Turkey’s economic troubles are quickly climbing to the top of the country’s agenda amid increasing signs of a rift in the upper echelons of government in Ankara. Even the flashy 7.4% growth rate for 2017, announced March 29, failed to alleviate the economic gloom, punctuated in early March by the decision by Moody’s, the international credit rating agency, to cut Turkey’s sovereign rating further into junk territory. Coupled with other adverse indicators and global headwinds affecting emerging countries, the state of Turkey's economy has triggered in-house rows among its top managers. With next year’s election cycle in mind, President Recep Tayyip Erdogan is insisting on interest rate cuts, thereby exacerbating tensions with the Cabinet and the central bank, which sit at the steering wheel of the economy.
The friction over interest rates has been ongoing for years, but it has lately increased amid the slump of the Turkish lira, which lost 5% of its value in March alone. What has emerged as a rather novel development is that Erdogan’s outbursts behind closed doors are now leaking from the Justice and Development Party (AKP) and making headlines in the press.
Drawing on the 7.4% growth rate, the government was keen to polish its image, allowing little discussion of the serious drawbacks lurking behind the showy figure. Its efforts, however, suffered a series of blows with the release of additional economic data.
Inflation figures for March, made public April 3, offer little hope of improvement. Year-on-year consumer inflation seems to be ossifying at about 10%, and producer inflation is climbing toward 15%. In the fight against inflation, efforts to reign in cost increases, fueled by rising food and foreign exchange prices, are failing to bear fruit. The use of imports to cover supply shortages in the food sector is also proving inefficient because of the rising foreign exchange prices. In fact, the increase in the dollar price, about 5% in March alone, means higher production costs in every industry as imported materials become more expensive, thus fueling consumer prices.
The failure to slow inflation is denting any prospect of rate cuts. Erdogan may believe otherwise, but the central bank knows that reducing inflation is a precondition for cutting rates and has acted accordingly.
The increasing dollar and euro prices are especially spooking companies indebted in foreign exchange. The real sector’s net foreign exchange deficit stood at $221.5 billion in January. In a bid to minimize risks, companies have turned to buying foreign exchange, further stoking prices. Deputy Prime Minister Mehmet Simsek publicly voiced concerns about this, putting himself in Erdogan’s crosshairs.
In a March 23 speech, Simsek, who oversees the economy, criticized private companies for mismanaging their foreign exchange debt and, quoting John F. Kennedy, said, “The time to repair the roof is when the sun is shining. Interest rates are relatively low at present and economies are growing, but rain will be coming down.” The government, he stressed, will enact measures, including a limit on corporate borrowing in foreign exchange.
Because of his technocratic style and career at top global financial houses, Simsek carries weight with the markets and enjoys confidence among foreign investors. He was a senior economist at Merrill Lynch in London before joining the AKP in May 2007. Since then, he has been a fixture in the Cabinet, first as state minister for the Treasury, then as finance minister and now as deputy prime minister in charge of the economy.
Simsek’s warning angered Erdogan, apparently for highlighting Turkey’s fragilities. Without naming Simsek, the president slammed “unforgivable” missteps by colleagues who he said were supposed to build international confidence in the Turkish economy.
“There is a great achievement in growth, and while we are talking [about it], they say other things,” Erdogan said. “How can people shoot themselves in the foot? They keep whining about exchange rates. Get over with it! … Theory and practice are two different things. If you can bring them together, I’d show respect. But if you can’t, you go your way, we go ours.”
Erdogan’s rant was widely interpreted as a call for Simsek to resign. More was to come.
On April 5 in a lively report, Hurriyet described a stormy meeting of the AKP management board days earlier, including Erdogan raging about “things going on behind my back.” The president was incensed about the central bank’s December rate hike, which, he said, was announced while he was abroad and ignored his instructions for a cut, according to the report.
“They say the central bank is independent,” Erdogan was quoted as saying. “Fine, but we are the ones who pay the price for their decisions. And they call this one-man rule. What kind of one-man rule is this? We make decisions but they are not implemented.”
He further stated, “The comments of some colleagues about the economy are very misplaced. When you look at economic indicators you see at least 50 indicators developing in a positive trend, and yet they keep talking about a couple of indicators that remain problematic. This is a big impertinency. I keep warning to lower interest rates and they say ‘Ok’ at the meetings, but then they do the opposite. How is such disrespect possible?”
According to the report, Prime Minister Binali Yildirim chimed in, remarking, “[The Cabinet is] thoroughly evaluating all indicators and proposals concerning the economy.” Erdogan retorted that the discussions were not remaining confidential, but “are being shared publicly,” another apparent reproof of Simsek.
Despite rife speculation that Simsek would resign, he remains in his post. Some observers, however, believe his departure has only been delayed to avoid turbulence amid jittery markets. What course the central bank will take is an even more curious question, given Erdogan’s unrelenting pressure for rate cuts, regardless of rising foreign exchange prices.
Some pundits advocate the central bank quickly hiking rates to reign in foreign exchange prices without waiting for its regular meeting, on April 25. Others believe the country's economic managers will look for other formulae in the face of Erdogan’s stance. One formula involves the use of accumulated public funds, especially those at the Unemployment Insurance Fund, to reduce the government’s borrowing needs and thus curb the increase in interest rates. The majority of observers, however, believe that even this formula will have little effect given the scale of the general economic turbulence.
The more trouble the turbulence creates, the more the bickering between Erdogan and the Cabinet is likely to intensify, adding another curious aspect to the run-up to elections.