Turkish lira crashes to ‘insane’ historic low after President Erdogan sparks sell-off

KEY POINTS

• Inflation in Turkey is now near 20%, meaning basic goods for Turks — a population of roughly 85 million — have soared in price and their local currency salaries are severely devalued.
• “Insane where the lira is, but it’s a reflection of the insane monetary policy settings Turkey is currently operating under,” one analyst said.

Turkey’s lira crashed to a record low of 13.44 to the dollar on Tuesday, a level once unfathomable and well past what was just last week deemed the “psychological” barrier of 11 to the dollar.

“Insane where the lira is, but it’s a reflection of the insane monetary policy settings Turkey is currently operating under,” Tim Ash, senior emerging markets strategist at Bluebay Asset Management, said in a note in response to the news.

The sell-off was triggered after Turkish President Recep Tayyip Erdogan defended his central bank’s continued contentious interest rate cuts amid rising double-digit inflation. He labelled the move as part of an “economic war of independence,” rejecting calls from investors and analysts to change course. 

For perspective, at this time in 2019, the lira was trading at roughly 5.6 to the dollar. And that was already making news, as it was a dramatic drop in value from the mid-2017 level of 3.5 to the dollar.  

‘Irrational experiment’

Erdogan has long described interest rates as “the enemy,” rejecting economic orthodoxy to insist that raising rates actually worsens inflation, rather than the other way around.

Investors fear the lack of independence of Turkey’s central bank, whose monetary policies are seen as being largely controlled by Erdogan. He has fired three central bank chiefs in roughly two years over policy differences.

According to ratings agency Fitch, in August 57% of Turkey’s central government debt was foreign currency linked or denominated, meaning paying that debt becomes more painful as the lira continues to drop in value. 

“We are seeing a perverse economic experiment of what happens when a central bank has effectively no monetary policy,” Ash said.

“Erdogan has taken away the ability of the CBRT (Central Bank of Turkey) to hike policy rates.”

Discussion questions

1. Why have economists described the 'loose monetary policy' as an ‘Irrational experiment’?

2. Explain the significance of the Fitch ratings agencies claim that '57% of Turkey’s central government debt was foreign currency linked or denominated'.

3. Suggest possible reasons why the Turkish president does not wish to raise interest rates despite record inflation levels?