Turks have been dealing with high inflation and currency crashes for years. Soon, they will decide whether to follow President Tayyip Erdogan’s plan for a heavily managed economy or to give up on it and go back to liberal orthodoxy, which will be painful.
Presidential and parliamentary elections, which could be the most important in the 100-year history of the republic, are likely to happen in May and will decide whether Erdogan, who is 68 years old, stays in power for a third decade.
The vote is a turning point for Turks who are struggling with a cost of living crisis caused by inflation that is just starting to get better.
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International investors are keeping a close eye on Turkey, even though many of them have left in the last five years because of the market’s instability and Ankara’s strange economic policies.
Fund managers told Reuters that even a hint of an opposition win could cause a big rise in Turkish assets because the opposition has promised to end “Erdonomics.”
But because of how much he changed the economy and the financial markets, such a change would bring its own risks.
Even if Erdogan loses, Blaise Antin, head of EM sovereign research at asset manager TCW in Los Angeles, doesn’t think there will be a “quick kill on FX appreciation.”
Given the need to fix an overvalued currency and reset interest rates to “a much higher level,” he said that markets could only become consistently bullish in the middle term.
Polls show that Erdogan could keep his job as president even if his AK Party, which has roots in Islamism, loses control of parliament.
Antin said that could be the “worst case” scenario, causing short-term policy uncertainty and market volatility.
Still, a lot needs to be done.
A group of six parties that are against the government hasn’t picked a presidential candidate yet. The mayor of Istanbul is appealing a jail sentence and a political ban, which is a popular choice.
Critics say that Erdogan’s opponents are being silenced by the courts, but the government says this is not true.
The election will also determine Turkey’s role as a regional military power and NATO member in conflicts in Ukraine, where Erdogan has mediated talks, and neighbouring Syria.
ACHILLES HEEL
Erdogan has never looked weaker than he does now, and his weak spot is his economy.
As an “enemy” of interest rates, he was determined to cut them from 19% to 9%. This caused the lira to crash in late 2021 and drop another 30% last year, making it fall for the 10th year in a row. In October, when food, gas, and rent prices all went up a lot, inflation reached a high of 85%, which was the highest level in 24 years.
To make things easier for voters, Ankara has spent a record amount on social aid, about 1.4% of the annual budget. This includes subsidies for energy, doubling the minimum wage, and letting more than 2 million Turks retire right away.
Galip Dalay, an associate fellow at Chatham House in London, said, “Erdogan is offering one support package after another.” This will put “significant pressure” on the public purse, he said. “But if he loses the election, someone else will have to deal with that.”
Turkey’s debt is still much lower than that of most other countries, but years of low FX reserves, a weakening of the independence of the central bank and judicial system, and general unorthodoxy have left their mark.
Moody’s (NYSE:MCO) and Fitch’s credit ratings have gone from “investment-grade” to “junk,” which puts them on the same level as Bolivia and Cameroon.
Fitch’s Paul Gamble said, “The policies just don’t look like they can be kept up.”
EXODUS
Investors say that Turkey’s free-market model started to change around 2017, when it switched to an executive presidential system that gave Erdogan more power.
In 2019, governments worried that speculation would make things worse and put pressure on international lira markets. The average amount of trading in places like London is now less than $10 billion a day, down from $56 billion in 2018.
Foreigners now own less than 1% of Turkish government bonds, down from 20% in 2017. They also own only 30% of the stock market, down from 65% a few years ago.
Turks who wanted to protect themselves from rising prices filled the void, which helped the Istanbul index rise by 200% last year. They now own 70% of all stocks, which is up from 35% in 2020.
Mehmet Hasim Acanal, a farmer in the southeast of Turkey, sold one of his fields and used money from his savings to buy stocks with 10 million lira ($533,620).
He said, “I thought it would protect me from inflation and give me a better return than dollars and gold.”
Turkey’s depreciation-protected bank deposit plan, which was put in place to stop the lira from falling in 2021, is an example of the country’s unusual and sometimes expensive ways of doing things.
In the short term, though, it seems to have worked. The number of Turks changing their lira into dollars has stopped rising after years of growth.
Since August, when Erdogan’s popularity started to rise again in opinion polls, the lira has stayed between 18.0 and 18.8 to the dollar, thanks to money that “friendly” countries like Qatar and Russia have sent to the government.
The government has also been making changes all the time, adding around 100 new rules to make the currency more stable.
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One banker told Reuters that some foreign investors had begun to make short-term bets on the lira because the central bank’s net foreign exchange reserves had almost doubled since November.
Even though the lira has lost over 90% of its value against the dollar since 2008, Robin Brooks, chief economist at the Institute of International Finance in Washington, says that it is still 15% overvalued because of economic imbalances and fiscal stimulus. “The boost from credit keeps growth higher than Turkey can really handle,” he said.
Sergey Goncharov, an EM fund manager at Vontobel, pointed out that the predictions that Erdogan’s policies would lead to disaster have not come true. Turkey had no trouble getting $2.75 billion from international capital markets last week.
This makes it hard for voters to decide, since a return to free market policies after an opposition win could cause a painful economic downturn at first.
Goncharov said, “The balance is not stable.” “But it’s not easy to get out of.”
($1 = 18.7400 liras)
