Aug 16 2018

Turkish lira's rebound may be short-lived

Turkey’s embattled lira is probably still in for a rough ride even after the currency rallied in the past few days.

The lira strengthened this week as Turkish authorities implemented measures designed to arrest its decline and a Turkish judge released two Greek soldiers from jail as the government sought support from Europe in its political and economic battle with the United States over the detention of a U.S. pastor and other Americans.

But looking back in history, quick pollical fixes, such as a measure by Turkish authorities to curb banks’ ability to short the lira, often tend to provide short term relief before losses return within days. 

"Judging by the standards of past FX-economic-political crises, Turkey's three-week old volatility has hardly begun," Thierry Wizman, a strategist for global interest rates and currencies at Macquarie, told CNBC. "An interim rally in a currency that is in crisis (like the one we see today in the TRY) is not unusual."

The lira was gaining for a third day on Thursday after a slump that wiped off 25 percent of its value in August. The political crisis with the United States has only exacerbated concerns about Turkey’s frail economy, where inflation has surged to almost 16 percent and the current account deficit has widened to 6.5 percent of GDP due, in large part, to irresponsible government stimulus.

Turkish lira
The fall and rise of the Turkish lira against the U.S. dollar

Wizman highlighted past crises in emerging markets, such as the 1997 Asian currency turbulence, where IMF help spurred rallies that lasted "merely a few days" because of political volatility, which "created more uncertainty and endured for many months. In any case, trading remained treacherous well into mid-1998”, he said.

“The Turkish lira may move up or down in the short term, but the broader point is that surprise and its bedfellow – volatility — will remain around the corner for another year," Wizman said.

Turkey’s relations with the United States were fraught before the latest crisis over the internment of pastor Andrew Brunson and more than a dozen other Americans, including local consular workers. The two NATO allies have jostled over U.S. support for Kurdish militants in Syria, Turkey’s purchase of Russian defence missiles and the trial of a Turkish banker accused of circumventing sanctions on Iran. Turkish state-run Halkbank is now facing the prospect of billions of dollars in fines by U.S. regulators for its alleged involvement.

On Wednesday, the White House said U.S. sanctions on Turkish steel would remain in place on national security grounds even if Brunson is released. The U.S. government has threatened more measures against Turkey.

Turkish President Recep Tayyip Erdoğan has also picked fights against Russia, Israel and Germany in recent years, raising the concerns of investors who are looking for stable places to put their money.

Erdoğan’s one-man-rule, strengthened after elections on June 24 that heralded a full presidential system for Turkey, now means that Turkish policy is made largely on the whim of the former Istanbul mayor. This unpredictability is a reason ratings agencies cited for downgrading Turkish debt further into junk territory over the past few months, prompting a barrage of criticism from Erdoğan.

Unless Erdoğan comes to his senses soon, the crisis with Washington might get much uglier for investors.

The next tool that Turkey's president might use is capital controls "telling foreign investors that "oops, sorry, they can’t pull their money out of the country after all," said Mark Gongloff, a former managing editor of Fortune.com and an editor for Bloomberg Opinion.

"So far he has not been desperate enough to try this," he said.

(The earlier version of this story was updated with comments in the penultimate and final paragraph).