Turkey's currency troubles

Turkish President Erdogan's unconventional monetary approach is causing havoc with the Lira. An update.

Turkey's currency troubles

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• The story: The Turkish lira’s freefall is unprecedented. President Recep Tayyip Erdogan’s intensifying campaign for lower interest rates is the instant reason responsible, and is plunging Turkey deeper into crisis. Erdogan declared that his country was fighting an “economic war of independence”.
• How much: Lira fell 15 per cent on a single day (23 November), plunging past 13 per dollar for the first time ever. The lira’s 11-day losing streak is now the longest in 20 years, and in November alone, it lost almost a third of its value. For any major currency, this is unheard of.

1. The latest selloff came after President Erdogan defended his demands for lower borrowing costs that have driven up prices and frustrated investors.
2. They complain monetary policy is becoming increasingly irrational and unpredictable in a country where the president’s influence runs deep. While most central banks are talking of tightening policy as the global recovery fuels inflation, Turkey has slashed 4 percentage points off borrowing rates since September '21.

• What Erdogan has done: Erdogan has applied pressure on the central bank to pivot to an aggressive easing cycle that aims to boost exports, investment and jobs – even as inflation soars to near 20 percent and the currency depreciation accelerates, eating deeply into Turks’ earnings.

1. The Turkish president defends an unorthodox theory that higher interest rates cause higher inflation. Under pressure from Erdogan, the central bank cut key interest rates from 19 to 15 percent in September, driving a free-fall in the lira.
2. Most economists contend Turkey faces a huge crisis, including high inflation, in case rates continue to drop in the coming months.
3. Erdogan has replaced three central bank governors in the past two years, undermining investor confidence.

• Inflation: Inflation in Turkey is now near 20%, meaning basic goods for Turks — a population of roughly 85 million — have soared in price and their local currency salaries are severely devalued. At this time in 2019, the lira was trading at roughly 5.6 to the dollar. And that was already making news, as it was a dramatic drop in value from the mid-2017 level of 3.5 to the dollar. The lira is now trading at 12.7272 to the dollar.
• Broader picture: Turkey’s currency has been in a downward slide since early 2018, thanks to a combination of geopolitical tensions with the West, current account deficits, shrinking currency reserves, and mounting debt — but most importantly, a refusal to raise interest rates to cool inflation. Erdogan has long described interest rates as “the enemy,” rejecting economic orthodoxy to insist that raising rates actually worsens inflation, rather than the other way around.
• Irrational experiment: Semih Tumen, a former central bank officer, criticized the latest strategy and said the irrational experiment needed to be abandoned, as it had no chance of success, and a return to quality policies to protect the value of the Turkish lira and welfare of the Turkish people was urgently needed.
• Background: In sum, the crisis is caused by the Turkish economy's excessive current account deficit and large amounts of private foreign-currency denominated debt, in combination with President Recep Tayyip Erdoğan's increasing authoritarianism and unorthodox ideas about interest rate policy. After a period of modest recovery in 2020 and early 2021 amid the COVID-19 pandemic, the Turkish lira plunged to all-time lows. The economic crisis has already caused a significant decline in Erdoğan's and the AKP's popularity, which lost most of Turkey's biggest cities including Istanbul and Ankara in 2019 local elections.
• EXAM QUESTIONS: (1) Explain the traditional and time-tested way Central Banks run monetary policy in any country. How is Turkey's present approach different? (2) What is the general policy direction that President Erdogan is taking insofar as Turkey's economy is concerned? Explain.

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