Turkey’s Lira Hits New Low After Erdogan’s Re-Election
Absent a radical change of policy or a bailout, the country is inching ever closer to financial ruin, economists say
ISTANBUL—Turkey’s local currency fell to a record low on Tuesday amid concerns that President Recep Tayyip Erdogan would stick to his unusual approach to managing the country’s strained finances following his re-election over the weekend.
The lira last traded at 20.4 to a U.S. dollar, down 1.4%, making it the currency’s most severe daily decline since June 2022.
Turkey’s economic imbalances, including the sliding lira, a shortage of foreign currency and galloping inflation, are shaping up to be Erdogan’s biggest challenge as he enters his third decade of rule. The Turkish president won a runoff election on Sunday, defeating a challenger who promised to restore orthodox economic policies and bring Western investment back to the country.
The lira has lost some 80% of its value in the last five years as Erdogan has taken greater control over the country’s finances, firing three central bank governors and pressuring the bank to cut interest rates despite high inflation—the opposite of what central banks throughout the world usually do in such cases.
Erdogan says his approach is intended to spur economic growth and ensure high employment. He has also argued that lower interest rates will eventually bring down inflation. Turkey’s central bank has also spent tens of billions of dollars in defense of the lira in recent months, pushing the country’s net international reserves into the red.
Absent a dramatic change of policy by Erdogan or a bailout from a foreign government, Turkey is inching ever closer to financial ruin, economists say.
“I think this is them loosening the grip,” said Liam Peach, a senior emerging markets economist at Capital Economics. “The low foreign-exchange reserves means their firepower has been depleted.”
During his campaign for re-election, Erdogan repeatedly said he would continue his policy of lower interest rates. In a speech to Turkey’s Union of Chambers and Commodity Exchanges on Tuesday, he pushed back against domestic opposition officials who have predicted an economic crisis.
“They were supposed to present this Turkish economy to the loan sharks in London but they couldn’t panic our business world,” Erdogan said. “Every time they open their mouths they present a dark future for the Turkish economy. Please pay no attention to these doomsayers.”
The Turkish government spent freely in the months leading up to the election, offering the country free natural gas for a month and stepping up central bank interventions that propped up the value of the lira.
Part of the challenge facing the Turkish government, economists say, is how to allow a depreciation in the lira without triggering a panic. A severe drop in the lira in late 2021 raised concerns that the country was headed for a run on banks. A weaker lira would also compound Turkey’s inflation problem by raising the cost of imports.
“The government is probably aiming for a controlled economic slowdown, allowing the lira to depreciate faster, which is an inevitable choice given their lack of foreign currency reserves, and accept the consequent tightening in financial conditions as a result,” said Selva Demiralp, a professor of economics at Istanbul’s Koc University and a former economist at the U.S. Federal Reserve Board.
The bulk of Turkey’s reserves are borrowed. The Turkish central bank uses currency-swap agreements, through which banks and foreign governments sell dollars and other foreign currencies in exchange for lira for a limited time. Excluding those swaps, Turkey’s reserves were a negative $60 billion as of May 19.
As Western investors have scaled back investments in Turkey, the country has turned to Russia and the oil-rich Persian Gulf countries to help cushion its finances. Russia transferred as much as $15 billion dollars to Turkey last year for the construction of a nuclear power plant. As Turkey’s largest supplier of natural gas, Russia also agreed to a postponement of Turkish payments earlier this year. Saudi Arabia deposited $5 billion in the Turkish central bank in March.
Turkey could address the shortage of foreign currency by increasing swaps with local banks or asking Gulf countries to agree to swap in dollars or euros rather than their local currencies, economists say.
The country also forces exporters to convert 40% of their foreign-currency income into lira to help stabilize the local currency.
A specialized savings scheme introduced in late 2021 encourages Turks to keep their money in lira by guaranteeing to compensate for any decline in the local currency. The lira’s continuing slide will add to the cost of paying out those securities, raising the risk of a broader financial crisis, economists say. Deposits in the scheme reached more than $121 billion as of May 17, according to Turkey’s banking regulator.
“The question is how are they going to conjure up more dollars,” said Erik Meyersson, chief emerging-markets strategist at SEB. “There are still some rabbits that they can pull out of the hat, but I think we maybe have six months or maybe a year before things really go south.”