Turkey’s medium term economic outlook

Jan Dehn, head of research at Ashmore, shows how EM mercantile trade volumes have increased significantly, now comprising 45% of the global mercantile trade – up from 29% in 2000. He also comments on Erdogan’s victory and the outlook for Turkey, as well as Trump’s ‘verbal intervention’ to influence the dollar last week.

EM mercantile trade volumes hit all-time high in January 2017

Emerging Markets (EM) mercantile trade volumes reached an all-time high in January 2017. In the past twelve months alone EM trade volumes have increased by 5% versus 2% in developed economies.

If we break trade volumes into their export and import components we find that EM export volumes have risen 4% in the past twelve months to January 2017, while EM import volumes rose by 6% over the same period. Both are rising faster than in developed economies.

The fact that EM import volumes are rising faster than export volumes may suggest that EM domestic demand is recovering after the severe financial tightening of recent years, while demand in developed economies is weak. Indeed, export volumes in developed economies rose 3% over the twelve months to January 2017 compared to just 2% for import volumes.

In addition to higher volumes, prices of mercantile traded goods also picked up over the course of the past year, so the value of EM mercantile trade rose by 11% over the period to $6.8trn. The total value of mercantile trade is $8.4trn in developed economies, so EM’s share in global mercantile trade now stands at 45%, up from 29% in 2000. Since 2000 the value of EM trade has increased by a massive 295%, or $5.1trn compared to 96% ($4.1trn) for developed economies. Within EM, mercantile trade increased the most in Central and Eastern Europe (343%) followed by Asia (318%), Middle East & Africa (290%) and Latin America (197%), although the largest absolute increase was Asia due to its larger size.

Erdogan’s victory – the medium term outlook for Turkey has deteriorated further

Erdogan claims victory in the referendum granting broader powers to the presidential office. The “Yes” side won a tight majority of 51.4% according to official results. Both Ankara and Istanbul had a majority of “No” voters, further illustrating a deep division in society which is in line with the pattern in recent elections.

The opposition has contested the results based on last minute changes in the criteria of validation of the ballot. The Organization for Security and Cooperation in Europe has also pointed to these irregularities adding the “one-sided media coverage and limitations to fundamental freedoms have created unlevel playing field on the referendum”.

President Erdogan immediately announced the intention to discuss the implementation of capital punishment, which would increase its distance from Europe and the “no” camp.

Erdogan extended the state of emergency for another three months allowing the government to rule the country via decrees. The protests are unlikely to have any impact on results over the short term with Erdogan radicalising further to tighten his grip on power.

An increased injection of liquidity via state owned banks and negative real interest rates may stabilise unemployment in the short term at the cost of higher and more protracted inflation. Good liquidity conditions for EM also help Erdogan to “get away” with poor policy making.

But the medium term scenario has deteriorated further. The economy is likely to slow down further even with increased liquidity as inflation picks up. Debt is also likely to increase, particularly off-balance sheet debt via state owned companies. Increased ruptures in society and the economy will eventually lead to a more serious destabilisation when liquidity conditions tighten again.

Influencing the dollar

US President Donald Trump explicitly talked down the dollar last week. He also said that he strongly favours low interest rates. These statements fly in the face of consensus opinion, but they make sense. The overvaluation of the dollar is creating major problems for US companies to compete and other growth drivers are missing (productivity), fading (monetary stimulus) or being delayed/reduced (fiscal stimulus). Hence, a lower dollar is now the least onerous way to support US companies and growth. Low interest rates serve the same purpose.

How can the US influence the dollar? One way is verbal intervention. Verbal intervention sends a signal to central banks the world over that the US wants to see the dollar go lower. Implicit behind this objective is a thinly veiled threat that the government will pursue policies that achieve this outcome, such as low interest rates and/or fiscal profligacy.

Famously, John Connally, US Treasury Secretary, said in 1971 that “The dollar is our currency, but it is your problem”. This verbal intervention triggered a sharp decade-long dollar collapse precisely because foreign central banks decided to off-load their large Dollar positions.

The other way is simply to let markets take their course. Asset prices in the US are very high and the currency has become very expensive. The returns on offer for global investors are no longer as compelling as they were before the 40% move in the dollar and the massive rally in US stocks and bonds. Other parts of the world, including EM, now offer better prospects.

A lower dollar is not an immediate home-run for the US economy. It will take time before the weaker dollar helps American exporters, since resources will first have to move from the non-tradable sector to the tradable sector.

Meanwhile, capital outflow will have a depressing effect on US stocks at the margin, since so much foreign money is invested in stocks. This capital account effect is likely to occur far quicker than the impact on exports. In other words, a lower dollar may well turn out to be a risk-off event to some extent.

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