Risk experts consistently proved right on Turkey

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By:
Jeremy Weltman
Published on:

The year has followed a predictable pattern, with the economy wobbling, political risk heightened and no respite for the tumbling lira.

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On a downward roll: The lira has depreciated by around 15% against the dollar this year


The recent slump in the currency has come as little surprise to risk experts, who maintain a negative perception of Turkey’s investor risk in Euromoney’s quarterly risk survey.

First-quarter results show Turkey sliding again to extend a longer-term decline that has seen the country downshift 13 places in the global rankings during the past five years.

Turkey’s 61st ranking, and its risk score of 51.7 from a maximum 100 points, puts it only two points above tier-four status into which South Africa recently dropped. The two countries have fallen out of favour among risk experts in the past few years.

All 186 countries in Euromoney’s survey are graded into five categories, according to equivalent credit ratings. Turkey is presently a low-ranking, tier-three borrower commensurate with junk status.

Fitch, Moody’s and Standard & Poor’s all differ in awarding the sovereign bond issuer respective ratings of BB/Ba3/B+, but all agree on the fact Turkey is sub-investment grade, with Fitch and Moody’s maintaining a negative outlook.

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Analysts remained gloomy on Turkey at the beginning of the year, anticipating no end in sight to the problems that prompted lira volatility in 2018.

Counterintuitively, the economy has shown renewed vigour in the first quarter, with three consecutive months of industrial production growth supported by fiscal stimulus, but forecasters are anticipating another technical recession thanks to the latest currency crisis.

Capital flight prompted by the weak economic outlook and little progress on reforms has seen the lira depreciate by around 15% against the dollar this year, after a 28% fall in 2018.

The economy requires a constant flow of foreign capital, but investors have little faith in finance minister Berat Albayrak’s assurances over infrastructure spending and the currency adjustment bolstering economic growth and curing the trade deficit.

Scores for almost all economic risk indicators in Euromoney’s survey have worsened on a year-to-date or year-on-year basis, and the possibility of more downgrades cannot be dismissed when the second-quarter survey is conducted – the results will be released in early July.

The news of a re-run of municipal elections in Istanbul has only worsened the lira’s slide by highlighting the dangers of instability encapsulated in a set of political risk indicators scoring less than either Brazil or South Africa.

Forecasts just released by the European Commission show a 2.3% contraction for real GDP this year, with private consumption down by 3.6% and investment by almost 13%.

Consumer price inflation, after climbing to an average of 16% last year, will remain in double digits, but the prospect of a small fall – as the Commission is predicting – may be denied by the latest currency slide.

In April, headline inflation was slightly above 19%, although in reality it is much higher, believes Steve Hanke, one of Euromoney’s survey contributors, who is a senior fellow and director of the Troubled Currencies Project at the Cato Institute.

His analysis – using purchasing power parity – suggests it is a whopping 49% and the only solution is to introduce a gold-backed currency board. Hanke should know. He served as a presidential adviser in Bulgaria from 1997 to 2002, helping to stop hyperinflation.

Talking Turkey

Although one of the pluses of devaluation means the current account will likely revert from deficit to surplus thanks to imports compression, the terms-of-trade shock will worsen disposable incomes and foreign debt servicing trends.

The unemployment rate, already reaching 14.7% in January – its highest in almost a decade – will almost certainly go higher, increasing social instability risk (notably with younger workers acutely affected), while resulting in a larger fiscal burden with the deficit widening to 3% of GDP, or perhaps more, this year.

And then there are the banking-sector risks as capital is depleted, with lenders already snowed under from non-performing loans and corporate bankruptcies threatened.

Meanwhile, foreign-exchange reserves imports cover has dwindled.

“At the end of April, net reserves stood at around $25 billion, although excluding swaps are estimated to be around $11 billion,” says Nora Neuteboom and colleagues at ABN Amro, contributing to Euromoney’s risk survey. “Turkey’s short-term foreign currency debt stands at $118 billion.

“Given the relatively low reserves, Turkey cannot afford to deplete its reserves further by defending the currency. As investors are well aware of this fact, a little spark in, for example the tensions with the US, could easily trigger another lira sell-off.”

They also warn that with high short-term external debt repayments due, fears of insufficient foreign exchange may return, similar to the situation at the end of August last year, notably with a large amount due in October this year.

Geopolitical risk factors affecting Turkey include the S-400 missile-system purchase from Russia worsening relations with the US, and potentially leading to sanctions.

Others include US plans for the Eastern Mediterranean Security and Energy Partnership – excluding Turkey – and sanctions against Turkish officials for detaining US citizens.

Added to which there are various developments on the domestic political scene, and moves by the central bank that seem concerning from the perspective of orthodox monetary policymaking.

Hold on to your hats, and your wallets: the lira sell-off would appear to have further to go.