For Turkey, Erdogan Victory Brings More Risky Economic Policy

Since winning re-election, President Recep Tayyip Erdogan of Turkey has publicly doubled down on his idiosyncratic economic policies.

“If anyone can do this, I can do it,” he declared in a victory speech last Sunday, referring to his ability to solve the country’s calamitous economic problems.

His brash confidence is not widely shared by most analysts and economists.

The Turkish lira dropped to a record low against the dollar this week, and foreign investors have been disheartened by the president’s refusal to stray from what is widely considered to be an eccentric economic course.

Instead of combating dizzying inflation by raising interest rates and making borrowing more expensive — as most economists recommend — Mr. Erdogan has repeatedly lowered rates. He argues that cheap credit will boost manufacturing and exports.

But his strategy is also fueling inflation, now running at an annual rate of 44 percent, and eroding the value of the Turkish lira. Attempts by the government to prop up the faltering currency have drained the dwindling pool of foreign reserves.

As the lira’s value drops, the price of imported goods — like medicine, energy, fertilizer and automobile parts — rises, making it more expensive for consumers to afford daily costs. And it raises the size of debt payments for businesses and households that have borrowed money from foreign lenders.

The national budget is also coming under increasing strains. The destructive earthquakes in February that ripped up swaths of southern Turkey are estimated to have caused more than a billion dollars in damage, roughly 9 percent of the country’s annual economic output.

At the same time, Mr. Erdogan went on a pre-election spending spree to attract voters, increasing salaries for public sector workers and payouts for retirees and offering households a month of free natural gas. The expenditures pushed up growth, but economists fear that such outlays will feed inflation.

An effort to encourage Turks to keep their savings in lira by guaranteeing their balances against currency depreciations further adds to the government’s potential liabilities.

Critics of the president’s economic approach were somewhat heartened by reports that Mr. Erdogan is expected this weekend to appoint Mehmet Simsek, a former finance minister and deputy prime minister, to the cabinet. Mr. Simsek is well thought of in financial circles and has previously supported a tighter monetary policy.

“What Turkey really needs now is more exports and more foreign direct investment, and for that you have to send a signal,” said Henri Barkey, an international relations professor at Lehigh University. One signal could be Mr. Simsek’s appointment, he said.

Mr. Barkey argues that Mr. Erdogan will have no choice but to make a U-turn on policy by winter, when energy import costs rise and some debt payments are due.

Others are more skeptical that Mr. Erdogan will back down from his insistence that high interest rates fuel inflation. Kadri Tastan, a senior fellow at the German Marshall Fund, a public policy think tank based in Brussels, said that regardless of the cabinet’s makeup, he didn’t believe a policy turnaround was imminent.

“I’m quite pessimistic about an enormous change, of course,” he said.

To deal with the large external deficit and depleted central bank reserves, Mr. Erdogan has been relying on allies like Russia, Qatar and Saudi Arabia to help bolster its reserves by depositing dollars with the central bank or extending payment deadlines and discounts for imported goods like natural gas.

In a note to investors this week, Capital Economics wrote that any optimism about a policy shift is likely to be short-lived: “While policymakers like Simsek would probably pursue more restrained fiscal policy than we had envisaged, we doubt Erdogan would give the central bank license to hike policy rates to restore balance to the economy.”

Turkey’s more than $900 billion economy makes it the eighth largest in Europe. And Mr. Erdogan’s efforts to position himself as a power broker between Russia and the European allies since the war in Ukraine began has further underscored Turkey’s geopolitical influence.

Mr. Erdogan, who has been in power for two decades, built his electoral success on growth-oriented policies that lifted millions of Turks into the middle class. But the pumped-up expansion wasn’t sustainable.

The borrowing frenzy drove up prices, spurring a cost-of-living crisis. Still, Mr. Erdogan persisted in lowering interest rates and fired central bank chiefs who disagreed with him. The pandemic exacerbated problems by reducing demand for Turkish exports and limiting tourism, a large source of income.

Mr. Erdogan is likely to keep up his expansionary policies until the next local elections take place next year. Until then, Hakan Kara, the former chief economist of the Central Bank of Turkey, said the country would probably just “muddle through.”

“Turkish authorities will have to make tough decisions after the local elections, as something has to give in eventually,” Mr. Kara said. “Turkey has to either switch back to conventional policies, or further deviate from the free market economy where the central authority manages the economy through micro-control measures.”

“In either case,” he added, “the adjustment is likely to be painful.”