Will the rally in the Turkish Lira last?

This week has brought a pretty much text book example of what can happen when a currency is in distress as well as a reminder of perspective. Let me start with the trigger for some changes which came last weekend.

The shock departure of finance minister Berat Albayrak, who is President Tayyip Erdogan’s son-in-law, and central bank chief Murat Uysal over the weekend gave the lira its best day in over two years on Monday.

Investors hope their successors will deliver another of the country’s pirouettes, where long-suppressed interest rates are lifted dramatically, providing the currency with some much-needed relief. ( Reuters)

There is a lot going on there. But let’s start with a possible end or at least reduction in cronyism. There we have an unusual mention of a Lira rally followed by a curious mention of “long-suppressed interest-rates”. That depends on your perspective because in these times the rate below is rather extraordinary as it is.

keep the policy rate (one-week repo auction rate) constant at 10.25 percent,

Back on October 12th we noted a change in swap rates to 11.75% to try and support the Lira but in what may seem extraordinary a 1.5% move in these circumstances is not much. The real issue when an interest-rate is trying to support a currency is the gap between it and others. This week we have looked at an interest-rate maybe reaching 1% in the US ( ten-year bond yield) and Japan where we are around 0% so there is quite a gap. Even those are high relative to the -0.5% of the Euro and the around -0.5% of the German ten-year yield and of course there is a lot of trade between the Euro area and Turkey.

The textbook

Put mostly simply a currency is helped by an interest-rate advantage as investors include it in their calculations of expected capital gains. The problem in practice is that in times of real distress the expected currency falls are much larger than any likely interest-rate increase. I provided an example of this back on the 12th of October.

Because of the economic links the exchange-rate with the Euro is significant. Indeed some Euro area banks must be mulling their lending to Turkish borrowers as well as Euro area exporters struggling with an exchange-rate of 9.32. That is some 43% lower than a year ago.

So even with a pick-up of the order of 11% you have lost 32% over the past 12 months.

However this can change rapidly because the moment there is any sort of stability the carry is suddenly rather attractive. After all you can get more in the Turkish Lira in a month than most places in a year and in some cases you can do that in a week. This leads to the situation suddenly reversing and giving us this.

ISTANBUL (Reuters) – Turkey’s lira firmed on Friday to its strongest level in seven weeks, notching a weekly gain of some 12%, after President Tayyip Erdogan’s pledge to adopt a new economic model raised expectations of a sharp rate hike from the central bank.

So we have seen a jump higher in the Lira with expectations now of this.

The central bank is seen raising its policy rate next week to 15% from 10.25%, a Reuters poll showed. Erdogan’s speech was viewed as implying he would condone such a hike.

So the expected carry is even higher and for once there is a capital gain. Some will like this although I have to confess if I had been long the Lira this week I would be considering the advice of the Steve Miller Band.

Hoo-hoo-hoo, go on, take the money and run
Go on, take the money and run
Hoo-hoo-hoo, go on, take the money and run
Go on, take the money and run

As whilst there may be changes there are icebergs waiting for this particular Titanic.

In contrast to previous episodes of lira turmoil, the central bank is estimated to have burnt through more than $100 billion of reserves this year, leaving it effectively around $36 billion overdrawn on those reserves, according to UBS.

The central bank has not commented on analysis suggesting its reserves are ‘net’ negative, though it has said its buffers fluctuate naturally in times of stress. ( Reuters)

So “buffers fluctuate in times of stress” can be added to my financial lexicon for these times.

The economy

There has been some better economic news this morning especially from consumption.

There was better news for retail sales in the country on Friday. The volume of goods purchased by consumers increased by an annual 7.8 percent in September after 6 percent growth in August, the statistics institute said. The monthly increase was 2.8 percent, more than three times the August figure of 0.9 percent. ( Ahval)

Also industrial production rose although Ahval is rather downbeat about it.

Industrial output in the country expanded at the slowest pace on a monthly basis since the outbreak of the coronavirus in March, official data published on Friday showed. Production increased by 1.7 percent month-on-month in September compared with 3.4 percent in August and 8.4 percent in July……..Manufacturing of non-durable goods in the country grew by just 0.6 percent month-on-month in September, the Turkish Statistical Institute said. Production of intermediate goods expanded by 0.7 percent.

There is a catch though in that the better retail sales news rather collides with one of the ongoing economic problems which is the trade deficit.On Wednesday the central bank ( CBRT) updated us about this.

The current account posted USD 2,364 million deficit compared to USD 2,828 million surplus observed in the same month of 2019, bringing the 12-month rolling deficit to USD 27,539 million.

So the passing twelve months have brought a switch from a monthly surplus to deficit and we see that the annual picture is the same. The driving forces of this are below.

This development is mainly driven by the net outflow of USD 3,709 million in the goods item increasing by USD 3,044 million, as well as the net inflow of USD 1,692 million in services item decreasing by USD 2,869 million compared to the same month of the previous year.

One of the issues of economic theory is applying theory to practice. But the expected J-Curve improvement in the trade balance has collided with another currency plunge starting the clock all over again. It has created quite a mess as one clear impact of the Covid-19 pandemic has been on a strength for Turkey which is tourism. Back on October the 12th I noted the numbers for this.

 If we look at the year so far we see this is confirmed by a surplus of US $4.15 billion as opposed to one of US $19.17 billion in the same period in 2019. Another way of looking at this is that 3,225,033 visitors are recorded as opposed to 13,349,256 last year.

Next at a time of currency crisis comes inflation as imports become more expensive.

A rise in general index was realized in CPI (2003=100) on the previous month by 2.13%, on December of the previous year by 10.64%, on same month of the previous year by 11.89% and on the twelve months moving averages basis by 11.74% in October 2020. ( Turkey Statistics)

That may look bad enough but there are two additional kickers. The first is that this is on the back of previous inflation and the second is that far from responding wages have gone the other way putting quite a squeeze on living-standards.

Gross wages-salaries index including industry, construction, trade-services sectors decreased by 8.4% in the second quarter of 2020 compared with the same quarter of the previous year. When sub-sectors are examined; industrial sector decreased by 5.2%, construction sector decreased by 8.6% and trade-services sector decreased by 10.5%. ( Turkey Statistics)


I promised at the beginning to give some perspective and we get some from looking at the exchange-rate on October 12th which was 7.87 versus the US Dollar and considered a crisis then and the 7.67 as I type this. So better but not by a lot as the rally memes are compared to the 8.58 of last Friday. Thus we have a move for financial markets but for the real economy not so much. It can be looked at in terms of what used to be described as the Misery Index where you add inflation to the unemployment rate which gives you a number around 25% or very bad.

The CBRT looks to have rather boxed itself in on an increase in interest-rates to 15% next week. But whilst it may provide some currency support for a time these are Catch-22 style moves. Because such an interest-rate will provide yet another brake to the domestic economy just at a time it can least afford it. After all whilst a vaccine provides hope for the return of mass tourism in the summer of 2021 that is a while away and is still just a hope, albeit a welcome one. Then there is the vaccine hopium of this week as we mull how much of this week’s Lira rise was due to it?



9 thoughts on “Will the rally in the Turkish Lira last?

  1. Hello Shaun,

    re “Will the rally in the Turkish Lira last?”

    well probably not , Turkey has more endimic issues such as the wars it backs .

    Thus a politcal solution to economic woes is needed but with the current leadership this does not bode well ….


  2. Great blog as usual, Shaun.
    I wanted to correct myself on another topic, the US C-CPI-U or chained CPI. I apologize for commenting off-topic, but wanted to post this before you or someone else might start quoting the earlier estimate. Neither the CPI-U, the CPI for All Urban Consumers, nor the CPI-W, the CPI for All Urban Wage Earners and Clerical Workers, is revised but the chained CPI is. So, for example, the initial January 2003 estimate published in February 2003 would not be finalized until the publication of initial January 2005 estimates in February 2005. This 24-month revision period is of course an annoyance for users, but it does allow the US BLS to clean up their calculations. Indexes with bi-monthly pricing with the previous month’s price carried over in the non-pricing month in the CPI-U can have their prices interpolated based on the previous and subsequent pricing month. So the differences between CPI-U and chained CPI inflation rates are (very slightly) impacted by such revisions, and don’t completely reflect a measure of upper level substitution bias.
    That being said, if one looks at the average annualized inflation rate for December 2013 to December 2018, a period using only revised chained CPI estimates, the chained CPI had an annualized inflation rate of 1.20%, versus 1.48% for the CPI-U and 1.33% for the CPI-W. This implies a bias estimate of 0.28% for the CPI-U, due to its failure to correct for upper level substitution bias. Of course, the difference between the chained CPI and the CPI-W also reflects a difference in the target populations, but here again the chained CPI shows a lower rate of inflation, by 0.13% annualized.
    Given that the chained CPI is based on monthly links with expenditure weights for, say the October 2020 monthly price change ultimately calculated based on September 2020 and October 2020 expenditure data from the US Consumer Expenditure Survey it is hard to see how the proposal by Democratic presidential candidate Joe Biden to replace CPI-W for upratings of Social Security by an experimental an experimental price index for Americans 62 years of age or older, the CPI-E, could be amended to calculate a chained CPI-E, with monthly linking. The much smaller number of elderly people in the CES just don’t allow for reliable weights over two months. Still, one certainly could calculate a chained CPI-E with annual linking rather than monthly linking, still reliant on the chained CPI’s Törnqvist formula. To my mind, if it were desirable to have upratings of any transfer payments based on the elderly population, a chained CPI-E with annual links would be more than adequate.

    • Hi Andrew and thank you

      Presumably the chained CPI-E proposal is to reflect the feelings of the elderly that inflation is higher for them. Do you think it would give a higher number than the ordinary CPI-U?

      These things can have their quirks as CPI-U showed a decent drop this month for the medical section. That provided some food for thought and of course medical workers have better things to do right now than fill in inflation surveys.

      • Thank you for your reply, Shaun. The CPI-E annualized inflation rate over the comparable December 2013 to December 2018 period is 1.76%, so quite a bit higher than the CPI-U or the CPI-W. If you look at the most recent month available, the annual inflation rates are CPI-U 1.2%, CPI-W 1.3%, CPI-E 1.3% and chained CPI 0.9%. So the difference between inflation rates for the CPI-U and CPI-E has largely disappeared and the difference between inflation rates for CPI-W, which is actually used for upratings of Social Security, and CPI-E has disappeared. The chained CPI continues to show a much lower and more defensible inflation rate.

  3. Shaun, I noticed after I left my comment that Steve Hanke has written something new about the Turkish economy in the National Review and he was interviewed by David Lin on Kitco. He makes it a little more clear why he recommends a currency board linked to gold rather than the dollar. According to him, the Turks are in love with gold, and a link to the dollar (or presumably the euro) puts Turkey more at risk from economic pressures directed against it by the US (or presumably the EU). As Forbin noted the current Turkish leadership is disturbingly bellicose. The gold market doesn’t care.

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