Why Erdogan Needs to Stop Flirting with Economics Out of His League

Business and Finance

Photo by: Ashley Wong

After decades of great macroeconomic instability, and absolutely momentous inflation- reaching triple digits in the 1900s, Erdoğan’s Justice and Development Party (AKP)’s success in the 2001 election brought massive relief and help to Turkey’s frail economy. Their execution of a new economic program, aided by the International Monetary Fund (IMF), induced wide-ranging structural reforms which yielded massive success. According to the German Marshall Fund of the United States, ‘[Turkey’s] GDP more than tripled between 2001 and 2013. Foreign direct investment flows increased from $982 million to $19.2 billion between 2000 and 2015’ and ‘exports increased fourfold between 2001 and 2008, exceeding $130 billion in 2008’.

This miraculous boom, however, which brought millions of Turkish people into the middle class and raised living standards exponentially, began to wade for a number of political reasons. such as; anti-government demonstrations amid accusations of corruption against Erdoğan and cabinet members in 2013, a failed coup attempt in 2016, the hefty cost of dealing with over 4 million refugees, military operations in Syria, and maintaining border security due to friction in the Arab world. This political

unrest was also compounded by the weakening of relations between the United States and the EU, the two most important sources of investment for Turkey. Such economic instability resulting from political matters began taking a noticeable/salient effect in 2015, with Turkey reaching a recession in 2018. And so, when Covid-19 knocked on Turkey’s front door in 2019, it found a nation bleeding from record-high depreciation with a lack of means to counter the disease, alongside double-digit

inflation. The pandemic’s effect on the already fragile economy manifest itself in various ways, such as its disturbance to supply chains all over Europe, cannot be understated. The lira’s value depreciated at a faster rate than before, inflation rose, and the official unemployment rate surpassed 13 percent. In order to fight this recent economic disaster, Erdogan and the AKP adopted - and are still employing - a particularly unorthodox and divergent monetary policy. Traditional economic theory would recommend that in such a situation as Turkey found itself after 2019, a wise move would be to establish tight monetary policy and increase interest rates. This way, Turkey would be encouraging its citizens to save money, decreasing consumer spending, decreasing aggregate demand, which would decrease inflation, and increase the value of the lira, preventing its rapid depreciation- of course at the cost of slowing Turkey’s economic growth.

However, Erdogan decided to do the opposite- literally. Under his command, the central bank of Turkey slashed interest rates- a measure that was regarded as nonsensical and thus heavily opposed by many Turkish economists and bankers in the state- who were then swiftly removed from their respective positions. This new alien policy was enacted on the basis that slowly weakening the lira over time would allow Turkey to see fewer imported items, since they would become more expensive than domestic goods due to the new exchange rate. By extension, exports would be massively boosted as they would fall in price compared to other items in international markets. Also, due to the rising (?) exchange rate and weak lira, people from other nations would be incentivized to buy more Turkish goods. This change in the balance of imports and exports would effectively combat Turkey’s trade deficit, along with the general policy of supposedly increasing investment and production, reducing the current account deficit and unemployment over time, and helping Turkey see economic growth after the pandemic through increasing aggregate demand. And to place credit where credit is due, the current account deficit moved into a surplus in August 2021, and the economy was on course to expand by 9 percent that year. However, the negative result of the policy far outweighs the positives. Inflation shot up in November 2021, and the depreciation of the lira resulting from decreasing interest rates hit a historic low. The currency lost around 45 percent of its value in the remainder of 2021, causing mass social unrest as Turks rushed, and are still rushing, to exchange their lira for more stable currency or gold. Furthermore, according to Tim Ash of BlueBay Asset Management, even the few positives of such a policy are short-lived and likely to prove detrimental in the long term. He claimed

that, “With import prices soaring, the economic circumstances threaten to crush domestic demand; a recent 50 percent rise in the minimum wage will wipe out the cost advantages of the currency depreciation.” Ash added that, had Erdogan been able to contain the currency depreciation and limit inflation, there would perhaps exist a chance of the policy working, but because of the necessary due diligence not being paid, Turkey is now in a “devaluation inflation spiral”. Naturally, Erdogan has recognised the issues with the rapid depreciation of the lira and rising inflation and so has initiated two new plans. The first plan encourages saving, as the government guarantees returns on lira deposits at a rate similar to what they would earn holding foreign currency, provided the Turks keep the lira locked up in the bank for 3, 6, 9, or 12 months, similar to a certificate of deposit.

Essentially the government will be rewarding people for saving money in lira in their bank account- hm, sounds a lot like interest but with extra steps. Regardless of how Erdogan wants to phrase it, its effect will be to decrease inflation, and restore confidence in the lira, along with helping the currency depreciate. The second plan offers government incentives for savers willing to convert their foreign currency savings into lira, something which would also help with its appreciation and its strength in exchange with other currencies. This plan may be a step in the right direction, though it is by no means perfect. The Turkish government will need to borrow, or print, more money in order to fuel such plans, which can only add to inflationary pressure. Turkey has achieved great success in its economic policy in the last two decades, with Erdogan delivering on his promise to millions of Turks to raise their living standards and create jobs. Now, however, as his reign comes to a possible end with an election around the corner, everything seems to be unravelling in the worst possible way: despite all the powerful adverts on TV trying to tug at the heart strings of citizens in order to stabilise the lira, Erdogan is simply avoiding the inevitable truth that, according to countless economists around the globe, Turkey must raise their interest rates.