Turkey Poised to Reverse Unorthodox Economic Policies as New Team Tackles High Inflation
Turkey is on the verge of reversing some of President Recep Tayyip Erdogan’s unconventional economic strategies to combat soaring inflation rates and address the cost-of-living crisis. Despite his recent re-election, interest rates are expected to surge from the current 8.5% level significantly.
With inflation approaching nearly 40% and its citizens struggling, the pressing question revolves around the extent of the policy rate increase. Economists are divided on the severity of the hike, with Morgan Stanley, a US-based investment bank, projecting an 11.5-point rise to 20%, while Goldman Sachs anticipates the rate potentially reaching 40%.
While some economists predict a steep climb, others suggest a more gradual progression. President Erdogan faces the challenge of curbing Turkey’s persistently high inflation rate while grappling with critically low reserves in the central bank, resulting from substantial expenditures to stabilize the lira.
Despite widespread support from economists to increase interest rates to combat inflation, President Erdogan has dismissed three central bank governors in less than two years for adhering to orthodox policies.
Turkey Faces Impending Interest Rate Hike Amidst Economic Crisis
Over the past two years, Turkey has witnessed a decline in interest rates from 19% to 8.5%. However, the country now braces itself for an imminent rate increase, posing further challenges for an economy already mired in crisis.
Ozge Zihnioglu, a senior politics lecturer at the University of Liverpool, acknowledges the complexities of this situation, stating, “It is a risk, but it’s a difficult circle to square. He has to do something for the economy, but a clear shift to orthodox economic policies would hit a large section of society, and he wouldn’t want to have that impact on local elections [next year].”
Under President Erdogan’s leadership, Turkey experienced significant economic growth initially. However, in recent years, Erdogan diverged from conventional economic principles, attributing high inflation to elevated borrowing costs and striving to stimulate economic expansion.
During this period, the Turkish currency depreciated by over 80%, and foreign investment has plummeted. Turkish citizens are now seeking to transfer foreign funds out of local banks.
Mehmet Kerem Coban, an expert from Kadir Has University, asserts that Turkey’s economic model relies on capital to sustain itself as its reserves have diminished.
Having been in power for over 20 years, President Erdogan secured victory in the recent elections against his opposition rival. International observers noted an “unlevel playing field” that granted the incumbent president an unfair advantage.
Throughout the election campaign, Erdogan maintained his stance on keeping interest rates low for as long as he remained in power, assuring the public of no change in economic policy. Conversely, the opposition vowed to reverse his emphasis on low-interest rates.
However, mere days after his re-election, Erdogan signaled a shift in his approach.
Firstly, he appointed Mehmet Simsek, a former banker, and economist, as finance minister. Despite being a former member of Erdogan’s government, Simsek expressed the necessity for Turkey to return to a “rational ground” and “compliance with international norms” in economic matters.
Subsequently, Hafize Gaye Erkan, a prominent figure on Wall Street, became Turkey’s first female central bank chief. Erkan, who had no prior experience in Turkey but served as the CEO of the US bank First Republic before its collapse, was chosen for the position.
While Erdogan stated last week that his position on interest rates had not changed, he acknowledged that Simsek should swiftly and seamlessly take necessary steps in collaboration with the central bank.
Timothy Ash, an expert in emerging markets, believes Erkan will need to implement significant rate hikes upfront rather than gradually introducing them. He cautioned on Twitter that she could face a fate similar to her predecessor, who constantly found themselves playing catch-up with the market and awaiting opportunities to plead for rate hikes in the presidential palace’s ante-room.