Turkish Current Account Recovery Exposes Deficit of Trust

Analysts are questioning whether the improvement in Turkey’s current-account deficit is sustainable as mounting export risks and prospects for rising imports highlight a key financial vulnerability.

The shortfall narrowed to $3.4 billion in May, according to data published by the central bank today. That took the gap to $19.8 billion in the first five months, down 39 percent from the same period last year. While Turkey’s two-year note yields have posted the second-biggest decline in emerging markets in 2014, analysts including Philippe Dauba-Pantanacce at Standard Chartered Plc say investors aren’t counting on the deficit to keep dropping.

While the central bank is entering a rate-cutting cycle that may boost domestic demand, fighting in neighboring Iraq and a euro-region recovery facing new financial shocks are threatening prospects for exports to Turkey’s biggest markets. The current account is the nation’s “Achilles’ heel,” and improvement may prove “temporary,” Dauba-Pantanacce said.

“A softening of European demand combined with steep headwinds for exports via land on the southern borders might dent the successful export story,” he said by e-mail yesterday. “On the import side, Turkey remains vulnerable to any pickup in domestic demand.”

Financial Stress

The lira reversed losses, gaining 0.2 percent to 2.1197 per dollar at 5:19 p.m. in Istanbul today. Currencies declined across emerging Europe yesterday amid signs of financial stress in Portugal. Turkey’s two-year yields fell seven basis points to 8.28 percent.

The central bank in Ankara has cut its benchmark one-week repurchase rate by a cumulative 125 basis points in its last two meetings, to 8.75 percent on June 24, to spur the economy. Policy makers will probably lower the rate by another 50 basis points next week, according to the median estimate in a Bloomberg survey.

The anticipation of lower borrowing costs has fueled foreign bond buying for the past six weeks and pulled yields 175 basis points lower this year. While the longest run of bond inflows since May 2013 has helped fund the shortfall in Turkey’s balance of payments, it’s doing little to reduce longer-term risks, according to Stanislava Pravdova at Danske Bank AS in Copenhangen.

“The deficit is mostly funded by short-term-capital, which keeps Turkey very vulnerable to external shocks,” Pravdova, an emerging-market analyst, said by e-mail yesterday. “The current-account deficit will continue to be unsustainable in the coming years.”

Deficit Outlook

The deficit will probably narrow to 6 percent of gross domestic product this year and remain at that level in 2015, according to Bloomberg surveys of economists. That’s down from 8 percent last year and 9.7 percent in 2011, when Turkey had the largest deficit in dollar terms worldwide after the U.S.

Exports to Iraq, Turkey’s biggest market after Germany, slid 21 percent in June from a year earlier, the Turkish Exporters Assembly said July 1. Militants calling themselves the Islamic State seized large swathes of northern Iraq after capturing the city of Mosul last month.

“May should be another reasonable month -- certainly that’s what policy makers hinted a while ago -- but the deficit will widen out in the second half of the year,” said Nigel Rendell, a senior emerging-market analyst at Medley Global Advisors in London. “Lower interest rates will boost domestic demand and imports, and for as long as the current problems in Iraq continue, Turkish exports will struggle.”

Before it's here, it's on the Bloomberg Terminal.