Türkiye seems to have lost the nerves. The west seems to have won at this moment. Türkiye raised the rate of interest from 8.5 percent to 15 percent, as a policy U-turn, it appears. The Turkish administration under the stewardship of President Tayyip Erdoğan, despite international hue and cry, had kept this rate pegged at 8.5 percentsince 2021. He had reportedly vowed not to increase the rate and go for further monetary easing. He seems to have buckled under the adverse financial conditions of the nation. The international media has termed it an end of Erdoğanomics. However, in all probability, the struggle would continue. President Erdogan may have ‘stooped to conquer’.
The adverse economic conditions, which compelled the administration of Erdoğan to bow down, comprised high inflation and continued decline in the value of national currency lira as against US dollar and other international currencies. As far as inflation is concerned,Türkiye was able to control it to some extent. It came down to around 39.5 percent in May, 2023 from 72.3 percent in 2022. It has been further declining.
The fall of lira became uncontrollable. In fact, the hike in interest rate has also not checked the downward movement.There are several causes of this fall in currency. One is that the increase in rate of interest is lower than market expectations of 21%. Another reason is that contrary to the earlier practice of utilising foreign exchange reserves for buying of currencies in the open market for stabilising lira, the new monetary policy administration has decided not to deplete the reserve for thepurpose and let market forces decide the rate without any intervention by the government.
The new policymakers in Türkiye decided to move cautiously. Newly appointed Governor of the Central Bank of Türkiye, Hafize Gaye Erkan has not ruled out further hike in interest rate. This may be done in a phased manner. She said, “Monetary tightening will be further strengthened as much as needed in a timely and gradual manner until a significant improvement in the inflation outlook isachieved.” She further announced that a predictable fiscal policy and free exchange rate regime will “ensure that the Turkish lira regains stability and becomes a reliable currency.”
The idea on which the economic administration of Türkiye, under the ideals propounded by President Erdoğan,was treading the path has got a break. It is difficult to predict whether the lost momentum is temporary or permanent and it is reversible or irreversible. The problem with Turkish economy is that of repayment of foreign debts. Although a majority of these foreign debts are private loans taken for development of infrastructure at a fast face. The bonds issued for debts are mostly payable in foreign currencies. Foreign investors, both institutional and private, shy away on providing debts payable in local currencies where interest rates are not relativelyattractive.
WHY EYEBROWS ARE RAISED?
It is interesting to understand the reason behind the manner international media, Western nations, global financial institutions and overall capital market of the world have been reacting to the erstwhile policies of Erdoğan and the sarcasm on the recent policy change in Türkiye (like calling it end of Erdoğanomics!). The economic policy of Türkiye and its commitment to lower interest rates were termed as unorthodox. Eyebrows were raised and disapprovals expressed openly. The reason is simple. If those policiessucceeded then that might be a catastrophe for the capitalist economy of the world which heavily relies on creation of debt, which is feasible on ever-increasing rate of interest.
It is not true that the philosophy of development based on low interest rate is unfounded. In fact, it is a well-establishedtheory of monetary policy known as Expansionary Theory as compared toContractionary Theory of Monetary Policy. Erdoğan insisted to application of the former while the Western powers said, “You dare not.”
Instead of describing twoalternative economic policies, we are copying standard text available on the web hereunder.
EXPANSIONARY FISCAL POLICY
“Lower interest rates decrease the cost of borrowing money, which encourages consumers to increase spending on goods and services and businesses to invest in new equipment. The increase in consumption spending by consumers and investment spending by businesses increases the overall demand for goods and services in the economy. With increased production, businesses are likely to hire additional employees and spend more on other resources. As these increases in spending ripple through the economy, unemployment decreases, moving the economy toward maximum employment.”
CONTRACTIONARY MONETARY POLICY
“Higher interest rates increase the cost of borrowing money, which discourages consumers from spending on some goods and services and reduces businesses’ investment in new equipment. The decrease in consumption spending by consumers and in investment spending by businesses decreases the overall demand for goods and services in the economy. With decreased production, businesses are less likely to hire additional employees and spend more on other resources. As these decreases in spending ripple through the economy, inflationary pressures would diminish and the inflation rate would fall back.”
https://www.investopedia.com/terms/e/expansionary_policy.asp#:~:text=Expansionary%20monetary%20policy%20works%20by,requirements%2C%20and%20setting%20interest%20rates
In other words, low interest rate leads to growth. It encourages governments, businesses and consumers to borrow and spend more freely, resulting in higher demand by consumers and investments by corporations, leading to higher GDP growth and employment.