How Turkey’s Troubles Could Spread in Emerging Markets

DECEMBER 20, 2013, 7:32 PM

How Turkey’s Troubles Could Spread in Emerging Markets

By LANDON THOMAS JR.

As Turkey struggles to contain its latest political crisis, fears of a run on its currency — dormant since the summer — have quickly re-emerged. After arrests this week of Prime Minister Recep Tayyip Erdogan’s political and economic allies, the Turkish lira has plunged. The dollar reached a high of 2.092 against the lira, as foreign investors sold Turkish stocks and bonds and Turks shifted their savings into dollars.For now, the financial uncertainty in Turkey seems to be largely localized, a consequence of ever- fickle Turkish politics. Nevertheless, markets in other large emerging markets like Brazil and India did experience a brief wobble this week, and with investors uncertain about the effect that a stingier Federal Reserve will have on the global economy, the prospect of other countries’ catching Turkey’s flu cannot be wholly discounted.

While the spate of arrests included top ministers in Mr. Erdogan’s Islamist government, the real cause for concern for investors was the crackdown on the heart of the celebrated Turkish growth story: the powerful nexus that connects Mr. Erdogan to construction magnates and the banks that finance them.

Among those taken for questioning was the chief executive of the government-owned Halk Bank, one of the country’s larger banks, and Ali Agaoglu, a billionaire real estate developer with close ties to the prime minister.

The overcrowded Istanbul skyline that has resulted from this building boom was a factor behind the protests in Gezi Park in the spring. But Turkey’s creditors are more concerned that the bulk of these projects and others throughout the country were funded by cheap dollar loans.

Turkey is not the only emerging market to take advantage of rock-bottom dollar interest rates to finance its growth ambitions. Brazil, India, Indonesia and South Korea have followed a similar path. All these countries felt the pressure of weaker currencies even before the Fed’s decision to pull back from its bond-buying program.

None of these emerging markets, however, are as dependent as Turkey is on short-term dollar funding which, unlike longer-term loans, can be quickly pulled by jittery lenders.

According to economists at Barclays in London, Turkey must borrow over $200 billion next year from abroad — with the bulk of that figure coming from corporations and banks. If those credit lines are cut, Turkey will run out of cash and will need a bailout from the International Monetary Fund.

“The big risk is the rollover risk,” said Sebnem Kalemli-Ozcan, a Turkish economist at the University of Maryland who studies the impact of financial crises in emerging-market economies.

“This is what we call a balance-sheet crisis, with Turkish companies having their assets in Turkish lira and their liabilities in dollars,” she said. “It reminds me very much of the Asian crisis.”

For now, there has been no sign of the panic selling across continents that was a hallmark of the Asian collapse in 1997 and that forced the I.M.F. to bail out countries like Indonesia and South Korea.

But in an increasingly interconnected global financial system, one in which concerns about economic stagnation and high levels of private-sector debt in emerging markets have been paramount, analysts and policy makers will be keeping a close eye on how these countries respond to events in Turkey in the weeks and months ahead.