Currency exchange offices in Istanbul, Turkey, opened on October 28, 2020. Due to rising exchange rates and economic instability, people exchange currencies and buy Turkish lira.
Erhan Demirtas | NurPhoto via Getty Images
The Turkish lira fell sharply on Monday morning after President Recep Tayyip Erdogan sacked the country’s central bank chief – the third to be laid off in two years – causing shock waves in the investor community.
The currency fell more than 16% in Asian overnight trading, according to analysts, reaching 8.4 against the dollar compared to a 7.21 close on Friday. It reduced some losses by trading around 7.9 per dollar at 11 am local time, although the dollar was still up almost 10% against the lira.
The news is expected to further shake the economy of 82 million people and could have a ripple effect on other emerging markets exposed to the lira; markets in Japan fell on Monday morning, with currency movements hitting long lira traders.
“This is a truly stupid decision by Erdogan and the markets will express their views on Monday and it is likely to be an unpleasant reaction,” wrote Timothy Ash, senior emerging market strategist at Bluebay Asset Management, in a customer email. on the weekend.
“People are just shocked,” Ash added on Monday, describing the currency’s fall as “the price of firing Agbal.”
Naci Agbal, who was fired by Erdogan on Saturday, had served less than five months at the head of Turkey’s central bank. During that time, he raised the country’s main interest rate by about 450 basis points, to 19% – something that the vast majority of economists believe is necessary to tame Turkey’s high inflation and bring stability to the lira.
The period also saw an improvement in investor confidence and $ 10 billion portfolio inflows, as well as an 18% lira appreciation – but it attracted Erdogan’s ire, as the president spent years battling interest rates, which he calls it “evil”. The president gave no reason for the resignation, but it came just two days after Agbal raised rates by 200 basis points.
The Turkish presidency’s office did not respond to CNBC’s request for comment.
Turkish President Tayyip Erdogan speaks during a meeting with business people in Istanbul, Turkey, January 15, 2021.
Presidential Press Office | via Reuters
The financial community’s response to Erdogan’s move was swiftly and overwhelmingly negative.
“Turkey is again involved in a monetary policy crisis,” analysts at Société Générale wrote in a note on Monday. “With Naci Agbal’s departure from the CBRT, Turkey loses one of its last remaining anchors of institutional credibility.”
Commerzbank also described Agbal as someone who had been good for the country’s finances.
“Removing the market-friendly governor is likely to undermine the credibility of the policy in our opinion,” wrote its emerging market analysts on Monday. “In a scenario of a reversal of the $ 10 billion portfolio inflows in the last four months and / or the resumption of dollarization, we can see a huge increase in volatility, probably resulting in interventionist policies again.”
‘Inflation must accelerate’
The story is not new; economists have long been suspicious of what many describe as the central bank’s strong armament to keep interest rates lower, scaring investors with the bank’s lack of autonomy in monetary policy. This, along with other factors, including falling foreign exchange reserves and high levels of debt, caused the currency to fall for years; at the end of 2017, a dollar bought 3.5 lire; today, you can buy almost 8.
Erdogan’s desire to keep rates low stems from his view that interest rates cause inflation; the vast majority of economists argue that it is the other way around and that Turkey desperately needs a tightening of monetary policy to contain its current 15% inflation level and sustain the currency. Inflation in the country has been largely caused by credit-driven growth, exchange rate depreciation and rising global energy prices.
Agbal’s replacement, Sahap Kavcioglu, now the fourth head of the central bank in two years, is considered more flexible to Ergodan’s demands and has written in previous newspaper columns that higher rates will not solve Turkey’s problems.
In his first communication as governor of the central bank on Sunday, he did not mention any continuation of the monetary tightening. International analysts and banks now expect the lira to drop further if the central bank does not raise rates.
“Inflation is expected to accelerate as the lira declines further, inflation expectations rise and several global factors weigh even more on the situation,” Erik Meyersson, senior economist at Handelsbanken Macro Research in Stockholm, told CNBC.
“It will demand a lot from the Turkish authorities to avoid another financial crisis in the next period.”