12/12/2021
Updated: 27/03/2023 - the trend has been continuing
News: Turkey's lira weakened nearly 1% against the dollar on Thursday, moving closer to last week's record low. Since the 1st of January, Turkey's lira has lost 26.6% against the dollar. Among the currencies of the major emerging countries, the Turkish lira shows the second largest decline in 2021, behind the Brazilian real (-28.5% against the dollar) and the Argentinian peso (-23.4%). In parallel to this fall, the main sample of the Istanbul Stock Exchange, the BIST 100, deviated by 3.65% to 1,257.68 points, the lowest in a month (+0% since January). Two major reasons: 1) A tense geopolitical context The plunge of the Turkish currency comes at a time when Recep Tayyip Erdogan has launched, over the weekend, virulent attacks against Paris and Washington in particular. France recalled its ambassador to Ankara on Sunday after the Turkish president said Emmanuel Macron "needed mental treatment" in response to the French president's comments on Islam and the Mohammed cartoons. Then in a speech in Ankara on Monday, the leader went even further, comparing the treatment of Muslims in Europe to that of Jews before World War II, accusing some European leaders of "fascism" and "Nazism". He also called on his compatriots to boycott French products. Washington has also recently and repeatedly threatened to impose sanctions on Turkey in retaliation for its purchase of a Russian-made S-400 air defense system. "You don't realize who you are dealing with," the Turkish president warned in a speech Sunday. "Whatever your sanctions are, do not be late," he added. 2) A risk of chronic Inflation In addition to the growing geopolitical tensions between Turkey and the West, economists are concerned about the management of the country's economy. The continued fall of the currency risks fuelling chronic inflation, which jumped to a three-year high of 21.3% last month. Erdogan's view on interest rates: Recep Erdogan is firmly opposed to any increase in interest rates, which he has described as the "mother and father of all evils". And while his position seemed to be finally shifting on this issue, as suggested by last month's sharp rise in the main interest rate from 8.25% to 10.25%, last week's decision to keep it at that rate again disappointed the market. What is the Turkish central bank doing ? The independence of the Turkish central bank is weakened. Just last week the Turkish strongman declared that his country was in a "war of economic independence". Erdogan has already fired three central bank chiefs over ‘policy disagreements’ over the past couple of years and dismissed three monetary policy committee members in October. My analysis: What does Turkey's situation tell us? 1- The danger of inflation & low interest rates In my opinion, Turkey's situation might demonstrate the growing risk of chronic inflation.
Although the Turkish situation is singular and its inflation mainly reflects the tense geopolitical context for the country and its poor monetary policies management rather than a global trend of rising prices.
After COVID, the world is in a state where inflation might kick back due to catch up demand and supply chain disruptions as well as the very expansionary monetary policies put in place during COVID. I am sure that most economists are currently looking into this - the Turkey's situation might act as a reminder.
2- The necessity of independent monetary policy Maybe most importantly, Turkey's situation reaffirms that the monetary policy should be independent from the government.
In 1975, William Nordhaus, in "The Political Business Cycle, The Review of Economic studies", warned us that governments want the economy to be in good shape during election years and often take decisions that might not benefit the country's economy in the long term.
Therefore, it is important for the CB to stay independent, so that the CB can achieve a clear mandate that includes the stability of prices regardless of the political calendar. Since, independent CB have been created in most developed economies and their public mandates have been released, prices have been significantly more stable.
File image of Turkish president Erdogan.