The latest leg of an ongoing collapse in the Turkish economy accelerated overnight with the Lira at one point down 12% versus the dollar as relations with the US deteriorated.
While the currency later recovered to trade 10% lower overnight, that remained down more than 61% against the US dollar in the year to date, at a record low.
Since renewing his mandate earlier this year president Recep Tayyip Erdoğan has declared interest rate rises the 'mother and father of all evil' and replaced the respected finance minister with his son-in-law.
Having rallied to trade 7% down on the day in late morning, the lira renewed its slide in early afternoon London time, as a hastily convened government attempt to address the crisis backfired.
'Anyone who has dollars, euros or gold under their pillow, go turn them into Turkish lira,' said Erdoğan. 'This will be our response to those who declared economic war on us.'
The loss of confidence in policymaking has deepened this week as a diplomatic spat with the US over a jailed pastor intensified into sanctions, and Erdogan declared the country did not need dollars when 'we have our God'.
It follows a proposal in the US Senate to restrict loans from the World Bank and European Bank for Reconstruction and Development to Turkey 'until the Turkish government ends the unjust detention of U.S. citizens' in July.
Concerns about an imminent balance of payment crisis have dramatically spilled over into sovereign bonds, with the yield on Turkish 10 year debt blowing out to 19.8%, from just 12.2% in May.
The uptick in volatility has now begun to have a knock on impact on the European banking system. The euro dropped over 0.6% against the dollar to a 13-month low on reports the European Central Bank (ECB) was concerned about the high levels of exposure of Spain’s BBVA, Italy’s UniCredit and France’s BNP Paribas, to Turkish debt.
Analysts put most of the blame for the build-up to the current crisis on the failure of Turkey’s central bank to hike interest rates, and decisions made by Erdogan.
The government has claimed its staregy will pave the way for 3-4% economic growth next year, and lower inflation to single digits.
Head of total return strategy at fund house Finisterre Capital Damien Buchet said that the government’s economic policies have prevented a move away from its heavy reliance on domestic consumption.
‘Most recently, geopolitical tensions and the ongoing erosion of credibility of domestic institutions such as the central bank, statistical office, judiciary and media, have all served to underscore our concerns,’ he added.
This has led him to take a bearish stance on the lira, while acknowledging this may leave him vulnerable to an emergency rate hike or a U-turn by Erdogan to appease market sentiment.
Gyorgy Kovacs, chief emerging market economist at UBS, said: ‘We think the cause here is that the recent round of very rapid TRY depreciation – the lira has lost 22% since 26 July – has much to do with rapid public escalation of tensions between the US and Turkey.’
‘The escalation has resulted in, according to the press, the US placing sanctions on two Turkish ministers, the US trade representative's office considering the withdrawal of duty-free access for $1.7 billion worth of Turkish exports and previously a US senate committee supporting the "Turkey International Financial Institutions Act" bill.'
For his part, Erdogan appears to have put his country's economic problems down to malign behaviour on the part of the west, telling a crowd in his hometown on Thursday: ‘There are various campaigns being carried out. Don't heed them.
‘Don't forget, if they have their dollars, we have our people, our God.’