Mark Bentley
Jun 16 2018

Turkey needs IMF loans after investor confidence undercut

Turkey should follow Argentina and hold talks with the International Monetary Fund on a new loan accord because investors no longer have confidence in economic policy.

The IMF, which last sponsored Turkey a decade ago, may already be gearing up to provide the country with assistance after the lira slumped to a record low against the dollar in May. The latest sell-off was prompted by comments in London by President Recep Tayyip Erdoğan, who spooked investors by saying that he would take more control of monetary policy and cut interest rates after elections on June 24.

“The IMF is an anchor and the country needs a confidence boost,” said Tim Ash, senior emerging markets strategist at Blue Bay Asset Management in London. “He (Erdoğan) damaged confidence so badly in London.”

Since Erdoğan spoke on May 14, Turkey’s central bank has raised interest rates by a total of 425 basis points to 17.75 percent, the highest level in major emerging markets outside of Argentina, which agreed a $50 billion standby deal with the IMF on June 7. But the rates action, though welcomed by markets, has failed to stop the rot in Turkey’s financial markets as investors fretted over what might be in store for economic policy following next week’s presidential and parliamentary elections.

The lira more than 5 percent to 4.73 per dollar last week. It now trades close to a record low of 4.92 reached on May 23, when monetary policymakers met for an emergency meeting to hike rates by 300 basis points to stem a growing currency crisis. The troubled currency had then risen to as high as 4.441 to the dollar on May 30 and traded at 4.451 on June 7, when the central bank carried out a second rate hike of 125 basis points.

Investor concern about Turkey has grown after Erdoğan threatened sanctions against ratings agency Moody’s this week for “defaming” the country and his senior economic adviser, Cemil Ertem, said high growth rates in Turkey, spurred by government stimulus, were not stoking inflation, which accelerated to 12.2 percent in May from 10.9 percent in April.

In March, Moody’s had cut Turkey’s debt rating further into junk territory, warning that plans by Erdoğan to introduce a full presidential system of government after the elections would further erode checks and balances and make economic policy more difficult to predict. The government has rubbished the claims, calling them a deliberate attempt to sabotage the economy.

The slide in the lira, the main barometer of confidence in the country, is exposing the economy’s Achilles heel -- $226.8 billion in unhedged, short-term foreign currency debt owed by Turkey-based corporates. As the lira weakens, so does the ability of those firms to repay the loans.

Godiva
Yildiz Holding, which owns Godiva chocolates, restructured $5.5 billion in debt

Several major corporations, including Yildiz Holding, the maker of Godiva chocolates, have already applied to local banks to renegotiate the terms of billions of dollars in borrowing. Troubled debts at larger firms may be just the tip of the iceberg because smaller businesses don’t report such plans. Turkish banks’ earnings for the first quarter, released during April and May, showed a surge in such risky lending. Restructured loans at Akbank, one of the country’s biggest banks, almost tripled to 22.3 billion liras ($4.7 billion), or almost 10 percent of total.

“The key is the short-term debt,” Ash said. “If anything’s endangered there, then they’ll have to go to the IMF anyway.”

Exacerbating concern about the borrowing is the central bank’s dwindling foreign currency reserves. Shrinking foreign investment and portfolio inflows mean that the bank has been forced to spend the cash on funding the country’s gaping current account deficit, which reached 6.5 percent of gross domestic product in April. Its net foreign exchange reserves now total just $26 billion, limiting its ability to funnel cash to banks in the event of extreme stress. The IMF money would help strengthen the central bank’s hand.

Inan Demir, an economist at Nomura in London, said an IMF programme wasn’t essential for Turkey at present. An agreement, however, could be used to boost the central bank’s reserves, swiftly carry out structural reforms and to install outside experts in Turkey’s economic institutions, he said.

“More important would be the confidence that the IMF-backed policies would instill,” Demir said. An opposition win in next week’s presidential and parliamentary elections might render an accord less likely, because it would provide a boost to investor sentiment, he said.

Opinion polls show that Erdoğan’s Justice and Development Party (AKP) could lose its legislative majority to an alliance of opposition groups led by the Republican People’s Party (CHP). Muharrem Ince, the CHP’s presidential candidate, is set to face Erdoğan in a run-off for the presidency on July 8, according to the surveys.

Higher interest rates in Turkey are also exacerbating problems for the overall economy, which grew 7.4 percent in the first quarter of the year, the fastest rate in the 34-member OECD group of industrialised nations.

The rate increases are expected to slow economic growth markedly, causing a likely contraction in the third quarter, as banks pass on the higher borrowing costs to clients, producing a lira-dollar, double-whammy for consumers and businesses seeking to pay down their debts and remain solvent. A small business loan of 250,000 liras over three years from Garanti Bank, one of the country’s biggest listed lenders, now costs 1.73 percent monthly, according to hangikredi.com. a web-based broker that claims to offer the cheapest deals to consumers.

In its annual report at the end of April, the IMF warned that government stimulus meant Turkey’s economy was overheating and risked a hard landing.

In his regular column for Milliyet newspaper on Thursday, Ertem characterised warnings about Turkey’s swelling corporate debt mountain, which amounts to about 30 percent of GDP, as “black propaganda” that resembled terrorism. There is not even the slightest sign of a debt crisis in Turkey, he said.

One analyst with contacts at the IMF said he’d “be surprised if preparations weren’t being made in DC” for a loan agreement for Turkey. He spoke on condition of anonymity.