Turkish President Recep Tayyip Erdogan (C) makes a gesture while giving a speech on stage, with on the basis of banknotes of the Turkish lira, during the annual evaluation meeting for the year 2019. Ankara, 16 January 2020.
ADEM ALTAN | AFP
The unpredictability of Turkey’s fiscal and monetary policy means investors should stay away until normalcy is restored, according to Ozan Ozkural, managing partner of boutique investment firm Tanto Capital Partners.
The Turkish lira collapsed to previously unimaginable record lows this week as the country’s central bank, TCMB, continues to cut interest rates despite rising double-digit inflation.
Inflation is approaching 20% in the country with around 85 million people, which means that the prices of basic commodities have risen sharply, while wages in the local currency have been devalued considerably.
In a speech to CNBC’s “Squawk Box Europe” on Wednesday, Ozkural said the problem lay not only in the contradictory easing of monetary policy that central banks around the world are looking to tighten, but with the method by which it is carried out.
“Investors, we do not like anything less, if you will, than an unpredictable monetary and fiscal policy, and therefore Turkish assets and Turkish risk are becoming very difficult to price,” Ozkural said.
“In this context, I just can not imagine any investor entering the country in the short term before this changes.”
Turkish President Recep Tayyip Erdogan has defended his central bank’s continued easing of monetary policy, an approach he has pushed for in an attempt to “lift this scourge of interest from the people’s backs”.
The central bank has lowered its primary key interest rate by 300 basis points since September, sending the already depreciating currency into free fall as investors flee Turkish assets.
“Turkey is a large country, it is geostrategically very important, the market dynamics, the demographics work to its advantage, and it is extremely resistant to shock,” Ozkural said, adding that the Turkish economy has proven capable of dealing with crises in the past. .
But he suggested that investing in Turkish assets at present carries too many unknowns, even over an extended period of time.
“In this current climate, until we shift to a fundamentally credible reformist stance – in either this government or, when the election takes place, the next one – it is very difficult to invest long-term in the country right now,” he said.
“But that does not take away from how important and significant Turkey will be to investors in the medium to long term.”
A ‘fundamental change’ in the functioning of the TCMB
The lira has been falling for several years, from trading around 3.5 to the dollar in mid-2017 to the previously unimaginable 13.44 on Tuesday. Much of this decline was driven by geopolitical tensions, a significant balance of payments deficit, rising debt and declining foreign exchange reserves, exacerbated by Erdogan’s strong opposition to interest rate hikes.
But in a research note Tuesday, Goldman Sachs highlighted that “the reasons for the current sale are different from the past.”
“The current account deficit, the most important vulnerability in 2020, has more than halved compared to last year. We have only observed a limited acceleration in lending growth and a slight increase in the dollarization recently,” said Goldman Sachs employee Murat Unur and economist Clemens Grafe.
Turkish President Tayyip Erdogan speaks during a meeting with business people in Istanbul, Turkey, on January 15, 2021.
President’s Press Office | via Reuters
They also pointed out that portfolio flows, derivative exposures and debt throughput rates had not changed significantly up to this point.
“We therefore believe that the divestment has been primarily driven by the impact of interest rate cuts on local expectations and the demand for TRY.”
Unur and Grafe suggested that the recent interest rate cuts represent a “fundamental change in TCMB’s response function.”
“While it could be argued that TCMB has been overly dove-like in the past – such as cutting deep in 2020H1 and delaying rate hikes in 2020H2 – it is not entirely contrary to what domestic production and inflation conditions require, especially on a a time like this, when the Lira is significantly under pressure and global financial conditions are tightening, “they said.
“A different TCMB response function and the increased importance of expectations to drive asset prices increase the difficulty of predicting over the next few months.”