Turkish lira weakens past 7 per dollar, threatening revival of turmoil

Turkey’s lira dropped briefly beyond 7 per dollar on Thursday in a downward move that may signal a revival of economic instability in Turkey.

The lira dropped to as low as 7.0049 per dollar. It was down 0.1 percent at 6.9875 against the U.S. currency at 10:36 a.m. in Istanbul local time.

Turkey, which suffered a currency crisis in 2018, is seeking to keep interest rates at below the rate of inflation to help stimulate economic growth and pull the economy out of a latest downturn sparked by the COVID-19 outbreak. The lira hit a record low of 7.269 per dollar in early May, prompting the government to do a deal with regional ally Qatar for $10 billion in currency swaps.

Turkey’s attempt to prevent the lira from sliding “risks pushing the country into a financial and balance of payments crisis,” the editorial board of the Financial Times said in an op-ed on Wednesday.

The Turkish central bank has sold tens of billions of dollars of its foreign reserves this year to help stabilise the lira. State-run banks have been forced to step in to short the dollar as the central bank’s reserves fell into negative territory, when subtracting its foreign currency liabilities.

Central Bank Governor Murat Uysal said on Wednesday that the central bank’s monetary policy was sound and in line with slowing inflation. But he revised up the bank’s year-end inflation forecast to 8.9 percent from a previous 7.4 percent. Consumer price inflation in the country stands at 12.6 percent compared with central bank’s benchmark interest rate of 8.25 percent.

Uysal’s predecessor Murat Çetinkaya was sacked by President Recep Tayyip Erdoğan last July for failing to support the government’s pro-growth economic policies. Çetinkaya had raised interest rates following the currency crisis in August 2018 and kept them steady at 24 percent to stabilise the lira and economy.

The central bank had defended the lira for weeks in June and July at around 6.85 per dollar only for it to start weakening again on Monday. It had set up a previous defence at 7 per dollar in April before it failed and the lira fell to its all-time low.

Tim Ash, senior emerging markets strategist at BlueBay Asset Management in London, said the Turkish authorities could fix the lira’s problems quite easily by abandoning the low interest rate policy.

“Turkey’s macro policy problems are actually not that deep and the story could turn around quite quickly with a half credible monetary policy stance,” Ash said.

The central bank's ability to raise interest rates is being undercut by politics. Erdoğan says higher interest rates are inflationary, jarring with conventional economic theory that states they can be used to tame price increases.

"Erdoğan's gamble on cheap money and propping up the currency has failed," the FT said. "Turkey's president cannot confound the basic laws of economics."