(Bloomberg) -- Turkish President Recep Tayyip Erdogan sealed an election victory, raising the prospect of more friction with Western governments and foreign investors.
The country’s longest-serving leader prevailed 52.2% to 47.8% in a runoff vote on Sunday against Kemal Kilicdaroglu to take his 20-year rule well into a third decade, based on results with almost all ballots counted.
The lira sank to new low, weakening beyond 20 per dollar, as traders reined in bets that Turkey would soon end some of its unconventional economic policies, which include keeping interest rates well below the level of inflation.
Investors’ attention will now turn to who Erdogan picks in his new cabinet, expected to be announced as soon as Friday, according to two Turkish officials familiar with the matter. That may signal whether the president is likely to change tack by reducing heavy state intervention in markets.
Late on Sunday, Erdogan, speaking in Ankara, cited inflationary pressures on the economy and said he would put together a new team with “international credibility” to manage the nation’s finances.
Many analysts are unconvinced.
“An Erdogan win offers no comfort for any foreign investor,” said Hasnain Malik, a strategist at Tellimer in Dubai. “Only the most optimistic would hope that Erdogan now feels sufficiently secure politically to revert to orthodox economic policy.”
The stage for Erdogan winning another five-year term was set on May 14, when he did better than expected in the first round of the election, falling just short of the 50% threshold needed to avoid a runoff. His alliance of parties captured a parliamentary majority.
Erdogan, 69, who turned his office into the nexus of power in Turkey, has shown resilience many times before. Yet pollsters and financial markets had predicted a tighter election because of a cost-of-living crisis and criticism he received for the way he handled two devastating earthquakes in February. He responded to both by deploying the state media machine to divide the opposition and mobilize conservative grassroots voters.
The tactic seemed to pay off, with Erdogan winning most rural regions even as Kilicdaroglu took the main cities, including Ankara and Istanbul.
The lira and Turkish stocks fell heavily in the past two weeks, as investors priced in Erdogan’s strong showing in the first vote. The currency may slide another 30% to 28 by the end of the year, according to Morgan Stanley.
Read More: Erdogan’s Win Puts Focus on New Cabinet, Policies
“He may appoint one or two senior officials who are palatable to the markets, but it is clear who will continue calling the shots,” Anthony Skinner, a political risk consultant, said. “Erdogan may be encouraged to continue pursuing unorthodox and piecemeal economic policies, knowing that his disregard for what would be described as a conventional economic playbook has not cost him the presidency.”
Rates to Rise?
Economists say tighter monetary policy is inevitable eventually. While central banks worldwide have raised interest rates to try to quash inflation, Turkey’s central bank heeded Erdogan’s calls for ultra-low borrowing costs. It cut the benchmark rate by 550 basis points since last year even as the inflation rate climbed to more than 85%. It’s since decelerated, but is still above 40%.
At the same time, Turkey restricted banks’ purchases of foreign-exchange. Deposit rates are now far higher than the benchmark rate of 8.5%.
Barclays Plc’s Ercan Erguzel said that interest rates will have to rise, albeit at a more gradual pace than if Kilicdaroglu had won. He projects that the benchmark will hit 36% by the end of this year.
The cost of insuring against a sovereign default will continue to soar, said Cagri Kutman, Turkish markets specialist at London-based KNG Securities.
“Erdogan will be careful that the new economy administration has serious credibility,” said Kutman. It won’t, though, “give up on its low interest rate policy.”
Turkey’s five-year credit default swaps have risen the most in the world since the first-round vote, to almost 665 basis points.
East and West
For world leaders, at stake is how Turkey maintains its delicate balancing act between fellow NATO members and Russia as President Vladimir Putin continues to wage war in Ukraine.
While he will work to maintain Ukrainian grain exports from the Black Sea, he made clear where his friends are, name-checking leaders in Azerbaijan — a traditional ally — Uzbekistan and Libya in his victory speech.
“No one can look down on our nation, drag our youth into the void,” he said. “No one can wag their finger at Turkey.”
Putin congratulated his “friend,” while US President Joe Biden tweeted he looked forward to working with Erdogan as a NATO ally.
The Turkish president wants to broker peace in Ukraine, though will continue to avoid the sanctions push against Russia because Ankara believes they are counter-productive, according to people familiar with the situation. They declined to be identified when speaking about Erdogan’s thinking.
Erdogan will only agree to ratify Sweden’s bid to join NATO after first looking at Stockholm’s implementation of new terrorism legislation, which will go into force on June 1, the people said. However, Erdogan may need to balance a tough approach with getting US congressional support for Turkey’s purchase of American-made F-16 fighter jets.
Turkey has demanded that Stockholm cracks down on supporters of the autonomy-seeking Kurdistan Workers’ Party, labeled a terrorist organization by the US and the European Union, as well as affiliates in Syria.
In his new term, Erdogan’s expected to increasingly prioritize the development of a homegrown defense industry to bolster Turkey’s regional clout, the people said.
Ankara has sent troops into northern Syria and Iraq to fight Kurdish militant groups it say pose a security threat.
“Turkey is about to reach the point of unsustainability in foreign policy with its expansionist initiatives,” said Dogu Ergil, professor emeritus of political science at the University of Ankara. “As for the economy, the country is already in the red zone. There will either be significant changes or a deep social and political crisis — or both.”
--With assistance from Tugce Ozsoy and Patrick Sykes.
©2023 Bloomberg L.P.
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