World Economy

Turkey CB Bolsters Banks, Assures Financial Stability

The lira tumbled to a record low of around 7.20 against the dollar late on Sunday but recovered to 6.61 following the central bank’s announcement
The lira has lost around 45% of its value against the US currency this year, largely over worries about Erdogan’s influence over the economyThe lira has lost around 45% of its value against the US currency this year, largely over worries about Erdogan’s influence over the economy

Turkey’s central bank on Monday announced it was ready to take “all necessary measures” to ensure financial stability after the collapse of the lira, promising to provide banks with liquidity.

“The central bank will closely monitor the market depth and price formations, and take all necessary measures to maintain financial stability, if deemed necessary,” the bank said in a statement, vowing to provide “all the liquidity the banks need”, news outlets reported.

Turkish policy makers made their first move to bolster the financial system and investor confidence amid a plunge in lira. Promising to "take all necessary measures", the central bank in Ankara lowered the amount commercial lenders must park at the regulator and eased rules that govern how they manage their lira and foreign-currency liquidity. While there was no mention of higher interest rates, it said all options were on the table.

The statement came after the Turkish lira hit record lows against the dollar amid a widening diplomatic spat with the United States.

President Tayyip Erdogan has shown no willingness to meet President Donald Trump’s condition for mending ties: releasing a US evangelical pastor, Andrew Brunson, who’s been imprisoned in Turkey for almost two years on charges of participating in a 2016 attempted coup.

The lira has lost around 45% of its value against the US currency this year, largely over worries about Erdogan’s influence over the economy.

The currency tumbled to a record low of around 7.20 lira against the dollar late on Sunday but recovered to 6.61 following the central bank’s announcement.

The central bank announced the series of measures on Monday, a day after Erdogan’s son-in-law Berat Albayrak, who is treasury and finance minister, announced an action plan was in the pipeline. “In the framework of intraday and overnight standing facilities, the central bank will provide all the liquidity the banks need,” the bank said.

The central bank said it cut the lira’s reserve requirement ratio, a cash buffer held by banks, by 250 basis points for all maturity brackets and lowered reserve requirement ratios for non-core FX liabilities by 400 basis points for maturities up to three years.

These moves will free up 10 billion lira, $6 billion, and $3 billion equivalent of gold liquidity in the financial system, the bank said. It also pledged to provide “all the liquidity banks need," Reuters said.

 The lira’s relentless fall turned to meltdown on Friday. It dropped as much as 18% at one stage, rattling US and European stocks as investors took fright over banks’ exposure to Turkey.

The renewed lira collapse on Sunday night hit Asian shares, weakened the South African rand and drove demand in global markets for safe currencies including the US dollar, Swiss franc and yen.

Fears in Europe

The subsequent plunge in the lira has prompted fears in Europe over the exposure to European banks, which have lent heavily to Turkey.

The European Central Bank is concerned that contagion will cause Turkish borrowers to default on foreign currency loans. These loans make up about 40% of the Turkish banking sector’s assets.

Data from the Bank for International Settlements shows that Turkish borrowers owe Spanish banks $83 billion, French lenders $38 billion and banks in Italy £17 billion.

This has sparked concern at the Single Supervisory Mechanism, the ECB's financial watchdog, over possible spillover effects.

The currency panic has seen investors dump eurozone bank shares, particularly in Spain's BBVA, Italy's UniCredit, and France’s BNP. Sunday  night, shares in BBVA were down 5.7%, UniCredit dropped 6.4%, and BNP Paribas plunged 4.4%.

Bob Hormats, who served in the White House under ex-president Barack Obama, also warned of wider geopolitical repercussions if Erdogan regime is destabilized. He told CNBC: "It has pushed down the lira and the euro as well. This is bad news particularly for the banks in Europe. There are lots of European banks that are exposed."

Limited Contagion Risk

Emerging-market investors worried about potential contagion from Turkey’s deepening crisis may find some solace in Goldman Sachs Group Inc.’s spillover index, Bloomberg reported.

With the exception of Russia’s ruble, recent moves in developing-nation currencies have generally been smaller than what the gauge predicted despite the Turkish lira’s plunge, Goldman Sachs said in a report dated Aug. 10. It used analysis of the recent slump in Argentina’s peso to estimate the lira’s impact on its emerging-market peers.

“From a fundamental standpoint further spillovers should be limited,” strategists including New York-based Zach Pandl wrote in the report. “To the extent that we continue to see spillovers to other markets with better fundamentals, those are the places we will look for opportunities rather than in the lira itself.”

Turkey’s woes have been “sometime in the making” and investors have had opportunities to adjust their positions, Goldman said. Fundamental linkages aren’t large given the relatively small trade-weights of Turkey in other major developing-nation countries’ baskets and the exposure of banks, according to the report.

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