Capital outflows further reduce Turkey’s reserves in March

Current account deficit falls, but the economy’s weak external position remains unchanged

International reserves in Turkey fell sharply in March on capital outflows, in spite of the economy’s narrower current account deficit, central bank data shows.

Official reserves at the Central Bank of the Republic of Turkey (CBRT) decreased by $5.7 billion in March, more than 6% of total reserves, according to the balance of payments statistics released today (May 13). The CBRT’s last money and banking statistics update says gross foreign exchange reserves stood at $72.6 billion on May 3, 2019. They were recorded at $86.1 billion on May 4, 2018.

The reduction in reserves takes place in spite of the country’s lower current account deficit, and is mainly the result of continuous capital outflows. In March 2019, the external deficit reached $589 million, down from $4.7 billion in the same month last year. The 12-month rolling current account deficit was recorded at $12.8 billion, 1.6% of Turkey’s GDP in 2018.

The International Monetary Fund expects Turkey to continue this correction over the next months. In fact, it forecasts the country will record a surplus of 0.7% of GDP in 2019.

This imbalance was a decisive factor in the economy’s recent economic crisis. In 2017, the current account deficit reached 5.5% of GDP. This, alongside a hefty budget deficit, contributed to sharp capital outflows and an acute exchange-rate crisis between April and September 2018. As a consequence, the lira lost 28% of its value against the US dollar last year.

However, despite the better current account outlook, the lira’s weakness has persisted this year, and between January 1 and May 13, the national currency had shed 13.5% of its value against the greenback. This depreciation adds to the 28% fall recorded in 2018.

The lower purchasing power of the currency is one of the main contributors to the lower current account deficit. “Weaker domestic demand and increased price competitiveness, along with strength in tourism, have led to an improvement in Turkey’s external balance,” says Muhammet Mercan, chief economist, Turkey, at ING.

As a result, Turkey remains vulnerable to sentiment among international investors. And the lira’s volatility shows they are increasingly losing faith in the resilience of Turkish institutions and the government’s willingness to implement necessary reforms.

The lira declined by over 4% last week following the decision on May 6 by the national election board to cancel the victory of the opposition Republican People’s Party in Istanbul’s mayoral elections. The body ordered the rerun of the vote on June 23 after the AKP party of president Recep Tayyip Erdoğan filed complaints of voter fraud.

Against this backdrop, investors have continued to withdraw capital from the country. In March, capital outflows were recorded at $4.7 billion.

“Outflows accelerated in March, signalling that the outlook will remain challenging, driven by market conditions as well,” says Mercan. “Sizeable financing needs will likely keep Turkey sensitive to shifts in global risk appetite.”

Non-residents sold equities amounting to $554 million, while they sold $863 million in debt securities. “Other investment recorded a net outflow of $3.1 billion,” says the CBRT.

“It seems that banks continued to transfer foreign exchange to their corresponding banks abroad,” adds Mercan.

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