The Washington PostDemocracy Dies in Darkness

Turkey is fighting an ‘economic war’—against reality

Turkish lira and dollar banknotes. (Kostas Tsironis/Bloomberg News)

Maybe the best way to tell a government’s policies are failing is when it blames the rest of the world for waging an “economic war” against it.

That, after all, is what Venezuela’s Nicolás Maduro has been telling his people for years, and it’s what Turkey’s Recep Tayyip Erdogan has now started to say. The real culprit, of course, is that both governments have forced their central banks to follow counterproductive, if not outright ruinous, policies. But no matter: The truth can have a hard time competing with foreign scapegoats.

Now, it might seem unfair to compare these two. It’s one thing to, as Erdogan has, bully your central bank into keeping rates so low that it lets inflation creep up to 15.9 percent instead of the 5 percent it’s supposed to keep it at. But it’s quite another to make your central bank print so much money, as Maduro has, that, according to Johns Hopkins professor Steve Hanke’s calculations, inflation is up to more than 40,000 percent. On the other hand, though, the fact that Erdogan is now trotting out the same type of excuses as Maduro tells us that he’s probably not going to stop this anytime soon. Not until it turns into a full-blown crisis.

Which it will.

The problem is Turkish banks and companies have borrowed a lot of dollars — foreign currency debt is about 30 percent of their GDP — that are getting harder to pay back now that their currency is falling so much. Indeed, since the beginning of the year, the Turkish lira has lost 27.7 percent of its value against the dollar. Part of that is because of the U.S. Federal Reserve’s rate hikes making holding money in the United States more attractive; another is that U.S. sanctions against a few top Turkish officials have raised the specter of it being cut off from international debt markets. And the rest is that Erdogan’s policies have made investing in Turkey seem less appealing. But in any case, the result is that so many people have been trying to get rid of their lira that it has been dropping faster than any other currency outside of those in Iran, Argentina and Venezuela.

That’s the bad news. The good news is that fixing this would also fix their other problems. Which is to say that Turkey’s currency needs the same thing that Turkey’s economy does: higher interest rates. A lot of times, you see, countries that need to prop up their currencies with rate hikes are stuck in a situation where they also need to prop up growth with rate cuts. Turkey, though, doesn’t face this kind of dilemma. It already needs to raise rates to bring down its too-high inflation rate and too-large current account deficit. That means this should be as easy as policy decisions get.

But Erdogan has long thundered against the “interest-rate lobby” for trying to foist what he calls “the mother and father of all evil” — that is, higher rates — onto the country. Which, in a system where he has amassed more power with each passing year, has been enough to make the central bank put off any rate hikes until it was almost too late. The only difference now is that Erdogan seems to have decided that even this very circumscribed central bank independence is too much to put up with. “The central bank can’t take this independence,” he said during his recent campaign, “and set aside the signals given by the president.” More to the point, he won’t let it. He has used his latest election to give himself the power to appoint the country’s central bank governor and to make his son-in-law the finance minister. The entirely predictable result is an even more pliant policymaking apparatus that just refused to raise rates, as it was previously expected to do, in the face of inflation that’s escalating far beyond their alleged target.

It seems likely, then, that Turkey really is going to test Erdogan’s extremely incorrect theory that, contrary to all empirical evidence, it’s lower interest rates that cause lower inflation. And it’s probably going to test this idea for a long time. That, at least, was the point of his comment that they’re in the middle of an “economic war”: He was asking people to sell their dollars to help push up the lira, rather than having the central bank raise rates to do so.

Although this won’t cause a crisis in the next month, it might in the next year. Goldman Sachs, for one, estimates that if the lira falls from its current level of 5.2 per dollar to around 7.1 per dollar — roughly another 25 percent drop — it might eat up all the extra capital that Turkey’s banks have built up as a precautionary buffer. That’s not to say that they would collapse at that point but rather that they might start to get into real trouble. Same with all the Turkish businesses to which they lent dollars. In the worst case, this would turn into a doom loop where the lira would fall because companies were defaulting on their dollar debts, and companies would default on their dollar debts because the lira was falling.

It’s a future that Turkey’s markets are certainly worried about: Their stocks, bonds, and currency have all been hit quite hard the last few months. It’s a sign that Erdogan is losing the economic war he says he’s fighting — a war against reality.