Turkish Lira in 29% Surge Against the Pound

• TRY cuts back three-months of losses by 50%
• In punishing holiday market squeeze on sellers
• TRY deposit scheme crushes USD/TR, GBP/TRY 
• May support TRY further if dollarisation reversed
• GBP/TRY nearing 17.00 & USD/TRY eyeing 11.00

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The Lira had reversed more than half of a punishing multi-month sell-off by Tuesday after the government introduced a new depositors’ saving scheme that could have scope to reverse the currency-crushing trend of ‘dollarisation’ in the months ahead.

Turkey’s Lira has staged a swift and relentless recovery that has pushed USD/TRY and GBP/TRY lower by triple digit percentages in thin and possibly illiquid holiday markets following the introduction of a new savings scheme by the government.

Turkish savers including businesses and households will now be able to use special accounts that protect the value of Lira denominated savings by paying compensation for excessive volatility in the exchange rate via an adaptable interest rate.

“The objective of the scheme is to stop retail demand for hard currencies like USD and EUR,” says Bas van Geffen, CFA and a strategist at Rabobank.

“The government’s finances are now even more linked to the currency’s performance, which could exacerbate shocks if credibility risks materialise. So, despite the miraculous recovery in after-hours trading, the verdict is still out whether this stops the TRY’s bleeding,” Rabobank’s van Geffen also said.

Above: USD/TRY and GBP/TRY shown at daily intervals with Fibonacci retracements of summer rally indicating likely areas of technical support.

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The Lira’s rally following the announcement of the new scheme reversed more than half of USD/TRY’s increase from 8.28 in early September to more than 18.37 at the opening of the week, while the Pound-to-Lira exchange rate had fallen close to -30% by Tuesday.

Holders of an ‘exchange rate protected TL term deposits” will be paid the difference between the Central Bank of the Republic of Turkey interest rate and any negative change in value of the exchange rate, in addition to the CBRT’s interest rate.

It’s hoped that the new scheme will discourage businesses and households from storing wealth in foreign currency deposits rather than Lira deposits, the regular conversion of which has been identified by analysts and economists as a major pressure on the heavily depreciated Lira.

“The share of FX deposits in total deposits is already about 56%,” warned Murat Toprak, a CEEMEA FX strategist at HSBC, writing in an October note.

Source: HSBC.

“With the current level of inflation above the nominal interest rate and rising inflation expectations, the actual and the expected real deposit rates by households and corporates could fall further and increase the demand for FX,” Toprak and colleagues also said.

Some estimates had suggested that more than half of Turkish bank deposits are now held in foreign currencies following repeated and almost annual bouts of double digit Lira depreciation over a long and ongoing period.

As a result, and although the Lira’s recovery has already been sharp, a further rebound by the currency cannot be ruled out in the event that the new scheme gains traction among Turkish households and businesses.

The Lira had been on course for one of its worst years on record following a series of interest rate cuts from the CBRT over the last quarter, which amid high and rising levels of inflation and which the market perceived as having been engineered by President Recep Tayyip Erdogan.

Above: USD/TRY and GBP/TRY shown at weekly intervals.

“With soaring inflation and falling nominal interest rates, the real interest rate is gradually sinking further into negative territory, in turn driving bond investors to continue cutting their positions ($34m of bonds sold by foreign investors in December),” says Lysu Paez Cortez, a strategist at Natixis.

Driving the Lira’s recent depreciation has been the unorthodox interest rate policy of the CBRT, which has cut its cash rate from 19% to 14% in the face of double-digit inflation rates and seemingly under pressure from Ankara.

This has emboldened speculators who’d wagered against the Turkish currency in increasing size and with growing confidence over recent months, with the Lira’s losses reaching a crescendo in December after President Erdogan set out details of the government’s new economic strategy.

Erdogan said in an interview with TRT Haber that Turkey would no longer court “hot money” through high interest rates and that the country would instead attempt to grow economically by developing its export sector using low interest rates, among other things.

“As yet, the main risk to have materialised is an acceleration of inflation, which exceeded 20% YoY in November, in turn eroding the purchasing power of Turkish households. The pass-through effect of the lira’s depreciation could push inflation to around 30% in Q2-22. The very real impoverishment of the population has led the government to announce a 50% increase in the minimum wage,” Natixis’ Cortez also said this week.