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To its considerable credit, in its latest assessment of the Turkish economy, the International Monetary Fund (IMF) could not have been more explicit in its calls for a fundamental redirection of Turkish economic policy to address the country’s major economic vulnerabilities. President Erdogan would do well to heed those warnings if Turkey is to avoid yet another exchange rate crisis when global financial markets become less benign than they are today.
The IMF is warning Turkish economic policymakers not to be lulled into a false sense of security by the current relative calm in the Turkish exchange rate market. Rather, the IMF is suggesting that this calm might be the result of favorable global liquidity conditions. It is also urging Turkey to take advantage of this calm to strengthen its defenses against a renewed attack on its currency.
The IMF’s main concern is that Turkey’s aggressive interest rate reduction policy and its expansive budget policies could once again draw attention to the country’s economic vulnerabilities in a more challenging global liquidity environment. These vulnerabilities include a very low international reserve level, a very large private foreign exchange debt, and very large external financing needs.
Sadly, all of the indications are that President Erdogan will not heed the IMF’s warnings as he sprints for short-term economic growth at the cost of future economic stability. Not only has he fired his central bank governor and has made his son-in-law Turkey’s finance minister. He has been adamant in his highly unorthodox view that far from helping to contain inflation, high interest rates are the cause of inflation. He also has not seemed to grasp the idea that fiscal policy discipline is needed if the country’s external accounts are to be placed on a sustainable sounder footing.
All of this matters importantly for the global economic picture. Unlike Argentina, which recently defaulted on around US$100 billion in external debt, the Turkish corporate sector has around US$300 billion in external debt. Worse yet, the bulk of that debt is denominated in US dollars. This heightens the chances that in the event of another exchange crisis, Turkey could have trouble in servicing its external debt. Such a wave of corporate debt defaults would be the last thing that an already troubled world economy now needs.
President Erdogan would do well to heed the IMF’s warnings if Turkey is to avoid another crisis when global financial markets get worse.
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