Sound Money: Turkey’s Cure for Oil Dependence
With so much havoc among European nations, Turkey has attracted headlines recently as Europe’s fastest growing economy and the remaining shining star of investment grade on the continent. Though, as CNBC reported, rising oil prices threaten the country’s economic outlook. When it comes to oil dependence, Turkey upstages even the U.S. by importing 90 percent of all the oil it consumes; with Turkey in the middle of an industrial boom, high oil prices are restraining production. However, the problem is not that Turkey depends on foreign oil for growth, but that the price of that oil is rising. And while the Turkish government is looking towards alternative energy sources such as wind power, the real solution lies in their own monetary policy.
The price of Brent crude oil in Liras has risen 265% since the introduction of the new Lira in 2005. However in terms of gold, the price of Brent oil has actually fallen 33% since 2005, and remains at historically low levels along with West Texas oil. While the Central Bank of the Republic of Turkey (CBRT) has not destroyed the new Lira as they did the old, its currency management continues to disappoint. In an effort to fight off an economic slowdown, the CBRT cut its benchmark interest rate to a record low of 5.75% last year. As a result, the new Lira exchange rate hit a record low against the Dollar at 52 cents by the end of the year (down 33% from 78 cents in 2005), and currently sits at 56 cents. Yet the most important sign of mismanagement is the Lira’s performance against gold. Among the 20 largest economies in the world (Turkey being 16th), only India’s Rupee has lost more value priced in gold than the Lira in the last 5 years.
However, the CBRT is somewhat backtracking its unwise decisions. In response to the Lira’s post rate-cut free-fall, it began selling billions of Dollars from its foreign exchange reserves to buy up the Liras that it had just created. Most importantly, the central bank began diversifying its foreign exchange reserves (containing mostly Dollars and Euros) into gold. It also increased to 30% the portion of bank reserves that back demand deposits that can be held in gold. This has allowed commercial banks to provide gold deposit accounts that pay a small interest and allow customers to withdraw their money in Liras or gold bars. Unfortunately, the CBRT also increased the portion of the reserves that must be kept in Dollars and Euros from 55% to 60%. Along with the increase of gold that can be held on reserve, this effectively lowered the reserve requirement by allowing banks to make loans on 5.6 billion Liras previously held on reserve for demand accounts. Consequently, inflated credit continues to increase and the business cycle continues to deepen.
Nonetheless, Turkey has paved the way for a gold backed Lira, and they are not alone. Central Banks bought a record 157.5 tonnes of gold in the second quarter this year, and do not appear to be slowing up. The sooner Turkey starts adopting sound monetary policies, the sooner energy costs will begin falling and economic growth skyrocketing.
Devin Roundtree received his M.A. in economics from the University of Detroit Mercy.
