Analysis and current forecasts see further losses for the Turkish Lira against majors such as the US dollar, euro and the British pound exchange rates in the next twelve month period.

USD/TRY rallied to an all-time high on Thursday with most of the investment professionals expecting further declines for the Turkish lira during 2017 as the currency is seen a clear underdog in the investment universe.

“The Turkish lira is set to underperform, especially given its strong USD debt exposure, a problem exacerbated by the USD rally. Although President Erdogan remains firmly in charge, political risks may rise on the back of a planned referendum on executive presidency – likely due in April,” Royal Bank of Scotland analysts noted in the Global FX outlook for 2017 on Thursday.

Other banks including Morgan Stanley and BNP Paribas also expressed similar forecast for Turkish lira.

“We stick to a bearish stance on TRY. While the currency has weakened notably recently, we believe the currency is likely to underperform any back-up in US Treasury yields. Growth is continuing to slow with a wide external deficit, while fiscal metrics are expected to deteriorate slowly. Ongoing question marks the central bank's independence will add to risk premium, as will persistent received political risk,” analysts from Morgan Stanley wrote in the Global Emerging Markets Outlook for 2017.

Since the beginning of November TRY fell more than 11% against the US Dollar spurring increased economic concerns about future political development in post-coup environment with president Recep Tayyip Erdogan worsening relationships with European Union and the emerging markets in general falling prey of investors’ flight to safety.

Even though the Turkish central bank stepped in last week with a surprise interest rate hike of 50 basis points, economists doubt that the monetary tightening is the right tool in halting the currency’s decline.

“Outside of developed markets policy uncertainty, there are a number of emerging markets political events that present a challenge to calm waters. Low ratings for the Korean president and elections in Argentina and Brazil are key risk events. Additionally, political risks are likely to persist in South Africa and Turkey which also bear watching,” analysts from Morgan reasoned further their expectations.

Completing a perfect storm, the international context is also stacked against the TRY, with the USD surging on the prospect of higher US interest rates and protectionism after the Donald Trump victory.

Higher Short-term rates not enough

Even with the Bank of Turkey interest rate hike, depreciation pressure on Turkish Lira was halted only temporarily as the European Parliament voted to back a freeze in EU membership talks with Turkey.

"Against a widening current account deficit, despite slow growth and heightened political risks, the level of short-term rates is still too low to provide adequate cover for the Turkish lira," Inan Demir of Nomura International said this week, predicting Turkish lira to fall as low as 3.6500 against the US Dollar in next 12-months.

Economists are also frustrated that the government of Erdogan has lost the reforming zeal that impressed the West in its first years in office.

"Even if the authorities can be pragmatic, the signals sent in terms of economic policy are not good and reforms that were announced years ago are in limbo," said Sylvain Bellefontaine, Turkey economist at BNP Paribas.

Economy is slowing down

President Erdogan is very popular in Turkey as he is perceived by public as the one to bring the economic prosperity into the country from the darkness of economic crisis of 2000/2001.

In times of robust economic recovery, Turkey’s GDP rose spectacular more than 9% and more than 8% in 2003 and 2004 respectively with the manufacturing sector booming in particular.

Now the prospects for the economic growth are being cut by the government to 3.2% for 2017. Few months ago Turkish government expected GDP growth to reach 4.5%. Some analysts expect the growth rate to reach less than 3.0% for next year. The roots of the slowdown are generally speaking political.

"The cause is absolutely political. Turkey's biggest economic risk is from the political risk created by the AKP," Selin Sayek Boke, spokeswoman for the main opposition Republican People's Party said recently.

With the economic slowdown the real risk is that the policymakers may plit to those that support expansionary policies targeting higher growth and those favoring more fiscal prudency.

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