Fragility and Turkey

Turkish lira Turkey has hiked interest rates to try to support its currency

As the Fed prepares to meet for the first time under new chair Janet Yellen, how will emerging economies fare? Developing countries such as Turkey have held emergency meetings and raised key interest rates to retain and attract money as the US central bank continues to cut back its cash injections.

UK Chancellor George Osborne says that it's wrong for emerging economies to lay the blame for their woes on Western monetary policy. However, in an exclusive interview Turkey's Finance Minister Mehmet Simsek told me: "Speaking up and saying that emerging markets are themselves to blame…. such comments [are] of course not really helpful, that's all I can say; it wasn't so when developed markets were in trouble."

Backing up for a moment, what a difference a year makes. Just last spring, Turkey was upgraded to investment grade and saw its borrowing costs plummet. Turkey's middle class was growing rapidly as the government had finally tamed the high inflation of the prior decades.

A decade ago, inflation was 120%. With one of the largest and youngest populations in Europe, the country was attractive to investors who eyed its medium-term growth potential as they sought places to put their money after the US sub-prime and euro crises raged on.

Last May, Turkey paid off its last loan owed to the International Monetary Fund (IMF) and was to become a creditor to the IMF for the first time after 52 years of being a debtor. A week later, US Federal Reserve chairman Ben Bernanke mentioned tapering, or cutting back on cash injections. Since then, Turkey's stock market has lost a quarter of its value and its currency, the lira, has been at record lows against the US dollar and the euro.

Turkey has been included in a group of counties dubbed the Fragile Five, alongside India, Indonesia, South Africa and Brazil. The country has some traits which make it particularly vulnerable to "sudden stops" in short-term capital, often termed "hot money".

In some ways, Turkey is the most fragile of this set of emerging economies that could be derailed by the end of the era of cheap money as it has the largest current account deficit and the highest proportion of debt owed to foreigners.

First, it has a significant current account deficit, the widest definition of trade that includes investment flows. As a share of GDP, it is around 7%, although it remains below the record 10% reached in 2011. Anything over 6% is considered to be too large.

Turkey also owes a sizeable amount to overseas creditors. Even though its government debt is relatively low at around 35% of GDP, private debt has grown rapidly, particularly that owed to foreigners. External debt is equivalent to half of GDP. Crossing the 50% level is considered to be risky.

Thirdly, the duration of the debt and thus the pressure on repayment also matters. Since 2008, short-term external debt has nearly doubled to reach around 21% of GDP.

Mehmet Simsek Finance Minister Mehmet Simsek says Turkey has a better budgetary position than other emerging economies

As the lira weakens, it makes it more expensive to service debt owed in foreign currencies, such as the dollar or euro. Ahead of the last Fed meeting, the Turkish central bank raised its key interest rate to 10%, more than doubling it in order to try to keep investment in the country and support its currency. With another Fed meeting looming, the US central bank is likely to continue to withdraw cash from the US economy, which could lead to more volatility in emerging markets, particularly the fragile ones.

The problems occur despite Turkey having good growth potential over the medium-term, a position which Turkey shares with the other emerging economies. And as Finance Minister Mehmet Simsek told me, Turkey has a better budgetary position and a fiscal and monetary framework that has led to inflation dropping substantially in the past decade. Though still high, it's slowed to 7%.

But, the trouble with relying on short-term cash is that if it leaves, then a country can experience a liquidity crisis even if it has good longer growth prospects and can pay its way over the longer term. So, growth potential doesn't matter as much if a country owes a lot of foreign debt; instead, retaining the confidence of investors matters. And that confidence depends on a number of factors, including what the Fed does and how ready a country is for the end of the era of cheap money.

Turkey's last crisis was in the aftermath of the Asian financial crisis of 1997-98 when investors pulled their money from emerging economies not just in Asia but also in Russia, Latin America, and Turkey. A similar loss of confidence could leave private firms unable to service their debts, particularly that which is owed to foreign creditors. It's never easy to say, but that could mean bankruptcies, default and possibly another financial crisis.

This time, there is also political turmoil as the government faces corruption allegations. The worry for Turkey is that if the economic fundamentals don't cause investors to lose confidence, then could the political crisis tip the balance? Either way, a crisis in one of the largest emerging economies could be the trigger that sets off another leg of weakness in the global economy or worse.

Linda Yueh Article written by Linda Yueh Linda Yueh Chief business correspondent

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  • rate this

    Comment number 13.

    I think it is ironic that the powers that be assume to have all the answers. With all the knowledge and experience, how was it that the mighty European Union allowed a country like Greece to join the Euro?
    Turkey pays off its debt to the IMF and becomes a creditor but then America puts the spanner in as it always does to as if to say "Turkey, your doing good but don't get ahead of yourself".

  • rate this

    Comment number 12.

    Corruption in Turkey???

    You find me an honest estate agent, an honest solicitor, an honest politician then I might believe it.

  • rate this

    Comment number 11.

    Turkey's current increasingly autocratic, corrupt and greedy government, attempting to hide their deceipt under a cloak of religion, need to take some responsibility for this also. The country looks to be in trouble. It cannot all be laid at the feet of foreign investors as convenient as this is for the government to do.

  • rate this

    Comment number 10.

    'hot' money doesn't cool off slowly, it erupts into flames and can badly burn the unfortunate holder.
    US QE ..... an unstable white hot 'pass the parcel' which is being thrown around the world.
    when the music stops, the parcel sure won't be held by the USA.

  • rate this

    Comment number 9.

    At any one point in time commentators can only consider what they are able to see, change the factors, you change the expectations and the predictions.
    I cannot understand the present love affair with debt. Borrowing only ever works if the borrower has resources already, otherwise you simply become a hostage to fortune.
    The factors and debt have changed, so have the predictions.

  • rate this

    Comment number 8.

    Dear Turkey,

    Its a big club...and you ain't in it.


    PS. (hugs xx)

  • rate this

    Comment number 7.

    6. sorrysorryandsorry

    'Turkey? Where is my turkey?'

    Voted for Xmas. Got stuffed. 3 days before Turkish Central Bank put interest rates up to double figures it was widely reported would happen. Theres load of money just moving from one bunch of countries to another in turn destablising as it goes seeking max safe haven & return. Its going to keep slopping. Something in a China shop at some stage

  • rate this

    Comment number 6.

    Turkey? Where is my turkey?

  • rate this

    Comment number 5.

    Seeking out exports and imports, except where related to raw materials or food lacked at home, is always a bad idea; more productive to keep it all within a single government jurisdiction where it has a chance of being reasonably managed. d

  • rate this

    Comment number 4.

    Massive massive debt. It will get everyone in the end.

  • rate this

    Comment number 3.

    Any country that borrows in foreign currencies is vulnerable to these changes.

    Only those who borrow in their own currency are (relatively) safe.

  • rate this

    Comment number 2.

    1. Arthur Daley

    You are quite right. Strange that so many in the West are always so keen to big up these two bit economies right up till the day they tank.

    We`ve had South America then the Brics then the Mints. As you say the Celtic tiger is now a toothless kitten. India and Brazil are going nowhere and China is about to implode.

  • rate this

    Comment number 1.

    Only 2 1/2 mths ago various - inc - BBC were shouting

    'The Mint countries: Next economic giants?'

    Turkey, the T in Mint is already in trouble. Just about sums up the capability of economists, you coudnt do anything serious based on their opinion. The Mints are just the last of a number of comic book economies which included the Celtic Tiger, now a rug



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