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Is Erdogan Changing His Bizarre Economic Policy?

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Is Erdogan Changing His Bizarre Economic Policy?

The latest decisions and appointments of Turkish President Recep Tayyip Erdogan, who has just been re-elected for a new term, are giving many analysts hope that Turkey could normalize its economic policies, after some controversial decisions by Erdogan in recent years, especially in monetary policy, had caused a very serious increase in inflation and a sharp depreciation of the Turkish lira.

In particular, the appointment as Economy Minister of Mehmet Simsek, a very authoritative economist who had already been part of the Turkish government about fifteen years ago, in one of the country’s maximum economic expansion periods, has been much discussed in recent days . His appointment could put Turkish economic policies back on a more orthodox path than those promoted by Erdogan in recent years.

Erdogan has ruled the country for about 20 years and has been pursuing extremely controversial economic policies for some time and contrary to the orthodoxy recognized by most economists on issues such as inflation and public spending: these policies have managed to considerably the economy, but have led to social costs that risk becoming unbearable, and impoverish the population in the long run. For some years now, inflation in Turkey has been very high, and in recent months it had exceeded 80 percent.

Most economists believe that the situation of the Turkish economy is becoming unsustainable, and for this reason, shortly after his appointment, Simsek he said that “Turkey has no choice but to return to rationality” in its economic policy choices. The chances of things changing for the better will depend a lot on how much leeway Simsek actually has in shaping Turkey’s economic policies or whether, as some fear, his appointment will remain just a cosmetic appointment to reassure international investors.

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Simsek was previously a member of Erdogan’s cabinet, as economy minister from 2009 to 2015 and as deputy prime minister from 2015 to 2018. He managed the aftermath of the 2008-2009 financial crisis and contributed to substantial growth economy in the immediately following years. But then something changed and he lost authority and influence within the government, until in 2018 he was replaced by Berat Albayrak, Erdogan’s son-in-law. Since then, the president has adopted increasingly controversial economic policies.

Among the various the most bizarre was the management of interest rates, in the opposite direction to the more widespread economic orthodoxy: they were reduced when instead it was necessary to increase them.

Turkey has had a serious inflation problem for some time now: the general price level rose a lot after the pandemic and things got worse with the start of the war in Ukraine. The classic response to such high inflation is to raise key interest rates, i.e. the cost of borrowing at which central banks lend to other banks. The goal is to “cool down” an economy that is growing too much, in which we want to consume more than the system is able to produce, with a consequent increase in prices.

On the contrary, Turkey is pursuing a sort of economic experiment: Erdogan is forcibly keeping interest rates low because he wants to preserve economic growth in every way, even at the cost of greatly increasing prices. Low interest rates make you want to borrow money to buy things or invest. For example, people buy more houses, so they hire more workers to build or renovate them, they in turn will spend and the economy grows. Furthermore, the fact that the Turkish lira is so weak represents an incentive for exports: for those who buy in foreign currency it is relatively cheaper to buy Turkish goods because they can take advantage of a favorable exchange rate.

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When the economy “overheats,” prices start to soar—usually when central banks raise interest rates to slow the economy. In Turkey, the central bank is not independent, as it should be, but it responds to the political logic dictated by President Erdogan, who is effectively “doping” the Turkish economy to maintain consensus: the Turkish central bank has lowered rates month after month , going exactly in the opposite direction of all central banks in the West. But in Turkey, central bankers have no choice but to do as they are told by the president or else they will be fired.

Since the autumn of 2021, interest rates have decreased by ten points and economic growth has been sustained as follows: GDP grew by 11 percent in 2021, by 5 percent in 2022 and by 4 percent in the first quarter of this year . All this at the cost of very high inflation, which reached a peak of 86 per cent last year and then gradually fell to 44 per cent in April.

Due to the fact that prices rise much faster than wage increases, the Turkish population is increasingly impoverished and the government has responded over time with some popular but economically inexpedient measures in order to regain its favour, such as of minimum wages and pensions and the reduction of the retirement age. While these measures may relieve the population, they are temporary and will only make the situation worse in the long run, according to most economists.

A first move to normalize economic policies could be to reverse the decisions on interest rates: increasing them would allow the economy to slow down and so prices would stop growing. The next rate decision will be announced on June 22.

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The real question concerns how much leeway the new Economy Minister will have, i.e. whether he will actually make a concrete turnaround in economic policies or whether his appointment is only formal and aimed at reassuring financial investors, who however need to see concrete actions and it is not certain that they let themselves be reassured only by the appointment.

In fact, since the formation of the government, however, a large drop in the value of the Turkish lira has not stopped, which in the space of 5 years has lost 80 percent of its value against the dollar and which lost further in the past week. This is because investors believe that the central bank has run out of currency reserves to intervene in the markets. The bank has sold tens of billions of dollars to shore up the Turkish lira ahead of last month’s elections — a policy that helped Erdogan secure a third term as president but depleted the bank’s coffers.

– Read also: Four answers on Erdogan’s victory in Türkiye

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