Investing in emerging markets is like watching the tides without the moon as a guide. Capital flows in and out in surges, and woe to the country that gets caught with bad policies when the tide suddenly goes out. Argentina has been getting that re-education of late, and now Turkey is watching capital flee for safer climes.
Turkey’s lira fell as much as 5% on Wednesday, and it’s lost more than a fifth of its value this year, adding to a long decline that is forcing extreme monetary measures to compensate. Much of the blame lies with President Recep Tayyip Erdogan, as Turkey has been running a current-account deficit that is on trend to exceed 6% of GDP. Turkey has been growing rapidly but the growth has been heavily financed by dollar-denominated investment.
Meanwhile, Mr. Erdogan has been beating the central bank like it’s Syria’s Bashar Assad. In Ankara this month, he called high interest rates “both the mother and father of all evils.” Investors took this to mean he’s exerting political control over Turkey’s central bank even as inflation has reached nearly 11%.
With capital fleeing, Mr. Erdogan is getting higher interest rates in any case as the central bank tries to stem the lira panic. On Wednesday the bank lifted a key lending rate to 16.5% from 13.5%. Consider this the price of the lost credibility of Turkish institutions under Mr. Erdogan’s increasingly authoritarian rule. Dictators are rarely good economic managers because they want to dictate fiscal and monetary policy as much as they do every political choice.
The pressure on Turkey and other emerging markets has also been exacerbated by a rising U.S. dollar, as investors anticipate stronger American growth in the wake of tax reform and deregulation. The U.S. Federal Reserve is raising interest rates, which is another reason for capital flows out of emerging markets.
There are many places to invest in a growing global economy, and at the margin there’s little reason to take a risk on Mr. Erdogan’s policy whims. The countries that are best equipped to weather a flight to dollar quality are those with a sound fiscal ledger, a credible central bank and pro-growth policy instincts.
Mr. Erdogan has wanted to keep interest rates low before the June 24 parliamentary and presidential elections when he hopes to consolidate even more power. That calculation has boomeranged with the lira panic, so look for him to blame the currency rout on foreigners and Western politicians. Turks would be smarter to hold Mr. Erdogan accountable.
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