Fitch upgrades Turkey's outlook to stable as policy shift seen to aid financial stability

A more conventional and consistent policy mix is believed to reduce near-term macro-financial stability risks and ease balance of payments pressures

Fruit stalls at a market in Istanbul. Fitch forecasts Turkey's year-end inflation at 65 per cent, compared to a 58 per cent projection from central bank governor Hafize Gaye Erkan – both up from her predecessor’s forecast of 22.3 per cent. EPA
Powered by automated translation

Fitch Ratings has upgraded Turkey's long-term foreign currency issuer default outlook to stable from negative, saying that the government's shift in its economic policy could help to alleviate the country's financial instability.

The revision was a sign that the return to a more conventional and consistent policy mix reduces near-term macro-financial stability risks and eases pressures on the balance of payments, the New York-based ratings agency said on Friday.

However, uncertainties linger on how the “magnitude, longevity and success” of the policy adjustment will be able to bring down inflation, partly due to political considerations, it said.

The country's issuer default rating was affirmed at 'B', remaining at junk status and five levels below investment grade, Fitch said.

Junk status makes it more difficult for a country to access capital markets and raise funding that it needs when it wants to borrow.

The rating reflected “a record of political interference, high inflation, weak external buffers relative to high external financing needs and financial dollarisation”, Fitch said.

“These weaknesses are balanced against the sovereign's low general government debt relative to peers, a record of external market access and manageable debt repayment profile.”

High inflation remains Ankara's main risk and policy challenge. Annual inflation rose sharply in August to 58.9 per cent, as strong core inflation pressures were exacerbated by the sharp depreciation in the lira.

The Turkish currency has declined by nearly a third so far in 2023, after losing about 44 per cent in 2021 and 41 per cent in 2022.

Last month, Turkey's central bank raised its key policy rate by 750 basis points to 25 per cent as it continues to tighten policy in an effort to reduce inflation.

Fitch forecasts year-end inflation at 65 per cent, compared to a 58 per cent projection from central bank governor Hafize Gaye Erkan – both significantly up from her predecessor’s forecast of 22.3 per cent.

Ms Erkan, a former Wall Street banker, is part of a new economic team appointed by President Recep Tayyip Erdogan, mandated to run the country’s finances and signalling a potential shift from heavy state intervention in favour of allowing the market to determine the lira's fair value.

“The inflation trajectory remains highly uncertain, due to risks of backward indexation, inflation expectations, high commodity prices and additional lira depreciation,” Fitch said.

Turkey also still continues to deal with the fallout from the earthquake that shook it and Syria in March, with the cost of relief and reconstruction efforts leading to a “significant” expansion of the central government's deficit to 5.3 per cent of gross domestic product, the agency said.

Up until the February earthquake, Turkey's economy had been performing well: its economy posted the third highest growth among G20 countries in 2022, rising 5.6 per cent, trailing India and Saudi Arabia, the Organisation for Economic Co-operation and Development reported last month. This follows an 11.4 per cent growth in 2021.

The country's economy was nearly 20 per cent larger in real terms than pre-pandemic figures in 2019, official data from the TurkStat agency shows. Private consumption was 42 per cent above 2019 levels.

But the February earthquakes damaged Turkey's economy and society. Damage from the tremors – which also struck Syria – is estimated to exceed $100 billion, the United Nations had previously said.

“We forecast the general government deficit will widen to 6.3 per cent in 2024, as the main year of earthquake reconstruction and possible easing ahead of the local elections, before declining to 4.8 per cent of GDP in 2025,” Fitch said.

Turkey's current account deficit is pegged to remain high in 2023 and reach 4.7 per cent of GDP, which would reflect strong domestic consumption and gold imports, Fitch said.

“Total external debt maturing over the next 12 months amounted to $206 billion at end-June, leaving Turkey vulnerable to changes in investor sentiment,” it said.

Fitch, however, noted that Turkey's access to external financing is “resilient” for both its sovereign and private sector.

“Sovereign yields have come down significantly since the appointment of the new economic team and the government has reportedly agreed significant financing from Middle East partners,” it said.

Updated: September 09, 2023, 9:19 AM