Turkey currency crisis – Why it is happening and what will its impact on global economy

Hello friends,

We have been hearing that rupee has weakened, and it is now trading at Rs 70+ against US dollar. We also have been hearing that turkey currency is the main reason for fall of Indian rupee value. In this article, we will see the origin of Turkey crisis, and cover various economic and political aspects which are making Turkish Lira as worst performer in the world. In the end, we will also see, how this is impact all countries, and what is RBI doing to control further pressure on rupees.

Why is Turkish currency (Lira) falling?

Turkey is defined as one of the emerging economy by IMF, and its economy is 17th largest in world. Turkey is longed termed as modern face of Islamist world, and it is an important link between Asia and Europe. It is also an important strategic partner of powerful NATO.

Reasons for downfall of the Turkish lira

  1. High trade deficit –Turkey has high trade deficit with respect to its GDP. This import>export condition lead to more demand of US/EURO and this flow of country’s resources to outside. This has contributed to weak currency (with higher Current account deficit). Following chart show the balance of trade for last 5 years for Turkey.
  2. High inflation– Turkey inflation rate stands at 15+% . Due to this high inflation rate, Turkish’ central bank has revised its key rates to 17.75% in June 2018. Such high interest rates are putting pressure on borrowing, thus impacting business growth. This lead to increased fiscal deficit, and thus putting pressure on economy.

Inflation has risen sharply in last 6 months.

Turkish central bank has sharply increased its key rate in 2018.

  1. High external debt and High foreign borrowing by corporates: More than half of Turkish foreign debt is owned by corporates, since internal rates are high. This has put pressure on Turkish currency, as its demand is low.

Since 2008 recession, developing countries are shoring dollar reserves for hedging against debt crisis. As we can see in the chart below, Turkey foreign reserve to debt ratio is extremely poor.

  1. Decline in businesses: Steel is one of the major exports of Turkey. Turkey exported about 500,000 tons to the U.S. in the five months to May, compared with more than 1 million tons in the same period last year, according to data from the U.S. Census bureau. The U.S. has fallen from Turkey’s main steel buyer to number three. Due to recent tariff hike (50%) on Turkish’ steel, this industry is on downward spiral. Further, Europe has also placed safeguard measures to discourage dumping and protect European steel manufacturers. This has led to major shock in Turkish steel manufacturers.

  1. US fed rate increase– US is seeing a revival in job market and better economic scenarios, so in order to control inflammatory trends; US Fed has increased its key rates twice recently. These key rates increase has sent a ripple internationally. Just like taper tantrum in 2013, when US increases its key rates and this effected global market, this time also it is impacting almost all developing countries. Countries like Turkey, Argentina and Indonesia are among worst impacted due to this.

US has projected benchmark rate of 3.9% for 2019. This will be a sharp increase from current 2%, and it will further impact global economies. Investors are coming back to US, as they are finding better returns along with stability. Increase rate has also strengthened US dollar. Below is the chart of Dollar Index, and we can see it has started rising after Fed increased its rates.  

  1. Political reason – Turkey is under the dictatorial regime of President Erdogen. Turkey is also in cold stand-off with US, as it has imprisoned Andrew Brunson, a US national for alleged terrorist attempt. US is putting pressure on Turkey’ economy for release of its citizen. Turkey is also contemplating alternatives like Russia, China and Iran which can finance and help end this crisis.

How will Turkish currency crisis impact global economy

We have seen some of the economic and political reasons for poor performance of Turkish lira. Now, since we are living in connected world, this crisis is going to spill-over, and there will be impact on other global economies as well. There is a huge risk of spill-over in southern Europe especially Italy. Countries like India, will of course be impacted by Turkish crisis, and related global events. US had imposed tariffs on steel and aluminum from India as well. Recent Fed hike is putting pressure on foreign investment. RBI is doing its part as it had anticipated these events long before, and had increased its key rates since last 2 monetary policies. Since, inflation in India is low, we still have scope of further rate increase in case of further deepening of global crisis. Moreover, as seen from Forex reserve chart, RBI has bought lot of reserve since last 2008 financial crisis. And it has lately selling its reserve to remove pressure on Indian rupee.

In the end

In this article, we have seen some of the reasons behing collapse of turkish economy and its currency. Feedback is invited for improving this article. You can share your view in discussion forum below.