worse before they get better... and that's a big worry for Turkey and beyond.