Turkey expects economic growth to slow sharply in the next three years as the government cuts spending and combats inflation, Finance Minister Berat Albayrak said on Thursday, seeking to shore up the $800 billion economy amid a crisis that crashed the lira and hit banks and corporate balance sheets hard.
Albayrak revealed the government’s revised expectations in a medium-term economic program (MTP) that covers the period until 2021. The presentation had been widely anticipated by rattled investors as a prescription for recovery in yet another test for the neophyte finance minister, who was named to the post by his father-in-law, President Recep Tayyip Erdogan, on July 9.
Since then, the lira has lost more than a quarter of its value as investors dumped Turkish assets, worried about Erdogan’s control over the economy. Now they want to see Turkey implement austerity measures, even as Erdogan continues to push for lower interest rates to keep credit cheap and the economy growing.
For the moment, tighter fiscal policy appears to have won out as Albayrak unveiled the government’s forecasts for the next three years. Gross domestic product is seen increasing 3.8% this year before slowing to 2.3% next year, compared with previous government forecasts of 5.5% for both years, according to Albayrak’s presentation. Slower growth will persist in 2020 and 2021. Last year, the economy expanded by 7.4%, the fastest in the G20.
“Our main motivation is to write a new success story. That’s why we called this the New Economy Program,” Albayrak said.
Market reactions to his plan were mixed. The lira initially rallied, but erased its gains later in the day. Turkish banking bonds strengthened slightly.
Refet Gurkaynak, an economist at Bilkent University in Ankara, said the growth targets were “realistic, if optimistic," adding, "This may be, but the contraction may be much more severe without proper policies.”
Albayrak pledged to develop policies to support exports and production, moving Turkey away from the construction-fueled growth that has ballooned Turkey’s trade deficit and upended budgetary balances. Some two million new jobs will be created over the next three years, he said, even as unemployment climbs to 12.1% next year from 10% now.
“We have created a lot of employment in construction in the last few years,” Gurkaynak told Al-Monitor. “Since much of the problem is in the construction industry, it will choke up the employment it had absorbed, so we are going to see unemployment go up way faster than foreseen in the MTP.”
Consumer price inflation will accelerate to 20.8% by the end of the year, nearly triple the previous forecast of 7%, the program showed. Prices will rise more slowly in 2019 at 15.9%, compared with an earlier forecast of 6%.
“The Central Bank will continue to use all instruments it possesses in a determined and independent manner to ensure price stability,” said Albayrak.
Questions about its ability to act without Erdogan’s consent have dogged the Central Bank. The president, who subscribes to an unconventional economic theory that high interest causes inflation, has badgered policy-makers not to raise rates.
But the Central Bank hiked its benchmark rate by 6.25 percentage points last week to underpin the lira, its first increase since early June. It did so just two hours after Erdogan called interest rates “a tool of exploitation,” leading analysts to ask if the bank was finally exerting its independence or if it was engaged in a good-cop-bad-cop act with the president.
Albayrak said the banking system remains strong, pointing to a capital adequacy ratio hovering at 16% in July, but promised a comprehensive assessment to see what problems they face. Turkish lenders face an expected crunch by the end of this year, when banks must service $6 billion in foreign loans.
“If they only address the banks’ problems, then we will have banks that can lend but firms that are not lendable. So something has to be done for the real sector too. Both of those are absent in this program,” Gurkaynak said.
Albayrak promised to reduce the budget deficit and implement savings and income-generating measures worth 76 billion lira ($12 million).
The program was also thin on details on how Turkey will meet these fiscal targets, wrote Timothy Ash, senior emerging markets strategist at BlueBay Asset Management, in a note to investors. But he added, “I think Albayrak gets a pass on the MTP,” noting that the program typically lacks specifics.
One way Turkey will save money is by suspending large-scale infrastructure projects that have not yet been tendered, Albayrak said. Slashing public investments by 36% this year will help the government meet its deficit targets, said Ash.
Albayrak ascribed some blame for Turkey’s economic predicament elsewhere: “We are going through a period in which economic sanctions are being used as a weapon.”
In July, US President Donald Trump threatened to sanction Turkey for its refusal to free an American pastor held on charges he plotted to overthrow Erdogan, plunging relations between the NATO partners to their worst in decades and propelling the lira’s tumble. Erdogan has repeatedly accused Washington of “economic warfare.”
This week, Erdogan denied the country was in the throes of an economic crisis. “We are in a period of recovery now. Do not believe that there’s crisis, this is all manipulation,” he said in a speech on Wednesday, singling out shopping centers for charging tenants rent in foreign currencies.
“Do not be deceived by those who are undertaking manipulation at shopping centers and elsewhere. There will be no rent [paid] in dollars or euros. From now on, the Turkish lira will be used, or they will pay the price. This is Turkey, not the United States. Here, the lira has authority. You will rent your store in Turkish lira and do your shopping in lira.”
About 70% of rent at Turkey’s 403 malls is denominated in foreign currency. Last week, Erdogan gave them and other businesses with contracts in foreign currency a month to switch to agreements denominated in lira.
Turkey’s total corporate debt is calculated at $520 billion, of which foreign-exchange loans total $300 billion. Businesses that contract in foreign currency often do so because they have borrowed in euros or dollars during the credit boom. Now they too may face a hit.
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