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By Ioannis Tirkides
The Turkish lira plummeted on 10 August dropping by almost 15% in the day against the US dollar after US president Donald Trump announced the doubling of tariffs on Turkish exports of steel and aluminium. This followed an escalation in bilateral relations where the US president announced sanctions on two Turkish ministers on account of the continued detention of an American pastor in Turkey – Andrew Brunson – and threatened to remove Turkey’s preferential treatment of a number of exports to the US.
The rising tensions between Turkey and the US are only part of the reasons for the steep decline of the Turkish lira and not the most serious ones at that. Relations between Turkey and the US have been deteriorating for some time now over a number of contentious issues including recently, pastor Brunson’s detention, but mainly about the civil war in Syria; American support for the Syrian Kurds; the prospective purchase of the Russian anti-missile system S-400; or the frozen by Congress deliveries of the F-35 fighter jets to Turkey. But in themselves, these issues cannot lead to the collapse of a currency unless there is more at play.
The Turkish lira has in fact been steadily declining since August 2008. The decline accelerated after the failed coup of July 2016 and fell precipitously by a cumulative 40% in the current year. This decline reflects a decline in confidence in Turkey. The declining confidence in turn is the result of economic as well as political factors.
On the economic front, the Turkish growth model of the past decade and a half is no longer considered sustainable. On the political front, there is unchecked power in the hands of the president with an over-ambitious agenda, and what appears to be a historic break with the West in the making. This is a crisis of confidence in the government and president Erdogan himself and will not end anytime soon.
Turkey today has a large and diversified economy, with a relatively high per capita income and low public debt. The economy has been growing uninterruptedly since 2002 at an average annual pace of 7% if we exclude the global crisis years 2008-09. The unemployment rate remains relatively high and inflation has been rising steadily in recent years.
In the public sector, the budget and debt metrics are favourable. The problem is that this growth has been fueled largely by external debt mainly in US dollars. Turkey has a low savings rate relative to its investment needs. Turkey thus had to borrow from abroad. Turkey’s external debt has thus risen and at 53% of GDP in 2017 it is relatively high. Available reserves at the central bank are not adequate to support the currency. And once the national currency devalues, the cost of paying off the foreign currency denominated loans becomes much harder with wide implications.
The political framework has deteriorated sharply in recent years. The failed coup of July 2016 ushered in a period of emergency rule that led to unprecedented purges in all areas of public life, including in the army. The constitutional reform after the referendum of April 2017, led to the most powerful institution of the president of the Turkish Republic. There are very few checks and balances on his powers. As a result of these developments there is less credibility to the government and less predictability of policy making.
Coupled with the perceived ambitions of Erdogan to elevate the regional role of Turkey, politics and foreign policy acquire precedence over economics.
Ioannis Tirkides is Head of Research at the Bank of Cyprus
