By Marian Karagyozov
Turkey has had a difficult economic year, with the pound collapsing against major currencies. If by the end of November the exchange rate gradually fell to 12 pounds per dollar, in December the volatility of the Turkish currency increased, reaching almost 19 pounds against the US currency on December 20.
Then, after an emergency cabinet meeting, President Recep Tayyip Erdogan announced a package of measures, including a scheme to guarantee the profitability of Turkish lira deposits. According to the plan, if individuals invest their savings in pounds, in the event of a negative difference between the value of a foreign currency deposit on the date of opening and maturity, the treasury will compensate for the loss, although the head of state did not explain where the scheme will be funded. The pound reacted positively to the statement, reaching levels of 11.09 pounds per dollar from 18.36 earlier. Economists suspected that in the evening only the central bank, acting through state-owned banks, was able to sell such an amount, despite assurances from Finance Minister Nurettin Nebati that there was no market interference. However, the positive effect of the government's actions quickly faded and by the beginning of 2022 the pound again approached 14 per dollar.
Erdogan has repeatedly said that the Turks hold $ 5,000 billion worth of gold "under the mattresses" and called on them to invest it in the financial system. Gold is a favorite refuge of Turks in economic uncertainty, and the gift of gold coins is a common custom in Turkey for weddings and other holidays. But will the Turks trust their president? The answer is rather negative, because the data of the banking regulator (BDDK) show that deposits of individuals in foreign currency two days after the announcement of the plan to stimulate deposits in pounds have not decreased.
To reduce dollarization, the Central Bank required exporters to convert 25% of their foreign currency earnings into pounds to strengthen their foreign exchange reserves, and from January 7 required banks to charge an annual commission of 1.5% for their investment in foreign currency.
The Turkish Central Bank (CCB) has not intervened in the markets since May, allowing it to partially replenish its foreign exchange reserves depleted in 2018-2020, when it sold about $ 128 billion to stabilize the pound. However, in December the CCB it was forced to intervene several times, depleting its scarce foreign exchange reserves without lasting results.
The depreciation of the pound made foreign debt service more expensive. 13% of budget expenditures for 2022 are earmarked for interest payments, as almost two-thirds of government debt ($ 220 billion) is in foreign currency. The state has also guaranteed significant private loans and possible bankruptcies of these companies would be transferred to the shoulders of taxpayers, with construction companies and the energy sector being particularly vulnerable.
Bloomberg notes that 2021 is the ninth consecutive year in which the pound continues to fall. The negative trend is likely to continue this year, not least because the Federal Reserve is preparing to stop pandemic stimulus and most countries will tighten their monetary policies. This is expected to lead to an additional outflow of investment from Turkey, which currently maintains a negative real interest rate of -7%.
The second crisis in the Turkish economy is related to high inflation. Since 2017, inflation has double-digit values and continues to grow, and according to Turkish statistics in December 2021 reached a peak for the last 19 years - 36.08% on an annual basis. However, an independent group of researchers led by economist Veysel Ulusoy said the figures were understated.
High inflation is forcing local banks to lend high-interest loans, which is why some businesses have resorted to the services of foreign banks. However, the collapse of the exchange rate makes it much more difficult for them. Corporate and bank loans in foreign currency are worth about 70% of Turkey's GDP, according to estimates by the Institute of International Finance. The situation in construction is especially serious. The sector is 90% dependent on foreign currency loans, as well as on imports of construction materials. Construction accounts for about 20 percent of economic growth in recent years and employs about 2 million people. However, expensive housing loans mean reduced property sales.
As always, inflation has hit the most vulnerable groups the hardest, including retirees (according to the OECD, 1.5 million of them receive up to £ 1,685).
The link between inflation and Turkey's exchange rate is evident in oil and gas prices, which Turkey imports almost entirely, as well as other commodities. External dependence reaches 83% in sectors such as electronics and the automotive industry. Also, due to rising fuel prices, all other goods are becoming more expensive.
Rain of price increases flooded the Turks on January 1 - public transport in major cities, car insurance, electricity (52-130%), natural gas (15-50%), tolls for some roads, bridges and tunnels. They are added to the increased taxes on vehicles and property last year. Turks are heavy smokers, and the 47% increase in the cigarette tax is not well received. The excise tax on alcohol was increased by the same amount, and secular circles see in this an attempt by the government to limit its consumption for ideological reasons. However, the data show that the consumption of illegally produced spirits is usually increasing.
It is unclear what effect the government's efforts will be to curb inflation. On the one hand, fines were imposed on large retail chains because some prices continued to rise, despite the position that the pound regained in part at the end of December. The business association MÜSİAD, which is close to the government, called on its members to reduce prices. On the other hand, the measure to guarantee deposits in pounds, a 50% increase in the minimum wage and a 30% increase in the salaries of civil servants, including doctors and teachers, are likely to require printing money.
Low interest rates maintained by CCBs are often the focus of economic analysis. The Turkish president's statements that high interest rates are the root of all economic evils are regularly quoted. Numerous analyzes have highlighted the religious justification for Erdogan's hostility to interest rates. There may be a more pragmatic explanation for the issue, as high inflation calls for interest rates to rise to cosmic levels without guaranteeing success in attracting foreign capital in the face of deteriorating political predictability and the rule of law.
Therefore, the Turkish government is betting on another strategy, which is no less risky.
Turkey will try to take advantage of the weak pound to boost its exports and become a "new China". Large European and Japanese companies have announced the relocation of their production from Asia to Turkey. Favorable for Ankara are the rivalry between the United States and China, which reduces the attractiveness of Beijing, as well as the high exchange rate of the yuan.
On January 3rd, President Erdogan announced that last year's exports had reached a record high of more than $ 225 billion. This covered 83% of imports, with Turkey's trade deficit at $ 46 billion stimulating exports, warns for more than a year the head of the association of the largest Turkish industrialists TÜSİAD Simone Kaslovski. Many Turkish products are part of global supply chains and are dependent on imported products. Also, building entirely local production usually takes time.
Another political risk to the Turkish economy is frequent shifts in the top echelons of the economy and finance. Since mid-2019, the Turkish president has replaced three central bank governors. According to observers, relations between RT Erdogan and current Governor Shahap Kavjoglu have also cooled due to his lack of English language skills (important for communicating with foreign investors) and his inability to cope with inflation. Recently, after only a year and 21 days in office, Economy Minister Lutfi Elvan was replaced. He was replaced by Nurettin Nebati, a loyalist to Erdogan, a doctor of public administration and owner of a textile business.
In 2022, Ankara is unlikely to be able to solve all the economic problems that have been accumulating for years. After the global crisis of 2008, Turkey relied on the construction boom and consumption at the expense of credit expansion as the main stimulus to the economy, but they are highly dependent on the constant inflow of fresh money and domestic and external conditions deteriorated sharply. Since 2013 Turkey has entered a cycle of political instability as the country has experienced mass protests, coup attempts, seven local, parliamentary or presidential elections and once voted in a referendum to change the constitution. This instability has been combined with an influx of over 4 million refugees and migrants, with GDP per capita since 2013 (when it reached $ 12,600) steadily declining and now below 2007 levels. At the same time, unemployment, especially youth unemployment, it has been steadily rising over the last decade, and the Covid-19 pandemic has also helped keep employment from recovering quickly.
If the actions of the US Fed or other domestic Turkish or foreign factors do not cause significant market shocks, the Turkish financial system could avoid the worst-case scenario, despite inflation and the depreciation of the pound, which impoverishes the majority of Turks. The significant risks facing the Turkish economy are evident in the value of the credit default swap (CDS) for a 5-year period, which was 566 points on January 4th, while only two months ago it fluctuated between 470 and 500 points - more than twice more than the assessment of the risk of bankruptcy of countries with similar economies.
The question of the fate of state guarantees given to private companies for mega-projects such as highways, bridges and airports, as well as large-scale infrastructure investments such as the Istanbul Canal project, the space program and others will remain open.
THE BOTTOM LINE: In 2022 Ankara is unlikely to be able to solve all the economic problems that have been accumulating for years.
Carriage
Governors of the Turkish Central Bank since 2016:
Murat Chetinkaya (April 19, 2016 - July 6, 2019)
Murat Uysal (July 6, 2019 - November 7, 2020)
Naji Agbal (November 7, 2020 - March 20, 2021)
Shahap Kavjoglu (March 20, 2021 -)
Average exchange rate of the Turkish lira to the dollar
2002: 1.50
2003: 1.49
2004: 1.42
2005: 1.34
2006: 1.43
2007: 1.30
2008: 1.29
2009: 1.54
2010: 1.50
2011: 1.67
2012: 1,79
2013: 1,90
2014: 2,18
2015: 2,72
2016: 3,01
2017: 3,64
2018: 4,81
2019: 5,67
2020: 7,00
2021: 9,00
