Writing assignment

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THE FINANCIAL AND ECONOMIC CRISIS IN TURKEY

By Sebnem Kalemli-Ozcan

[Statement of the problem–>] The Turkish lira has lost more than 40 percent of its value

against the dollar since the start of 2018, the country’s debt has been downgraded, and experts

are predicting a recession in 2019. President Recep Tayyip Erdogan has blamed the crisis on

western countries and the United States in particular. [Statement of causes–>] But the

combustible conditions are the result of an unsustainable credit boom and overborrowing. The

Turkish crisis is a textbook example of an emerging market crisis. It did not come about because

of the United States, but it has been made worse by the political fight between Presidents

Erdogan and Trump.

Credit Boom

[Statement of cause–>]Turkey had a large credit boom over the last decade financed with

capital from abroad. The Turkish government has kept monetary policy loose, allowing the

economy to grow steadily but also failing to keep inflation in check. With annual inflation at 16

percent, the Turkish lira has been losing value with respect to foreign currencies and raising

investor concerns. The lira began 2018 at about 3.8 per dollar and by April it had depreciated to

4 lira to the dollar. In August it began to plummet in value (see chart).

Borrowing

[Statement of cause–>]A key macroeconomic vulnerability in Turkey is private-sector short-

term borrowing in U.S. dollars. About 60 percent of the corporate sector debt in Turkey was in

foreign currency in 2013, which is particularly risky for sectors such as construction whose

earnings are in Turkish liras. About 70 percent of the construction sector’s debt is in foreign

currency and for manufacturing it is 50 percent.

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The vulnerability of Turkish companies makes lenders less willing to roll over their debt. Also,

the rise in interest rates in the United States and Europe and the prospect for even higher

interest rates have made emerging market debt less attractive than it had been when interest

rates in rich countries were rock bottom.

[Statement of action to fix problem–>]A standard first response to this type of crisis is that the

central bank raises interest rates. Central banks can attempt to stem the outflow of money and

keep the currency from plummeting by raising interest rates, which makes domestic debt more

attractive. This also has the advantage of demonstrating the independence of the central bank,

giving investors confidence that the currency will not continue to fall. But the central bank of

Turkey has not acted. Political pressure might mean that the bank finds it difficult to take

measures to stem the collapse of the lira, a precondition to the resolution of the crisis.

The crisis could spread to other potentially vulnerable emerging markets that are borrowing

heavily from abroad, especially if the borrowing is in foreign currency and inflation is high.

There is the possibility that the Turkish economic crisis has an impact on Europe as well since

many European banks have lent to Turkish banks and companies.

Stemming the Crisis

At this point, raising interest rates might not be enough if confidence in the Turkish economy

cannot be regained. The pivotal role that Turkey has played in the refugee crisis introduces

another set of concerns, since Europe cannot afford to have an unstable Turkey in its backyard.

The United States, while more insulated from the economic fallout of a Turkish crisis, will face

political pressures if the country’s troubles cause it to draw closer to Russia and introduce a

new source of economic and political tension in a volatile region.

Adapted from EconoFact (https://econofact.org/the-financial-and-economic-crisis-in-turkey)

The Financial and Economic Crisis in Turkey
Credit Boom
Borrowing
Stemming the Crisis