Turkey KrIZ

TURKEY KRIZ

The fall and fall of Lira

It was only when optimistic Turks started snapping up imports that investors began to doubt that foreign capital inflows would be sufficient to fund both spendthrift consumers and the perennially penurious government.

“On the Brink Again,” The Economist, February 24, 2001.

Turkey’s Kriz (A)

In February 2001 Turkey’s rapidly escalating economic kriz, or crisis, forced the devaluation of the Turkish lira. The Turkish government had successfully waged war on the inflationary forces

embedded in the country’s economy in 1999 and early 2000. But just as the economy began to boom in the second half of 2000, pressures on the country’s balance of payments and currency rose.

The question asked by many analysts in the months following the crisis was whether the crisis had been predictable, and what early signs of deterioration should have been noted by the outside world.

First, Turkey seemingly suffered significant volatility in the balances on key international accounts. The financial account swung between surplus (1993) to deficit (1994), and back to

surplus again (1995-1997). After plummeting in 1998, the financial surplus returned in 1999 and 2000.

Secondly, as is typically the case, the current account behaved in a relatively inverse manner to the financial account, running deficits in most of the years shown. But the deficit on current account grew dramatically in 2000, to over $9.8

billion, from a deficit in 1999 of only $1.4 billion.

Turkey’s Kriz (A)

Banking sector

• Licensing was not regularised• Borrowed in US dollars from International

Markets at low interest rate.• Invest in Government Bond at higher

interest rate• The growing external debt obligation,

caused instability• The bank debts were callable repayment

overnight

Interest Rate Arbitrage Profit

$1,000,000

Federal Bank US

Turkish Bank

2% interest

$1,020,000

Borrowed

Required Payback

$1 685,000 Lira

Currency conversion rate

Interest Rate Arbitrage Profit

Turkish Bank Turkish Bond

685,000,000,000 LiraBought Government Bond

938,450,000,000 Lira

Interest Rate 37%

938,450 Million Lira $1,370,000Lira to Dollar

Net Profit = $35,000

Interest Rate Arbitrage Loss

$1,000,000

Federal Bank US

Turkish Bank

2% interest

$1,020,000

Borrowed

Required Payback

$1 685,000 Lira

Currency conversion rate

Interest Rate Arbitrage Loss

Turkish Bank Turkish Bond

685,000,000,000 LiraBought Government Bond

938,450,000,000 Lira

Interest Rate 37%

938,450 Million Lira $938,450Lira to Dollar

Net Loss = $82,550

1 Million Lira $1Lira to Dollar

Banking sector

• Investment in government bond help government to generate economic activities from that money

• This continuous demand for Turkish government bonds increased the government’s debt

• It also allowed the government to fund increasing budget deficits at manageable costs

• Unfortunately Lira collapsed and affected the BOP

• International banks were not able to collect debt from Turkish banks; which leaded to THE CRISIS.

Exhibit 1 Turkey’s Balance of Payments, 1993–2000

Turkey’s current account had been relatively volatile (generally in deficit), but hadtaken a severe dive in 2000. The capital/financial account balance was in surplusnearly throughout the period reflecting the massive international borrowing by Turkey.

Current & Capital Account

• Money borrowed from international bank to stabilize their current account

• Allowed the government to fund increasing budget deficits at manageable costs.

• Exchange rates above equilibrium levels leads to a current account deficit

• Fixing them below equilibrium stimulates capital flight and investment abroad, also producing a crisis

Contd…

• Fighting a large trade and current account deficit more critical rather that fighting inflation.

• In February 2001, there was deteriorated of the Turkish current account balance. Therefore, Turkish bank borrowed money from international bank to stabilize their current account. However Turkey government not affordable to pay its international debt, it allowed the government to fund increasing budget deficits at manageable costs.

• It affected it’s current account deficit.

• Then, when international bank bring back their capital to their country, it caused Turkey’s inflation increased and exchange rate down dramatically.

Contd…

• It can say that, because of current account deficit, Turkey experienced high inflation rates.

• Turkish government turned to IMF for help. Unfortunately, it was undertake a privatization program whereby it reflected the political and trade relations.

• Turkish hard to fighting a large trade because European Union was unfair and discriminatory barriers since they were not in the spirit of membership.

• It caused Turkish experienced economic crisis and was only attempting to slow the growing current account deficit.

• Turkey still can survive when fighting inflation if Turkish banks not acquired the dollar-debt obligations from international banks.

Export & Imports

• Majority of Exports were to Europe• Freight cost increased• Administrative difficulties increased• Devaluation of Asian currency• 52.6% imports from Europe• Net portfolio investment began falling• 28.3% of the imports was machinery

Exports

Imports

Telsim’s Default

• Telsim missed $728 Million in April• Motorola’s collateral 66% shares to 22%• Telsim also missed $240 Million payment

of Nokia• Telsim defaulted

• Short term loan• Devaluation of Lira

IMF help in 2000

• IMF was called for rescue after a major bank failed to pay the debt obligation.

• IMF program• Low the inflation rate• Reconstruct public bank• Reduce external debt• Privatization • Peg Lira to Dollar

November 2000

Overnight interest rate reached to 315% Depletion of foreign currency by $5.5 billions Liquidity crisis in few banks Net portfolio investment Central bank tried to inject liquidity The panic was arrested only with a $7.5

billion IMF emergency funding package

February ‘01

• Feb18, 2001- in a public argument The President Accused the Prime-minister of being "too passive“ corruption.

• Feb 19 - International investors pulled out over $5 billion of capital .

• The Turkish central bank’s total foreign exchange reserve, $20 billion, was unable to sustain a defence at this rate of capital flight.

• Feb 22 - The exchange-rate system collapsed and Turkey declared that it was going to implement a floating exchange rate system

Post Feb situation

• Foreigner & Turkish rushed to buy foreign currency

• Foreign reserve• March 3 - $21.52 billion• April 20 - $17.90 billion

• 4,146 firms were closed in the first three months of the crisis

• 1st quarter industrial production declined by 20%`

Jan

'00

Feb

'00

Mar

'00

Apr '0

0

May

'00

Jun

'00

Jul '

00

Aug '0

0

Sep

'00

Oct '0

0

Nov '0

0

Dec '0

0

Jan

'01

Feb

'01

Mar

'01

Apr '0

1

May

'01

Jun

'01

Jul '

01

Aug '0

1

Sep

'01

Oct '0

1

Nov '0

1

Dec '0

1

Jan

'02

Feb

'02

Mar

'02

Apr '0

20

1000

2000

3000

4000

5000

6000

Portfolio Investments: Securities Purchases (Inflows) and Sales

(Outflows) by Non-Residents in Turkey (Millions $)

INFLOWS OUTFLOWS

Inflation

• Monetization of public sector budget deficits • Inflationary effects of changes in exchange

rates via increases in prices of imported inputs

• Turkey with IMF designed inflation stabilization program which succeeded in reducing the inflation rate from 64% to 39.03%

• Feb crisis led to collapse of the Lira and inflation again rose to 68.53%

Exhibit 4 Turkish Inflation Rate and Exchange Rate (quarterly)

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

20.0%

1998.1 1998.2 1998.3 1998.4 1999.1 1999.2 1999.3 1999.4 2000.1 2000.2 2000.3 2000.4 2001.10

2,00,000

4,00,000

6,00,000

8,00,000

10,00,000

12,00,000

Exchange RateInflation Rate

Way Forward

• Strict adherence to privatisation goals and the structural reform programme, notably in the banking and state enterprise sectors.

• Fiscal discipline must be imposed• Rebuild a social consensus

Turkey KrIZ

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