Analysts, Investors Will Never Admit The Truth About Turkey

Recep Tayyip Erdogan was back above the fold across mainstream financial media outlets on Monday.

The lira was in free fall. Again. The central bank intervened. Again.

If you peruse the announcements section of the Turkish central bank’s website, four of the last five press releases are notifications of direct FX intervention.

The currency has depreciated dramatically since September, when governor Sahap Kavcioglu (who Erdogan installed in March after a brief period of sanity under former governor Naci Agbal) embarked on a series of rate cuts despite surging inflation.

Monday’s slide through 14 (figure above) was yet another dubious milestone. CBT again cited “unhealthy price formations in exchange rates” after intervening.

In all likelihood, Turkey will cut rates again this week. In the statement that accompanied November’s cut, CBT said it would “consider” completing what it described as “the use of the limited policy room” implied by transitory inflation factors. While some took that as a hawkish assessment, I wrote that regardless of what it might entail for policy in 2022, it meant that another cut was just a month away.

Fast forward a month and that’s precisely what most market participants seem to expect. Erdogan has given traders every reason to bet against the currency. Over the past several weeks, he’s doubled, tripled and quadrupled down on the notion that Turkey will somehow declare its independence from international capital flows and break the cycle of hot money. The country, Erdogan insists, will go its own way. For “good” measure, he replaced his finance minister with someone seen as close to his son-in-law, who presided over the economy from mid-2018 until November of 2020, the last time the lira was in freefall.

Read more: In Turkey, An Autocrat Goes All-In

Earlier this month, I suggested that “after years spent living in denial, emerging market watchers have finally come around to the reality that Erdogan is an incorrigible autocrat.” Market participants have always accepted that characterization in the geopolitical context, but they habitually failed to extrapolate what it meant for domestic economic policy and, by extension, the lira.

Bloomberg on Monday said respondents in a survey of a dozen Turkish and foreign investors admitted “they’ve now lost hope” that Erdogan “will ever stop meddling with monetary policy.”

The linked article quoted Bluebay’s Tim Ash who, for years, seemed incredulous at Erdogan’s refusal to repent. “We don’t believe that Erdogan can ever step back from interfering” in monetary policy, Ash said. “It’s in his DNA.”

I sometimes worry that no amount of evidence will be sufficient to compel EM watchers to state the obvious in unequivocal terms. What’s encoded in Erdogan’s “DNA” is autocratic governance. Turkey isn’t a democracy. It has lots of trappings, but it’s not a democracy. Turkey has a soft version of one-man rule.

Bloomberg quoted Ash as saying that “Turkey needs a competent and strong CBT governor, able to stand up to Erdogan.” I don’t mean to single out Ash (and I should be careful to note that I could never and would never claim to know more about deploying capital in Turkey than seasoned EM investors), but statements like that certainly seem to suggest that a cognitive bridge remains to be crossed. It makes no more sense to say “Turkey needs a strong central bank governor able to stand up to Erdogan” than it does to say China needs “a strong PBoC governor capable of asserting independence from Xi.”

One doesn’t “stand up to Erdogan” in Turkey. Not on monetary policy and not on anything else either. He’ll always be keen to preserve the veneer of democracy, but some of that commitment (if that’s what you want to call it) is doubtlessly attributable to an assumption (on his part) that maintaining a democratic facade is necessary for legitimacy and for ongoing engagement with NATO, Washington and the EU.

Late last week, S&P joined Moody’s and Fitch in adopting a negative outlook on Turkey’s sovereign credit rating. “In our view, the current monetary easing and significant Turkish lira depreciation will further weigh on inflation, which could peak at about 25%-30% YoY in early 2022,” S&P said. November’s headline inflation print was 20.31%. The implied real rate is now below negative 6% (figure below).

“We expect domestic residents to retain confidence in the Turkish financial sector while banks also maintain access to foreign funding, but external risks are rising,” S&P went on to say.

Erdogan may well decide to countenance a rate hike eventually, but if he does, it’ll come packaged with all sorts of bombast about foreign conspiracies, allusions to Turkey being forced to take “bitter medicine” and, most importantly, pledges to go right back to cutting rates at the first possible opportunity.

Another strategist quoted by Bloomberg said the central bank “should make policy dependent on the actual consumer price index, hiking the real policy rate to positive territory and commit to keep it in positive territory for the foreseeable future.”

Needless to say, Erdogan will never make any such commitments. He retains sole discretion to dictate monetary policy outcomes because, again, he’s a dictator. That’s what dictators do. They dictate.

Until analysts, strategists and EM investors admit the above, all discussions about the outlook for Turkey are hopelessly devoid of the only context that matters. Like discussing the case for Chinese mega-tech in October of 2020 without acknowledging that any investment thesis is subject to revision in the event the Party decides it’s time to make “prosperity” more “common” in China.