* Erdogan's reputation built on economic success
* Lira's slide risks hitting Turks' pockets
* Central bank buring through fx reserves
* Government opposed to interest rate hikes
By Nevzat Devranoglu and Nick Tattersall
ISTANBUL, Jan 24 Turkey's lira tumbled to new
lows on Friday and investors doubted central bank ability to
stem the rout as Prime Minister Tayyip Erdogan seeks to defuse a
corruption scandal and stem a challenge to his power.
The lira tumbled beyond 2.33 to the dollar,
meaning Turks now need more than twice as many lira to buy
dollars as they did at the currency's peak six years ago, a
costly decline in a nation heavily dependent on imports.
Erdogan has overseen a tripling of Turks' nominal wealth
since coming to power in 2002, a record which has formed the
basis for his ruling AK Party's growing margin of victory in
three successive elections.
Any threat to that record could cost him at local and
presidential elections this year, further tarnishing a
reputation under threat from a corruption investigation which
has led to the resignation of three ministers and the detention
of close business allies.
He says the investigation and accusations have been
engineered by a secretive U.S-based islamic cleric, Fethullah
Gulen, who has strong influence in the police and judiciary. He
suspects Gulen of wanting to unseat him, which Gulen denies.
Erdogan has cast the investigation also as a foreign-backed
plot to undermine Turkey's standing, contrived in part by what
he sees as an "interest rate lobby" of speculators bent on
profiting from high rates to the detriment of Turkey's growth.
His vociferous opposition to interest rate hikes has left
the central bank hamstrung, struggling to defend the lira by
burning through its forex reserves and trying to squeeze up
borrowing costs on the margins - a battle it seems to be losing.
Bankers said the central bank had sold around $3 billion on
Thursday in its first direct intervention in the forex market
for two years, but the move did little to calm markets.
"The central bank has to cast off the shackles of government
control and interference and prove its independence by hiking
rates in a meaningful way ... otherwise things could get much
worse," said Timothy Ash, head of emerging markets research at
The bank's net forex reserves stand at around $34 billion,
economists estimate, meaning it can sustain dollar sales at
Thursday's levels for weeks rather than months, although the
bank has said all its reserves, including those held with it by
commercial lenders, could be tapped if needed.
Its gross reserves stood at $107 billion as of last Friday.
"The Turkish central bank is in a difficult position," said
Reinhard Cluse, an economist at UBS.
"Hiking official interest rates would have been the simplest
and most powerful way to defend the lira and rein in the current
account deficit. Yet, recent months have made it increasingly
clear that there is strong political resistance."
TURKEY'S OWN MAKING
The cost of insuring Turkish debt against default hit fresh
18-month highs, while its new 2024 dollar bond,
a $2.5 billion issue lapped up by foreign investors this week,
fell below its launch price.
The selloff in Turkish assets was part of a wider emerging
markets rout, fuelled by expectations that the U.S. Fed will
make deeper cuts in its monetary stimulus and by turbulence in
Thailand and Ukraine as well as Turkey.
But much of the pressure on Turkey is of its own making.
Erdogan has overseen strong economic growth since coming to
power in 2002, transforming Turkey's reputation after a series
of unstable coalition governments in the 1990s ran into repeated
balance of payments problems and economic crises.
But his increasingly authoritarian style, from a
heavy-handed police crackdown on street protests last summer to
his reaction to the corruption investigation in recent weeks,
has started to unnerve investors.
Government efforts to tighten control over the judiciary
since the corruption scandal erupted with the detention of
businessmen close to Erdogan and three ministers' sons on Dec.
17 have drawn sharp criticism from the EU, which Turkey has been
seeking to join for decades.
He vowed on Friday that his party would not withdraw its
plans to increase the government's say in the naming of judges
and prosecutors - seen by the opposition as a ploy to thwart the
graft investigation - although, in an apparent nod to EU
concerns, he said elements of the draft bill would be shelved.
Concern about his authoritarianism have stretched to
monetary policy, the central bank's reluctance to raise rates
despite rising inflation and the tumbling lira seen by many as a
direct consequence of Erdogan's opposition to any such move.
The bank kept its main interest rates on hold again this
week, but said it would fund the market at 9 percent on
"additional tightening" days, when it cancels repos and sells
dollars at auction, in what amounted to a covert rate hike.
That did little to ease market nerves, leaving investors
wondering how frequently those "additional tightening" days
would be and whether even direct intervention would be enough.
"Past experience shows that burning forex reserves to ease
the depreciation pressures proves sufficient only when it is
supported with decisive interest rate tightening," said Gökçe
Çelik, an economist at Finansbank in Istanbul.