As if Turkey’s list of western states that the country has a problem with wasn’t long enough, President Recep Erdoğan’s decision to arrest a US consulate employee, alleged to have been involved in the failed coup attempt of July 2016, made sure of another addition to it: his fellow NATO ally, the United States.
Mertin Topuz, a Turkish citizen, is accused of ties to the group led by Pennsylvania-based Muslim cleric Fethullah Gulen, which Turkey suspects was behind last year’s failed coup.
Following his arrest warrant issued by an Istanbul court on 5 October, Mertin Topuz was formally charged on counts of espionage and seeking to overthrow the government. The court cited his connections to a former prosecutor and four former police chiefs, all suspected of leading a corruption probe in 2013, which the government alleges was orchestrated by Gulen’s movement. Since the coup attempt, more than 40,000 people have been arrested, with a further 110,000 sacked from government jobs as part of a widespread crackdown.
In response to Topuz’ arrest, the US ordered the suspension of its visa services for Turkish citizens. A mutual response by Turkey came soon after, suspending visa services for Americans.
The recent diplomatic row plays into the gradual increase of tensions between the two countries in recent years. The US has long been displeased with Turkey’s response to the Islamic State (IS), arguing that it allowed the group to fester along its border regions for far too long and thereby enabling it to gain strength.
From Turkey’s perspective, its sensitive Kurdish issue has been aggravated by the US, which has armed Kurdish militias in Syria. Ankara argues that this not only destabilises Turkey, which has suffered numerous attacks by PPK militants but heightens its insecurity within the region. The recent independence vote in Iraq adds to the government’s worries and is likely to prompt the Kurdish population in Turkey to reignite and potentially intensify calls for their own referendum.
Turkish Markets: Remedies Needed
In response to the diplomatic row, the Turkish lira dropped 6.6% against the US dollar. Turkey’s stock index, the Borsa Istanbul (BIST) fell 4.7%, while shares of its national airline, Turkish airlines, dropped 9%.
Economists and risk analysts have long warned of Turkey’s troubled fundamentals, in particular, its sizeable dollar-denominated current-account deficit and 13-year high inflation caused by government-sponsored credit bonds. Politics and economic policy are inseparable in Turkey. In order to engineer short-term economic growth, a fixation of Erdoğan to get his Justice and Development Party (AKP) reelected in 2019, the Turkish government set out loose loaning requirements, pumping out loans of lira worth more than $50bn to private companies.
Combined with its reliance on foreign capital markets, such policies are crucial to maintaining domestic consumption and investment from the economy’s structural constraints but this is possible only as long as finance is cheap. Rising inflation, tightening global credit conditions and political risk have fueled the lira’s devaluation, making it increasingly difficult to service loans, exposing the Turkish economy and its debt, both private and public, to external shocks that have furthered macroeconomic instability.
However, Erdogan’s populist economic plan has made the economy reliant on such loans, leading to a vicious loaning cycle that has made foreign currency liabilities amount to more than $210bn, which now sustain public and banking sector balance sheets.
Erdoğan’s crackdown on civil society and government bodies following the attempted coup; diplomatic rows with European allies on issues of migration and electioneering abroad; and increased involvedness in the Syrian conflict have done little favours for potential corrective structural conditions that could produce the required foreign monies to meet repayments.
The crackdown which has seen the arrest of over 40,000 citizens has mainly focused on highly-educated and skilled workers: members of the economy who could potentially remedy the foreign exchange discrepancy. Tourism too has fallen sharply, an industry that balances foreign currency revenues.
An export-orientated economy would also do many favours to rebalance Turkey’s foreign liabilities. A potential glimmer of hope may be its recently announced Medium-Term Program (MTP), a roadmap for the economy until 2020, which seeks to introduce production-oriented, efficient, export-based growth policies that seek to remedy Turkey’s poor macro fundamentals.
Any renewed policy for the economy, however, will need to be accompanied by one that restores confidence in Turkey’s tumultuous political environment. Since the attempted coup, Erdoğan has passed an alarming number of authoritarian measures, spooking not only citizens but investors too.
One effect has been an unprecedented brain drain. Academics, students, and entrepreneurs are moving abroad en masse, many of them to western countries, citing the post-coup crackdown, dwindling job prospects and an overbearing Islamist government as reasons for the move.
Erdoğan has recognised this outflow of skilled and educated workers as a problem and stated that measures are needed to stop it as such groups are critical in bringing the dynamism needed for the MTP economic plan-and the Turkish economy in general-to succeed.
However, despite seeing a need to reform, Erdoğan’s ability to buffer Turkey’s economy through unsustainable populist policies amid political instability and market uncertainty, which have increased his approval ratings, put into question his commitment to producing an environment conducive, rather than contradictory, to the conditions required for such an economic plan to succeed.
While Fitch Ratings revised Turkey’s 2017 growth forecast from 4.7% to 5.5%, highlighting the governments MTP economic plan, it was only a week later that the lira plunged again after the country’s most recent diplomatic spat with the US.
In short, Turkey’s unstable political environment encourages capital and human flight, making it unlikely that the MTP plan will succeed. This will likely lead to a continuation of populist economic and political policies by Erdoğan. While such policies have successfully safeguarded the economy and boosted approval ratings, they leave Turkey increasingly exposed to the volatilities of an increasingly authoritarian regime, regional geopolitics and international capital markets over the long-term.
This ultimately makes it increasingly difficult for Turkey to carry out much-needed reform, which judging by its poor macroeconomic fundamentals could not come soon enough.
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