Among the larger emerging markets, hardly any is as greatly reliant on a benevolent risk perception by markets as Turkey. Faced with a chronic current account deficit and high share of short-term foreign liabilities, the country has to rely strongly on external financing. A distinct lack of currency reserves can also be noted. The alternative to a favourable risk assessment is – so to speak – an increase in refinancing costs.
In recent weeks, a number of factors have put a damper on the risk perception of Turkey. This trend was precipitated by strained diplomatic relations over the independence efforts recently voiced by the (Iraqi) Kurds or the dispute between Washington and Ankara after both sides had stopped granting visas. Remarks of the rating agency S&P didn’t help much either. The agency issued a commentary identifying the new „Fragile Five“, i.e. countries likely to be especially vulnerable in conditions of increasingly scarce global liquidity. Turkey is prominently represented in this club (alongside Argentina, Pakistan, Egypt and Qatar).
Further references to the country’s weak external position also came from the IMF. In its Global Financial Stability Report, reference was made at various points to Turkey’s higher external vulnerability by EM comparison. According to the IMF, a shortage of global liquidity provided by the major central banks could also prove challenging for Turkey. Compounding the problematic situation is the renewed increase in the oil price, with the effects of the higher costs for energy imports likely to feed through to the external balance sheets. The current account deficit, that has accumulated over 12 months, mushroomed in September to around USD 40 billion, the highest reading in a good two years.
The difficult picture is rounded off by the recent debate over the country’s interest rate policy. In the last 10 years, the Turkish central bank reached its inflation target only once, and for 2017 the 5% mark also seems beyond reach. Monetary policy therefore displays a certain credibility deficit, and most recently State President Erdogan once again implicitly called upon the central bank to lower interest rates rather than raise them. Given the political relations in Turkey, statements of this kind are often interpreted as not simply a „suggestion“, thereby at the same time calling the independence of the central bank into question.
With the Turkish lira coming under considerable pressure in past weeks, voices pointing in a different direction could be heard again recently from Ankara. But the damage has most likely already been inflicted, and economy policy decisions hampered by the described developments. A sizeable interest rate increase will presumably be the price to be paid once again for the gloomier risk perception.