The Turkish lira hit a record low on Thursday after President Recep Tayyip Erdogan said interest rates would decline, spooking financial investors already skittish about his new government’s ability to manage a potential currency crisis.
The lira, which has lost more than a fifth of its value so far this year, hit a record low of 4.98 to the dollar before recovering some of its losses. It is still down about 6% this week after Erdogan appointed Berat Albayrak, who is married to his daughter, to run the economy in a cabinet he announced after swearing in as Turkey’s vastly empowered president on Monday.
The nominally independent Central Bank may have little room to maneuver despite signs Turkey may be heading toward a currency crisis, with Erdogan now firmly in control of the levers of power following his election last month to Turkey’s newly minted executive presidency in the wake of constitutional changes he designed and won approval for in a 2017 referendum.
The lira’s precipitous fall came after Erdogan doubled down on his frequent demand for lower interest rates. Newspapers quoted him as saying on Wednesday, “I believe we will see interest rates fall in the coming period.”
Investors have expressed little confidence that Albayrak will disobey his formidable father-in-law, who subscribes to the unconventional view that lower interest rates will tame inflation, which reached a 14-year high at 15.4% in June.
But the normally taciturn Albayrak delivered a statement to the state state-run Anadolu news agency, promising “a Central Bank more effective than ever” and that single-digit inflation was a priority, helping ease the sell-off in the lira.
Turkey needs billions of dollars in foreign inflows to fund a gaping current account deficit, which widened by a more-than-expected 10% year-on-year in May to $5.89 billion, or 6.7% of gross domestic product, official figures showed on Wednesday.
But it may have trouble attracting that kind of investment amid concerns about the stewardship of this $880 billion economy.
“Erdogan’s new dynasty makes Turkey uninvestable,” wrote Bloomberg columnist Marcus Asworth on Tuesday. “For investors, the best course is almost certainly to stay away. … The normal events that investors could look toward for reassurance look hopeless.”
A pious Muslim, Erdogan describes himself as “an enemy of interest rates” and interest rates as “the mother of all evils,” a philosophy that may be rooted in Islam’s proscription on usury. He also wants cheap credit to fuel Turkey’s record rates of economic growth, a key reason for his popularity after 15 years in power, first as prime minister, then as president since 2014.
The expansion has been largely driven by borrowed money, and the country’s private and public-sector debt now amounts to nearly half of gross domestic product. The onerous debt load means “Turkey is definitely vulnerable” to a financial crisis, tweeted Nobel-winning economist Paul Krugman.
Higher US bond yields, a looming global trade war and rising energy prices are sapping appetite for riskier emerging market assets like Turkey’s, which had enjoyed the blessings of global liquidity over the past decade. Now, the country needs a new vision to develop its economy because sustaining rapid growth will prove too costly, said Wolfango Piccoli of London-based consultancy Teneo Intelligence.
“The model of development used by Turkey for the last 15 years has come to an end. A new, long-term, coherent policy needs to be put forward, but right now the key decision-makers around Erdogan do not have the ability, skills or knowledge to put together a new model,” he told Al-Monitor.
Gone from the government are experienced hands Naci Agbal, the ex-finance minister, and Mehmet Simsek, a former London investment banker who oversaw the economy portfolio and served Erdogan for more than a decade. The two men were occasionally able to temper Erdogan’s aversion to interest rates, most recently in late May and early June, when the Central Bank was allowed, albeit belatedly, to lift rates by 4.25 percentage points in two hikes to halt the lira’s plunge.
Ratings agency S&P warned this week it's watching Turkey “closely” because Albayrak’s appointment as finance minister showed power is increasingly centralized under Erdogan, making it harder for institutions to make decisions that are not politically motivated, Reuters reported.
On Thursday, Moody’s said in a note to investors that the resolve to tighten monetary policy “may weaken rather than strengthen in the coming months” and further erosion of the Central Bank’s independence will dissuade foreign investment on which Turkey is dependent.
Erdogan said he had no concerns the new presidential system would create confusion because “all the bodies and institutions are tied to me,” confirming for many that Albayrak has little leverage. He also defended his choice of Albayrak, a 40-year-old former energy minister who was made chief executive of a company close to Erdogan at the age of 29, to run the economy, saying he would soon get up to speed.
“He has both practical and theoretical experience in the finance sector and has successfully worked in the private sector,” Erdogan told reporters. “I believe a friend with this kind of background will quickly get things in order.”