Turkey nightmare as Lira faces ‘perfect storm’ – fears economy about to implode

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The lira has slipped for eight consecutive days now reaching its lowest point since December last year. In 2021 Turkey triggered a currency crisis through repeated cuts to interest rates despite soaring inflation which saw the lira more than halve in value. So far this year it is down around 11 percent. Turkey’s inflation problem has been further exacerbated by the spike in commodity prices such as wheat and oil driven by Russia’s invasion of Ukraine.

Last week inflation hit 54 percent, its highest in 20 years.

Daniel Wood, an emerging market Portfolio Manager at William Blair Investment Management, commented: “The Turkish lira has been in decline for the past eight days predominantly due to the risk-off sentiment in markets triggered by events in Ukraine.

“This has led to a stronger dollar, higher energy and commodity prices and weaker equity markets.

“As Turkey is an importer of energy, investors have become increasingly concerned about the impact on both Turkey’s trade balance and inflation.”

Countries closest to Russia have proven particularly vulnerable to the uncertain energy outlook which has seen gas and oil prices soar on top of an already tight market.

Analysis from foreign exchange firm Monex found the lira was among the worst performing currencies, with it joining the currencies of Poland, Hungary and the Czech Republic in performing worse than the euro.

A further blow to Turkey comes from the loss of tourism which had previously been seen as a vital part of the country’s recovery from the pandemic.

Russia and Ukraine both represent a big part of Turkey’s tourism industry meaning the hopes of a boost to the lira from the millions of visitors previously expected is unlikely to materialise.

Roger Kelly, lead regional economist at the European Bank for Reconstruction and Development, warned: “The Ukraine situation is likely to blow a big hole in the expected $34 billion (£25.83bn) tourism revenues this year.”

“They may need to reconsider their low interest rate policy.”

Since making several cuts to interest rates last year the Turkish central bank has held them steady at 14 percent so far.

A key issue for the bank are the views of the country’s president Recep Tayyip Erdogan who takes the unorthodox view that interest rates cause inflation and has exerted significant pressure on the bank to keep them down.

With Mr Erdogan as a self described enemy of interest rates the bank has had less tools available to stabilise the currency.

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One attempt has been a deposit guarantee scheme based on paying savers the difference between their lira deposits and any equivalent price change in the dollar.

Aimed at trying to encourage lira savings and deter people selling the currency for dollars the scheme provided some temporary stability but has since been seen to struggle.

Mr Wood suggested triggering the deposit scheme could end up “weakening Turkey’s fiscal outlook.”

He added: “These negative external drivers are creating the perfect storm for the Turkish economy and growth estimates will need to be marked sharply lower.”

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