Turkey: Calm before the storm
Marcus Svedberg (pictured), chief economist at East Capital argues that the coming six months in Turkey are likely to be considerably quieter than the previous six, and the following six months. The relatively tranquillity is, however, not a “new normal” and could even turn out to be a calm before the storm.
The political and economic volatility will ease
Domestic politics, with local elections in March and presidential elections in August, dominated the past six months. This suggests there will be a pause in the political intrigues that tend to characterize Turkey’s elections. The fact that the new cabinet, headed by former Foreign Minister Devatoglu, who is a close ally to President Erdogan, is almost identical to the old one suggests that policies will be marked by continuity rather than change and surprise in the short term.
The economy and the equity market may also turn out to be more stable in the coming quarters. The first half of the year was volatile. GDP growth was revised up to 4.7% in 1Q and only 2.1% in 2Q. Inflation rose from 7.4% to 9.7% during the first five months of the year while rates were first hiked from 4.5% to 10% in January only to be cut by 175bp over the summer. The Lira has been similarly volatile; depreciating 10% in January, followed by an appreciation over 10% during the coming four months before depreciating around 5% over the summer. The equity market, which is influenced by the above factors due to the high concentration of financials in the index, has been equally volatile falling 10% in January followed by a 25% rally that lasted until the end of July, after which it has corrected almost 10%.
We believe the economy as well as the equity market will be considerably less volatile in the coming quarters. The first reason is simply because we expect the political scene to be more stable, as described above. Another reason is because the economy has found a temporary equilibrium at 3-6-9 (economic growth-current account deficit-inflation). This is a far cry from the 5-5-5 that the Turkish authorities are trying to achieve, but the current situationis priced in and accepted by the market.
A third reason to expect relative stability in Turkey is that global monetary policy, which Turkey is sensitive to because it is so dependent on external financing to finance its external deficit, is not expected to change materially in the coming months. The ECB has already announced its (last) rate cut as well as the stimulus programs (ABS and LTRO) while the US is not expected to raise rates until the middle of next year.
There are, of course, factors that could break the expected calm. Political infighting, either with the Gulen movement (as we saw during last winter) or with the street opposition (as was the case last summer), can be triggered at any time even though we believe the likelihood is low right now. Monetary policy can change quickly, either if the Central Bank of Turkey is pressured to cut rates prematurely (which would be negative) or if the ECB launches a comprehensive QE-program earlier than expected (which would be positive for the economy and the equity market). And, finally, the geopolitical crisis in neighboring Syria and Iraq could spill over to Turkey through different channels even though the economy and the market have been surprisingly resilient to the conflicts so far.
The calmness will not last though
But even if the relative calm holds, it is not to be regarded as a new normal. The parliamentary election in June 2015 will be easily won by the AKP, but what kind of governance will emerge after the election? Will they manage to change the constitution to a more presidential system? Will the key economic policy makers stay or be replaced by some less credible figures? How will the Gulen movement and the street protestors react to the election? These political dilemmas will most likely coincide with the first rate hike in the US. These are big issues for Turkey and their combined effect is likely to be anything but calm.