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Analysis

Turkey’s Lira Meltdown

Outlooks are given as negative

Monday 8 October 2018, by Nazar TAMASHEVSKA

Turkey is suffering through its worst economic crisis for decades, and it is n the verge of an economic collapse.. This year, the lira has lost over 40% of its value, and only on one occasion since 1971 has Turkey had a weaker currency than today. Furthermore, political uncertainty and regional instability remain elevated, and the integration of the many refugees poses challenges.

Turkey’s economy is overheating with an inflation at a 15-year high and a current account deficit gaped at just over 7% of GDP. So when the meeting came and went and the central bank left its policy loose, investors balked. The rate of Turkish price growth has jumped from 17.9% to 24.52% on the year, while on the month an increase from 2.3% to 6.3% has been seen. The Turkish Central Bank (TCMB) hiked interest rates from 17.75% to 24% in mid-September, clearly with no immediate impact on prices.

Turkey: Monetary Policy Rates
Percent
Source: CBRT and Fund staff estimates.
(Credit: IMF)

Fitch Ratings expects banking sector profitability to weaken in 2019 due to higher funding costs following the increase in the policy rate, slower credit growth and higher impairment charges. Performance could deteriorate significantly in the case of a marked weakening of asset quality. Fitch has downgraded the Long-Term Foreign-Currency Issuer Default Ratings (LTFC IDRs) of 20 Turkish banks and their subsidiaries, the rating agency announced on October 1. The outlooks were given as negative.

Fitch also downgraded the Viability Ratings (VRs) of 12 banks. The downgrades of the banks’ VRs reflected increased risks to their stand-alone credit profiles. In Fitch’s view, the banks’ performance, asset quality, capitalisation, liquidity, and funding profiles are now more likely to come under pressure as a result of the further depreciation of the Turkish lira, the spike in interest rates (driven by the increase in the policy rate to 24% from 17.75% on September 13) and the weaker growth outlook. Fitch revised its forecasts for GDP growth downwards to 3.8% in 2018 and 1.2% in 2019.

Growth rebounded sharply in 2017, helped by strong policy stimulus in the wake of the 2016 post-coup attempt slump and by favourable external conditions. However, the International Monetary Fund (IMF) believes that, although expansionary policies were initially warranted, they are no longer appropriate. For IMF, monetary policy appears too loose and its credibility is low.

To prevent an economic collapse, comparable to what happened to Greece in 2016 and more recently in Venezuela , Turkey must introduce very painful fiscal and financial reforms. Still, for the Turkish Finance Minister, Berat Albayrak the impact of the currency devaluation is temporary. Last month, Albayrak, who is also Erdogan’s son-in-law, said Turkey had decided to work with U.S. firm McKinsey to help implement a new medium-term economic program. However, Erdogan said on Saturday he had ordered his ministers to stop receiving consulting services from McKinsey, after a government deal with it came under fire from the main opposition.

As Turkey seeks foreign investment amid its currency crisis, Ankara cut the amount of capital investment required for expatriates to obtain Turkish citizenship from $2&nbsp,mln to only $500,000. Those with bank deposits or real estate worth this amount are also eligible for citizenship. Previously, non-Turks were required to have $3 mln in the bank or at least $1 mln worth of real estate. The new rule is likely to be especially welcomed by Syrian exiled in Turkey, given the limitations of the Syrian passport for travel. However, the impact of the Turkish currency’s fall hits Syrians in Turkey hard, along their families still in Syria.

Turkish students who are studying abroad are feeling the pain of the sharp depreciation of the Turkish lira against other currencies, doubling the cost of studying abroad.

For Turkey’s neighbours, the lira’s problems have had negative consequences as well, given the tight connections between them in trade and investments. Turkey has played a very important role in the South Caucasus in the past decade, especially Azerbaijan and Georgia. Prosperous trade with Turkey has made neighbouring countries hostages of Ankara’s problems. However, the crisis in Turkey has had little impact on Armenia.

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