“Cooked” Turkey – Fiat v Gold

From western Europe’s problem child yesterday we cross to eastern Europe’s problematic EU wannabe, Turkey.  Overnight Turkey’s central bank displayed ‘brazen’ independence from President Erdogan by hiking interest rates a full 3% to 16.5% before the next scheduled meeting in an effort to stem the bleed of their Lira.  Over the last month the Lira has plummeted, particularly looking to spiral out of control in the last week as it breached 4.9 against the USD.  Last night’s 300bp rate hike saw it immediately strengthening to levels seen last week before the escalation at around 4.5.  However that is still a 20% drop against the USD from just earlier this year when it sat around the high 3.7’s.

Erdogan has been vocal in his belief their central bank shouldn’t be undertaking ‘emergency’ rate hikes and raised questions again of its independence from the tyrannical President.  Just yesterday, one day before the emergency meeting, Bloomberg’s Mark Cudmore published a piece titled “Market Dynamics Suggest Turkey’s Goose Almost Cooked: Macro View”.

“Turkey’s next scheduled monetary policy meeting is a little over two weeks away. Market dynamics suggest the central bank will be forced to hike rates aggressively before then.

President Erdogan believes in lower interest rates and continues to verbally restrain the central bank from tightening policy. There’s also concern that an emergency action would convey such a sense of panic that it may do more harm than good

There’s plenty of precedent: Turkey conducted emergency rate hikes within days of scheduled policy meetings in 2006 and 2014 -- and it should be emphasized that Erdogan was also the political leader on both those occasions.

Unfortunately, Turkey is in the midst of a true currency crisis and is losing the luxury of choice. The lira is capitulating, helping inflation soar and rapidly worsening Turkey’s external debt situation. Its net international investment position was a deficit of $468.7 billion as of the end of February.

The lira has already fallen more than 10% this month versus the euro-dollar basket. Brent crude is up 19% this month in lira terms. As a major energy importer, such a pace is unsustainable for the economy.

And the dynamic isn’t self-correcting, which is why the central bank will be forced to step in. The large FX liabilities of the corporate sector means the pain intensifies, rather than alleviates, with currency weakness.

A currency-fueled inflation- spiral -- April CPI at 10.85% year-on-year and PPI at 16.37% even before the latest lira losses — is leading to a massive and rapid erosion of household wealth.

The threat that poses, especially when combined with a rapidly widening current-account deficit (thanks to those hefty energy imports), should at some point overwhelm any allegiance to Erdogan’s personal economic theories for central bankers who are — for now — officially independent.”

Whilst the hike had the intended effect as (as can be see clearly in the graph above), there has been much scepticism overnight as to whether it will last whilst the underlying problems persist.  

We wrote earlier this week about Turkey repatriating its gold and Erdogan’s public calls to abort the USD reserve currency.  The graph above highlights his incentives in that regard.  The cost of all that USD debt has gone up 20% in a couple of months, and Turkey is not alone, hence all the Emerging Market concerns at the moment.  Such is Erdogan’s desperation that overnight he told his citizens not to exchange Liras into foreign exchange!

Topically on true democracy… This will no doubt increase the EU’s resolve to not accept Erdogan’s calls for Turkey to be accepted as a member of the block.  Turkey has been trying for 13 years to get into the EU but concerns around that state of democracy and human rights have seen strong resistance, particularly from superpowers Germany and France.

Moreover this again highlights the difference between Fiat currencies back by nothing but the promise (and hence faith in) a government, and gold.  No coincidence then maybe that Erdogan’s trying to get his hands on all of theirs…