(Bloomberg) -- Lira traders chastened by the currency’s 25% collapse this year are daring to believe 2021 will be different after President Recep Tayyip Erdogan’s surprise flip to more orthodox policies.
The nation’s latest currency crisis culminated in Erdogan firing the central bank governor, the resignation of the president’s son-in-law as economy Czar, and a hefty rate hike. Those steps helped the lira pare its eighth straight year of declines, but investors want evidence the switch in direction is more than just a temporary maneuver.
The lira’s decline is illustrative of Turkey’s troublesome past decade, in which political turmoil and policy missteps have eroded confidence in the $750 billion economy. To support the sinking currency, Turkish banks sold more than $100 billion this year alone, according to Goldman Sachs Group Inc. estimates. The currency traded at an all-time low of 8.5793 per dollar as recently as Nov. 6. It was at 1.5439 per dollar on Dec. 31, 2010.
The shift to orthodoxy “will probably continue for some time, as there are no reserves left to burn and no elections approaching,” said Viktor Szabo, a senior fixed-income manager at Aberdeen Asset Management in London. “However, if things normalize there is always a risk of a policy U-turn.”
The most recent bout of lira weakness was triggered by just such a pivot when the central bank stunned traders in October by keeping rates on hold instead of delivering a hike. Erdogan puts a premium on growth and job creation, and has repeatedly rattled local markets with the unconventional view that higher rates cause higher rates of inflation.
After dropping to a record low at the start of November, Erdogan’s shakeup of his economic team sent the lira soaring more than 10% in as many days. While the currency has been largely range-bound since then, it’s still on track for the worst drop this year in emerging markets after Argentina’s peso.
“What we see in the current lira exchange rate is a lot of hope that monetary policy will take a conventional path in the future,” said Ulrich Leuchtmann, head of currency strategy at Commerzbank AG in Frankfurt. “The real test will come when monetary policy hurts in terms of real economic performance.”
2018 Redux
The nosedive and subsequent rebound have drawn comparisons with the 2018 lira crisis. Officials failed to sustain tight policy in the wake of that collapse, ultimately setting the stage for the slump this year, Leuchtmann said. Whether it will be different this time is “more difficult to forecast than ever,” he said.
Investors will get a chance to gauge the government’s intentions on Wednesday, when the new central bank Governor Naci Agbal holds a press conference on monetary policy in 2021. A week later, the regulator meets on rates, with expectations high for another hike from the current level of 15%.
Piotr Matys, a currency strategist at Rabobank, says the lira could appreciate next year, and may even strengthen below 7.00 per dollar. That’s so long as Erdogan “maintains his support for the new economic team and/or U.S. President Joe Biden gives diplomacy one more chance,” he said.
Biden Era, Russia Rifts Jolt Turkey Back Toward Ties With West
If Washington and Ankara can improve relations after the U.S. imposed mild sanctions over Turkey’s purchase of Russian S-400 missile systems, it would prompt a fresh rally, according to Coex Partners’ macro economist Henrik Gullberg. The lira will trade between 7.25-7.50 against the dollar in the first half amid broader weakness in the greenback, Gullberg said.
While the new policies seem to be going in the right direction for now, lira traders have been burnt too often to give officials the benefit of the doubt. Leuchtmann at Commerzbank says he’s “not convinced” yet on the government’s change of direction and sees the lira depreciating to 8.75 per U.S. dollar by end 2021, a drop of around 10% from current levels.
Turkey Faces More Lira Volatility as It Unwinds Albayrak Legacy
Erdogan served up a reminder of the lira’s fragility at a meeting with businessmen in Ankara on the eve of the Nov. 18 central bank decision. The currency briefly extended its drop to as much as 1.1% after his warning that investors could be “crushed” by high interest rates.
©2020 Bloomberg L.P.
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