HAKAN TAŞÇI

Weakening euro no good for Turkey

The value of the US dollar index is near a two-year high. The strength of the greenback »»

The value of the US dollar index is near a two-year high. The strength of the greenback is partly the result of a weakening euro. Many emerging market currencies are also significantly lower compared to the US dollar. The Indian rupee, for example, is posting record lows. Even the Chinese renminbi, which is already considered quite undervalued due to government controls, is devalued against the dollar to cover losses in China's exports. Fear of a global economic slowdown and a second dip following the 2008-2009 financial crisis has forced international capital to flee towards the US dollar as the preferred safe haven asset.

After seeing a 1.50 euro-dollar parity in early/mid 2011, the euro is now in freefall, and a 1.22 parity was seen last month. These statistics are all good for European economies as long as they stay intact and defend the common currency from collapse. From July 2011 to July 2012, the common currency of the 17 eurozone members weakened 7.3 percent against a basket of other major currencies, which means that the eurozone economies became more competitive by a similar figure. Economically stronger nations in the north of the continent are benefiting from this far more than the weaker southern nations such as Spain, Italy and Greece, as can be imagined.

The Turkish economy, however, along with that of Brazil, are losers in this currency realignment, together with the Fortune 500 companies in the US. Turkey mostly buys intermediate goods and natural resources in dollars from overseas and sells most of them to Europe as finished products like automobiles, apparel and home appliances. So the country earns euros from exports to Europe. Spending in dollars for imports and earning export revenue in euros is an advantageous strategy for Turkey only when the eurozone's common currency is strong.

There is another benefit of a strong euro for Turkey. The main competition for Turkish products in Europe often comes from Eastern European nations, which also lose their comparative price advantage when the currency in which they incur input costs appreciates. As a result, their products become more expensive in international markets with a stronger euro. Turkey's exports fill the space left when fewer European products have a price advantage to survive in the market. This is what happened in the aftermath of the last financial crisis. Turkish exports to many parts of the world increased primarily due to this effect.

Since we Turks don't like hedging the risks and paying money for risk management, a weakening euro, on the other hand, has been having the opposite effect over the past year. If one checks the latest export numbers, after consistently strengthening trade numbers for more than two-and-a-half years, for the first time in this period Turkish exports showed a 5 percent year-on-year decline in July. If you also check the details, the automotive and textile industries experienced the strongest -- double digit – declines, which are of course not coincidentally Turkey's main export items to Europe. Exports to Italy, Germany and France declined more than 20 percent last month. The connection is obvious, right?

And this happens despite a depreciated Turkish lira, which helped the country considerably in other markets like those of the US, Middle East and North Africa, diversifying exports and trade in general. Turkish exports to the US, for example, increased 24 percent this year, and Iraq is soon to become the number one export market for Turkey despite a growing political dispute with the central Baghdad government. Libya also championed in the list of Turkey's export markets, with a 156 percent year-on-year increase.

There is another danger here. The Central Bank of Turkey is applying an unconventional but a successful monetary policy to control domestic credit growth and inflation at the same time. Here, the “Impossible Trinity” taught to us by Nobel Laureate in Economics Robert Mundell is a relevant paradigm. In simple terms, you cannot control inflation, the exchange rate and free movement of capital at the same time. Are we, as Turkey, ready to have a revalued Turkish lira combat inflation in this risky global climate is an important question to tackle.

Let me finish with how this currency shift affects US global companies. Most of the European branches of American companies carry a great burden of operational losses due to very poor European domestic market conditions at a time when their exports are also feeling the heat caused by an unexpectedly strong greenback.

Many companies like GM, Philip Morris and Procter and Gamble cut a good chunk of their profit expectations due to the exchange rate this year.

2012-08-07

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Columnist:: HAKAN TAŞÇI