Why Is The Turkish Lira In Freefall?

Okay, hello and welcome. It's Tuesday, 23rd of November, and I'm joined by Eddie to talk about the Turkish lira. And that's because it's getting hammered again. It's not particularly a new development, as we'll show you in a graphic in a moment. It's been a multi-year thing, but it's really started to kick off today. The lira nosedived nearly 10%, in fact, after Erdoğan defended recent sharp rate cuts. Remember, last week we had the the central bank cut its policy rate by 100 basis points to 15%. But even that then is a huge gulf between what inflation is tracking in Turkey at the moment. It's nearly 20%. So Eddie, what's going on first before we get into what comes next?

I'm very disappointed you didn't introduce me as Edis George Donmez. As for the audience, I am half Turkish, so I feel like I'm in a unique position to comment on this story. Um, but yeah, it's not looking good in all seriousness for the, for the lira. It's in complete freefall. It's lost about 40% of its value, uh, this year, plunged as much as 10% today. The lira-dollar, uh, kind of FX pair has now breached the symbolic 12 lira. So $1 is now worth 12 lira, as you can see from the chart that Anthony Cheung is showing. It's really been on a pretty, pretty steep decline ever since the kind of taper tantrum in 2013. Erdoğan basically announcing himself executive president, which means essentially he's kind of Putinesque in the sense of he's prime minister and president, and he can basically rewrite the rules whenever he likes to. And you can see just where Ant's mouse is Erdogan has very much declared himself the enemy of interest rates. So if you're studying economics, if you're not studying economics, I think the first thing you learn in even A-level economics or Microeconomics 101— sorry, Macroeconomics 101— is when an economy's, you know, firing or there's high inflation, one of the tools that central banks can use is to raise interest rates to take some heat off the economy, um, you know, to try and get inflation under control, uh, yeah, and just, just cool, cool the economy down. Erdoğan has the complete opposite view, and it's labeled by a lot of commentators as unorthodox. You know, many may have a stronger word than that, uh, in the sense of being just completely ridiculous, because, you know, cutting interest rates in the face of inflation is the right way to trigger a currency crisis. And this is pretty much what we're seeing now. So he triggered this sell-off, and what's causing this kind of recent, um, you know, lira devaluation essentially is he's defended his kind of, uh, continued rate cuts amidst this double-digit inflation. So inflation in Turkey is nearly 20%, okay? So we've obviously had some pretty hot inflation readings coming out of America and the Fed, and in England as well, in the UK, and in Europe as well. But inflation in Turkey is nearly 20% and interest rates are about 16%, 17%. So Erdoğan's basically labeled this latest move an economic war of independence. And regardless of all these investors and analysts and many kind of, I'm sure, political figures as well, you know, rejecting the calls, saying, look, 'What are you doing? Why are you doing this?' And it's causing a huge amount of damage to the Turkish economy. And of course, just like all inflation, it disproportionately affects the most economically vulnerable. So this is the really sad thing about inflation. And what you see is all these minimum wage workers, all the average people in Turkey, not just average people, but they get paid in lira, right? So those on minimum wages are having their basically local currency and their wages being cut 10% almost a day. And as you know, you know, the more wealthy in society own assets, whereas those less kind of economically, you know, successful, if you like, or more economically vulnerable generally don't own assets. And this is what causes this massive wealth inequality. So it's It's very much— go on, Anthony.

Yeah. So at the moment then, with what's happened right now is we just had Powell reappointed and the market, you've seen quite a significant move in yields and the dollar in a strengthening sense. The perception there, I guess, in summary being that Powell reflects continuity in regards to just pursuing now this tightening of policy going forward on its predetermined kind of path. If anything, the Fed are turning more hawkish. So is this— is the problem being exacerbated specifically now that's causing this like 10% daily move?

Um, so yeah, I think just, I guess, for the audience, when you're trading an FX pair, you're trading two economies essentially, right? So what Ant is referring to here is Fed Chair Powell, you know, turning more hawkish, and you've got kind of Fed speakers coming out and saying, look, you know, we're going to accelerate our tapering schedule, maybe have a rate hike liftoff in kind of June. We've got many investment banks now like JPMorgan, etc., calling for more aggressive rate hikes into next year. So that's a kind of dollar story, which is absolutely, to Anthony's point, exacerbating this move. But it's very much also predominantly a lira story in the sense of Erdoğan is cutting inflation. Sorry, cutting inflation— cutting interest rates in light of inflation. This is putting even more negative pressure on the lira, and the lira was really being kept artificially high because when interest rates are at 16, 17%, it's a great place to put your money, right? You know, if you're, if you're holding the kind of FX kind of rate constant. But yeah, it's, it's very much a Turkish story. Story at the moment, but it's being exacerbated by the dollar. But the, the most worrying thing is with all EM countries, currencies, economies, they are heavily indebted. Okay, so what this means is they borrow a lot of money to, to finance their, their economies. And usually this is in the form of dollar-denominated debt or euro-denominated debt. So when you have dollar strength but local currency weakness, this has a really massively negative impact on, you know, the, the debts and interests that these corporations, the governments, you know, anyone who's financing their projects have to pay, right? If your interest rates or the rates on, on that, um, or the currency depreciates, you may have a double interest payment or a triple interest payment. So the heavily indebtedness of the economies all over kind of the EM space, um, with this dollar strength story, it's not looking good. And I think what we need to watch now is, is this an idiosyncratic Turkish story, or is this going to then spill over into other EM currencies? So the lira is very much the worst performing currency in EM this year, but what if this continues? What with that dollar strength, then we need to watch those other kind of South African rands and Hungarian currencies and things like that.

So at the moment then for Erdoğan, I'm going to take a leap of faith to say he's fairly stubborn. So let's say the currency keeps weakening. Is it a fair assumption to say he's unlikely to reverse? I mean, he defended his general tactical approach about cutting rates yesterday was already weakening anyway. So going forward, is this just— will the Central Bank of Turkey, do you think, look to, under his command, help to offset some of the selling? But surely that in itself is a means to nowhere because there's only limited capacity to be able to do that, right?

Yeah. So his idea is that interest rates are the enemy. Essentially, uh, high interest rates, that is. So just to give it a bit of context, the new governor, uh, Kaviyolulu, is the fourth governor since 2019. Okay, so he's— the president, President Erdoğan, has fired the last three central bank governors, one of them being his son-in-law, because they've essentially opposed interest rate cuts. So I don't think, and it's pretty, you know, the consensus is that he's not going to change path on this. And his whole kind of story is that this is going to support exports, you know, you know, weaker currency helps exports, and this is going to get the economic engine firing. But it's really looking quite worrying because he's very, very unlikely to change, change course. I think when the lira gets to a level like this, but who knows, you know, how far it can go. There will likely be some, you know, risk appetite-seeking investors that are looking at these Turkish assets that are quality, right? Or, you know, looking for Turkish assets that are quality and stepping in with the strong dollar, strong euro. Those foreign investors may be looking at some, uh, things that they had on their shopping list to kind of, you know, sweep in and get some, get some discounted things. But in terms of a central bank stance, at least in the short term, it's very, very unlikely. You know, the opposition leader of the Social Democrats has actually said that Erdoğan is a national security issue. And 2 years ago, well, we had the coup in 2016, and then we had the recent elections, I think it was about 2 or 3 years ago. And actually, what was interesting about that is the major cities in Turkey— Izmir, Istanbul, Mersin, Ankara, all essentially did not vote for Erdoğan. It's very much that kind of, you know, make Turkey great again, stimulate the kind of troops of those that are outside the major cities that can obviously see his unorthodox style is not, you know, productive for the economy. They were the ones that voted for him. So the feeling inside Turkey, I guess, is that if there was an election now, he could be in danger. And he's actually served 2 terms already, which means that he should give it over. But of course, he's the president and the prime minister, and he can rewrite the laws.

Yeah, exactly that last point. We'll just rewrite whatever constitution says, and I'll just rule forever. But the other thing, just to finish then, was about— you mentioned about people coming in looking at these assets in Turkey at these depreciated levels. But surely there's just too much interest within that area. You mentioned Spanish banks, European banks were casualties of 2018 for their overexposure to, say, foreign currency loans to Turkey. But you mentioned about a Spanish bank looking at interest into one of the larger Turkish banks. Surely these European lenders cannot allow Turkey to fail. I know they don't have the end power to be able to intervene in such a forceful way. But you would have thought then that this crisis is not one without an end. It can't completely implode. Or could it, I guess?

Yeah, I mean, look, there's a lot of what we were speaking about off camera. There's a lot of interconnectedness, as there is through globalization. And the way investment works now is there's a lot of, let's say, European banks that suffered a lot from their kind of lira and Turkish asset exposure, if you like. So BBVA, which is the biggest Spanish bank, was looking to buy Garanti Bank, which is a Turkish bank, already owns 50%. It was looking to buy the other 50% that it didn't own. But of course, this is going to be closely watched for sure from, I guess, a European Central Bank perspective. Looking at does this now spill over into not just an EM risk but actually, uh, you know, from, for domestic ECB countries, you know, is there any kind of potential warning signs from their prior knowledge of lira or Turkish asset exposure? So it's definitely one to watch. I definitely do not have the answers, and it will definitely, um, you know, it'll play out over the next kind of days and weeks. But as you can see, the trend is clearly, for the lira at least, down, down, down. And it has been, you know, for the last 5 years. But I think, you know, one of the key points that we just discussed is with the Fed now turning hawkish or more hawkish, more aggressive in terms of tapering and interest rate hikes, you know, and the rest of the, the EM world looking to actually hike rates rather than cut rates, you know, what, what does this mean now for those that have dollar-denominated exposure in terms of leveraging from corporates and a government perspective.

Cool. All right, we'll wrap it there. Thank you very much, Eddie, and I'll catch you next time.

You should say güraşursu, bye-bye in Turkish. See you later. See you later.