The collapse of the Turkish lira is dramatic..
The graph shows in black the exchange rate for Turkish lira against one US dollar since 1995 and, in red and blue, the purchasing power parity (PPP) estimates for this exchange rate over the same period using, respectively, producer price and consumer price indices. These PPP estimates suggest the lira is undervalued by some 30% according to producer price indices and by some 45% according to consumer price indices.
It’s likely that the Turkish economy will go into recession, with a Turkish banking crisis now a possibility. With a chronic current account deficit, currently around 6% of her GDP, Turkey is highly dependent on external capital inflows and therefore vulnerable.
Turkey has been living beyond her means for a long time and monetary policy is too accommodating. Moreover, the Turkish central bank is now in reality no longer independent. Against this background, international investors have withdrawn their backing for President Erdogan and for Turkish institutions. The direct links between Turkey and other emerging market economies are in fact rather tenuous. Developing economy exports to Turkey amount in total to just 0.3% of all developing economy GDP. Probably Bulgaria, with exports to Turkey amounting to some 5% of her GDP, is the most exposed. While Turkish GDP accounts for just 1% of world GDP, the Spanish banks, and in particular BBVA, are heavily exposed. Spanish bank credits to Turkey amount to some 6% of Spanish GDP.
While the direct economic effects of Turkey’s situation are not particularly significant, there is a risk of sentiment-led contagion to other developing economy financial markets. We note that financial markets in those developing economies with high current account deficits – especially South Africa and Argentina – seem already to have “caught a cold“.
We continue to advise caution to our clients, especially concerning Emerging Markets.
Turkish Lira per USD since 1995 and the respective purchasing power parity (PPP) estimates.
Contact: Thomas Härter, CIO, Investment Office
Telephone: +41 58 680 60 44
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