Erdogan Is Poised to Reform the Turkish Lira

Last week, Turkish President Recep Tayyip Erdogan called on his countrymen to “save the honor of the Turkish lira” by selling privately held foreign currency and banking in the local currency instead. His plea came a day after the lira’s value plunged to a record low on Aug. 12. If he could prevent Turks from fleeing en masse to the more stable dollar or euro, he must have thought, he could buy time to right the lira’s reputation and fix his country’s monetary woes. Unfortunately, his gambit won’t work. He’ll likely have to resort to bigger reforms of Turkey’s currency next, which is almost certain to cause more chaos.

Erdogan is no stranger to tinkering with the lira; he’s done it numerous times before. In 2005, as a relatively new prime minister, he spearheaded the effort to revalue and rename the Turkish lira. With the elimination of six zeros at the end of each note and the addition of the word “new,” the new Turkish lira was born. Whereas one cup of tea would cost 1 million Turkish liras in 2004, in 2006, the same cup would cost just 1 new Turkish lira. Erdogan sold this reform as ridding his country of the “shame” of multi-zeroed banknotes and as reviving the lira’s “dignity.” He did not pitch it as sound monetary policy; that was not the point. Rather, his interests lie more in fanning national pride as a way to buttress his rule. Luckily for Erdogan, this particular monetary reform did seem to halt the lira’s decades-long depreciation. For a few years, at least, the economy looked on stronger footing—which also helped him maintain power.

In 2009, the word “new” was dropped from the currency, and Turkey’s currency became the Turkish lira once more. Authorities claimed that the label had always been intended to be temporary, although most suspect removing it had more to do with drumming up buzz before the 2009 elections than planned fiscal policy. And most recently, in 2016, at Erdogan’s behest, the Turkish central bank minted new coins that paid tribute to those whom the president described as the martyrs of the July 2016 attempted coup against him. Like the 2005 reform before it, this change had more to do with nationalist posturing than it did with sound monetary policy. In each case, the goal was to consolidate power and bolster support among his base, which seemed to work well enough.

Erdogan might thus be laboring under the delusion that another round of currency reforms—introducing some new bills, knocking a zero or two off the value—could bear similar results: shoring up his support among Turkish nationalists and renewing faith in the lira just enough to keep it scuttling along. But the results of currency reform aren’t always as benign as those that followed Erdogan’s last attempts, and it isn’t clear that further appeals to nationalism would be enough to patch over deeper structural problems such as Turkey’s overpowered construction industry and, potentially, a further round of U.S. sanctions.

If Erdogan is looking for something more than nationalist posturing this time around, he might pursue three monetary policies. He could order the central bank to decrease the reserve ratio requirement, or the amount of cash a commercial bank must hold in reserve. Such a move would certainly help get more money circulating in the economy, but it could exacerbate inflation—and prices are already stubbornly high and rising, even as the lira has tumbled. Erdogan could also restrict trade in foreign currencies. Although that policy could provide time for damage control—and it would certainly boost his patriotic bona fides—it would likely lead to greater market instability. Finally, Erdogan could have the central bank buy up government bonds as a way to inject cash into the system. This has the same problem as decreasing the reserve ratio. Given his recent interest in keeping cash flowing in the economy, though, he’s likely to pursue a policy geared toward quick liquidity.

To the same ends, Turkey and Qatar have signed a currency swap agreement in which the two countries will exchange $3 billion worth of their currencies. Qatar’s riyals are pegged to the dollar, so the hope is that the exchange will provide Turkey with a source of stable money, which could improve liquidity and boost investor confidence. Erdogan has also called on the central bank to decrease the interest rate, which underscores his apparent lack of interest in the basic tenets of economics. For a central bank to work, and for the lira to maintain its “honor,” the bank’s decision-making has to be free from political interference—investors have to believe that decisions are being made on the basis of sound economic principles, rather than political machinations.

But there is little reason to expect things to go well. Erdogan’s son-in-law was recently named as finance minister, so there are few checks on Erdogan’s power to do as he pleases. His exhortations for Turks to divest themselves of dollars were likely a warning: In a crackdown following the failed 2016 coup, Turkey arrested an American dual citizen for possessing a dollar bill (the authorities claimed that it was a sign that he was a CIA agent or member of the organization of Fetullah Gulen, a Muslim cleric living in Pennsylvania whom Erdogan blames for the coup attempt).

Soon, Turks of all kinds could be forced to exchange any foreign currency they hold, which will only hurt investor confidence.

Through it all, Erdogan will likely keep trying to tap in to nationalist sentiment. He has blamed the lira’s collapse and Turkey’s economic woes on the United States, iPhones, and fake news, among others. His party has even issued boycotts on U.S. products including Estee Lauder makeup, Cheetos, and Febreze, and it has levied a 120 percent tax on U.S.-made cars. Yet, the boycott list seems more like a collection of things Erdogan saw on a trip to a shopping mall than a strategically constructed sanctions regime meant to inflict economic pain. (In the case of Apple, his ban likely has more to do with Apple founder Steve Jobs’s acknowledgement of the Armenian genocide than a desire to hurt the United States, especially because Apple products are made in China.)

More fundamentally, when it comes to the lira’s crash, Erdogan has no one to blame but himself: Years of fiscal and monetary mismanagement have led to this moment. Erdogan’s meddling with interest rates deprives the central bank of its autonomy, one of the main things the Turkish economy needs. Unfortunately, many of his supporters are unable or unwilling to acknowledge that fact and have instead joined Erdogan in lashing out against imaginary enemies. As the lira’s slide confirms, those tactics won’t work forever. Sooner or later, Erdogan will have to pursue real reform or else lose the foundation of his electoral popularity: economic growth. He likely understands that. His rhetoric indicates he’s already starting to scramble for a new source by rallying the public against “evil” interest rates. But as Turks lose their savings, they may only be willing to listen to him for so long.