Dollar and Fitch Election Commentary
While the international credit rating agency Fitch Ratings confirmed Turkey’s credit rating as “B” and the rating outlook as “negative”, it shared its comments on the Turkish economy and the upcoming elections.
The headlines of Fitch’s assessments are as follows:
* Turkey’s ‘B’ rating reflects political and geopolitical risks, as well as growing economic turmoil due to weak external financing and increasingly intrusive and unconventional policies.
These factors work against Turkey’s large and diversified economy, relatively low public debt levels, and a manageable public debt repayment profile.
‘CURRENT POLICIES ARE CREATING PRESSURE ON TL’
* Turkey’s expansionary and inconsistent policy mix, including a negative outlook, negative real interest rates and the use of increased regulatory measures and controls, will protect foreign exchange demand and depreciation pressures on the lira, weaken international reserves , will keep inflation high and put pressure on external financing needs and costs reflects our view of the
*The central bank cut the policy rate to 8.5 percent in February, but officials are increasingly leaning toward targeted regulation to cut domestic financing costs, manage the allocation and speed of lending, ease pressures on the lira by controlling the demand for foreign currency and reducing financial dollarization. .
BONUS NOTICE FOR BANKS
* This policy approach may create vulnerabilities in the banking sector, which has remained resilient thus far, by increasing risks from negative real rate government bonds and negatively affecting profitability and asset quality.
* In addition, the increased number and frequency of measures increase regulatory uncertainty and may exacerbate liquidity risks by undermining depositor confidence and/or reducing access to external financing.
INFLATION FORECAST
* Annual inflation fell to 55.2 percent in February from a peak of 85.5 percent in October, benefiting from the positive base effect and improved exchange rate stability since the second half of 2022.
We expect inflation to average 56.5 percent in 2023, reflecting the government’s focus on supporting growth and jobs, and the inertia of inflation.
Backward indexation, high expectations and further depreciation of the lira remain upside risks to inflation.
GROWTH FORECAST
* We estimate that GDP growth will slow from 5.6 percent in 2022 to 2.5 percent in 2023, as the negative impact of the February earthquakes on economic activity is partially offset by fiscal policy and stimulus credit before the May elections.
We expect growth to rise moderately to 3 percent in 2024 due to the reconstruction process balancing improved external demand and a less expansionary policy stance.
BOOKING FORECAST
* After reaching $129 billion in 2022, CBRT gross bookings came under pressure again, falling to $120 billion in early March. Despite the Saudi Development Fund’s decision to put $5 billion into the CBRT,
The reserve structure, which has a net position of -57 billion dollars without swaps, remains fragile.
We expect the gross reserve to decline to $105 billion by the end of 2023, that is, to the level of 3-month external payments. This level is slightly below the external payment level of 3.2 months on average in countries with a B credit rating.
* The reserve coverage ratio is weak compared to the current high external financing needs and the still high dollarization of deposits. The currency share of total deposits is 42.2 percent and 58.7 percent when KKM is included.
KKM, which is at the $84 billion level as of early March, creates only budget costs and contingent foreign currency liabilities, and may cause additional foreign currency demand at home if conversion rates decline.
CURRENT DEFICIT AND SHORT-TERM DEBT RISK
* We expect the current account deficit, which increased to 5.4 percent of national income in 2022, to be at the level of 4.3 percent of national income in 2023, with the effect of incentive policies despite falling energy prices.
Short-term external debt of $190.2 billion as of December 2022 makes Turkey vulnerable to changes in investor risk perception.
* Net errors and omissions approached half of the current account deficit in 2022, and the limited visibility of their nature increases the risk of additional pressure on international reserves.
EARTHQUAKE IMPORTANT FACTOR FOR SELECTION
* Aid management and reconstruction efforts after the February earthquake became a major factor affecting electoral dynamics.
* Political and policy uncertainty remains high due to high political polarization, a potentially close election result, a large disparity between the current government and the opposition in economic policy direction, and implementation difficulties.
Post-election politics may also be affected by the results of parliamentary elections, coalition politics and local elections scheduled for 2024.
ESTIMATE OF THE BUDGET DEFICIT
* The budget deficit narrowed to 0.9% of GDP at the central government level in 2022 (estimated at 1.1% at the general government level) and exceeded the budget deficit target of 3.5%.
The general government deficit will rise to 4.4 percent in 2023 and 4.9 percent in 2024, due to the impact of weak economic activity on revenues, tax incentives in the election year, and spending pressures from high inflation, as well as post-earthquake support and rebuilding spending, we guess.
* The policy challenge for the authorities will be to identify sources of financing without creating significant additional government bond risk for banks or fueling inflationary pressures, and to access external financing to avoid pressures on the already high external deficit and weak liquidity external.