Turkey’s Economic Woes: How Risky Can It Get?

After taking a look at Turkey’s flexible intermediate bulk container (FIBC) industry last month, we wanted to take a step back to review the country’s broader economic landscape, particularly as its prospects are looking quite dim. The Turkish lira has been one of the worst performing currencies so far this year, and Fitch has recently downgraded the country to a “non-investment” status while S&P downgraded its outlook to “negative.”

We caught up with OnFrontiers expert Tolga Sobaci to get a better sense for what’s going on with Turkey’s economy. A government affairs and corporate communications specialist, Tolga has more than 15 years of experience with international companies operating in Turkey, the International Finance Corporation, the IMF, and the World Bank.

What factors are contributing to Turkey’s weakening economy?

There’s a whole range of interconnected factors affecting Turkey’s economy, making it a more risky investment environment right now. They include both external and internal issues, some of which the Turkish Government has control over and some of which it does not. I’d flag these four:

  1. Global interest rates. As a country with a chronic current account deficit problem, Turkey’s economic growth has always been dependent on the availability of foreign financing. Given the increasing interest rates worldwide and a pull out of investors from developing markets, both the Turkish public and private sectors are struggling to raise funds at sustainable costs. In a slower growth economic environment, the sustainability of the debt (especially for some of the private sector companies) will continue to pose a threat for the economy. As for the public sector, the increased cost of borrowing will put additional stress on the budget.
  1. Terrorism. Turkey has suffered from terrorist attacks in the past; however, with the conflict in Syria, the frequency and severity of the attacks have increased. Moreover, the attacks that historically took place in the eastern regions of the country have now spilled over to urban areas in the west, targeting civilians as well. This has naturally strained the tourism industry, depriving the country of a critical source of foreign currency income.
  1. Monetary policy. The Turkish Central Bank is more politicized at the moment compared to the past. President Recep Tayyip Erdoğan is openly discouraging the Central Bank from increasing interest rates, directly interfering with the monetary policy. Right now the Central Bank faces an impossible mission: keeping inflation under control while also preventing the further depreciation of the local currency. Under the current exchange regime, it can only achieve one of these goals, which creates a lot of uncertainty in the market. The Central Bank is perceived as late in responding to the global markets and using unconventional methods to regulate the liquidity of the banks.
  1. Fiscal policy. For the past 15 years, the Government has emphasized large-scale infrastructure investments, such as bridges and new roads. Although improved infrastructure is an enabler to economic growth, most of the investments had a one-off impact on the economy with no significant spillovers to the export-oriented sectors. For example, the recently constructed bridges in Istanbul and Izmit are nice to have, but both are underutilized today. My view is that the government should have instead made or incentivized investments in more productive sectors, especially ones that would enable the production of export goods and services. The infrastructure projects surely generated jobs in the short term but failed to achieve the much-needed transformation of the Turkish economy. I’m afraid the Government hasn’t changed its plans and will continue to focus on infrastructure and construction.

In addition to these factors, what issues should Turkey watchers keep an eye on in the next year?

First, all eyes will be on the constitutional referendum on expanding presidential powers, which is scheduled for 16 April. A vote for presidential empowerment means Turkey’s system of checks and balances will be weakened, resulting in a more unpredictable policymaking environment and subordination of the judicial system to the executive branch. It would further weaken Turkey’s already embattled democratic institutions, scaring away investors and exacerbating the challenging economic situation.

Second, it’s important to keep an eye on the conflict in Syria, not only for its destabilizing effect on the region, but for Turkey’s role on the ground and in global geopolitics. Turkey’s decision to establish a military presence in Syria has caused it to run afoul of US, Russian, and Syrian interests. While it’s in Turkey’s interest to see Syria’s conflict resolved, some outcomes (such as the development of an independent Kurdish state) could adversely impact Turkey’s stability at home.

What’s your outlook for Turkey’s economy and relations with the United States?

I believe Turkey is moving into a new era, unlike the past 15 years, because it will have to operate in an environment with hardships in foreign financing. This year is unlikely to be promising for the country’s economy, given weakening consumer confidence, uncertainty due to the presidential system debates and public vote, increasing unemployment rates, and negative impacts of the rapid depreciation of the local currency.

Based on my experience working for several international companies, I don’t believe the negative outlook will significantly impact the decisions of larger international companies because their investment horizons are long and the market potential of 80 million people remains the same. These types of companies may slow down or pause their investments, but they are unlikely to leave and go elsewhere. Investors with a short-term horizon, on the other hand, probably will hesitate before investing in Turkey.

It’s hard to tell at this stage how the Trump administration will affect recent strains in US-Turkish relations. Turkey is aspiring for a greater role in the region than what is realistic, given its hard and soft power. If the Turkish Government adjusts its foreign policy to align with the power politics in the region, it may improve its relationship with the United States. But if it aspires for more than it can get, the same tensions are likely to remain.

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Featured image was taken by Miguel Virkkunen Carvalho in Istanbul.