Differences must be put aside to contain the crisis in Turkey
Given the potential threat to the global economy, it would pay China and the European Union to address the currency and debt dangers facing Ankara
Contagion, a dreaded word that sends many a fearful investor fleeing, is back in the headlines. Turkey, until recently an emerging market star, is facing an old-fashioned currency and debt crisis. We have seen this movie before, with the Asian financial crisis two decades ago and the more recent economic collapse in Greece. But that does not make it any less scary. What makes it even more disturbing is that it comes at a time of geopolitical tensions between Ankara and Washington. Throw in a trade war between the United States and China and you have a potentially combustible crisis.
No wonder the financial markets are spooked. The lira has plunged more than 40 per cent since the start of the year. But it was a free fall of as much as 20 per cent against the US dollar on August 10 that scared everyone and prompted people to re-examine the exposure of European banks to Turkish debts and fret about the possibility of the crisis spreading to other emerging markets.
The drastic drop in the value of the lira was in response to sanctions imposed by US President Donald Trump against the Turks’ continuing detention of an American pastor on terrorism charges.
Even up to the second quarter of this year, growth was reported at an impressive 7.22 per cent in gross domestic product, but fast economic growth has been fuelled by foreign-currency debt. As a result of heavy borrowing over years, deficits in both current and fiscal accounts ballooned. However, unlike most Asian economies with high levels of reserves for protection, Turkey does not have enough to cushion the economy when things turn bad. As the lira falls, Turkish businesses find it increasingly difficult to repay debts denominated in foreign currencies.
Also, with high growth comes rising inflation, but President Recep Tayyip Erdogan had kept interest rates too low for too long. Perhaps he should have read up on the Asian “tiger” economies and the crisis of 1998, or looked to neighbouring Greece, which is finally emerging from its devastating collapse after years of austerity and hardship.
Turkey will need help to dig itself out of the hole. Usually, out of self-interest, Washington, Brussels, and Western financial institutions such as the International Monetary Fund would be on standby to lend a hand. But relations between Turkey and the US are at a low point and this is tilting Ankara towards Russia and China, which has offered support. Though China has its trade war to worry about, its involvement will be seen as a lifeline by the Turks, but it may also alter the geopolitical landscape in the region.
Given the potential threat to the global economy, China and the European Union should put aside their differences for now and work together to contain the crisis in Turkey.