Turkish Financial and Economic Crisis

Turkish Financial and Economic Crisis

The Causes of the Turkish Financial and Economic Crisis

The economic and financial crisis that faced Turkey was characterized by high inflation, increasing costs of borrowing, and loan defaults. One of the major causes of the crisis was the high current account deficit. Turkey’s economy is known for its low savings rate. Since President Recep took over the government, the deficits of the current account have been increasing. For example, in 2016, the current account deficit stood at $33.1 billion, which then increased to $47.3 billion in 2017. In 2018, the current account deficit increased to $51.6 billion.

The adoption of the authoritarianism style of leadership by President Recep was another cause of the crisis in Turkey. In 2018, the country experienced a higher rate of inflation as compared to other developing countries. In 2017, the inflation rate stood at 11.9%. The president prevented the central bank from changing the interest rates. According to Recep, any adjustment of the interest rates would further jeopardize the economy of the country. In May 2018, the Turkish president indicated that he would remove the independence of the central bank of the country after he unsettled the local markets (Borzou, 2018). On his part, Muharrem Ince, the CHP presidential candidate, indicated that any interference with the central bank would have negative implications on the lira.

Effects of the Crisis on the Turkish Economy

During the 2018 economic crisis in Turkey, the lenders experienced restructuring demands since organizations were not able to serve their EUR or USD denominated debt as the result of reduced value of their revenue in Turkish lira. The asset quality of the country’s banks was also affected by the financial crisis. In addition, most banks resulted in increasing their interest rates leading to high cots for the mortgage and consumer loans. As the level of deposits increased, the gap between total loans and deposits started to narrow. The crisis also made the home sales to reduce by 14% while mortgage decreased by 35%.

As a result of the 2018 economic crisis, the rate of unemployment increased by 13.5% in 2019. This resulted in the reduction of national demand due to the reduction of purchasing power among the consumers. The Turkish economies reduced by 3% in the last quarter of 2018. Due to increasing unemployment, the disposable income of the household decreased, resulting in low demand for local goods and services.  Unoccupied or unfinished housing was another impact of the economic problem that Turkey faced. As the result of policies established by the president and his interference with the construction sector, the country had over 2 million unsold houses making the housing sector experience very low sales in 2018 (Mark, 2018).

Implications of the Turkey Economic Crisis on Global Economy

Globally, the Turkey economic crisis led to various financial risks. One of the concerns was the impact on foreign lenders. According to the Bank of International Settlements, the outstanding loans of global banks that they owed to borrowers in Turkish stood at $224 billion. The majority of the loans were owned by banks based in Spain, France, Italy, the US, and the UK. The emerging markets were also affected by the economic crisis in Turkey due to the high level of debt that was denominated in EUR and USD. The Turkish crisis also affected the economy of countries including, South Africa, Lebanon, and Colombia. On March 7 2018, Moody’s Investors Service reduced the sovereign debt of Turkey due to the erosion of balances and checks under Erdogan. The Standard & Poor’s credit rating agency was also concerned about the level of inflation that Turkey experienced.

The rating of more than 15 Turkish banks were also downgraded by Moody’s Investors since their operating environment in Turkey was worsening. The economic policies that Turkey enacted were also seen as a way of moving away from the European Union. The accession negotiation that the country had initiated stopped, and other European countries became hesitant to establish further trade with Turkey.

Fiscal and Monetary Policies Implemented By Turkey

In response to the economic crisis that Turkey faced, the government initiated fiscal and monetary policies that were focused on improving the productivity of the local economy. One of the strategies that the government adopted was reducing public spending with the objective of dealing with plunging currency and massive inflation. The reduction of public expenditure is important when an economy is faced with inflation since it reduces the money in circulation. The new economic program that was initiated by Berat Albayrak, the finance minister, the government was focused on balancing the country’s economy (Lee, 2018). A major monetary policy that was adopted by the central bank of Turkey was increasing interest rates by 6.25% to deal with inflation besides putting a floor under the lira. The credit bonanza was also another strategy that the Turkish government adopted. According to the statistics that were collected in 2019, the country’s domestic credit increased by approximately 13%. To address the credit expansion in Turkey, the central bank reduced the interest rates and purchased lira-based bonds.

Turkish central bank made adjustments to the reserve requirements that refer to the money other banks should keep at the central bank. This strategy was adopted with the objective of increasing borrowing through private banks and states. Local banks that had loan growth of between 5% and 15% were required to maintain their reserve ratio at 2%. Commercial banks were also needed to reduce deposit rates and encourage consumption instead of saving.

Challenges That Remain For the Turkish Economy

Notwithstanding the fiscal and monetary policies that the Turkish government adopted, the country is faced with future challenges that call for the adoption of sustainable solutions. For example, foreign investors will be marginally involved. Since 2018, foreign investors have been restricted in relation to the use of lira-denominated assets. Even though the government was mainly focused on economic growth in 2019, it failed to devalue the currency, thus making the country to experience additional monetary problems. The country’s economy is faced with difficult situations, and this will be made worse due to the political atmosphere in the country.

The players within financial markets have noted that Turkey should focus on attaining a double-digit level of inflation. The plans adopted by Erdogan to influence the central bank are a major concern among the players since this would have a negative impact on the entire economy. Imports have also become a major problem in the country. Even though the weak lira has made Turkish exports to increase, the country over depends on imports. Most of the intermediate products needed by the country originate from other countries making the Turkey government spend more on imports. The private sector has acquired huge long-term loans from external sources, mostly in euros and dollars.

Currently, Turkey does not have adequate reserves to deal with any economic challenge that the country can face. According to Richard Briggs, a researcher working at CreditSight, the country’s reserves are low, and most of the foreign currencies are held by local banks, and it is possible to withdraw such funds by customers. This implies that when the value of lira falls, the country is not able to buy local currency, thus preventing it from further depreciation (Matt, 2018).

Economic mismanagement, for example, interference of the central bank, has made Turkey experience quite a number of economic problems. The Turkish economy has been characterized by a high rate of inflation. Increasing the interest rates would have helped the government to avoid increasing consumer prices. This is because high-interest rates, attract foreign investors, who will demand the lira to purchase assets in Turkey (Devranoglu, 2019). In this way, the local currency would be supported, making imports cheaper and reduce the burden of settling foreign debt. Nonetheless, Erdogan favored lower interest rates with a goal of expanding growth. The influence of Turkey’s central bank by the president undermines investor confidence resulting in a high rate of unemployment (Mark, 2018).

Approaches to deal with Economic problems facing Turkey

According to Eric Robertsen, the head of foreign exchange at Standard Chartered Bank, Turkey has few alternatives apart from increasing interest rates for it to deal with economic challenges it is facing (Matt, 2018). The country had indicated that it was reducing the foreign exchange swap of local banks, but it was not implementing control of its capital. By adopting effective interest rate policy and currency measures, Turkey would be able to expand the level of employment and increase aggregate demand.

References

Borzou, D. (2018). Erdogan Is Failing Economics. Foreign Policy.

Devranoglu, N. (2019). Turkey’s economy to contract in 2019, longer recession ahead. Available from https://www.reuters.com/article/us-turkey-economy-poll/turkeys-economy-to-contract-in-2019-longer-recession-ahead-idUSKCN1RO19Y

Lee, Y. (2018). What went wrong for Turkey? Its economy is ‘in the midst of a perfect storm’. Available from https://www.cnbc.com/2018/08/13/turkey-crisis-economy-faces-weak-lira-inflation-debt-and-tariffs.html

Mark, B. (2018). Turkey needs IMF loans after investor confidence undercut. Ahval.

Mark, B. (2018). Turkish real estate ills reflect Erdogan snap poll decision. Ahval.

Matt, O. (2018). Turkey Economy Looks Like it’s headed for Big Crash. Washington Post.