And so, just over two months after Erdogan supported MHP’s call for polls to be moved up by more than 18 months, the day has arrived. Turkey held an “an election” on Sunday.
This is obviously silly for a laundry list of reasons.
Even if, by some miracle, Erdogan and AKP were to “lose”, all manner of shenanigans would invariably ensue. One certainly imagines we’d see a repeat of what happened in the summer of 2015 when AKP lost their parliamentary majority and Erdogan effectively moved to nullify the results on the way to holding another vote in November which – surprise, surprise – turned out much better for AKP.
After surviving a coup attempt and narrowly winning a referendum designed to consolidate power in his office, Erdogan is all set to make things “official” on Sunday where that means getting re-elected to a position that now holds more weight. For those interested in the quick and (very) dirty on what it will mean to be President in Turkey going forward, here’s Barclays with the quick recap:
Under the presidential system, effective after the 24 June election, the president will be the head of executive branch and will have the mandate to form the cabinet. The president will also have new powers on several fronts: 1) to issue decree laws (though these could be made void by a parliamentary law); 2) prepare budget proposals (subject to the parliament’s approval); 3) dissolve the parliament (parliamentary and presidential elections would then have to be held simultaneously); 4) declare a state of emergency (subject to parliament’s approval). The president can serve two consecutive five-year terms, but if the parliament calls for an early election during the president’s second term, he or she could serve a third term.
So you know, if you just kind of skim that, you can see why some folks are concerned about a lack of checks and balances.
It’s possible that Erdogan will have to compete in a runoff on July 8 if he can’t manage to engineer an outcome that gives him more than 50% of the votes on Sunday.
As far as parliament goes, the CHP-IYI-SP-DP alliance could end up with a majority, which would be a real pain in the ass for Erdogan. That outcome hinges at least in part on the performance of HDP, which needs to clear the 10% threshold to win parliamentary seats. If it does, well then expect Erdogan to be furious. Remember, it was HDP’s performance in June 2015 that prompted him to effectively work behind the scenes to make snap elections necessary five months later. He of course equates HDP with the PKK and the PKK with the YPG in Syria. As far as Erdogan is concerned, they’re all terrorists. In fact, HDP leader Selahattin Demirtas is literally running for President from prison, where he’s being held on terrorism charges.
If there’s anything that pisses Erdogan off more than Fethullah Gülen, it’s Kurdish voter participation which is why he’s doing his damnedest to suppress it.
For markets, this is clearly a critical moment. The lira has been in free fall and Erdogan’s explicit promise to take a more active role in monetary policy after the election virtually ensures that the central bank will lose any shred of independence it had left.
A series of steps over the last several weeks (an emergency LLW hike, the simplification of monetary policy and a repo rate hike under the new regime) helped stabilize the currency, but if you look at an annotated chart, you can see how the market has already faded those efforts and the lira has depreciated some 15% since early elections were called:
This story is especially important for the EM narrative. Emerging markets are cracking under pressure from Fed tightening and along with Argentina, Turkey is the key “hot spot” – so to speak.
The fundamentals certainly leave something to be desired. Inflation is in the double-digits and there are a number of worrying dynamics at play under the surface.
For now, we’ll leave you with the three possible outcomes and what they mean for markets courtesy of Barclays.
Via Barclays
i) AKP-MHP alliance takes the presidency, but opposition controls parliament: This is the hardest outcome to call in terms of market reaction, particularly in the short term, given the unknown viability of a split presidency and parliament (due to early election and deadlock concerns). If it proves to be functional, and a credible and coherent macro framework can be put forward, the market would likely take the split outcome as a positive scenario based on perceivably more balanced power sharing and improved checks and balances. This could see the lira gain as some of the political risk premium is reduced. On the other hand, with the first round of the presidential elections less likely to deliver a definitive outcome, we would expect market volatility to remain elevated between the two rounds of the presidential election (25 June and 8 July). Indeed, current FX option pricing seems to suggest substantial risk premium through the second round, while carry-adjusted risk reversals in USDTRY do not appear particularly stretched in terms of TRY puts, relative to calls.
ii) AKP-MHP alliance wins both presidency and the parliament: This outcome represents the status quo and is to some extent priced in by markets, in our view. Any rally in Turkish assets will likely proved short lived, in our view, and we would be inclined to fade it until a credible and coherent macro framework is delivered. Market scepticism on the direction of macro policy would likely remain despite the recent bold actions from the central bank, given experience of the policy mix of recent years (expansionary fiscal policy and re-active monetary policy not appropriately tight) and recurring ‘low interest rhetoric’ of the politicians. Investors would likely be in a wait and see mode, looking for clues regarding the commitment to tight monetary policy and design of government policies complementing it. In the absence of a credible and coherent framework, market reaction would likely be negative, further pressuring the TRY and leading to TurkGB underperformance. Turkey credit spreads are likely to initially react with some (limited) relief, as uncertainty is removed — however, in the medium term, we would expect pressures to re-emerge.
iii) Opposition gains both presidency and the parliament: This is potentially the most market friendly outcome (based on our impressions from investors) and could lead to significant gains for Turkish assets, provided that there is a smooth transition of power. In our interactions with investors, we sensed a bigger appetite to give the benefit of the doubt to the opposition in the event of victory based on a perceived strong commitment to central bank independence and ability to improve relations with the West. In this scenario, we would expect the lira to gain c.5% and TurkGBs to rally c.200bp on the day, with markets pricing in a greater chance for a more credible macro framework, a higher degree of central bank independence and improving relations between Turkey and the West. Limited or underweight positioning in Turkish assets would imply scope for expressing a constructive view. We think a positive market outcome would likely help general EM sentiment, at least in the near term, but ultimately the broader EM backdrop would dictate asset performance. In this scenario, we expect Turkey credit spreads to tighten meaningfully in an initial reaction and likely over the medium term also.
