Erdogan Sows Seeds of Lira Weakness on Gulen Vow: Turkey Credit

Turkish Prime Minister Recep Tayyip Erdogan risks upending the lira’s best run in more than a year.

Erdogan’s victory in the March 30 local election spurred the lira to a three-month high yesterday, helping it post a quarterly gain for the first time since 2012. Celebrating his win, the premier vowed to pursue foes he blames for a graft probe that roiled markets and led to cabinet resignations. That pledge prompted analysts at banks including Commerzbank AG and Deutsche Bank AG to predict that the currency rally may be short-lived, with political tensions set to persist.

Erdogan’s threat to pursue opponents adds to “fundamental risks” facing Turkey, including slower economic growth and high inflation, said Thu Lan Nguyen, a currency strategist at Commerzbank in London. The premier’s pledge signals the risk of “renewed escalation of political infighting, in particular, if Erdogan takes drastic measures to fight his opposition,” she said by e-mail yesterday. “This could go as far as seeing again a wave of street protests against unpopular decisions on the part of the government.”

Erdogan’s Justice and Development Party, or AKP, won 46 percent of the vote, according to unofficial results reported by NTV television with 99 percent of ballot boxes counted. The party’s appeal is largely based on economic growth that has averaged more than 5 percent during its 12 years in power.

Emboldened Erdogan

Turkey’s credit risk, measured by five-year credit default swaps, dropped to the lowest level since December yesterday, though it’s still higher than similarly rated Indonesia.

An emboldened Erdogan may be tempted to “overdo the fight” against his opponents, said Wolfango Piccoli, managing director of political risk analyst Teneo Intelligence.

“This means that the high levels of polarization in society and across the political spectrum are unlikely to decrease in the months ahead,” he said in an e-mailed report.

Erdogan’s government has already fired prosecutors and thousands of police officials, saying they were taking orders from U.S.-based cleric Fethullah Gulen. It slapped bans on Twitter and YouTube after a deluge of recordings, some purportedly from police wiretaps, flooded the Internet, calling into question everything from the financial probity of Erdogan’s ministers and family to their religious piety.

Cautious Approach

“We’ll go into their lairs, they’ll pay the price,” Erdogan told cheering supporters in Ankara after most results were in. “Unethical politics has lost today. The politics of cassettes, of montage, of slander and mudslinging.”

The prospect of more unrest is making some investors such as Abdul Kader Hussain, chief executive officer at Mashreq Capital DIFC Ltd., take a “cautious” approach on Turkish assets.

“Unless he starts showing some maturity in the process there will continue to be headline risk which will impact confidence and hence the economy,” Hussain, who manages $800 million, including Turkish debt, said by phone from Dubai.

Economists cut their forecasts for growth this year after the central bank raised interest rates in an emergency meeting in January. Growth will probably slow to 2.25 percent this year from 4 percent in 2013, according to the median estimate of 34 analysts surveyed by Bloomberg.

‘Some Relief’

The AKP’s victory, though, will support domestic demand and this year’s economic outlook, Finance Minister Mehmet Simsek said yesterday.

The win has also led to “some relief among market participants that the current economic policy management and the relatively strong credit story of Turkey will remain intact,” said Sergey Dergachev, who helps oversee about $10 billion in emerging-market debt at Union Investment Privatfonds GmbH in Frankfurt. “Erdogan is viewed by investors as the key man behind Turkey’s successful economic story.”

The lira weakened 0.1 percent to 2.1418 per dollar at 5:04 p.m. in Istanbul after surging the most among emerging markets yesterday. The currency has pared losses since the central bank raised interest rates in January to halt its slide.

The yield on two-year government notes fell 12 basis points to 10.57 percent today after reaching 11.6 percent, the highest in almost five years, on March 24.

While the AKP victory will provide short-term stability, “Erdogan vowing action against Gulen sounds to me like more trouble could be ahead of us,” said Henrik Gullberg, a currency strategist at Deutsche Bank in London.

“Even if he won more votes than generally expected, there is still more than 50 percent who are very much against him.”

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