Lights, Tunnels and Trains
The Yildirim Cabinet is staffed with capable people, but has a fluffy economic agenda. With Mr. Simsek de facto reduced to the status of a PR person, monetary and fiscal policy will be run from President Erdogan’s Palace. We expect more crackdowns on dissidents and a more hawkish foreign policy. With MHP refusing to support AKP’s presidential proposals, Erdogan is running short of options. Our base-case scenario remains snap elections, but even a referendum would undermine economic and investor confidence.
In Syria, the formation of a Kurdish state is looking inevitable, while the ISIS is capturing key towns at the Turkish border. Ankara can’t send the military in fearing Russia counter attack; meaning terror from ISIS and PKK might escalate in the foreseeable future.
A rogue gold trader accused of helping Iran to by-pass U.S. financial sanctions is currently in custody there, where he can spill the beans on the involvement of Erdogan family and AKP higher-ups. If the U.S. State Department needs leverage to moderate Turkey’s Syrian and Kurdish policy, Zarrab might just provide it.
The thaw in EU relations is over. With the visa waiver in the freezer, the question now is how worse the relationship can get. If Erdogan decides to send refugees back to the Aegean, EU can retaliate, further undermining investor morale.
On the economy front, Turkey has been muddling through fine, just as you would expect, thanks to a relatively supportive global backdrop. First quarter industrial production data, among others, suggests we should see another solid GDP print on June 10th. Yet, a host of indicators seem to point to weakness down the road. Moreover, April tourist arrival numbers suggest that a bloodbath might be awaiting the sector, given that tourism activity peaks during the summer months.
Monetary and fiscal policies continue to be accommodative. The Monetary Policy Committee has been lowering short-term rates since March, under the guise of simplification. Like everybody else, we expect this to continue in the very near-term, as long as market conditions allow it, but we stick to our view that a reversal before the end of the year is likely. Lower short-term rates may not do much in the way of accelerating credit growth, either, given more fundamental challenges at work, like inadequate inflows and growing credit risk. The budget has been holding up fine at the headline level, but the underlying trends are not that favorable and the outlook remains risky.
On the external front, trade and the current account deficits should stop narrowing in the coming months in 12-month cumulative terms, which, together with growing pressures on the CBRT, rising political uncertainties, and slower growth, could contribute to a change in market sentiment.
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