The Economic Outlook for Turkey After Erdogan's Reelection Victory.

Introduction:

President Recep Tayyip Erdogan's comfortable reelection victory has shifted the focus of investors to the appointment of a new cabinet and potential revisions to Turkey's economic policy mix. Erdogan's unorthodox approach, characterized by ultra-low interest rates and heavy state intervention, has faced increasing pressure as Turkish asset classes experience strain. This blog post examines the opinions of money managers and analysts to analyze the potential implications of Erdogan's next term on the Turkish economy.

Maintaining Unorthodox Policies:

According to Nick Stadtmiller, head of product at Medley Global Advisors, Erdogan's control over state organs suggests that unorthodox policies will likely remain in place as long as they can be afforded. This implies that interest rates will stay low, inflation will remain high, and sovereign credit spreads will widen. The government's ability to force banks to buy sovereign eurobonds could further strain the economy by depleting scarce dollars needed elsewhere.

Currency and Market Expectations:

Currency strategist Brendan McKenna at Wells Fargo & Co. expects a sharp selloff in the lira in the coming weeks, with the currency potentially reaching 23 against the dollar by the end of the quarter. However, Kelvin Wong, a senior market analyst at Oanda Asia Pacific, suggests a minor recovery for the lira in the short term, but anticipates continued weakness in the medium to longer term due to Erdogan's preference for lower interest rates.

Potential Economic Challenges:

Strategist Hasnain Malik at Tellimer believes that an Erdogan win offers no comfort for foreign investors, as Turkey faces high inflation, low interest rates, and a lack of net foreign reserves. This could potentially lead to a painful crisis affecting all assets. Malik suggests that only the most optimistic would hope for a return to orthodox economic policies.

Policy Direction and FX Reserves:

Morgan Stanley analysts highlight Erdogan's long-held belief that higher interest rates cause higher inflation, indicating that a reversal in interest rate policy post-elections is unlikely. However, given the recent stress on official reserves, a change in policy direction may be necessary to contain macro stability risks. Investment director Viktor Szabo at Abrdn suggests that policy corrections are required to avoid running out of foreign exchange reserves.

The Day of Reckoning:

Emre Akcakmak, a consultant at East Capital International, states that Turkey now faces a day of reckoning. The country must address significant economic challenges such as high inflation, a large current account deficit, growing short-term debt, and declining foreign-currency reserves. Foreign investors may show little interest in Turkish equities due to policy uncertainties, while local investors may navigate the circumstances given historically low valuations and record high interest rates.

Market Reaction and Policy Transition:

According to Steven Schoenfeld, CEO of MarketVector, Erdogan's track record is not market-friendly, as seen by the recent lows in the Turkish Lira. However, a modest transition to an orthodox policy in the near future may be likely to address the unsustainable current economic model. Burak Cetinceker, a money manager at Strateji Portfoy, suggests that the market will focus on the new cabinet and the economy team, which will set the tone for market moves.

Erdogan's Vision and Lira Depreciation:

Currency analyst Piotr Matys at In Touch Capital Markets predicts that Erdogan will interpret his reelection as a vote of confidence in his vision of the Turkish economy, where interest rates and inflation are positively correlated. Consequently, real interest rates will remain negative, and the lira will continue to depreciate. Matys believes that raising interest rates significantly could reduce the scale of lira selloff, but this scenario seems unlikely given Erdogan's influence over monetary policy.

Conclusion:

As President Erdogan starts another term in office, the sustainability of Turkey's economic policies and the challenges facing the country have become major concerns for investors. While some anticipate a continuation of Erdogan's unorthodox approach, others hope for a transition toward more market-friendly policies. The future direction of Turkey's economy will heavily depend on the decisions made by the new cabinet and the economic team, as well as the country's ability to address economic challenges effectively.