EXPLAINER: Are Turkey's efforts to fix the economy working?

By AP News

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ANKARA, Turkey (AP) — Turkey’s government and central bank have taken unconventional steps in recent weeks to prop up a beleaguered , instead of ending a much-criticized plan to cut interest rates.

ANKARA, Turkey (AP) — Turkey’s government and central bank have taken unconventional steps in recent weeks to prop up a beleaguered economy crippled by skyrocketing consumer prices , instead of ending a much-criticized plan to cut interest rates.

President Recep Tayyip Erdogan’s insistence on cutting rates — the opposite of what economists say to do to curb soaring inflation — has weakened the country's currency and driven prices even higher, making it tough for people to buy basics like food.

Here’s a look at the impact of Erdogan’s economic policies and their long-term risks:

WHAT'S GOING ON?

Erdogan, who has grown increasingly authoritarian and long declared himself an enemy of high borrowing costs, has pressured the central bank into continually cutting interest rates even though inflation surged by 36% last month.

In comparison, inflation in the 19 countries using the euro made a record 5% jump from a year earlier, and the U.S. tallied a nearly 40-year high of 7% .

Conventional economic thinking calls for increased borrowing costs to tame inflation, like other countries have done , but Erdogan maintains it's the opposite.

He has fired three central bank governors since 2019 over differences on interest rates, arguing lowering them will increase exports and lead to more growth and jobs. He also has cited Islamic teachings that regard usury as a sin.

Erdogan’s unorthodox policy has foreign investors fleeing Turkey, while locals have been trying to protect their savings from high prices and a depreciating currency by converting them into foreign money or gold. The Turkish lira hit successive record lows in November and December and lost about 45% of its value against the U.S. dollar last year.

With prices soaring, even basic goods are out of reach for many Turks. Opposition parties, meanwhile, are disputing the official inflation number; an independent inflation research group says the real figure is a stunning 82%.

“Anyone who goes out shopping knows that the 36% inflation is fictitious,” said Ali Babacan, a former deputy prime minister under Erdogan who was regarded as the “economy czar.”

“The people are paying a high cost (for Erdogan’s policies) in the form of hardship and poverty,” added Babacan, who has since formed his own party.

WHAT IS ERDOGAN DOING TO FIX THE SITUATION?

Faced with a rapidly crashing currency but determined not to raise interest rates, Erdogan announced a program last month meant to encourage people to convert foreign currency into lira and keep their savings in Turkish money.

Under the “exchange rate-protected deposit" system, the government guarantees it will cover losses should the interest they receive when the account matures be less than what they would have earned by keeping the savings in foreign currency.

The lira, which had dropped to an all-time low of 18 against the dollar, rallied after the announcement to around 11.

Since then, the government extended the program to corporate accounts. The central bank said exporters would be required to exchange 25% of their foreign currency revenue into liras. And the government increased contributions to private pension plans.

It also said it was raising the minimum wage by 50%. But simultaneously, it raised gas and electricity prices by 50% for low-consumption households and by 125% for those using more.

ARE THE EFFORTS WORKING?

Erdogan maintains that the lira deposit system is a success.

“We are pleased with the trust our citizens have shown in the exchange rate-protected deposits. We are pleased with the decrease in volatility in exchange rates and continued stability," the state-run Anadolu Agency quoted him as saying this week.

Treasury and Finance Minister Nureddin Nebati says people have deposited 131 billion lira ($9.67 billion) into such accounts so far.

Babacan insists Turkish investors are holding on to their foreign currencies and just switching any existing lira deposits into accounts under the program.

“There is no incentive for those who have foreign currency to change it (into liras),” he said on Turkey’s Fox TV.

Babacan and many others assert that the lira’s spectacular rally last month wasn't due to the government's program, but to the central bank selling billions of U.S. dollars from its dwindling reserves to bolster the Turkish currency.

“When we took a look, we saw that on that night, and the following few days, the central bank furiously sold dollars through the backdoor," Babacan said. “In December, the central bank sold $17 billion. Of the 17 billion, 9 billion were sold through covert measures.”

Nebati has rejected the claims: “Thousands of individual sellers stepped in. They competed with each other. People raced to exchange their currency."

The lira, meanwhile, has lost some of its gains, slipping to around 13.50 lira per dollar.

WHAT ARE THE RISKS GOING FORWARD?

The deposit system has provided a respite for Erdogan, ending the lira's excessive volatility even though the shift to exchange rate-protected accounts is limited. But analysts fear the program will create additional long-term economic woes.

Should the lira fall again, Turkey’s treasury would have to foot the bill for exchange rate losses, further increasing inflation and financially burdening the government, they say.

“The fact that these deposits are tied to foreign currency puts the central bank and the treasury under an unquantifiable burden,” Babacan said.

Economist Ozlem Derici Sengul agreed.

“If we see a depreciation in the currency, the treasury will have to pay the difference between deposits’ return and the depreciation. That will put additional burden over public finances,” she said.

Experts also note the government hasn't devised a plan to control inflation.

“Inflation is the real risk, of course, because the monetary policy is quite loose," said Sengul, founding partner at Istanbul-based Spinn Consulting. “The inflationary pressures are not likely to disappear easily unless you follow a quite tight monetary policy.”

Erdogan insists his policies are combating high prices.

“As a matter of fact, the result is showing itself. Inflation has started to decline and will continue to do so," he said.

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Author: AP News

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