Markets 1, Autocrats 0.
That, at least, is the score after Turkey's central bank was forced, over the vociferous objections of the country's president, Recep Tayyip Erdogan, to finally accede to economic reality and aggressively increase interest rates from 13.5 to 16.5 percent in what was only a temporarily successful attempt to prop up the nation's currency. Indeed, after a brief rally Wednesday, the lira was down an additional 2.3 percent Thursday to bring it 19 percent lower than it was at the start of March. Which is to say that investors aren't finished fighting with Erdogan over how high interest rates need to go.
The lesson for every aspiring authoritarian, then, is that you might be able to throw journalists and professors and opposition leaders in jail, but the bond market is a little bit harder to restrain.
Now, Turkey is going through what is a fairly standard emerging markets crisis: Its banks borrowed many dollars when zero interest rates in the developed world sent money pouring into the country in search of better (or any) returns, but now that higher rates in the United States are luring a lot of that money back and, in the process, pushing the lira down, those debts are getting harder to pay back. The simple, but painful, solution is to just raise rates yourself until investors are happy enough with the returns they can get that they stop moving their money out of the country. That will stabilize your currency, and, as a result, prevent your people from defaulting on their dollar debts. Of course, this comes at the cost of slower growth, but sometimes that's not a bad thing — such as when inflation is more than double your central bank's 5 percent target, as it is in Turkey.
The problem, though, is that Erdogan doesn't want higher interest rates, even though the economic case for them couldn't be more overwhelming. That's because he rather eccentrically believes — that's how you describe a powerful person's bad ideas — that higher rates cause higher inflation, rather than the other way around.
And so he has denounced what he calls the foreign "“interest-rate lobby” for trying to force “the mother and father of all evil" — higher rates — onto the country. This, as you might expect, has made the central bank slow to raise rates in the past, but it has become even more of an issue now because, ahead of next month's elections, Erdogan has promised to take even more control over interest rates. “Of course our central bank is independent,” he recently told a group of investors, “but the central bank can't take this independence and set aside the signals given by the president.”
In other news, all are equal, but some are more equal than others.
This is the backdrop against which you have to view Turkey's latest interest rate increase. Its central bank was trying to show that, for all the threats Erdogan has made, it is still (mostly) independent, and in that, as you can see below, it succeeded for a few hours.
Why didn't these rate hikes buy more time for the lira? Well, two reasons.
The first is that markets don't think this has gone far enough. The same thing, you might remember, recently happened to Argentina. It initially raised rates from 27.25 to 30.25 percent, then from 30.25 to 33.25 percent a week later and finally up to 40 percent a few days after that to try to stem the tide of financial outflows that was pushing the peso so far down. Even that, though, wasn't enough to get the job done, and so it has gone to the International Monetary Fund for help.
The second is that investors have every reason to doubt that Turkey's central bank would — or, more appropriately, could — do more if it is necessary. Erdogan, after all, has been taking more and more control over the country's institutions, purging anyone whose loyalty is even somewhat in question since the failed coup against him in 2016. It would be no surprise if he did the same with the central bank.
And that's the real point. This is just as much about institutional problems as it is economic ones. There are very few emerging markets that look vulnerable right now — most of them have learned their lesson — but of the ones that do, only Turkey and Argentina have seen their currencies collapse. Part of that is that they've been more irresponsible than the others, borrowing more money from overseas than anyone else, but the rest is that there were questions about how independent their central banks really were. Erdogan, you see, was bullying his not to raise rates in Turkey, while Argentine President Mauricio Macri was taking the slightly more tactful step of increasing his central bank's inflation target to give it an excuse to cut rates.
The same sort of thing happened to Russia in 2014. Back then, falling oil prices were crushing its currency, but it wasn't until the Russian central bank appeared to be printing money for the state-owned oil company Rosneft that this turned into a panic about the ruble.
In all three cases, concerns about the currency snowballed into something much more serious once it looked as if their central banks wouldn't raise rates as they needed to but would instead do what was politically expedient — ultimately leading to them having to hike rates even more than they otherwise would have to change people's minds about that. Bad fundamentals, in other words, might create a problem, but it's worse decision-making that turns it into a full-fledged crisis.
Turkey, as markets are reminding us, still has both — no matter what Erdogan says.