The lira is buckling under the weight of one of the widest current-account deficits in emerging markets and inflation is spiralling ever higher.
Desperate measures are in the air in Turkey trading rooms are awash with talk of a bailout by the International Monetary Fund and potential capital controls but there is a vacuum at the core.
The central bank and government have been largely silent as the currency plummeted to record lows and the US imposed sanctions and threatened more. The lira fell by the most in a decade on Monday, the yield on benchmark 10-year government notes has surged to an all-time high and the Borsa Istanbul 100 Index is sinking.
“It will remain like this until the central bank commits unconditionally to hike rates and keep them high until inflation has turned,” said Henrik Gullberg, a Strategist at Nomura Plc. “The market needs that sort of hard commitment.”
Yet the radio silence from Ankara - a result of June elections that gave President Recep Tayyip Erdogan almost absolute power in policy making - is deafening. Erdogan is a staunch critic of higher rates and investors worry that he may be standing in the way of any further rate increases.
“It is very difficult to foresee an about-face by the authorities,” said Per Hammarlund, chief emerging-market strategist at SEB in Stockholm. “The moment when Turkey will be forced to go to the IMF for support is drawing closer.”
The lira rebounded with one per cent on Tuesday after sinking as much as 6.7 per cent to the dollar. Ten-year yields neared 20 per cent, while the benchmark stock index was up one per cent, narrowing its year-to-date loss in dollar terms to about 40 per cent.
Although investors are pushing for a significant rate increase from the central bank, there is growing consensus it is going to take lot more than monetary policy to reverse the tide.
Earlier this week, the central bank boosted banks’ access to dollar liquidity by $2.2 billion, an effort to take some pressure off the lira. The currency trimmed its losses briefly, only to plunge to successive record lows through the night as investors saw the move as evidence that the bank’s hands were tied.
The lira’s meltdown is not only hurting consumers’ sentiment and wallets, but it’s pushing corporate balance sheets closer to the abyss. Companies that borrowed heavily in foreign currencies now face a growing burden due to the tanking lira.
Capital controls have “become more than a tail risk scenario now as the authorities show no signs of reverting to more orthodox policies,” said Shamaila Khan, AllianceBernstein’s director of emerging-market debt in New York. But what the lira really needs is “independence of the central bank, tighter fiscal policies and an IMF programme.”