Turkey's Credibility Problem: Turkish Central Bank Independence and its Geopolitical Consequences

Turkey has a credibility problem and no I am not referring to the country’s tense relations with NATO, but its Central Bank’s independence and macroeconomic mismanagement. As of now the Turkish economy is heading full steam towards a painful balance of payments adjustment. As of this year the Turkish Lira has depreciated by nearly 30%, weakening to nearly one U.S dollar for 8.3 Liras, this comes to a low point from the Liras peak value when one U.S dollar was equivalent to 2.5 Lira. For the past two years the Turkish economy has been battling persistently high inflationary pressures as a weaker currency has made imports far more expensive, and President Recep Tayyip Erdogan has been unwilling to allow interest rates to rise, having sacked the previous Central Bank governor after dissenting.

Furthermore, with his son in law Berat Albayrak leading the Turkish Ministry of Finance, any semblance of independent macroeconomic policymaking has quickly dissipated. Negative real interest rates have hampered domestic investment and increasingly domestic firms and households have reduced their holdings of Lira denominated assets putting downward pressure on the currency.

Typically, Central Banks caught in Turkey’s position seek to shore up their currency by raising interest rates or seeking assistance from international institutions like the IMF or bilateral lending agreements with hard currency partner nations in the EU and the U.S. Erdogan’s aggressive geopolitical maneuvering in the Mediterranean and in the Caucusus, he has managed to undermine the close knit relations necessary to receive vital currency support from the west.


Typically, Central Banks caught in Turkey’s position seek to shore up their currency by raising interest rates or seeking assistance from international institutions like the IMF or bilateral lending agreements with hard currency partner nations in the EU and the U.S. Erdogan’s aggressive geopolitical maneuvering in the Mediterranean and in the Caucusus, he has managed to undermine the close knit relations necessary to receive vital currency support from the west. Yet, the most defining reason for why President Erdogan has not asked for Western assistance is domestic. Having built his political career on rhetoric that sought to strengthen Turkey’s domestic and international position and establish Turkey on equal footing with the West, he now finds himself between a rock and a hard place. Where he must either come under IMF conditionality, undermine his political purpose, and his political base, or avoid assistance by the IMF and be forced to face a balance of payments shock and rising external debt burdens.

Erdogan (in typical fashion) so far has tried to play the middle road, seeking bilateral assistance eastwards, first with Qatar which injected nearly 15 billion U.S dollars in 2018 to stabilize the Turkish lira through currency swap loans, but increasingly has veered ever closer to China, with the Turkish Central Bank engaging in currency swap agreements with the People’s Republic Bank of China. While all of this seems to have staved off disaster for a while, the question remains how long can Erdogan continue to have his cake and eat it, too?

Having run it's currency reserves dry, Turkey's ability to lick the can down the road is coming towards an end. A weak tourism season hampered by COVID-19 has left the country with short foreign currency runway and a large current account deficit. The question remains how long can this go on? Even with bilateral swap agreements with Qatar and China, Turkey’s funding gap is too large for either to fully backstop, and so far, Erdogan and his allies have provided little assurance towards international investors who have been dumping Turkish assets.

It maybe that Erdogan is seeking to play a game of hardball with the West as he seeks to leverage Turkey’s geopolitical relevance so that he can negotiate a better deal with the IMF and receive softer conditionality, but as of now this seems to not be the case. Even if Erdogan is to play this game of hardball right, the economic turmoil induced by a lack of Central Bank independence maybe too far gone for even his political genius to salvage.

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