Thursday, 30 January 2014

The Prime Minister Just Doesn't Get It

You almost have to feel sorry for the Turkish Central Bank. After weeks of watching passively as the Turkish currency sank to new lows the bank finally found the courage to fire its big weapon – a massive hike in interest rates – in an effort to halt the slide and restore the economy’s international credibility.

                Unfortunately, the weapon was a dud. The currency initially strengthened and then resumed its downward spiral. On top of that, the country remains firmly anchored in the so-called ‘Fragile Five’ economies – Brazil, India, Turkey, South Africa and Indonesia. According to some unknown analyst at the investment bank Morgan Stanley this is a list of countries whose economies depend too much on very nervous and unreliable foreign investment flows.

            Now, the bank faces the worst of all possible outcomes. The currency continues to weaken and the higher interest rates could begin to stifle domestic economic activity. What is worse is that the bank enjoys very little, if any, political support. Prime Minister Tayyip Erdoğan only grudgingly allowed the rate increase, and said the blame for any adverse outcome rested squarely with the bank. Thanks, Prime Minister. The governor of the Central Bank must be checking his parachute.

Erdoğan simply doesn't get the basic reality that interest rates are only part of the economic picture. Interest rates by themselves cannot change underlying realities. A short list of non-interest rate problems include:
1.      Corruption:  Yes, corruption is major factor in many countries. But in Turkey it became so blatant that even the normally corruption-tolerant public began to complain. The financial news service Bloomberg carried a long story that only someone as talented as the late Elmore Leonard could make up. It involves an Iranian who was given Turkish citizenship, a government minister who received – among other things – a $350,000 watch, highly suspect gold shipments into and out of Turkey, private jets, lavish parties, police escorts for the Iranian-Turkish middle man who called the Interior Minister to complain about being caught in traffic, and much, much more.

2.      Vendettas:  The prime minister seems to have made it his personal business to create serious problems for some of Turkey’s leading economic players. The Koç Group, in particular, has been singled out. The group owns Turkey’s largest refiner Tüpraş that has been singled out for massive tax penalties. Public auctions won by the group have been mysteriously cancelled. Other companies outside the prime minister’s narrow circle have received similar treatment. Bank Asya, an Islamic finance bank known for its close ties to Fetullah Gulen, has come in for heavy handed audits since the corruption scandal broke in December. People and organisations with close ties to the prime minister have been urged to withdraw deposits. The prime minister has also blasted the head of Turkey's major business group as a 'national traitor' for daring to suggest that the country has severe underlying problems that must be addressed before the economy can reach its full potential.

3.      Arbitrary Regulations: One of the biggest complaints of would-be foreign investors is the arbitrary nature of regulations. Auctions and rules are changed without any explanation. Investors complain about the inconsistent application of laws.Any serious investor would like some assurance that the law today will be the same as the law tomorrow.

4.      Political Uncertainty: Erdoğan used to brag about the stability that his ruling Justice and Development Party (AKP) had brought to Turkey. Indeed, the first few years of his reign seemed like a welcome change to revolving governments that had plagued the 1990s. By following the IMF-dictated program the economy recovered strongly from the 2001/2002 meltdown that nearly wiped out the financial system. On the back of this stability and economic improvement the AKP won subsequent elections by ever-increasing margins. Since that last election in 2011, the wheels have started to come off the Erdoğan bandwagon and he has reacted like any autocrat. His brutal suppression of the Gezi Park protests last spring, wholesale purge of the judiciary and police, and increasingly bitter struggle with his one-time ally Fetullah Gülen are merely the latest symptoms of his intolerance for any and all dissent. Very few people now will take the prime minister's rosy economic forecasts at face value. Indeed, with revelations about shady gold trading, some are beginning to wonder of the previous strong numbers were not inflated or based on very weak foundations.

It’s too early to conclude what the immediate impact of the Central Bank’s rate decision will be. The construction boom that has turned much of Turkey into a huge building site could slow down sharply. Some of the prime minister’s massive infrastructure projects could be slowed or stopped entirely. Development of the new airport, for example, was thrown into some disarray when the contractors that won the bid were caught up in the ever-widening corruption scandals. 

The real tragedy is that Turkey could be a major economic power. It has a talented work force, large domestic market, decent financial system, entrepreneurs, strong industrial infrastructure, and an advantageous location close to major markets. But until the serious underlying problems of the political/economic administration are addressed this potential will remain just that – potential instead of reality.

1 comment:

Claudia Turgut said...

Thanks, David, for this excellent assessment of the situation. Where is it all going to end?