Chaos in Turkey feeds fears of wider emerging market crisis

Analysts said other emerging market economies were in an ominously similar position to Turkey, having borrowed extensively in dollars over the past decade, leaving them potentially at risk of default as the US central bank raises rates

President Erdogan threatened to punish ‘traitors’ for spreading rumours that Turkey will soon be forced to impose capital controls (AFP/Getty Images)

Turkey’s descent into economic chaos has roiled financial markets around the globe as the country’s rift with the US deepens and anxieties grow that it might be a canary in the mineshaft of a general emerging market crisis.

The Turkish lira slumped to 6.98 per dollar on Monday, having fallen as low as just 7.2 overnight. The currency has lost more than a quarter of its value over just seven days and is now around 45 per cent down since the start of 2018.

The announcement by the Turkish central bank of a package of measures designed to shore up the country’s wobbling financial system appeared to do little to stem the panic.

Instead, the collapse of confidence in the lira spread to the South African rand, which fell by as much as 7 per cent against the dollar, while the Indian rupee sank to a record low against the greenback, dipping close to 70 per dollar.

Turkey has a specific problem stemming from its political feud with the US over the fate of a US pastor accused by the Turkish authorities of abetting a coup attempt in 2016.

Donald Trump’s deliberate turn of the steel tariffs screw last Friday had the desired destabilising affect. And on Monday President Recep Tayyip Erdogan accused his Nato ally of “stabbing Turkey in the back”.

Erdogan also threatened to punish “traitors” for spreading rumours that Turkey will soon be forced to impose capital controls to staunch the currency’s bleeding.

A local TV network reported that the interior ministry had opened a probe into social media accounts.

But analysts stressed that other emerging market economies were also in an ominously similar position to Turkey, having borrowed extensively in dollars over the past decade, leaving them potentially at risk of default as the US central bank, the Federal Reserve, continues to raise interest rates to cool the fast-growing American economy.

“The actual root cause is shared by quite a few nations, of which Argentina is the most obvious example,” said Edward Park of the investment manager Brooks Macdonald.

“It is much more expensive to finance in US dollars which is a problem for emerging markets.”

“If dollar strength and risk-off persist, we think emerging markets will remain under pressure. Our index identifies Turkey, Argentina, Ukraine, South Africa and Pakistan as being among the most vulnerable,” said Evghenia Sleptsova of Oxford Economics.

Closer to home, the shares of European banks have also been under pressure in a reflection of anxiety about the exposure of some of the continent’s lenders to default risk on Turkish loans.

The shares of Spain’s BBVA and Italy’s UniCredit suffered further selloffs yesterday.

Underlining the high geopolitical stakes involved in the Turkey-US row, Mr Erdogan has signalled that he will look for “alternatives” to the country’s longstanding ally for financial support. This has been taken as a reference to Russia or China, although their ability to step into the financial gap is unclear.

Another source of anxiety for investors is the impression that the Turkish central bank has effectively lost its independence, after months of pressure from Mr Erdogan not to increase interest rates.

Mr Erdogan repeated his view at the weekend that rate rises are “a tool that makes the rich richer and the poor poorer”, even though many think the restoration of normality will require a sharp hike in the cost of borrowing.

The decision by the Turkish central bank to keep rates on hold last month, despite domestic inflation hitting 15 per cent, came as a surprise to markets and deepened the impression that monetary policy in Turkey is now being determined by political priorities rather than economic stability.

“Turkey needs a complete rebalancing of its economic business plan, and very sharp rate hikes and a strong commitment that the central bank will be independent,” said Guillaume Tresca of Credit Agricole.

The German Chancellor, Angela Merkel, also expressed the hope on Monday that the independence of the Turkish central bank would be “ensured”.