EBRD sees smaller Turkish contraction, warns of economic fragility

Turkey’s economy is expected to contract by 0.2 percent this year, less than previously thought, after the global backdrop became more supportive and the lira stabilised, the European Bank for Reconstruction and Development said.

The EBRD revised up its forecast from a contraction of 1 percent predicted in May, according to a regional report published on Wednesday.

“There has been a significant improvement in macroeconomic stability,” the EBRD said, citing improvements in the current account, which posted a small surplus in the middle of this year compared with a large deficit in 2018.

“This adjustment, combined with a supportive global backdrop as central banks in advanced economies moved into easing mode, and the failure of several geopolitical concerns to materialise, helped bring some stability to the lira.”

Turkey’s economy is recovering gradually from a deep downturn sparked by a currency crisis that erupted in the summer of 2018. The turmoil was sparked by a diplomatic crisis with the United States over the detention of a U.S. pastor, which led to economic sanctions. Political tensions between the two NATO partners have persisted this year over Ankara’s purchase of Russian S-400 air defence missiles and its military incursion into northern Syria last month.

The EBRD said its economic growth forecast for next year remained unchanged at 2.5 percent, but risks were skewed to the downside.

“Significant uncertainty remains around this forecast,” the EBRD said. “The response to Turkey’s recent incursion into Syria serves as a reminder that geopolitical tensions are never far from the surface.

“With reserves remaining low and external financing requirements still high, despite the current-account rebalancing, such tensions can have a significant impact on the economy.”

Turkey was the only economy among 37 covered by the EBRD report to contract in the first half of this year, shrinking by an annual 1.9 percent.

The EBRD said that Turkey’s central bank, which has cut interest rates by 1,000 basis points, or 10 percentage points, to 14 percent since August, should act more prudently in order to prevent a resurgence of inflation, which slowed to 8.6 percent in October.

“It (the central bank) needs to moderate the pace of future rate cuts,” the EBRD said.

Government measures such as revenue guarantees for state-run enterprises and credit guarantees for businesses could impact the budget, the EBRD said. It noted that Turkey has relaxed its budget goals, foreseeing a budget deficit for 2019 and 2020 of 2.9 percent of GDP, significantly higher than a previous forecast of 1.8 percent.

The European bank also called on the government to implement a more wide-ranging response to deal with a growing pile of bad debt in the banking industry.