Politicians pontificate and observers oscillate between repeating the views of the last person and the next to share a confidence. It’s still the money men that mostly matter and determine the tide in the (business) affairs of men, which taken at the flood, leads on to victory.
Ten days before the Turkish Constitutional Court determined that the ruling Justice and Development Party (AKP) had not been so naughty that it warranted disgrace and disbandment, most of the large international investment banks had come to the conclusion that the Istanbul market was a good place to be.
On July 30, the court ordered the AKP to be docked half its state funding for the year as a “serious warning” about its perceived “anti-secular activities.” The talk of crisis and chaos subsided, the unlikely prospect of yet another military takeover passed into oblivion, the markets moved upward and the currency strengthened.
Courting logic
The country and the court followed the Bush Sr logic. President George the Elder resisted entreaties from the military in 1991 to invade Baghdad. “What will you do when you get there?” asked the father. A dozen years later, the son, President George the Junior, gave the reply: Ask me when I get there. Thus it was with the prospect of dispatching to the ether a Turkish party that was supported by 47% of the electorate. What follows in a country where the opposition parties that form the alleged alternative expend most of their energies in making themselves unelectable? The Constitutional Court perhaps did not fancy finding out and the money men seem to have perceived this.
One source inside the Istanbul Stock Exchange (ISE) painted the scene. The ISE index moved in parallel to most emerging markets until mid-March when the AKP shindig initially looked as though it may get nasty. Market performance diverged so much from the norm that the average price to earnings ratio reached a 20-year low. Yet, as the market source added, companies were still reporting good results and the economy was growing — 6.6% in the first quarter of 2008. Then the classic giveaway quote: “A week or 10 days before we saw the ending of the deliberations of the closure case, most of the large international investment banks came up with very positive reports,” the source said, before adding that the decisive factor was the sure knowledge that the period of uncertainty was coming to an end. Whichever way the decision had gone, the market fundamentals were in place for a recovery.
Whether that was the entirety of their thinking, only the money men know. “This was a market-friendly decision,” said Veyis Fertekligil, chief economist of Turkland Bank. “If the ruling party had been closed, there would have been a strong knock-on effect for the stock market, government bonds and the exchange rate.”
In the wake of the announcement, there was immediate evidence of a strong effect for the good. The following day, yields on lira bonds dropped some 66 basis points to 18.92% — the largest fall since November 2006. Smart money had been ploughed into bonds somewhat earlier at a rate as high as 22% and when the Turkish lira was trading to the dollar in the mid-1.20s. Meanwhile, the ISE National 100 index, which has dropped almost 40% this year due in part to political worries, added 2.1%. The lira, which had also been falling, gained to 1.162 against the dollar, despite the greenback’s recent strong rally. By August 1, the lira had made its largest weekly gain against the dollar for two years, up 4.3% to 1.1543.
Investors surveyed in the local and international press indicated that their confidence in Turkey’s future had been renewed. “It’s a milestone decision,” Vassilis Karatzas of Levant Partners Greece SA told the international press. “In the next year or two, this decision will provide political stability in Turkey, which is important for markets.”
Standard & Poor’s Ratings Services changed its outlook for Turkey from negative to stable, reflecting “diminished near-term political uncertainties”. The message was that investment will continue to flow into the country and growth will continue.
“Turkey is leaving a tense situation and we very much hope that the decision by the court will contribute to restoring political stability,” said a spokeswoman for EU foreign policy chief Javier Solana. EU Enlargement Commissioner Olli Rehn indicated that Turkey’s on-off process of accession to the Union had received a fillip — though it would perhaps be more accurate to observe that the country’s hopes have not received a titanic setback.
Investor confidence
Much of Turkey’s recent growth has been driven by inflows of foreign direct investment (FDI), registering around $19 billion last year — down from $20 billion in 2006 but still equal to the FDI Turkey attracted in the 23 years between 1980 and 2003. There was evidence that investors started to withdraw their cash in the early days of political tension surrounding the court case rose.
However, relief at Turkey’s evasion of political calamity should be tempered with the knowledge that the country still faces some tough times. Inflation hit a four-year high of 12.1% in July, a troubling figure even given the fact that prices have been driven up by external factors. So far, the Central Bank of the Republic of Turkey (TCMB) has moved decisively to increase interest rates, reinforcing its reputation for tight monetary policy. However, this has also undermined the bank’s aim of normalizing rates (i.e. bringing them down to single figures) and has hit businesses. Therefore attention is turning to the government’s fiscal policy. Given its development and poverty-fighting brief, the AKP is reluctant to tighten spending but a degree of retrenchment may be needed if inflation is to be brought down.
The government also has reason to be concerned about growing external imbalances. The current account deficit grew by more than 40% in the first half of 2008 compared to the same period of last year, according to the TCMB. June’s deficit was a striking 78.2% above that of the same month last year, and the government expects the current account to be $50 billion in the red this year, up from $38 billion in 2007. The IMF warned in August that the situation posed a serious risk to the country.
Both these problems could be eased by tighter fiscal policy and reforms designed to boost the economy’s competitiveness, which should help moderate prices and boost export performance. A leaner and more productive economy should also continue to draw in FDI. Competitiveness and a strong business climate are more important than ever at a time when capital conditions have tightened.
Not that the AKP can breathe wholly free from political concerns. At the time of writing, headlines had already started to turn back to a cloudier outlook. The chief prosecutor who launched the closure case is said to be readying a second, this time specifically targeting Prime Minister Recep Tayyip Erdogan. Meanwhile, amid concerns about the sustainability of emerging markets’ recent growth, and a continuing rise in the dollar, the lira softened again to 1.1835 against the greenback by August 15. This was partially down to profit-taking. Money men are not employed to be sentimental.
The government had previously stated that it would step up its reform and privatization drive in 2008, after international organizations and investors had started to worry that enthusiasm for liberalization had waned in 2006 and 2007. It has been somewhat blown off track by squabbles over lifting the headscarf ban in public universities and the subsequent court case, but the cause is certainly not yet lost.
Banking Islamic in Istanbul
Ironically Istanbul will host a major forum on Islamic finance next month, the International Islamic Finance Forum. Happily for the AKP, Islamic banks in Turkey are a blooming rose by another name — participation banks. The four of them, Albaraka Turk, Bank Asya, Kuveyt Turk and Turkiye Finans, administer assets worth around $21.5 billion, which represent 5% of the Turkish banking system. The target is to double that in the next decade.
Albaraka Turk has Bahrain’s Albaraka Banking Group as the major shareholder and Saudi Arabia’s National Commercial Bank bought a 60% stake in Turkiye Finans earlier this year for just over $1 billion. Kuwait Finance House has a majority stake in Kuveyt Turk and wants to increase the number of branches from 100 to 113 by the end of 2008.
One interesting item for participants in the forum is a study on the impact of politics on the underdevelopment of Islamic finance in Turkey.
