Turkey is spiraling into a deep economic crisis as foreign exchange reserves collapse and capital flight overwhelms the regime of President Recep Tayyip Erdoğan, the Telegraph daily reported on Friday.
The central bank drove the overnight offshore swap rate above 1,300 percent in a drastic attempt to defend the lira before local elections this weekend, but the currency continued to slide. It has lost 40 percent of its value over the last year.
The weak lira is causing a ferocious squeeze for banks and companies that pushed Turkey’s external liabilities to $234 billion during the boom years when dollar liquidity was cheap and abundant. Roughly $150 billion of this is short-term debt that must be repaid or refinanced within 12 months.
The net reserves of the central bank have shriveled to $26 billion. This leaves a dangerous mismatch that is now being tested by markets.
William Jackson from Capital Economics said Turkey has the thinnest reserve cover in the emerging market universe. The ratio of short-term foreign debt to net reserves is at untenable levels near 500 percent.
Banks face a mountain of repayments in April, May and June. The cost of market refinancing has risen by 200 basis points over the last week alone. “It may prove prohibitively expensive for some banks to roll over their debts,” he said.
The worry is that banks will have to sell foreign currency assets and shrink their balance sheets, leading to a credit crunch.
UniCredit is forecasting economic contraction of 5 percent this year, precipitating a geopolitical crisis and ultimately a rescue by the International Monetary Fund (IMF). Credit default swaps measuring bankruptcy risk for Turkish state debt have spiked 150 basis points to 454 over the last week.
The storm in Turkey ought to be a self-contained crisis. Instead contagion has spread to the most vulnerable tier of emerging markets (EM), regardless of geography. The Argentine peso, the Brazilian real and the South African rand have all weakened in sympathy.
Turkey has a long list of problems. President Erdoğan has blamed the crisis on foreign speculators, accusing mysterious forces of driving up the price of eggplant, tomatoes and cucumbers to sway the elections. Per Hammarlund from SEB said the reality is that Turkish citizens themselves are scrambling for dollars.
Tim Ash from BlueBay Asset Management said Ankara’s crude actions in the swap markets have made it hard for foreign companies to hedge investments in Turkey. “This is an extreme move to prop up the lira in the short term but which will have extremely negative consequences over the longer term. They can get out of this hole themselves but they better stop digging pretty soon,” he said.