Turkey’s Lira Spirals Downward Despite Central Bank Efforts

Turkey’s fast-weakening lira plunged 1.6% to 6.97 against the dollar Tuesday, July 28, its lowest level since May amid the devastation caused to its tourism industry by the coronavirus pandemic.

The lira is expected to trade at 7.03 by the end of this quarter and at 7.27 in 12 months, according to Trading Economicsglobal macro models and analysts' expectations.

The lira has been depreciating despite frenetic efforts by the country's central bank -- the Central Bank of the Republic of Turkey (CBRT) -- to stabilize the currency using forex reserves. The slide followed some volatile trading Monday.

Tourism is the country's main source of foreign exchange. Concerns about rapidly-diminishing foreign exchange reserves and growing foreign-denominated debt, central bank intervention and the fear of EU sanctions are factors that could hamper the lira from strengthening, going forward, CNBCreported. Turkey's relationship with the EU have been strained by its proposed drilling plans in the eastern Mediterranean and intervention in Libya’s civil war.

Moody’s and the International Monetary Fund have predicted a 5% economic contraction for the country this year, CNBC said.

Turkey has drawn liberally from its already-low foreign exchange reserves to shore up the lira. The Financial Times cited a London-based analyst as saying that Turkish lenders sold approximately $1.2 billion Monday and an additional $ 600 million by 8.30 am London time Tuesday to break the lira’s fall. Goldman Sachs estimates that the country has spent about $60 billion this year on currency interventions.

Gross reserves -- inclusive of gold -- have fallen by $17 billion to $89.5 billion this year. Excluding borrowings of depositors’ foreign currency savings in domestic banks ($31.3 billion in June 2020) and the CBRT’s total outstanding borrowing through swap agreements ($ 54.4 billion in June 2020), net reserves were about (-) $ 32 billion at the end of June, said the Financial Times.

Following Turkish President Recep Tayyip Erdogan’s view that raising interest rates would be inflationary, the CBRT cut its policy rate from 24% to 8.25% in less than a year. In its July 23 meeting, the CBRT kept its key interest rate -- the one-week repo rate -- unchanged at 8.25% for the second consecutive month, said the Financial Times.

Can Selcuki, managing director of Istanbul Economics Research, told CNBC this week that the lira is still “overvalued” and cited increasing inflation and the shortage of forex reserves as reasons for the same. “Add to this, the increasing foreign denominated debt, it seems like the lira will depreciate again in the coming months if fiscal policy doesn’t intervene,” he said.

Speaking to CNBC, Piotr Matys, an emerging market currency strategist at Rabobank, said Turkey was fighting to defend the lira against the greenback at a time when the dollar was depreciating. He added that the state of Turkey’s (forex) reserves were “truly worrisome."

They’re intervening (in the forex market) quite heavily. And the question is how long they can do that,” Matys said.