Turkish lira plunges after Erdogan’s sacking by central bank chief

The turmoil comes after President Recep Tayyip Erdogan on Friday unexpectedly sacked Naci Agbal, the central bank governor who had repeatedly raised interest rates in a bid to control inflation since his appointment in November. Foreign investors say the move has rekindled fears that the central bank has lost its independence from political influence, diminishing the credibility of policymakers and sapping the appetite of Turkish assets.

The new governor, Sahap Kavcioglu, on Sunday tried to reassure the markets by saying that controlling inflation was the main objective of the bank. He is also committed to fostering economic stability by reducing borrowing costs and stimulating growth. Fund managers fear it will let the currency depreciate and accept high levels of inflation to lower interest rates.

“We’re really trying to gauge what the level of commitment to the lire is,” said Simon Harvey, senior forex analyst at brokerage Monex Europe. “We know in Turkey that interest rates are politically sensitive.”

Turkey’s benchmark stock index, Borsa Istanbul 100, fell 9.8% on Monday, putting it on track for its biggest sell-off since June 2013 and triggering two trading stops. The Nasdaq-listed iShares MSCI Turkey exchange-traded fund fell more than 18% in the United States.

The turmoil in Turkish financial markets highlighted the risks of investing in emerging markets, but showed subdued signs of spillover for the time being. The Mexican peso and the South African rand fell slightly against the dollar.

Shares of Spanish bank BBVA fell more than 7% in Madrid. Turkey accounts for more than 10% of BBVA profits thanks to its 49.9% stake in Turkish bank Garanti BBVA,

according to Jefferies.

The lira had been one of the best performing emerging market currencies this year, with investors applauding recent interest rate hikes. Overseas fund managers had added a net $ 4.6 billion to Turkish stocks and local currency bonds during Mr. Agbal’s tenure, betting that higher interest rates would help curb inflation and to stabilize the read.

Prior to Mr Agbal’s appointment to the central bank, investors sold Turkish assets for much of 2020 as low interest rates and high credit expansion boosted imports. The currency weakened, causing multiple rounds of intervention to stabilize the lira even as investors speculated that the currency would continue to depreciate. At one point, the central bank sold its own reserves and those borrowed from national banks to such an extent that it owed the banks more foreign exchange reserves than it had.

Mr Kavcioglu, the fourth head of Turkey’s central bank in less than two years, is a former member of the Justice and Development Party of Mr Erdogan and a columnist for the pro-government newspaper Yeni Safak. He publicly sided with Mr. Erdogan’s preference for lower interest rates.

Mr Agbal’s dismissal came on the heels of a rate hike on Thursday that exceeded expectations and lowered lending rates from 17% to 19%.

The prospect of another round of rate cuts under Kavcioglu’s leadership raises concerns about the country’s outlook.

The cost of insuring Turkey’s public debt against defaults rose sharply on Monday, reaching an annual cost equivalent to $ 461,000 for every $ 10 million of bonds on a five-year contract. This represents an increase of $ 306,000 at Friday’s close, according to IHS Markit, and is the highest since the start of last November.

“It’s as complete a surprise as I can remember in over 20 years of work,” said Paul McNamara, chief investment officer at GAM Investments in London, which manages emerging market debt funds. He had bet on the appreciation of the lira in recent months through forward exchange contracts, which are agreements to buy or sell a currency at a predetermined rate on a specific date.

Mr McNamara said he expects high volatility from reading it this week as he and other investors wait for more clarity on Mr Kavcioglu’s policies.

Some investors also feared that Turkey would restrict their ability to sell local assets to stem the market turmoil. Lütfi Elvan, Turkish Minister of Finance and Treasury, issued a statement on Monday indicating that Turkey would not impose capital controls or determine a fixed exchange rate.

Any reduction in interest rates may not be made immediately. In Mr. Kavcioglu’s statement on Sunday, he said the schedule of monetary policy meetings, where benchmark rates are set, will remain unchanged. The next meeting will be on April 15th.

“If you commit to sticking to the meeting schedule, you don’t have a meeting this week to cut interest rates, so there is a short respite for investors,” said Kieran Curtis, fund manager of emerging markets at Aberdeen Standard Investments which had purchased pound-denominated bonds under Mr. Agbal’s tenure.

“The next move will definitely be down,” Mr. Curtis added. “The question was, when will rates go down and how far?”

—Joanne Chiu, Jared Malsin, and Paul J. Davies contributed to this article.

Write to Caitlin Ostroff at [email protected]