Introduction
Turkey’s central bank is facing a significant challenge as its net forex reserves turned negative for the first time since 2002, reaching -$151.3 million on May 19. This development comes at a critical juncture, with a runoff vote scheduled for May 28 to determine the outcome of the presidential election. As forex demand in Turkey soared in anticipation of potential currency fluctuations following the election, the central bank engaged in market interventions and other measures to mitigate the situation. However, these efforts have strained the bank’s reserves in recent years. In this article, we delve into the implications of this concerning situation and the potential consequences for Turkey’s economy.
The Presidential Vote and Forex Demand Surge
On May 14, President Tayyip Erdogan held a substantial lead over his rival, Kemal Kilicdaroglu, in the presidential vote but fell short of the 50% threshold required for an outright victory. Consequently, a runoff vote was scheduled for May 28. Prior to the initial vote, both companies and individuals in Turkey anticipated significant currency depreciation, given the lira’s substantial losses in previous years. The lira depreciated by 44% in 2021 and an additional 30% in 2022, leading to heightened forex demand.
Central Bank’s Efforts and Depleted Reserves
In an attempt to stabilize the currency and address the increased forex demand, Turkey’s central bank embarked on various interventions and strategies. Unfortunately, these measures have come at a cost, resulting in a gradual depletion of the bank’s forex reserves. The net reserves dropped by $2.48 billion in the week leading up to May 19, reaching their lowest level since February 2002. In total, the reserves have diminished by $27.7 billion since the end of 2022.
Market Interventions and Other Measures
To curb the rising forex demand, the central bank employed several strategies, including costly market interventions. These interventions involved selling foreign currency reserves to provide liquidity and stabilize the lira. However, the substantial expenditure associated with such interventions has strained the bank’s forex reserves over time. Furthermore, other efforts to cool forex demand, such as raising interest rates, have also contributed to the depletion of reserves.
Impact on the Turkish Economy
The dwindling forex reserves pose significant concerns for the Turkish economy. Insufficient reserves limit the central bank’s ability to support the currency in times of volatility, potentially exacerbating the depreciation of the lira. A weakened lira could lead to higher inflation, as imported goods become more expensive. Additionally, it may also deter foreign investors and negatively affect the country’s economic stability.
The Role of Outstanding Swaps
It is essential to consider the role of outstanding swaps when assessing the central bank’s net forex reserves. On Wednesday, outstanding swaps stood at $33.50 billion. These swaps need to be deducted from the net reserves, pushing them deeper into negative territory. Therefore, the negative balance of -$151.3 million represents the net reserves after accounting for outstanding swaps.
Looking Ahead: Potential Consequences
The forthcoming runoff vote adds another layer of uncertainty to the already fragile situation. The outcome of the election could have a significant impact on market sentiment and further influence forex demand. If the lira continues to depreciate, it may lead to a vicious cycle of increased forex demand and diminished reserves. Moreover, a prolonged depletion of reserves could undermine investor confidence, negatively impacting the Turkish.
Conclusion
Turkey’s central bank finds itself in a challenging position as its net forex reserves have turned negative for the first time since 2002. The surge in forex demand ahead of the presidential runoff vote has further strained the bank’s reserves, which have been gradually depleting in recent years due to costly market interventions and efforts to cool forex demand.
The implications of depleted forex reserves are significant for the Turkish economy. Insufficient reserves limit the central bank’s ability to support the lira during periods of volatility, potentially leading to further depreciation. This depreciation, in turn, can contribute to higher inflation and deter foreign investors, posing risks to the country’s economic stability.
