Mark Bentley
Jan 12 2018

2018: It’s all about Erdoğan

While analysts may crunch numbers to predict how the Turkish economy will fair in 2018, the only thing that really matters is Turkey’s president, Recep Tayyip Erdoğan.

Erdoğan represents the great unknown when it comes to all matters related to Turkey, and, for the past five years or so, the biggest risk factor for investors.

The country has not changed much otherwise and its frailties, which include high inflation and over-reliance on imports and foreign capital, have, to a greater or lesser extent, existed for decades.

As have Turkey’s strengths; a vibrant entrepreneurial spirit, a young and fast-growing population and strategic location between Europe and the Middle East. On the face of it, it is an attractive place to put your money.

But Erdoğan hit the headlines for Turkey again last week, and once more for all the wrong reasons.

TV channels across the globe carried footage of his tirade against a French journalist, who dared to ask him a question at a Paris news conference about the alleged arming of Islamist militants in Syria by Turkish intelligence.
 

Erdogan Paris
Erdogan speaks to reporters in Paris

The president’s response, in which he accused Laurent Richard, the founder of Freedom Voices Network, of talking like a member of a banned Islamist group and berated the United States for sending arms to Kurdish militants, was shocking even for veteran observers of Turkey. This was not Ankara or Istanbul. It was Paris.

While some analysts stuck to the old adage that Erdoğan’s words should be ignored because they were directed at the Turkish voter and elections are due this year, his tirade is part of a pattern of behaviour that is causing more and more harm to Turkey’s image abroad.

Despite a call for a reset in relations with the European Union, Turkey’s biggest trading partner and source of foreign investment, Erdoğan is doing little of substance to put relations back on track, save for ordering a few airbuses from French President Emmanuel Macron. The EU is asking the Turkish president to reinvigorate democratic reform and stick to the rule of law to further economic and political ties. But he is not interested.

When it comes to the United States, the outlook is equally bleak. Erdoğan’s tirades against Washington are intensifying, suggesting that a crisis in diplomatic relations shows no sign of dissipating.

On Thursday, Erdoğan upped the political ante, saying he would no longer hand over any persons wanted by the United States on terrorism charges, which presumably includes militants belonging to the Islamic State. The United States, he said, was no longer a reliable ally, pointing to its support of a Kurdish group in northern Syria and its harbouring of Fethullah Gülen, an Islamic preacher accused of masterminded the 2016 coup attempt.

As Tim Ash, senior emerging markets strategist at BlueBay Asset Management in London, put it, Erdoğan’s rhetoric suggests a very confrontational approach that might be aimed at the domestic Turkish audience, but resonates badly in the United States and beyond.

Erdoğan’s belligerence also suggests that he has no intention of backing down over another point of contention between Washington and Ankara, namely the alleged complicity of senior Turkish banking officials and ex-ministers in a scheme to break sanctions on Iran.

A U.S. jury’s guilty verdict this month against Mehmet Hakan Atilla, deputy CEO of state-run Halkbank -- characterised by Erdoğan as a plot against Turkey -- is likely to prompt the U.S. Treasury to impose financial penalties against Halkbank and possibly other Turkish lenders.

Analysts have warned that Halkbank and Turkish authorities need to accept any wrongdoing and take steps to ensure future compliance with the U.S. sanctions regime. Failure to do so would risk greater financial penalties and, ultimately, the blacklisting of Turkish banks and, possibly, senior government officials, including Erdoğan himself.

So, in light of the steadily increasing political tensions between Erdoğan and both Washington and Brussels, it comes as no surprise that investors are shying away from investing in Turkey.

But Turkey needs foreign capital to help finance its burgeoning current account deficit, exacerbated by the country’s over-reliance on imports.

Data shows that, post-financial crisis, Turkey has performed relatively badly in this regard. In 2016, it attracted $12.3 billion in FDI compared with $19.7 billion in 2008. Figures for the first nine months of last year show a decline of 19 percent on the same period of 2016 to $7.3 billion.

FDI

While FDI flows to emerging markets are in overall decline since 2008, comparable economies in the G20 group of industrial nations, namely India, Russia and South Korea, have performed better than Turkey. Investment in India has remained relatively stable, as have inflows into Russia.

Foreign capital flows to South Korea have been on an upward trend since 2008.

Korea

While the attempted coup and the threat of terrorism may be partly to blame for Turkey’s underperformance, the effect of diplomatic tensions and Erdoğan’s battles with the country’s traditional Western allies, cannot be underestimated and show little sign of coming to an end.

Combined with double-digit inflation (Erdoğan is preventing the central bank from raising interest rates to deal with it) and an ongoing crackdown against his political opponents - a Kurdish party has been virtually banned from parliament and the country’s main opposition leader faces possible criminal charges - the outlook for Turkey in 2018 is a grim one indeed.