You are here: Home > articles > Forex > Turkish lira falls apart, what can turn the tide? – Special Report
Turkish lira falls apart, what can turn the tide? – Special Report
June 29, 2023 2:28 pmVideo
Latest News
- Analysis of GBP/USD on April 26th. The pound trades on Friday without changes April 26, 2024
- USD/JPY: Simple trading tips for novice traders on April 26th (US session) April 26, 2024
- GBP/USD: Simple trading tips for novice traders on April 26th (US session) April 26, 2024
- EUR/USD: Simple trading tips for novice traders on April 26th (US session) April 26, 2024
- GBP/USD: trading plan for the US session on April 26th (analysis of morning deals). The pound attempted, but it didn’t go April 26, 2024
- EUR/USD: trading plan for the US session on April 26th (analysis of morning deals). The euro continues to rise April 26, 2024
- Trading Signals for GOLD (XAU/USD) for April 26-29, 2024: buy above $2,324 and sell below $2,352 (21 SMA – 6/8 Murray) April 26, 2024
- Technical Analysis – AUDUSD set to complete best week of the year April 26, 2024
- Will Apple finally drop its AI hint? – Stock Markets April 26, 2024
- Bitcoin slips as markets pare back Fed rate cuts – Crypto News April 26, 2024
- EUR/USD. April 26th. Bulls continue to advance after the GDP report April 26, 2024
- Can Chinese PMIs solidify the economy’s recovery prospects? – Preview April 26, 2024
- Weekly Forex Outlook: 26/04/2024 – Hawkish risk as Fed and NFP on tap, Eurozone data eyed too April 26, 2024
- XM’s Lombok Collaboration: Brightening Futures April 26, 2024
- Week Ahead – Hawkish risk as Fed and NFP on tap, Eurozone data eyed too April 26, 2024
- Market Comment – Yen keeps sinking after Bank of Japan decision April 26, 2024
- Fed faces dilemma amid sticky inflation and slowing economy – Preview April 26, 2024
- USD/JPY: trading tips for beginners for European session on April 26 April 26, 2024
- GBP/USD: trading tips for beginners for European session on April 26 April 26, 2024
- EUR/USD: trading tips for beginners for European session on April 26 April 26, 2024
The Turkish lira has gone into freefall, losing more than 20% of its value in the last month alone. Plagued by artificially low interest rates, extremely high inflation, and a shortage of FX reserves, there isn’t much on the horizon that can change the lira’s fortunes. A short-term recovery is possible after such a dramatic fall, but the broader trend remains overwhelmingly negative.
Lira breaks down
It has been a devastating month for the Turkish currency. After President Erdogan emerged victorious from the recent elections, the lira resumed its vicious downtrend in full power, crushed by fears for another five years of unorthodox economic policies.
Before the election, the Turkish central bank was intervening in the FX market to support the lira, depleting most of its reserves in the process. With the election out the way, the interventions stopped and the lira was left at the mercy of market forces.
That’s only half the story, though. Another element that ravaged the lira was the central bank’s latest decision on interest rates. With a new governor coming in, there was rampant speculation about a massive increase in rates to fight runaway inflation.
Some economists expected rates to be raised immediately to 25%, so when the central bank only lifted them to 15%, investors saw that as a huge disappointment. With inflation running around 40%, this move was seen as a ‘half measure’ that won’t be sufficient in cooling the economy down.
Behind the downtrend
Taking a step back, the lira’s downtrend is not a new phenomenon. The currency has been in decline for more than two decades, although the losses accelerated sharply after 2018 as inflation started to fire up and the nation’s deficits blew up.
When inflation moves far higher but interest rates don’t follow suit, the result is that real interest rates fall deep into negative territory. That’s toxic for the lira because it discourages investors and consumers from holding it. Nobody wants to keep a currency that is constantly losing its value, if they are not compensated through high interest rates.
Many have attributed the central bank’s reluctance to raise rates to political pressure from President Erdogan, who has characterized high interest rates as “the mother and father of all evil”. The fact the central bank has changed its Governor four times over the last five years is a testament to this political arm-twisting, as Erdogan simply replaced any leaders that dared to raise rates much.
Therefore, it can be argued the central bank has effectively lost its independence, leaving it unable to take the actions necessary to extinguish inflation. Even the new governor – who has a background as a Wall Street banker – could not break this spell.
Making matters worse for the lira, Turkey runs a chronic current account deficit, which has swelled in recent years. That means the nation is a net-borrower, importing more than it exports and relying on capital flows from abroad to finance the difference. Over time, these deficits can exert massive downward pressure on a currency, especially if they keep widening.
The government has tried all sorts of unconventional tactics to stop the lira’s bleeding, such as making it more difficult to short the currency, introducing special savings accounts that compensate consumers if the lira falls sharply, and de facto confiscating foreign currencies from private banks to boost its FX reserves. These moves helped slow down the pace of depreciation for some time, alongside regular FX interventions, albeit at the cost of draining reserves.
What’s next
Looking ahead, there isn’t much that can turn the tides in the lira. What the currency desperately needs are higher interest rates, to slow down nominal growth and eradicate inflationary pressures, a painful process that will most likely involve a recession. Yet, President Erdogan seems determined not to let that happen.
Slashing government spending could help to lower inflation, although this strategy might still be bearish for the lira initially, given its negative implications for economic growth. Plus, fiscal austerity would be a wildly unpopular move politically, making it seem even less likely.
That leaves structural reforms and regulatory changes, but admittedly, it’s highly doubtful any such policies would be powerful enough to rescue the currency. If there were easy solutions from a legislative perspective, they would have been implemented already.
As such, it’s difficult to see a path towards a sustainable FX recovery, at least under the current political leadership. While a near-term correction seems plausible after such a dramatic downfall, it is unlikely to go very far, with real rates so deep in negative territory and FX reserves exhausted.
Related Posts: