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06/06/2023 | News release | Distributed by Public on 06/06/2023 08:20

Turkey’s new finance minister signals more orthodox policies

Turkey's new finance minister signals more orthodox policies

Tue, 06th Jun 2023

Article tagsEconomyMiddle East & AfricaCountry Analysis

On June 3rd the president, Recep Tayyip Erdogan, unveiled his new cabinet, which contains former bureaucrats as well as names from the private sector. The appointment of Mehmet Simsek (a former economist who served as economy minister in 2007-09 and deputy prime minister in 2015-18) to the treasury and finance ministry signals that Mr Erdogan is in favour of economic-policy changes after years of unorthodox moves.

Why does it matter?

Mr Simsek has a conventional approach to economic theories. He is an advocate of transparency and of an independent central bank, which will reassure foreign investors after years of economic turmoil. Mr Erdogan has also appointed Cevdet Yilmaz-who also supports orthodox economic policies-as Turkey's vice president.

Mr Simsek will face several challenges with Turkey's increasing risks of a balance-of-payments crisis, high inflation and public deficits, as well as rising risks to the financial sector. His economic views are in discordance with Mr Erdogan's viewthat high interest rates cause rising inflation. Mr Erdogan's unorthodox policies have causedrapid lira depreciation, soaring inflation and a collapse in investor confidence. Further unorthodox policies include guarantees for exchange-rate-protected bank accounts (KKMs) that protect against lira depreciation, and which now hold the equivalent of US$125bn, as well as a series of banking regulations aimed at controlling the growth, direction and cost of bank credit and discourage the use of foreign exchange.

Despite clashing views, we expect Mr Simsek to have received some guarantees of non-interference from the president. That said, Mr Erdogan is unlikely to have completely abandoned his convictions on low interest rates, which will slow down Mr Simsek's implementation of a new monetary policy direction. Meanwhile, an exit from the current unorthodox monetary regime would require careful staging, as drastic rate rises would hit borrowers hard, damage the economy and spark lira volatility. Other factors would need to be taken into account. For example, the KKMs represent pent-up demand for foreign exchange; removing the current controls on bank lending quickly while dissolving the KKMs would create a sharp rise in foreign-exchange demand from domestic savers.

What next?

Changes in economic policy are imminent. The unorthodox rules imposed on banks are likely to be reduced and revised. The recent trend towards more realistic setting of bank interest rates, as well as lira depreciation, will accelerate. We expect the central bank to start raising its policy rates towards year-end. Tax increases and a degree of spending restraint are likely. However, uncertainty over Mr Erdogan's commitment to orthodox and deflationary policies will continue to affect confidence in the Turkish economy in the coming weeks.

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Tue, 06th Jun 2023Article tagsEconomyMiddle East & AfricaCountry Analysis