Jonathan Spicer and Can Sezer
A run on the lira proved a pivotal moment for Turkey’s financial markets in 2018, prompting action from Ankara that has tilted the economy inward and frightened off foreign investors.
Turkish President Tayyip Erdogan, his government and his deputies have said the measures taken, which sparked an exodus of foreign money, were needed to stabilise the economy and bolster belief in the lira, which has dropped 36 per cent in two years.
But the impact on investment in what was once a darling of emerging markets has been dramatic. The World Bank estimates that net foreign direct investment, which fell 30 per cent last year, will not regain 2018 levels until after 2021.
For export-dependent Turkey, some analysts say the danger is that this outflow could over time starve the Middle East’s top economy of funds and stall Erdogan’s recovery plans.
Former Turkish Treasury research associate Ugras Ulku, who now heads the Institute of International Finance’s (IIF) regional Emerging Markets research, said that “tighter control on financial markets, risks including US sanctions and Turkish borrowers’ inability to access foreign funding” mean the country may miss out on foreign cash.
Overseas investors have largely steered clear of Turkey’s sovereign bonds, despite a once-in-a-decade rally since May, while some players are reconsidering their strategies.
HSBC is considering selling its Turkish bank, sources familiar with the matter said last week, while Citigroup, one of the top foreign banks in Turkey, transferred at least two foreign exchange and rates traders to London from Istanbul last year due to the uncertainty, a source with knowledge of the move said.
The fallout has also led to losses for Goldman Sachs and other foreign firms who were burnt in 2019 when Turkey directed its banks to withhold liquidity from a key London swap market to defend the currency, two bankers familiar with trading activity said.
The swap market move was one of dozens of dictats and regulations to defend the lira, from setting deposit rates at lenders to tapping the central bank’s reserves.
New rules and regulations spiked to 3,800 in 2018 from 551 in 2007, a World Bank analysis shows.
Interest rate cuts, along with a surge in public spending and a push to get state-owned banks to lend more, have helped Turkey recover from recession. But a rapid uptick in lending in an already indebted economy and a widening budget deficit risk storing up trouble, ratings agencies and economists say.
Turkey’s Treasury and its central bank each declined to comment. Erdogan’s office was not available to comment.
A government effort to boost lending a year ago, by cutting the amount of interest Turkish savers could get from their deposit account, prompted some to keep their spare cash in dollars or euros, according to bankers and central bank data.
State banks have since March tapped up to $32 billion of central bank reserves in buying up lira, an analysis shows.
The state banks then redeposit lira at the central bank, officials and bankers with knowledge of this loop said.
An official at one state lender said Turkey’s banks are now staffed by traders at all hours, part of what some call a “national team” ready to respond to any lira weakness.
Despite this support, the lira skidded 11 per cent last year, with the biggest slide between March and May, as interventions began.
Last year non-residents sold a net total of $3.3 billion in Turkish bonds, compared to purchases of $7 billion in 2017, IIF data shows. That means local investors mostly profited as Turkey’s benchmark 10-year yield dropped below 10 per cent from 21 per cent in May, thanks mostly to monetary easing and a drop in inflation.
The foreign flight is partly a response to the government’s approach to markets after a 2017 referendum handed Erdogan wide-ranging authority over the courts, military and economy.
The clearest signal of an intensification of this intervention came days before nationwide local elections in March 2019 that would deal a blow to Erdogan’s party, more than a dozen investors, bankers and Turkish officials said.
That was when Turkish state lenders suddenly cut short-term lira funding to the London swap market, which was popular for hedging and shorting, traders and bankers said, sending rates rocketing to 1,200 per cent. — Reuters
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