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May 07 2019

Turkish lira drops as election rerun threatens economic instability

The Turkish lira slid to a seven-month low against the dollar on Tuesday after a decision to rerun an election for Istanbul mayor raised the possibility of more economic and financial instability.

The lira fell as much as 1.5 percent to 6.16 per dollar, adding to losses made late on Monday when the rerun was announced by the nation’s electoral board. The currency has dropped 14 percent this year, adding to a decline of 28 percent in 2018.

The successful challenge by President Recep Tayyip Erdoğan’s ruling party to the March 31 election – won by opposition candidate Ekrem İmamoğlu – comes after a currency crisis last year and during a deep economic downturn. The instability has eroded the central bank’s foreign currency reserves and depleted the capital of the nation’s banks.

Turkey’s central bank may need to raise interest rates from the current 24 percent to prevent further lira weakness, economists say.

“The market really was not expecting this,” Tim Ash, senior strategist at Blue Bay Asset Management in London, said in emailed comments. “I think the view was surely Erdoğan would not want to take such a huge risk at a time when Turkish markets and the economy are so fragile.

“Well he proved that wrong.”

Late last week, Fitch joined other credit ratings agencies in warning of the impact of political tensions on Turkey’s debt profile and financial system. It kept the nation’s sovereign rating at a junk ‘BB’ with a negative outlook.

Turkey’s economy has slid into a recession, prompting the government to increase financial aid to state-run banks and the central bank to use its foreign exchange reserves to prop up the lira. Monetary policymakers now have little more than $25 billion in net reserves available to ensure currency stability.

But Erdoğan and his son-in-law, Treasury and Finance Minister Berat Albayrak, say the economy is recovering from last year’s currency crisis, which saw the lira briefly hit a record low of 7.22 per dollar.

Albayrak said last month any rerun of the Istanbul election would not impact financial markets because the possibility was already priced in.