/ world today news/ The Turkish regulator raised the interest rate for the first time in two years. It means Erdogan ended a two-year economic experiment that baffled economists. However, the so-called ergonomics brought Turkey not only huge inflation and devaluation of the lira, but also positive results. What awaits such an important trading partner of Russia in Europe?
For the first time in more than two years, Turkey’s central bank raised its key interest rate and immediately almost doubled it from 8.5% to 15%. This event is notable primarily for Erdogan’s change of course. In 2021, he decided to experiment with the Turkish economy. While all the world’s central banks raised interest rates to fight inflation, Turkey cut rates as the local central bank lost its independence and acted on the orders of the president. This policy has caused consternation and criticism among economists because it contradicts traditional economic theory: when inflation rises, it is necessary to raise the rate.
The policy of lowering the interest rate led to the expected opposite effect – high inflation, which in May was almost 40%, and last year – 86%. The Turkish lira is constantly updating records for weakening. The term “erdoganomics” has even been coined for the name of this policy of Turkey. In the past two years, the pound has tripled against the dollar, and foreign exchange reserves are completely depleted. It is true that the economy accelerated at a high rate: in 2021 – by 11.4%, in 2022 – by 5.6%,” says Olga Belenkaya, head of Finam’s macroeconomic analysis department.
The sharp change in the central bank’s rate marks a new stage in the Turkish experiment. Now the Turkish regulator entered the traditional economic logic. The problem is, it didn’t work. The Turkish lira on such news updated a new record and fell to 24 per dollar for the first time. However, the situation is not as bad as it seems at first glance. Erdoganomics also has its economic logic.
“The Turkish experiment with the prime interest rate should not be called a complete failure. The main task of “ergogonomics” was to stimulate the country’s industry and ensure maximum employment. Inflation is not as bad as unemployment. Before this year’s election, the task was largely accomplished. Population employment is a more significant issue for political and social stability than inflation. Today, Turkey claims to create a gas hub, develop nuclear power, a military-industrial complex with high export potential, and also receives significant dividends from trade with the Russian Federation,” says analyst Andrey Kochetkov.
On the one hand, “erdoganomy” has led to currency depreciation, high inflation, a decrease in foreign investment, a drain on foreign exchange reserves, and a deterioration in the lives of Turks. On the other hand, there are high rates of economic growth, a decrease in unemployment, an increase in the export of Turkish products that are gaining price competition due to the depreciation of the lira, and an expansion of industrial potential.
But after the elections in May, in which President Erdogan managed to win, the tasks facing the economy began to change. Hence, the financial bloc of the government has been updated, and with very skilled financiers. In particular, Hafiz Gaye Erkan became the new head of the central bank of Turkey. She is the only woman under the age of 40 to serve as CEO of America’s 100 largest banks.
“Turkey needs to get its finances in order to attract investment from third countries for further development. Because of this, the country’s Central Bank has begun to change its approach to managing inflation, which includes raising the interest rate. If the risks of price increases normalize and the Turkish lira stabilizes, we can expect an influx of investments in a rather promising Turkish economy, which will receive advantages at the regional level,” Kochetkov believes.
Why then was the market dissatisfied with such a serious increase in the exchange rate – almost twice, and instead of strengthening, the pound collapsed even more? The fact is that the market expected more and therefore was disappointed. “The market consensus expected a bigger increase to 21%, although the range of forecasts was quite wide. Since the step of the first increase was below market expectations, the lira reacted negatively and for the first time in history the dollar exceeded 24 Turkish lira. Given Erdogan’s usual habit of intervening directly in the Central Bank’s decisions, investors may have perceived the increase as insufficiently decisive and began to question the degree of freedom with which the new central bank chief will be allowed to operate,” says Olga Belenkaya.
However, the expert believes that the regulator has given a clear signal that this is only the beginning of the road and the rate will continue to rise, timely and gradually, as necessary to control inflation. “It may be more difficult for the new leadership of the Central Bank of Turkey to gain the initial confidence of the market by proving its independence from a president with unorthodox economic views,” says Belenkaya.
Meanwhile, it is unlikely that Erdogan and the Turkish government were unaware of what the central bank was going to do.
“Further rate hikes will work more effectively to normalize the pound’s exchange rate.” At the same time, the pressure on the economy will not be as significant as it could have been a few years ago. The significant external demand for Turkish real estate and industrial goods will allow us to survive the period of rising interest rates on loans,” said Kochetkov.
For Russia, Turkey is no less important trade partner than China, also due to its proximity to Europe. Although it is clear that the volume of trade with China is greater. If in 2021 Turkey was in sixth place in terms of trade with Russia, then in 2022 it moved seriously forward. Russia’s trade turnover with Turkey increased by 84% (customs service data).
Turkey has become the main bridge between Russia and Europe. “Sufficiently large amounts of imports go to Russia via Turkey, mostly consumer goods and agricultural products. For its part, Russia is a major supplier of gas, oil and petroleum products to Turkey,” said Natalia Milchakova, a leading analyst at Freedom Finance.
Parallel imports legalized in Russia, on the one hand, and cheap export products from Turkey, thanks to the devaluation of the lira, on the other, helped both trading partners in their own way. “The cheap lira benefits Turkish exporters. Russian exporters benefit less from the ruble’s low exchange rate than from the predictable exchange rate. At the same time, the predictability of the counterparty and its currency is very important. When the lira depreciates, it is more profitable for Russia to import goods from Turkey and sell its goods and raw materials for lira, so that later with the proceeds of the lira, it can buy Turkish goods, including through parallel imports,” notes Milchakova. But when the ruble falls against the lira, it gives an additional benefit to Russian exporters, but for importers, Turkish goods in this case become more expensive in rubles, which leads to the risk of a decrease in demand from Russians, the expert added. In any case, a more predictable trading partner is always a priority.
Translation: V. Sergeev
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