Politics, monetary policy and lack of fiscal austerity have all led to the TRY meltdown, point out the Research Analyst Team at Nordea Markets. They see a high probability of a recession in the coming quarters.
Key Quotes:
“The currency crisis has recently escalated with the TRY now facing a +30% year-todate loss versus the EUR. Several factors are behind the lira plunge. The markets do not believe that the central bank (CBRT) can act independently. Thus, President Erdogan’s growth agenda and unorthodox view that higher interest rates lead to higher inflation have prevented the CBRT from hiking enough, leading to a vicious circle where a weaker currency increases inflation and in turn weakens the currency.”
“There is also a similar vicious circle with regards to the corporate sector, which has a high share of USD-denominated debt, which becomes more and more difficult to service when the USD/TRY keeps rising.”
“Another problem for the lira is the rising geopolitical tensions between Turkey and the West.”
“So far, the response from the authorities has been various liquidity measures, restricting short positions and forcing banks to borrow at the O/N lending rate instead of the official repo rate. However, none of the measures will structurally underpin the lira.”
“Rate hikes or stricter capital controls could stabilise the currency, as it is a matter of regaining credibility. However, these options seem very unlikely. Regarding other suggestions – such as indirectly raising rates (as Turkey has already done with the O/N lending rate), an IMF agreement, FX interventions or seeking funding in Russia/China – we do not consider any of these options likely and/or sufficient.”
“We therefore expect the lira to remain vulnerable and volatile in the short term. In the medium term, the recent financial turmoil will result in a hard landing for the real economy with risks of enterprises defaulting and possible bank failures.”
“Although we think the CBRT will lift the late liquidity window at the next policy meeting (thereby reverting to its former policy framework), this will not be enough to calm the markets, as it indicates that Erdogan will not use conventional measures. Consequently, upside to EUR/TRY will be tested in the short term. Longer out, we expect the lira to suffer from weak fundamentals and a potential recession.”
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