Turkish Lira Faces 25% Drop Amidst Elections and Lira-isation Risks

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Looming elections and unsustainable currency-defence economic policies are unlikely to prevent a sizeable slide in the value of the Turkish Lira before year-end.

This is according to new research from Capital Economics, the independent economic research provider and consultancy.

So significant are the economic and political headwinds that analyst James Reilley warns the Lira could decline by as much as 25% by the time the year has ended.

In a new research note covering the Lira's outlook Reilley says, "although the Turkish Lira is at its weakest ever level against the Dollar it would have fallen far further by now were it not for intervention by policymakers".

The Lira is also at record lows against the Pound and Euro and the interventions cited by Reilley are those known as 'lira-isation'; measures put in place by authorities to ensure businesses and households are forced to maintain the use of the domestic currency and not pivot to safer foreign currencies.

An example of such policies is the requirement that exporters convert 40% of earnings into Lira.

"We think the current policy framework is unsustainable," says Reilley.

The Lira-isation policy is said to increase macroeconomic risks, most notably by preventing the exchange rate to act as a stabilisation mechanism that would close Turkey's significant current account deficit, which has now reached 6% of GDP.

Elections are the obvious near-term risk for TRY with Capital Economics saying the reelection of President Erdogan on May 14 will mean a continuation of unsustainable and unconventional policy.

A win by the opposition could be welcomed by FX markets, at least initially.

Capital Economics expects the opposition to win, "but the boost to the Lira from such an outcome may be limited for two reasons," says Reilley.

Reason 1: Erdogan could raise the political temperature by contesting the result
Reason 2: The government faces a mountain to climb to restore economic credibility

"With limited upside from an opposition victory, and downside if the incumbent wins, the risks look skewed to a weaker Lira," says Reilley.

Capital Economics forecasts the Dollar-Lira exchange rate from ~19.30 to 26.00 by year-end and 32.00 by end-2024.