After a week of public holidays in Turkey, the Turkish lira tumbled as traders returned with selling on their minds, realizing that nothing of substance has changed in the past 7 days. The currency tumbled over 4.0% against the dollar, sliding as low as 6.2974 before rebounding modestly to 6.23 as the U.S. trading day got underway, while one-month implied lira volatility jumped back toward 50%.
Turkey’s 10-year bond yield slipped 12bps to 22%, after touching a record high earlier this month.
As Bloomberg notes already poor sentiment remains crippled by double-digit inflation, a deepening current-account deficit and central banker reluctance to raise interest rates. While Turkey has raised rates by 500 basis points since April, it needs to boost them further by more than 600 basis points to stabilize markets, according to Societe Generale SA.
Turkey is also facing a potential recession, with JPMorgan revising its forecast for Turkey’s growth next year to 1.1% from 2.8%, as a result of “worsening financial conditions and tighter liquidity conditions… Coordinated policy action by the policymakers could put Turkey on a soft landing path where rebalancing is achieved with manageable collateral damage”.
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Bloomberg’s Mark Cudmore explains why Lira’s problem is only set to grow as the country returns from its week-long holidays.
Turkey has only addressed the symptoms, not the cause, of its currency crisis. Efforts to shore it up notwithstanding, the lira is likely to see renewed pressure. Aggressive rate hikes are needed to attract inflows to fund the Turkish current-account deficit, estimated at 6.35% of GDP. And those don’t seem to be on the table right now.
True, the deficit should start to narrow given the lira’s depreciation, a slowdown in growth and an expected boost to tourism. But, it will be hard to build any enthusiasm toward the rebalancing story until the inflation/lira depreciation spiral is broken — and that requires significantly tighter monetary policy.
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