7 things you need to know about elections in Turkey

Summary:

• Turkey goes to polls on 24 June to elect president and parliament

• Next president will see his powers greatly increased

• Turkish lira collapsed over the past 2 years as high inflation deterred investors

• The central bank eventually delivered rate increases, but will it have freedom to fight inflation after elections?

1. Why are elections in Turkey so important?

General elections (parliamentary and presidential) in Turkey will take place on 24 June and it was called by President Recep Erdogan in late April as he looked to increase his grip on power. After elections the new president will lead the executive branch, and will be responsible for issuing presidential decrees during a state of emergency, hence its position will be significantly strengthened. The new framework will introduce vice presidency and dissolve the office of prime minister. It could bring substantial repercussions to financial stability in the country, therefore elections will be a pivotal event for the lira. 

2. USDTRY is up 150%, EURTRY up by 127% over the past 5 years (between 13.06.2013 and 13.06.2018)

The Turkish lira was the second worst performing currency over the past five years and that’s only because we had a serious currency crisis in Argentina. It lost almost 60% against the greenback. That shows a severity of situation. As we show in the next paragraph, there are good reasons behind this weakness. But at the same time, depreciation of the lira far outpaced inflation. So is the lira a bargain or does it remain a toxic currency?   

3. Why has lira been so weak?

Macroeconomic conditions in the Turkish economy have meaningfully weakened over the recent years. Inflation soared, the current account deficit widened appreciably while the central bank was keeping interest rates unchanged being constrained by an unorthodox stance shared by President Recep Erdogan. A combination of internal (inflation) and external (CA deficit) imbalanced have caused a steady outflow of capital.  

On paper a lot has changed recently as the central bank decided to lift rates significantly. It has resulted in quite a huge jump in real rates, a move which in theory could help the beleaguered currency. Importantly, this move has not been questioned by the president. Having said that, conditions in the economy will not improve overnight and a period of calm is needed - that’s why the elections are so important.     

Turkish inflation surged and the current account deficit widened substantially being a drag on the lira. Source: Macrobond, XTB Research

4. What could elections change?

It’s not any elections, controversial constitutional changes that were narrowly voted in 2 years ago will only become the reality after 24 June which is why it’s so critical. Here are the major changes:

• President will be responsible for preparing the annual budget (this is a role of the cabinet at present)

• The office of the prime minister will be deleted

• Vice presidency will be created, and the president will have a right to appoint and oust vice presidents as well as the most prominent state officials (under the old framework the  president had a possibility to remove ministers only on the request of the prime minister)

• President will be equipped with the power to declare a state of emergency (now it’s up to the parliament) as well as issue presidential decrees during periods of that state (now this a role of the cabinet)

• Parliament will be stripped of its monitoring role over the executive branch (now, it’s in charge of overseeing both the cabinet and ministers)

• The minimum age for members of the parliament will be lowered from 25 to 18

• A new parliament will consist of 600 members instead of 550 currently

As one may notice the president will hold much more power. It is clear that his role will become much more important, and thereby his influence on financial stability will be greater than ever before.

5. What do the polls tell us?

The AKP, the conservative party with Erdogan at the helm, is currently holding ⅗ of the total number of seats (550). Among the main opposition parties there are the Republican People’s Party (CHP), the People’s Democratic Party (HDP) being a pro-Kurdish, the far-right Nationalist Action Party (MHP) as well as the newbie liberal conservative IYI Party. However, the breakdown is likely to change after this month’s elections given what polls have shown recently.

According to polls carried out between 2 May and 11 June AKP should quite easily beat its major opponent CHP, but it’s likely to be short of a majority. Source: Wikipedia, XTB Research

As per polls being conducted between 2 May and 11 June the AK Party has had, on average, 41% support, the CHP 24%, the newbie IYI 13.5%, the HDP 7% while the MHP 6%. Therefore chances for the outright AKP majority are slim. The AKP will try to forge a coalition with the MHP but that too might be just a minority coalition. However, with the role of the parliament diminished, the majority is no longer as important.

Erdogan is expected to easily beat his major opponent Muharrem Ince, but he may be short of the majority to avoid the run-off. Source: Wikipedia, XTB Research

In turn, when it comes to a presidential election Erdogan is highly likely to win the first round beating his major opponents including Ince and Aksener, but the run-off looks likely. Ironically, Aksener who is third in polls would have higher chances of beating Erdogan in the second round. Meanwhile polls suggest a 4.7 percentage points deficit for Ince in the second round. This is still relatively close and the question is “how would Erdogan react to a loss? Would he pass the power in a peaceful way?” This is an additional concern that investors may have ahead of the elections. 

6. What is crucial for the markets

For the Turks it is obviously hugely important who wins the elections, especially presidential but for the markets the key is central bank policy. The Central Reserve Bank of Turkey increased the rates dramatically and the main rate is currently at 17.75%. What is more, real rate (nominal rate less inflation) is at around 5% for the first time since 2009.

High real rates are a precondition for a lower inflation in Turkey. Source: Macrobond, XTB Research

The lesson from the past decade is that such rates are necessary to bring the inflation down and lower inflation is crucial for the lira. The economy needs a period of stability and the central bank needs a freedom to act. Investors will judge the election outcome from this perspective.  

7. USDTRY and EURTRY technical analysis

USDTRY broke through the upper limit of a long term upward price channel in what looked like a full blown currency crisis. Interest rate hikes drove the pair lower but it’s too early to say if the par is going to be contained by the channel again. A strong rebound from the 4.45 level keeps buyers in the game and makes this the key support to crunch. A prospect of an uncontrolled sell-off has not been dismissed technically and with elections on the horizon it’s even more true. Source: xStation5

EURTRY pulled off from the highs after the emergency rate hike but just like with the USDTRY it’s too early to say the trend is over. The trendline has not been broken and the key 5.20 support remains solid. These are the flag-points that sellers need to get before reversing the trend. Source: xStation5