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Lira Surges as Erdogan Gives Turkey’s Economy Plan More Time

(Bloomberg) -- Turkey’s lira reversed earlier losses and surged against the dollar on Monday as President Recep Tayyip Erdogan indicated he’ll give his economic team more time to produce results despite facing an unprecedented rout at local elections over the weekend.

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Erdogan’s ruling Justice and Development Party suffered a shock defeat on Sunday, ceding control of many of Turkey’s cities, including Istanbul and Ankara, to the opposition. The president conceded defeat quickly in a speech at half past midnight, saying lessons should be learned from it, while also saying he expected to see positive results from an economic turnaround program in the second half of the year.

The lira climbed as much as 2.2% against the dollar, amid thin trading due to the Easter holiday across many European markets. The Turkish currency was being quoted 1.3% stronger at 31.9615 per dollar as of 3:45 p.m. in Istanbul, and was by far the best performing emerging-market currency on the day.

“Erdogan’s local election loss should not derail macro policy (for now),” Hasnain Malik, a strategist at Tellimer in Dubai, wrote in a report. If economic distress and in particular inflation are largely responsible for the result, then “tackling inflation is now a political, as well as economic priority, and that should underpin the orthodox policy course correction in the short-term.”

The vote on Sunday marks the first time that Erdogan’s AK Party, which has held power uninterrupted since 2002, has fallen behind the secular opposition Republican People’s Party at municipal polls nationwide. Before the vote, investors expressed concern about whether a loss could persuade Erdogan to abandon a dramatic pivot in economic policy since last year that has included a cumulative 4,150 basis points of interest-rate increases.

Erdogan’s comments following the vote helped ease pressure on other risk indicators for the country as well, with credit default swaps and 10-year bond yields both falling on Monday. The cost to insure Turkish debt against default for five years dropped six basis points to the lowest level since March 4, and the yield on 10-year lira government bonds fell 41 basis points to 26.4%.

Read more: Erdogan Suffers Historic Loss in Turkey Municipal Election

Investors have cheered Turkey’s turn to a more orthodox monetary policy aimed at taming inflation, even as it dents economic growth prospects by making borrowing nearly impossible for most citizens. Since the policy u-turn following last year’s presidential elections, foreign investors have purchased a net $4.9 billion in Turkish bonds and stocks.

Policy Concerns

Still, many money managers have maintained a cautious approach toward Turkish assets, wary of being caught unprepared for yet another shift in economic policy. Many cited the local elections as a risk, speculating that a poor result might lead Erdogan to change tack.

“We can expect a more-volatile-than-expected post-election period,” said Emre Akcakmak, a senior consultant at East Capital in Dubai. “What’s worse, this uncertain period will coincide with an all-time low central bank net foreign currency reserves at negative $65 billion and a fresh peak in inflation likely above 70% in May.”

On Monday, Turkey’s chief economic official Mehmet Simsek, a former investment banker who’s widely respected by investors, said that his team will continue to implement the current economic program “decisively.”

“We will prioritize savings by keeping public spending under control, in addition to tight monetary policy and selective credit policies in order to permanently curb inflation to single digits,” Simsek said in a post on X, formerly known as Twitter.

“President Erdogan is expected to maintain his reliance on Simsek and the new economic strategy, steering clear of populist stimulus measures unsuited to the current economic conditions,” according to Temmuz Yigit Bezmez, a consultant at Istanbul Economics. Simsek’s presence lends credibility to economic policies among foreign investors, he added.

Istanbul’s Heft

Home to about a fifth of Turkey’s 85 million people, Istanbul is Turkey’s most important economic hub, as well as a nexus of political power — previously the capital of three empires, Erdogan’s rise in politics began in the city, where he served as mayor in the 1990s. The vote his party lost there in 2019 was initially canceled over allegations of vote stealing following an unexpected win by opposition candidate Ekrem Imamoglu, leading to steep declines in the Turkish currency at the time.

Read more: Erdogan Nemesis Emerges as Top Rival After Istanbul Vote Win

The lira in March dropped by the most since June, with losses driven by higher-than-expected inflation and increased local demand for hard currency ahead of the vote. The central bank, also facing erosion in its foreign-exchange reserves, stepped in to increase the policy rate by 500 basis points to 50% last month.

Inflation in Istanbul, which is also Turkey’s largest city by far, accelerated to 78.25% in March, according to data released on Monday, underlining the challenges the government faces in reining in prices that have wreaked havoc on businesses and citizens’ pocketbooks. The central bank expects inflation to fall to 36% by year end.

--With assistance from Patrick Sykes.

(Recasts and updates prices throughout.)

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