The Best Thing You’ll Read on Turkey

I’ve been thinking about whether or not to write something about the crisis unfolding in Turkey, but there are much smarter people out there doing the legwork for me. Chief amongst them is Brad Setser at CFR. This post of his is tremendously good. It might get a little confusing for some so here’s a totally inadequate summary of what’s happening:

• Turkey wanted to spark growth and liberalized bank lending rules.
• Banks and local businesses borrowed a lot of foreign denominated debt.
• A boom ensued.
• A bust is now ensuing.

That massively oversimplifies things, but you get the point. As a short follow up I do have a few thoughts of my own here:

1. This is interesting because it focuses on something that I talk about a lot – the importance of understanding banking. As I wrote in my book, banks issue the “real” money in most modern economies. Central Banks and Treasuries mostly just facilitate the use of this money. This is hugely important to understand because you’ll notice that almost all of the modern financial crises (the GFC, Thailand, Iceland, Turkey, etc) are all banking panics. And if you don’t understand the real cause you’re likely to misunderstand what can likely fix the problem and how the markets might react.
2. This raises serious questions about how “sovereign” certain currency issuers really are. Emerging market economies often have to borrow in foreign currencies because their workers and corporations prefer a more stable foreign exchange rate. So you can end up with a currency crisis that has little to do with government actions. I often talk about the importance of being a sovereign currency issuer, but the degree to which a country is “sovereign” is a pretty slippery subject.
3. The big question everyone is asking is will this spill over into other economies? I don’t think so. Turkey is less interconnected than some people think. For instance, out of the entire MSCI All World Index Turkey’s equity exposure accounts for 0.05%. And while some European banks are exposed to the foreign debt problem there is no Central Bank doing more to prop up its banking system than the ECB. They’re not exactly asleep at the wheel over there ready to be shocked by a debt panic. That has been made very clear with the Greek and Cyprus situations. So I tend to think the contagion impact is overblown here.

Anyhow, go have a read of Brad’s piece if you want to get deep in the weeds. And if you don’t want to get deep in the weeds then I suggest you wait a few months for the Turkey that matters.