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Turkey: an idiosyncratic problem or a threat to wider emerging markets?

August 2018

Turkey has seen a temporary resolution to its current crisis with the injection of $15bn of Qatari cash, but it is still in crisis

  • The Qatari offer short-term fix rather than a long-term solution to the country’s significant financial problems
  • While Turkey is teetering on the abyss, the real question for investors is whether it can remain an idiosyncratic problem
  • The vulnerable areas are emerging markets and European assets

The Qatar offer, from Sheikh Tamim bin Hamad Al-Thani, is designed to help the country ride out its currency crisis, which has seen the lira plunge. However, it is a short-term fix rather than a long-term solution to the country’s huge foreign currency debts, widening current account deficit and soaring inflation. 

Turkey’s problems have accelerated since President Erdogan’s re-election in June. He pushed out a capable finance team, who had been making the right moves to handle the country’s financial problems, installing his son-in-law as finance minister. Erdogan also put pressure on the Central Bank, which chose not to raise rates in its recent policy meeting in spite of a huge spike in inflation. 

Turkey is certainly teetering on the abyss, but the real question for investors is whether it can remain an idiosyncratic problem, or whether there are channels by which the problems can be transmitted to other areas, both within emerging markets and elsewhere. 

Certainly, emerging market currencies have struggled since the crisis. However, stock markets have remained relatively well-supported. The MSCI EM index is up 2.2% over the past month; that is a little behind the MSCI World index (which rose 3.12%), but not a disaster. 

While there is a risk that Turkey’s crisis affects sentiment towards emerging markets, it is clear that the country is an outlier. According to data from Pictet, the current account positions of developing economies has improved considerably since 2013 with the emerging markets’ current account surplus growing from 0.1 per cent to 0.8 per cent of GDP over that time. At the same time, they are not awash with debt – Pictet points out that company debt as a proportion of GDP in emerging markets has dropped from over 100% to just 48%, that compares to 72% for the US.

There has also been concern about the impact on Europe, but here too, the problems look relatively minor. Turkey is just 1% of world GDP and only 2.8% of the Eurozone’s exports. European banks have exposure, particularly in Spain and Italy, but lending to Turkey is less than 5% of foreign loans for the Spanish banks and 2% for Italian banks. 

Rationally, there is no reason for the problems in Turkey to spread significantly. However, markets are not always rational, and there may be some volatility while the problems are resolved.

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