Turkish currency and debt crisis, 2018
|Economy of Turkey|
|Economic history of Turkey|
The Turkish currency and debt crisis of 2018 (Turkish: Türkiye döviz ve borç krizi) is an ongoing financial crisis in Turkey with international repercussions due to financial contagion. It is characterized by the Turkish lira plunging in value, high inflation, rising borrowing costs, and correspondingly rising loan defaults. The crisis was caused by the Turkish economy's excessive current account deficit and foreign-currency debt, in combination with President Recep Tayyip Erdoğan's increasing authoritarianism and his unorthodox ideas about interest rate policy.
While the initial stage of the crisis was prominent for a major devaluation of the currency, which somewhat stabilized due to belated interest rate hikes after May, succeeding stages were characterized by debt defaults and finally by economic contraction. With the inflation rate stuck in the double digits, stagflation ensued.
- 1 Current account deficit and foreign-currency debt
- 2 Presidential interference with the central bank
- 3 Consequences in Turkey
- 4 International consequences
- 5 Conspiracy theories
- 6 Politics and corruption
- 7 See also
- 8 References
Current account deficit and foreign-currency debt
A longstanding characteristic of Turkey's economy is a low savings rate. Since Recep Tayyip Erdoğan assumed control of the government, Turkey has been running huge and growing current account deficits, $33.1 billion in 2016 and $47.3 billion in 2017, climbing to US$7.1 billion in the month of January 2018 with the rolling 12-month deficit rising to $51.6 billion, one of the largest current account deficits in the world. The economy has relied on capital inflows to fund private-sector excess, with Turkey’s banks and big firms borrowing heavily, often in foreign currencies. Under these conditions, Turkey must find approximately $200 billion a year to fund its wide current account deficit and maturing debt, while being always at risk of inflows drying up; the state has gross foreign currency reserves of just $85 billion.
The economic policy underlying these trends had increasingly been micro-managed by Erdoğan since 2008 and strongly so since 2013, with a focus on the construction industry, state-awarded contracts and stimulus measures, while neglecting education and research and development. The motive for these policies have been described as Erdoğan losing faith in Western-style capitalism since the 2008 financial crisis by the secretary general of the main Turkish business association, TUSIAD.
Investment inflows had already been declining in the period leading up to the crisis, owing to Erdoğan instigating political disagreements with countries that were major sources of such inflows (such as Germany, France, and the Netherlands), amid worries about the rule of law in Turkey after the 2016 coup attempt that prompted the government to seize the assets of those with even tangential ties to the coup, and worries about the lira, the decreased value of which threatens to eat into investors' profit margins. Investment inflows have also declined because Erdoğan's increasing authoritarianism has quelled free and factual reporting by financial analysts in Turkey.
By the end of 2017, the corporate foreign-currency debt in Turkey had more than doubled since 2009, up to $214 billion after netting against their foreign-exchange assets. Turkey's gross external debt, both public and private, stood at $453.2 billion at the end of 2017. As of March 2018, $181.8 billion of external debt, public and private, was due to mature within a year. Non-resident holdings of domestic shares stood at $53.3 billion in early March and at $39.6 billion in mid-May, and non-resident holdings of domestic government bonds stood at $32.0 billion in early March and at $24.7 billion in mid-May.
Presidential interference with the central bank
Money supply in Turkey has grown at an annual rate of 16 percent since 2014, and 18 percent since 2016. This compares to an annual growth in money supply, as calculated under orthodox economic theory by economist Steve Hanke, of no more than 13 percent in order to meet the central bank’s inflation goal of 5 percent. As a consequence of these easy money policies, Turkey has experienced substantially higher inflation than other emerging markets. In 2018, the lira's exchange rate accelerated deterioration, reaching a level of 4.5 USD/TRY by mid-May and of 4.9 USD/TRY a week later. Among economists, the accelerating loss of value was generally attributed to Recep Tayyip Erdoğan preventing the Central Bank of the Republic of Turkey from making the necessary interest rate adjustments.
Erdoğan, who claimed interest rates beyond his control to be "the mother and father of all evil", shared unorthodox interest rate theories in a 14 May interview with Bloomberg and said that "the central bank can't take this independence and set aside the signals given by the president." Presidential interference with central bank policy comes with a general perception in international investment circles of a "textbook institutional decline" in Turkey, with Erdoğan seen increasingly reliant on politicians whose main qualifications for their jobs is loyalty, at the expense of more qualified and experienced options. Erdoğan also has a long history of voicing Islamist discourse of interest-based banking as "prohibited by Islam" and "a serious dead-end". He is also on record referring to interest rate increases as "treason".
The Financial Times quoted leading emerging markets financial analyst Timothy Ash analyzing that "Turkey has strong banks, healthy public finances, good demographics, pro-business culture but [has been] spoiled over past four to five years by unorthodox and loose macroeconomic management." By mid-June, analysts in London suggested that with its current government, Turkey would be well advised to seek an International Monetary Fund loan even before the dwindling central bank foreign exchange reserves run out, because it would strengthen the central bank’s hand against Erdoğan and help gain back investor confidence in the soundness of Turkey's economic policies.
Economist Paul Krugman described the unfolding crisis as "a classic currency-and-debt crisis, of a kind we’ve seen many times", adding: "At such a time, the quality of leadership suddenly matters a great deal. You need officials who understand what’s happening, can devise a response and have enough credibility that markets give them the benefit of the doubt. Some emerging markets have those things, and they are riding out the turmoil fairly well. The Erdoğan regime has none of that."
Consequences in Turkey
During the emergence of the crisis, lenders in Turkey were hit by restructuring demands of corporations unable to serve their USD or EUR denominated debt, due to the loss of value of their earnings in Turkish lira. While financial institutions had been the driver of the Istanbul stock exchange for many years, accounting for almost half its value, by mid-April they accounted for less than a third. By late May, lenders were facing a surge in demand from companies seeking to reorganize debt repayments. By early July, public restructuring requests by some of the country’s biggest businesses alone already totaled $20 billion, with other debtors not publicly listed or large enough to require disclosures. The asset quality of Turkish banks, as well as their capital adequacy ratio, kept deteriorating throughout the crisis. By June Halk Bankası, the most vulnerable of the large lenders, had lost 63 percent of its US dollar value since last summer and traded at 40 percent of book value.
Banks continuously raised interest rates for business and consumer loans and mortgage loan rates, towards 20 percent annually, thus curbing demand from businesses and consumers. With a corresponding growth in deposits, the gap between total deposits and total loans, which had been one of the highest in emerging markets, began to narrow. However, this development has also led to unfinished or unoccupied housing and commercial real estate littering the outskirts of Turkey’s major cities, as Erdoğan's policies had fueled the construction sector, where many of his business allies are very active, to lead past economic growth. In March 2018, home sales fell 14 percent and mortgage sales declined 35 percent compared to a year earlier. As of May, Turkey had around two million unsold houses, a backlog three times the size of the average annual number of new housing sales. In the first half of 2018, unsold stock of new housing kept increasing, while increases in new home prices in Turkey were lagging consumer price inflation by more than 10 percentage points.
As a consequence of the earlier monetary policy of easy money, any newfound fragile short-term macroeconomic stability is based on higher interest rates, thus creating a recessionary effect for the Turkish economy. In mid-June, the Washington Post carried the quote from a senior financial figure in Istanbul that "years of irresponsible policies have overheated the Turkish economy. High inflation rates and current account deficits are going to prove sticky. I think we are at the end of our rope."
Timeline of events
- 12 February – Yıldız Holding unexpectedly requested to restructure as much as $7 billion in loans.
- 21 February – Cemil Ertem, senior economic adviser to president Recep Tayyip Erdoğan, published an opinion piece in the Daily Sabah suggesting that the International Monetary Fund's policy advice for Turkey's central bank to raise short term interest rates should be ignored and that "not only Turkey, but all developing countries, should do the opposite of what the IMF preaches."
- 5 April – Mehmet Şimşek, the deputy prime minister in charge of the economy, sought to resign due to disagreement with president Erdoğan about the latter's interference with central bank policy, but was later convinced to withdraw his resignation.
- 7 April – Doğuş Holding applied to its banks for debt restructuring. Doğuş’ outstanding loans stood at the equivalent of 23.5 billion Turkish lira ($5.81 billion) at the end 2017, up 11 percent from the year before.
- 18 April – President Erdoğan announced that the upcoming general election would be held on 24 June, 18 months ahead of schedule.
- 14 and 15 May – In a televised interview with Bloomberg and in a meeting with global money managers in London, Erdoğan said that after the elections he intends to take greater control of the economy, including de facto control over monetary policy, and to implement lower interest rates; this caused "shock and disbelief" among investors about the central bank’s ability to fight inflation and stabilize the lira.
- 23 May – Foreign exchange bureaus in Istanbul temporarily stopped trading amidst an extreme dive in the price of the lira.
- 23 May – The Turkish Statistical Institute reported another slip in consumer confidence over the month of May, with all sub-indices decreasing. On 25 May, it reported a sharp drop in confidence in Turkey’s services, retail trade, and construction sectors over the month of May.
- 23 May – The Central Bank of Turkey raised interest rates at an emergency meeting of its Monetary Policy Committee, bowing to pressure from financial markets. The central bank raised its late liquidity window rate by 300 basis points to 16.5 percent. Taken against the vociferous objections of Erdoğan, this step brought temporary relief for the lira exchange rate.
- 26 May – Erdoğan at a campaign rally threatened "the finance sector" with indeterminate sanctions if it does not rescue the flagging lira, and implored his supporters to change any foreign-currency holdings into lira.
- 28 May – Turkey's central bank announced an operational simplification of its monetary policy, effective 1 June, coming with the announcement of another interest rate hike. The one-week repo rate, at 8 percent—currently not used—is to be raised to 16.5 percent and become the future benchmark of monetary policy. The current benchmark late liquidity window rate, now at 16.5 percent, will be fixed at 150 basis points above the one-week repo rate, which would now be 18 percent. The lira somewhat firmed in response.
- 30 May – The Turkish Statistical Institute reported economic confidence sliding steeply in May to a value of 93.5, the lowest level in 15 months, since the aftermath of the 2016 coup attempt.
- 30 May – GAMA Holding sought to ease repayment terms for $1.5 billion of loans with creditors.
- 30 May – Turkey's central bank released minutes of the crucial 23 May Monetary Policy Committee meeting, saying that “the tight stance in monetary policy will be maintained decisively until the inflation outlook displays a significant improvement and becomes consistent with the targets”, the latter being 5 percent by law.
- 1 June – The Istanbul Chamber of Industry published its index of manufacturing in Turkey for the month of May, revealing that with a sharp drop for the second consecutive month, manufacturing conditions deteriorated to the worst since 2009, elaborating that "inflationary pressures remained marked in May, cost burdens continued to rise in the manufacturing sector."
- 4 June – Turkey’s statistics institute reported the annual inflation rate for May as risen to 12.2 percent from 10.9 percent the previous month, just below a 14-year high of last November, while monthly inflation was 1.6 percent.
- 6 June – At the Borsa Istanbul, Turkey’s main stock index BIST-100 dropped 1.5 percent to the lowest level in dollar terms since the global financial crisis in 2008.
- 7 June – Turkey's central bank at its regular Monetary Policy Committee meeting raised its benchmark repo rate by 125 basis points to 17.75 percent. The move beat market expectations, resulting in immediate gains for the lira, and the yield on the benchmark 10-year lira bond eased, after touching a record-high 15.41 percent on 6 June.
- 10 June – Turkey's Automotive Manufacturers Association published data for the month of May, showing car sales sliding to the lowest level since 2014. Passenger car sales slumped by 13 percent when compared to May 2017, while sales of commercial vehicles dropped 19 percent.
- 11 June – Turkey's central bank released financial data for April, with the current account deficit widening by $1.7 billion to $5.4 billion, and the rolling 12-month deficit to $57 billion (6.5 percent of GDP), as imports continued to outpace exports. Portfolio inflows slumped to a negative $502 million in April and slid to $1.8 billion for the accumulated first four months of the year from $5.7 billion a year earlier.
- 13 June – Turkish President Recep Tayyip Erdoğan’s senior economic adviser Cemil Ertem in an opinion piece in the Daily Sabah argued the unorthodox idea that it would be wrong to see inflation as a monetary phenomenon, leading to a sharp slide in the value of the lira and of Turkey's benchmark 10-year lira bonds, with yields on the latter reaching a record-high of 16.25 percent.
- 14 June – Turkish President Recep Tayyip Erdoğan in a televised interview said that his government would "conduct an operation against" international credit ratings agency Moody's Investors Service following elections on June 24. The next day, the lira finished its worst week since 2008, tumbling 5.7 per cent relative to the dollar, while also hitting its worst weekend close ever at 4.73 USD/TRY.
- 24 June – In the Turkish general election, Erdoğan retained the office of president while his Justice and Development Party (AKP) narrowly lost its majority in parliament but achieved such majority together with its alliance partner the Nationalist Movement Party (MHP). The day after, the Turkish Industry and Business Association (TÜSİAD) urgently called for economic reforms.
- 28 June – The Turkish Statistical Institute reported its economic confidence index dropping in June for the fifth straight month, with construction sector confidence leading the declines.
- 3 July – The Turkish Statistical Institute reported that Turkey’s annual inflation rate surged to 15.4 percent in June, the highest level since 2003. Consumer price inflation climbed 2.6 percent month-on-month in June, exceeding annual price increases in many developed economies. Turkey’s annual inflation rate now was about four times the average in emerging markets. Producer price increases accelerated to 23.7 percent from 20.2 percent the previous month. On the same day, the Automotive Distributors Association said that sales of the commercial vehicles sank 44 percent in June from June 2017, while car sales fell 38 percent.
- 5 July – Bloomberg reported that Turkish and international banks were taking control of Türk Telekom, Turkey’s biggest telephone company, due to billions of dollars in unpaid debt. Creditors set up a special purpose vehicle to acquire the company as they try to resolve Turkey’s biggest-ever debt default. The same day, Bereket Enerji group was reported seeking buyers for two power plants as it negotiates with banks to refinance $4 billion in debt.
- 9 July – Erdoğan appointed his son-in-law Berat Albayrak as economic chief of his new administration, in charge of a new ministry of treasury and finance. Erdoğan also appointed Mustafa Varank, a close adviser who had overseen a pro-government social media team on Twitter and elsewhere, to industry minister, the other key economy portfolio. These announcement fueled investor unease about competence and orthodoxy of economic policymaking, with the Turkish lira losing 3,8 percent of its value within one hour after Albayrak's appointment.
- 11 July – The lira dropped 2.5 percent to 4.82 per dollar, its weakest level since falling to an all-time low of 4.92 against the U.S. currency in May. The stock market in Istanbul dropped 5.2 percent to 91.290 points. Yields on government debt surged. The next day, the lira touched an all-time low of 4.98 lira for a US dollar. Two days later, the lira recorded its biggest weekly slump in almost a decade. The benchmark Borsa Istanbul 100 Index fell the most since the foiled coup in 2016, with the selloff dragging price-to-estimated earnings valuations to the lowest in more than nine years. The 10-year government bond yield surged almost 100 basis points this week.
The crisis has brought considerable risks of financial contagion. According to the Bank for International Settlements, international banks had outstanding loans of $224 billion to Turkish borrowers, including $83 billion from banks in Spain, $35 billion from banks in France, $18 billion from banks in Italy, $17 billion each from banks in the United States and in the United Kingdom, and $13 billion from banks in Germany. On 31 May 2018, the Institute of Financial Research (IIF) reported that the Turkish crisis has already spread to Lebanon, Colombia and South Africa.
Timeline of events
- 19 January – Credit ratings agency Fitch Ratings closed its Istanbul office, amid a torrent of negative comments by Erdoğan about the international firms that assess Turkey’s creditworthiness, saying it had become impossible to write analysts’ reports on which credit rating actions are based, a job that requires freedom of the press and freedom of speech.
- 7 March – Credit ratings agency Moody's Investors Service downgraded Turkey’s sovereign debt, warning of an erosion of checks and balances under Erdoğan, and saying that the Turkish military operation in Afrin, having strained ties with Washington and drawn the country deeper into the Syrian civil war, had added an extra layer of geopolitical risk.
- 1 May – Credit ratings agency Standard & Poor's cut Turkey's debt rating further into junk territory, citing widening concern about the outlook for inflation amid a sell-off in the Turkish lira currency.
- 22 May – Turkish government dollar bonds traded at prices lower than those of Senegal.
- 22 May – The Turkish Republic of Northern Cyprus (TRNC) government started discussing abandonment of the Turkish lira for another currency.
- 23 May – The Central Bank of the TRNC banned public and private sector employees who do not receive their salaries in foreign currencies from taking out foreign currency loans, in an attempt to limit the damage of the plummeting lira.
- 28 May – Jordan terminated its free-trade agreement with Turkey, which had lately seen Turkish exports to Jordan increase fivefold.
- 30 May – Credit ratings agency Moody's Investors Service lowered its estimate for growth of the Turkish economy in 2018 from 4 percent to 2.5 percent and in 2019 from 3.5 percent to 2 percent.
- 6 June – Bloomberg reported that Astaldi, an Italian multinational construction company, was poised to sell its stake in the flagship Yavuz Sultan Selim Bridge project for $467 million. The project had failed to meet projections, requiring Ankara to boost operators' revenue from treasury coffers, and since early 2018, the partners in the joint venture had sought restructuring of $2.3 billion of debt from creditors.
- 7 June – Credit ratings agency Moody's Investors Service downgraded and placed on review for further downgrade the ratings of 17 banks in Turkey, reasoning "that the operating environment in Turkey has deteriorated, with negative implications for the institutions’ funding profile." Also on 7 June, Moody's put eleven of Turkey’s top companies under review, because their credit quality was correlated in varying degrees to the government in Ankara. The firms included Koç Holding, Turkey’s biggest industrial conglomerate, Doğuş Holding, which has applied to banks to restructure some of its debt, and Turkish Airlines.
- 18 June – Credit ratings agency Fitch Ratings lowered its estimate for growth of the Turkish economy in 2018 from 4.7 percent to 3.6 percent, citing reasons including an anticipated reduction in government stimulus.
- 26 June – The European Union's General Affairs Council stated that "the Council notes that Turkey has been moving further away from the European Union. Turkey’s accession negotiations have therefore effectively come to a standstill and no further chapters can be considered for opening or closing and no further work towards the modernisation of the EU-Turkey Customs Union is foreseen."
- 13 July – Credit ratings agency Fitch Ratings downgraded Turkey's debt rating with negative outlook, reasoning that "economic policy credibility has deteriorated in recent months and initial policy actions following elections in June have heightened uncertainty (...) Monetary policy credibility has been damaged by comments by President Erdoğan suggesting a greater role of the presidency in setting monetary policy after the elections (...) Monetary policy has persistently been unable to bring inflation near its 5% target and inflation expectations have become unanchored. Key figures from the previous administration with reformist credentials were excluded from a new cabinet, appointed on 9 July, while the son-in-law of the president was appointed as Minister of Treasury and Finance."
In the campaign for the 2018 general election in Turkey, a widespread conspiracy theory, infused with antisemitism, claimed that the Turkish lira's decline was the work of a shadowy group, made up of Americans, English, Dutch and "some Jewish families" who would want to deprive incumbent President Erdoğan of support in the elections. According to a poll from April 2018, 42 percent of Turks, and 59 percent of Erdoğan’s governing Justice and Development Party (AKP) voters, saw the decline in the lira as a plot by foreign powers.
Members of the government have promoted this attitude with an unrelenting stream of conspiracy theories blaming foreign outside powers for Turkey’s economic misfortunes. During the major lira sell-off on 23 May, Turkey’s energy minister, Erdoğan’s son-in-law Berat Albayrak, told the media that the recent sharp drop in the value of the lira was the result of the machinations of Turkey’s enemies. On 30 May, foreign minister Mevlüt Çavuşoğlu claimed that the plunge of the lira would have been caused by an organized campaign masterminded abroad, adding that the conspiracy would include both "the interest rate lobby" and "some Muslim countries", which he however refused to name. At an election campaign rally in Istanbul on 11 June, Erdoğan claimed that the recently published 7.4 percent GDP growth figure for the January to March period would demonstrate victory against what he called "conspirators" whom he blamed for May’s heavy falls of the Turkish lira.
Politics and corruption
Crisis as a topic in elections
On 16 May, a day after Justice and Development Party (AKP) president Recep Tayyip Erdoğan had unsettled markets during his visit to London by suggesting he would curb the independence of the Central Bank of Turkey after the election, Republican People's Party (CHP) presidential candidate Muharrem İnce and İYİ Party presidential candidate Meral Akşener both vowed to ensure the independence of the central bank if elected.
In a 26 May interview on his campaign trail, CHP presidential candidate Muharrem İnce said on economic policy that "the central bank can only halt the lira’s slide temporarily by raising interest rates, because it’s not the case that depreciation fundamentally stems from interest rates being too high or too low. So, the central bank will intervene, but the things that really need to be done are in the political and legal areas. Turkey needs to immediately be extricated from a political situation that breeds economic uncertainty, and its economy must be handled by independent and autonomous institutions. My economic team is ready, and we have been working together for a long time."
In a nationwide survey conducted between 13 and 20 May, 45 percent saw the economy (including the steadily-dropping lira and unemployment) as the greatest challenge facing Turkey, with foreign policy at 18 percent, the justice system at 7 percent and terror and security at 5 percent.
İYİ Party presidential candidate Meral Akşener, supported by a strong economic team led by former Central Bank Governor Durmuş Yılmaz, had on 7 May presented her party's economic program, saying that "we will purchase the debts from consumer loans, credit card and overdraft accounts of 4.5 million citizens whose debts are under legal supervision of banks or consumer financing companies and whose debts have been sold to collection companies as of April 30, 2018. It is our duty to help our citizens with this condition, as the state has helped big companies in difficult situations."
On 13 June, CHP leader Kemal Kılıçdaroğlu reiterated the opposition's view that the state of emergency in place since July 2016 were an impediment to Turkey's currency, investment and economy, vowing that it be lifted within 48 hours in case of an opposition victory in the elections. İYİ Party leader and presidential candidate Akşener had made the same vow on 18 May, while CHP presidential candidate İnce had said on 30 May that emergency rule must be lifted if Turkey is to attract foreign investors: "Foreign countries do not trust Turkey, thus they do not invest in our country. When Turkey becomes a country of the rule law, foreign investors will invest thus the lira will gain value." Early June, President Recep Tayyip Erdoğan had suggested in an interview that the issue of lifting the emergency rule would be discussed the elections, however asked back: "What's wrong with the state of emergency?"
Allegations of forex insider trading
On 25 May, Republican People's Party (CHP) deputy chair Aykut Erdoğdu called the Financial Crimes Investigation Board of Turkey (MASAK) to investigate exchange rate transactions made amid rapid decline and partial recovery in the value of the lira on 23 May, alleging insider trading by market participants who knew of the 300 basis points interest rate hike by the Turkish central bank in advance.
Two weeks earlier, Peoples' Democratic Party (HDP) presidential candidate Selahattin Demirtaş, writing in a letter from prison—where he has been held without conviction since 2016, accused of inciting violence with words— slammed the ruling government of Recep Tayyip Erdoğan as corrupt, saying that "the biggest problem for the youth in Turkey is corruption which has accompanied with AKP governance."