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Erdogan ignores market in crusade against interest rates

The Turkish prime minister and the minister of economy are pushing to dramatically cut interest rates, though Turkey's Central Bank has expressed reservations.

A group led by Turkish Prime Minister Recep Tayyip Erdogan and Minister of Economy Nihat Zeybekci, enthusiastically supported by exporters behind the scenes, has declared war on the “interest lobby.”

This new "combat group" is called the “foreign exchange lobby," whose members want to lower the value of the Turkish currency so that they can increase exports. Zeybekci says that to increase exports and discourage imports the exchange rate must be 2.15-2.25 Turkish lira to the dollar (it's currently about 2.12).

The theory is that if the local currency is weak against foreign exchange, exports will increase and imports will decrease; thus, narrowing the foreign trade deficit would be partially correct. But it's not wise to link export increases solely to foreign exchange parity because there is another built-in regulator: the market.

It's not possible to lower the interest rate and lower the value of local currency by disregarding the market. The market moves according to the facts and reacts strongly to superficial interventions. That is when governments have to respond by increasing interest rates. We cannot forget how on Jan. 28, to control market fluctuations, the Turkish Central Bank was forced to increase interest rates by 5.5 points at once.

What constitutes the "interest lobby"?

What the Turkish government calls the "interest lobby" is proprietors of hot money. Hot money — which is also called “portfolio investments” — refers to giant funds floating around the globe to find the highest interest rates. These giant funds move around the world and invest temporarily in the most attractive treasury funds, bonds, stocks and deposit accounts. Developing countries in particular compete with each other to attract these funds through increasing their interest rates. Hot money owners do not only look for high interest rates but also check whether the country they are investing in is safe. Since hot money refers to a transcendental definition, various narrations have been fabricated about the owners of these funds.

Doesn’t hot money help? Of course it does. Developing countries such as Turkey with high current account deficits always need hot money to keep their economy functioning, for growth and to overcome economic hardships. Hot money actually provides time to governments for their economic rehabilitation and increases the value of their national currency. Hot money helps diminish the pressure of inflation.

However, in Turkey, foreigner investors who invest in treasury funds, bonds, stocks and deposit accounts have been touted as plunderers, despite the fact that Turkey is among one of the most dependent countries upon these funds.

As a result of this dependence, if major improvements in the economy are not undertaken simultaneously, one day when that hot money is pulled out, it might be required to offer significant concessions to attract back "interest lobby” funds, perhaps by paying unheard levels of high interest rates.

It's not politically ethical to invite the "interest lobby" in by offering them attractive rates, and then to label them as thieves and robbers.

Since 2005, the Justice and Development Party (AKP) government has been labeling and lashing out at these funds as the “interest rate lobby” for its political interests. However, the Turkish economy owes much of its economic growth to these funds and the campaign against the funds reflects a hypocritical political understanding.

In other words, there is a way to put an end to this plunder from which the government also receives some benefits: The current account deficit should be reduced and national savings should be increased so that a sustainable economy can be built, imports can be financed by national resources and dependence on foreign investors can be reduced. Thus, lower interest rates can be set. However, instead of enacting these reforms, the Turkish government has been scapegoating the “interest rate lobby” and blaming the Central Bank as their abettor.

This virtual war operates like this: The definition of "interest lobby" creates a "monster" that governments then make a show of fighting in front of an appreciative public. In fact, this is the “political rent” one earns, a situation that has been going on like this for years. Not only the current Central Bank governor, Erdem Basci, but also former Gov. Durmus Yilmaz was a target of the government over interest policy.

Former Minister of Economy Zafer Caglayan said on Aug. 18, 2010, of Yilmaz: “If today the Turkish lira is overvalued, having reached a level of encouraging imports, then the Central Bank has made a mistake. It is also because today [the exchange rate] is 1.5 [Turkish lira] to the dollar. Exporters want a parity that will allow them to be competitive."

Caglayan was voicing the grievance of exporters who constituted the core of the “exchange lobby” at the time. Then, the dollar parity was 1.5 Turkish lira, while today it is over 2.10 Turkish lira — and exporters still complain.

Mehmet Buyukeksi, the president of the Turkey Exporters Assembly, made the following statement on July 1: "Last week, the Central Bank lowered the loan interest by 0.75 points, to a level of 8.75%. We want the Central Bank to proactively continue with phased interest reductions without lagging behind market dynamics. High interest rates adversely affect decisions to invest in all sectors. We believe that competitive parity levels must be maintained by continuing to lower interests."

Exporters know well what they want, but they ignore how higher exchange parity negatively impacts inflation and citizens. Government officials appear to be unaware how their efforts to derail the Central Bank’s balanced and prudent steps are hurting the people.

Abrupt moves in foreign exchange hurt not only the lower income class but also the assets of big companies. For example in 2001, when the foreign exchange rate increased rapidly, Turkish businessmen suffered major losses. Losses in the stock market were significant, and companies lost three-fourths of their worth.

At the time, Sakip Sabanci, a legendary Turkish businessman, said, “Before the crisis, the market value of Sabanci Holding and Akbank was $16 billion. Today, it is $4 billion. Those in Ankara have no clue for a solution.” Halis Toprak, another well-known businessman, said, “My capital fell to 25%.” Huseyin Bayraktar said Bayraktar Holding lost hundreds of millions of dollars.

The crisis erupted in February 2001. In the Forbes' World's Billionaires list that was announced in June 2001, there was not a single Turkish name among the 100 wealthiest, because the value of the dollar had shot up to 1,300,000 Turkish lira from 500,000 Turkish lira. (In 2005, six zeros were erased from the Turkish lira.) Mehmet Karamehmet, owner of Cukurova Holding, who was listed in 45th place on the Forbes list in 2000, ended in 109th place in 2001, with his worth diminished from $8 billion to $3.7 billion. Sabanci, owner of Sabanci Holding, regressed from the 75th slot in 2000 to 116th place in 2001, with his worth diminished from $5.7 billion to $3.5 billion, while Rahmi Koc, who was 113th in 2000, ended in 182nd place in 2001, with his worth diminished from $4.4. billion to $2.5 billion.

Such superficial interventions made in disregard of economic dynamics remind us of those extremely unpleasant experiences, but the current chorus of “lower the interests, keep foreign currency high vis-a-vis Turkish currency” seems to have forgotten those days.

True, a major devaluation is not expected, but to intervene heavily in interest or foreign exchange rates before ensuring lasting improvements in the economy can still cause market fluctuations as we saw in January.

The Monetary Policy Council of the Central Bank lowered the interest rate by 1.23 points over the past two months — though inflation remained high — but still could not please Zeybekci, who said, “The decision of the Central Bank is far from the expectations of the sector but closer to those of money markets. Such ratios make investments and production difficult. High interest is not suitable for the Turkish lira, which should be set at its real value level."

It will not be easy for Basci to respond to the harsh criticism he is under with accusations of keeping interests high. Although the Central Bank is an independent institution, he is the bank's government-appointed governor. As he still holds this position, he can only respond in technical terms.

But Yilmaz, former governor of the Central Bank and chief adviser of the president of the Turkish Republic, gave a statement in 2007 that should not be forgotten:

“When one changes interest rates before conditions are ripe, it can backfire. In such a situation, both the producers and the public authority may have to pay even higher interest rates."

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