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Turkish Lira Plunges Further; Erdogan Fails to Assuage Investors

Posted by hkarner - 14. August 2018

Date: 13-08-2018
Source: The Wall Street Journal

Lira falls as much as 10%, shaking emerging markets world-wide

Turkey’s currency plunged again Monday, rattling other vulnerable emerging markets, as a defiant speech from President Recep Tayyip Erdogan and policy moves from the nation’s central bank failed to assuage investors about the country’s perilous financial condition.

The lira fell as much as 10% in early Monday trading to as low as 7.131 against the U.S. dollar, according to FactSet. It later pared some of the losses but President Erdogan’s fiery tone hit the currency again, leaving it down 6.95% lower at 6.91 against the dollar.

The lira is down more than 40% this year, battered by concerns about the NATO member’s political and economic stability and a continuing trade spat with the U.S.

“We will not retreat from our position,” Mr. Erdogan told a conference in Ankara, adding Turkey wouldn’t allow the U.S. “to lay its hands on achievements we gained at the cost of blood.”

As part of a plan announced earlier Monday, Turkish authorities made efforts to boost liquidity in the market, lowering the amount of reserves local lenders must park with the central bank. The move should help inject about 10 billion liras, $6 billion and $3 billion equivalent of gold into the financial system, the central bank said.

But analysts said the measures won’t have any direct impact on the lira because it doesn’t ease a core concern—the hefty debt exposure of Turkish banks and corporations—and warned the central bank has limited reserves of its own to weather the storm.
“The lira is in a free fall and the measures announced so far simply aren’t enough,” said Kevin Daly, portfolio manager for emerging market debt at Aberdeen Standard Investments. “It’s fueling the negative sentiment and the disappointment among investors.”

Other emerging markets, such as Indonesia and South Africa that are also heavily reliant on foreign investors, also were rattled. Shares fell across Asia and Europe, while U.S. stock markets opened slightly higher. The turmoil hit southern European government bonds, with the 10-year Italian yield rising above 3%, its highest in two months.

“This is a very Turkey-specific issue, however general risk aversion will cause… nervous investors to hedge positions or outright sell in other emerging markets, for fear that there could be contagion,” said Sacha Tihanyi, deputy head of emerging markets strategy at TD Securities in New York.

The South African rand fell to a nearly two-year low against the dollar, sliding as much as 9.2%, though the falls moderated later in the day. The Chinese yuan neared its weakest level in more than a year, hitting 6.8911 to a dollar in Hong Kong. Investors flocked to safe-haven currencies, with the Swiss franc and the Japanese yen gaining against the euro.

Turkey has become a primary cause for concerns on global financial markets in recent weeks, as tumultuous domestic politics have paired with a cocktail of economic vulnerabilities including high levels of foreign-currency debt, a current-account deficit and rising borrowing costs. As one of the world’s largest oil importers, Turkey is also vulnerable to rising energy prices.

In addition, the country is in the midst of an escalating dispute with its core military ally, the U.S., over the fate of an American pastor. The White House has vowed to pile pressure on Ankara until the pastor, Andrew Brunson, who faces terrorism charges and up to 35 years in prison in Turkey, is on a plane to the U.S.

Mr. Erdogan has blamed the drop in the lira on what he calls “an economic war waged against Turkey.”

On Monday, Turkey’s Interior Ministry said it has taken legal actions against owners of 346 social media accounts it accused of having expressed views that harmed the lira, according to state-run Anadolu Agency.

Some people “are conducting economic terrorism on social media,” Mr. Erdogan said at the Ankara conference. “This is treason.”

Meanwhile, investors say more needs to be done to stem the crisis, and fast.

The actions by Turkish authorities so far “leave us with more questions than answers,” said Claudia Calich, fund manager at M&G Investments. “As long as Erdogan continues to be defiant, that’s the wrong message to send to markets.”

Aberdeen’s Mr. Daly said that the currency would continue to weaken without a significant interest hike by the central bank and a detente with the U.S. For now, he is short the lira, or betting against it.

“You have to be a very brave man to step in front of this train,” Mr. Daly said.

Investors on Monday also sold Turkey’s debt, pushing the yield on two-year government bonds to 25.15% while the stock benchmark BIST 100 shed around 4%.

The Turkey crisis comes as emerging markets are already under strain from rising U.S. interest rates, which increases the cost of borrowing in dollars and often cause a rally in the greenback at the same time. The WSJ Dollar Index, which measures the currency against a basket of 16 others, rose 0.3% Monday after its largest one-week point and percentage gain since late 2016.

“It’s not an easy environment for emerging markets with shakier fundamentals. Those countries that didn’t fix their roofs while the sun was shining will now see water pouring down their house,” Ms. Calich said.

“Years of easy U.S. monetary policy meant years of cheap liquidity flooding to emerging markets,” said Trinh Nguyen, senior economist for emerging Asia at Natixis. “The entry is gradual, but the exit can be violent.”

The International Monetary Fund attributes about $260 billion in portfolio investment in emerging markets since 2010 to the Federal Reserve’s monetary policy. In its latest global financial stability report, the IMF suggested continuing U.S. tightening would reduce inflows to emerging markets by about $35 billion a year.

However, Turkey is especially vulnerable because of its hoard of hard-currency debts, which becomes harder to repay as the lira depreciates. Investors are also concerned about the central bank’s ability to react, for example by raising interest rates, given President Erdogan has put in place measures that could curb its independence.

Executives from multinationals have watched the carnage in Turkey. While a relatively small economy, Turkey has long been an attractive emerging market for everything from factory machinery to consumer goods. The economic headwinds have already taken their toll in some sectors.

Exports of German machinery to Turkey dropped 4.7% in the period from January to May this year, the German Mechanical Engineering Sector Association, the lobby organization for one of Germany’s largest export sectors, said in a written statement Monday.

“The negative development should continue over the coming months,” the association said, citing the recent sharp fall in the lira’s exchange rate against the euro. Turkey is the world’s 12th largest market for mechanical engineering and plant automation, worth some €29 billion, the organization said.

Unlike Turkey, other developing nations like China and India—the biggest emerging economies—are relatively less dependent on foreign debt. And some central banks have raised borrowing costs aggressively: Bank Indonesia, for example, has boosted benchmark rates by 1 percentage point in recent months to restrain the rupiah’s slide.

Ms. Nguyen said that Turkey’s reluctance to raise interest rates stood out. “It’s not that emerging markets elsewhere aren’t impacted, but authorities are willing to react to currency slides, to signal that they will continue to react in the future.”

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