Turkey’s economy hasn’t been destroyed, it’s under construction

Ali Rıza Güngen writes: In Turkey, a portion of the risk stemming from foreign currency loans has been transferred to the public. In other words, not the individual debts but the risk has been spread to society.

Ali Rıza Güngen

“Some people must have gone mad,” one might say after seeing Turkey’s borrowing tempo in July and August, especially when these debts are ın foreign currency. It is highly probable that Turkey will record its biggest net debt amount in 2020.  

Let us remember that the “recirculation machine” designed in 2018 and 2019 to curb the tempo of the devaluation of the Turkish lira actually offered an opportunity for the Central Bank to interfere with the forex rate through foreign currency borrowed from banks. However, apart from those borrowers, there was no foreign currency left in the Central Bank. Now, interventions conducted through public banks are creating a new triangle between the Treasury, the public banks, and the Central Bank. The Treasury is borrowing under better conditions, but again in foreign currency. These bonds were mainly bought by public banks with the money transferred to them. On the other hand, public banks are being used to interfere with the forex rate, and they have exceeded their open foreign exchange position limits. 

The economic rationale of intervening in the forex rate was to first of all provide opportunities to companies who were extremely indebted in foreign currency and to offer short-term stability in a crisis environment. It looks as though that aim has been reached; however, the side effect is that the government wants the entire community to share the foreign currency risk in the manner it finds it appropriate. 

First session

Let us go to Columbia University first. Research is being conducted by a team that includes Professor Katharina Pistor that is based on examining the sovereign debt contracts of 23 countries, Turkey included, between 1990 and 2017. Having studied more than 60,000 contracts, Pistor discusses foreign debts and bonds issued under foreign law. Pistor thus offers the digital proof of a well-known change.

According to this, emerging markets, after 1997 and 1998, opted to borrow through their own currencies and according to their own jurisdictions. We know that Turkey was able to join this trend after 2002 and 2003. Several Global South countries learned the hard way that foreign debts cause very rapid change of assets after a crisis, and when it comes to international contracts in which London or New York courts are authorized, restructuring is not in favor of the debtor. Of course, there are a few exceptions, such as China, which borrows in its own currency but under foreign law, or Venezuela, which has taken on foreign debt under foreign law. Both have not made significant changes in their preferences in the past 20 years. However, we see that the Global South has become a buffer zone against the financial turmoil that has taken place in the beginning of the 21st century.  

We can refer to these events, then, as almost a first “confession” or absolution of sorts.

Let us take a look whether or not this session of “confession” has ended: In the first decade of the 21st century, between 2002 and 2006 and later between 2009 and 2015, behind this option, opportunities were present due to the responses of the monetary policies of central countries, with the U.S. leading. We do not have adequate scientific data on what has happened in this field after the 2013 and 2015 turn. We can draw from the limited data we have and from past information that the global financial contraction and the subsequent pandemic have made it difficult for countries that are on the lower steps in the international monetary hierarchy to borrow in their own currencies. 

During this period, Turkey did not differ from the other countries in its category. However, along with the effect of the furious borrowing of the past two months, Turkey is now different from the others in 2020 when it comes to the ratio of foreign debt to total public debt. Turkey has now reached twice the average of emerging markets.  

Where are we now? 

In the first seven months of 2018, the net debt of the Treasury was 30 billion Turkish liras. In 2019, for the same period, this figure went up to 96 billion liras. In 2020, on the other hand, in the first seven months we have seen a net debt of 211 billion liras. The primary balance in the first seven months of 2018 showed a deficit of 29 billion lira. For the same period in 2019, it was 87 billion liras short. In the first seven months of 2020, this figure reached 133 billion liras. 

Within this rapidly increasing debt, the ratio of foreign currency debt is also rapidly increasing. Moreover, we are going through a trend of domestic borrowing in foreign currency that was unheard of before 2019. According to Treasury data, domestic borrowing in foreign currency over the last 20 months equaled approximately 200 billion liras in August. Due to this, foreign currency debt within the total debt stock (foreign and domestic) in 2020 has exceeded 50 percent. At the same time, its rate within debts with floating interest rates, which puts more risk on the debtor, is also rapidly increasing. 

Share of Foreign Currency Debt within the Debt Stock of the Central Bank 
In percent, from 2003 to July 2020. Source: Treasury 

We know that the last leap was due to domestic borrowing in foreign currency. However, we should not forget a scarier aspect: the central administration’s domestic debt stock was 983 billion liras as of the end of June 2020. In these two months alone, Turkey loaned almost one tenth of this stock (8.5 percent) domestically in foreign currency.  


Asking the question of why Turkey is borrowing so rapidly is better than being astonished at the absurdities that have been created and will be created by this situation. In recent years, the periods in which the Treasury made loans at an extraordinary tempo were followed by elections, referendums and cross-border military operations. We may be in an environment when military outbursts are cooked up because of the bottleneck in the regime, but it is not possible right now to make clear observations. Moreover, we now have a critical change, the borrowing in foreign currency.  

It looks more likely that President Recep Tayyip Erdoğan’s administration is trying to gain time before a change in global financial circumstances; they also seem to be making preparations for a tough winter due to the effects of the pandemic. At the same time, these developments increase the probability that public banks will again be used for a certain time in order to intervene in the forex market. On the other hand, due to the tempo of borrowing, Turkish lira interest rates should be increasing rapidly, but with this method adopted, this increase will be spread over time to a certain extent.

A careful reader would say that interest rates increased in August, but because of “inadequate” interference in the foreign exchange market, as seen at the end of July and in August, the foreign exchange rate also increased. This is definitely the case, and as a matter of fact, the turmoil will continue until the moment arrives (probably in the fall) when the global financial circumstances that the Erdoğan administration is expecting offers new opportunities.

If times were different, Turkey’s authoritarian and neoliberal state would borrow in the first months of the year according to Treasury practices and would not take domestic loans in foreign currency or would keep them to a minimum level, and if it were to take foreign loan, it would have done it primarily within international markets. However, a country with a very high risk premium can only borrow at high interest rates. If you do not want to create additional pressure on domestic interest rates and if you want to use public banks to intervene in the forex market, then you can increase off-balance sheet risks in new, creative ways. This is what has been done in the past two months. 

These kinds of renovations to the “recirculation machine” set up between the Central Bank and commercial banks have been made for the past two years in Turkey, but these renovations can only take place in conjunction with the spread of the risk to the entire sector to an unprecedented extent. The administration’s watch is set for 2021, and this is highly risky. But one should not forget that this method is rational according to their worldview.

In Turkey, a portion of the risk stemming from foreign currency loans has been transferred to the public. In other words, not the individual debts but the risk has been spread to society. The effects of these renovations on the already-overloaded recirculation machine will soon be clearer, but they are not known yet. However, the Erdoğan administration’s political choices and the cumulative issues of the regime are acting together to make Turkey one of the most interesting cases in recent years in terms of borrowing practices.