- Stance on independence key for lira amid reports of overhaul
- Investors keep eye on policy team, AK Party's business feuds
President Recep Tayyip Erdogan and the AK Party are back at the reins in Turkey after a landslide election win, and markets were celebrating on Monday. There are enough road-bumps ahead for the $720 billion economy to suggest the euphoria may not last too long.
Investors welcomed the end of a five-month political standoff, and the return of a government with a track record of maintaining growth, taming inflation and luring global business during 13 years in power. Stocks and the lira enjoyed their best day in years. But there were already signs of anxiety on Tuesday, as the currency dipped on a report that the new government may change the central bank’s mandate to prioritize growth.
The incoming administration takes over in a worse environment than its AK Party predecessors, at home and abroad. Turkey has held four divisive elections in two years, and suffered a wave of violence in recent months. That’s taken a toll on the economy: growth is sputtering, the currency is among the world’s weakest, and consumer confidence is near a six-year low.
There are other challenges that aren’t of Turkey’s making. The last three AK Party governments came to power when the economy was enjoying the global liquidity boom or roaring back from the 2008 crisis. This one will have to engineer a turnaround as emerging markets everywhere nervously wait for the Federal Reserve to start raising interest rates.
As Erdogan and Prime Minister Ahmet Davutoglu seek to get growth back on track, investors will be looking especially hard at the following issues:
Central Bank Independence
Among the causes of lira weakness are the frequent attacks by Turkish leaders -- Erdogan is probably the worst culprit -- on central bank Governor Erdem Basci, pressing for lower interest rates to bolster growth. The criticism has flowed less freely this year, but it hasn’t dried up completely and some analysts say the AK Party’s electoral landslide could rekindle it.
Pro-government daily Sabah reported Tuesday that the new government “plans changes to the structure” of the bank and its monetary policy committee that will increase its focus on “growth and stability,” without giving details or saying where the information came from.
“I have to suspect that we will now have easier policy than would be reasonably expected if the Turkish central bank were genuinely independent,” James Bevan, chief investment officer at CCLA Investment Management Ltd in London, said in a Bloomberg TV interview. “I expect short-term strength in the Turkish lira, but it will be troubled on a three to six-month view.”
There’s also a succession looming at the central bank: Basci’s term is up in April, and some of Erdogan’s economic advisers are reckoned to have less market-friendly views.
Reformers: On the Pitch or On the Bench?
Another personnel question that preoccupies investors is the makeup of the incoming government’s economic team. Earlier this year, there was talk among market types that former Deputy Prime Minister Ali Babacan had fallen out with Erdogan and was destined for exclusion. But the longtime economy czar was unexpectedly invited by Davutoglu to run in the Nov. 1 election.
Babacan and Finance Minister Mehmet Simsek, who’s also back in parliament, are credited by many investors for steering reforms in the AK Party era, and maintaining budget discipline even when growth has been slow -- helping cut the debt burden by more than half since 2002.
Once the post-election relief rally fizzles out, investors will be focusing on whether there’ll be “key places for market bulwarks such as Babacan and Simsek,” Tim Ash, a credit strategist at Nomura International Plc in London, said in an e-mailed note Monday.
Business confidence has been slipping, as revealed by the way private investments have stalled since 2011. MIT’s Daron Acemoglu and Murat Ucer, an Istanbul-based economist at Global Source Partners Inc., argue in a paper that the slump reflects damage to Turkey’s civic institutions and judiciary as the AK Party became “too powerful,” undermining confidence in the rule of law.
Companies seen as unfriendly to the AK Party have been hit by tax probes and even government takeovers, and such episodes became more frequent after the nationwide anti-government protests in 2013, which Erdogan partly blamed on business figures he said were seeking to topple him.
The post-election period will “likely witness further attacks on media outlets and businesses critical of the government,” Naz Masraff, an analyst for the Eurasia Group in London, said in an e-mailed note. “With ongoing obstructions to the rule of law, the business environment will continue to suffer.”
Turkey’s investment-grade rating at Fitch was affirmed in September, while Standard & Poor’s has always considered it junk. That gives Moody’s Investors Service the swing vote, since many funds require the stamp of approval from two out of the big three. Moody’s has Turkey just one step above junk, with a negative outlook -- and it’s due to review the rating Dec. 4.
The AK Party’s election win “reduces political uncertainty in the near term,” Moody’s said on Monday. But, “the impact on the sovereign’s credit quality will depend on the design of the new government’s economic policy strategy to combat low growth, high inflation and volatile capital flows.”