Market jitters are pushing the Turkish lira to a low ahead of the presidential election

Turkey’s lira has fallen to 20 against the US dollar for the first time, underscoring mounting pressure on the country’s economy and financial system as polls predict President Recep Tayyip Erdoğan will sweep this weekend’s election.

The currency traded as low as TL20.33 on Friday, according to FactSet data, the latest in a string of record lows and leaving it down 20 percent over the past year.

Turkey’s financial markets were surprised by Erdogan’s unexpectedly strong performance in the May 14 election. Investors are increasingly concerned that Erdogan, who has led Turkey for two decades, will continue to pursue unorthodox policies, which economists blame for triggering runaway inflation and a deep decline in the lira.

Two opinion polls this week suggested the 69-year-old president was the clear favorite to defeat rival Kemal Kilicdaroglu, who is leading an opposition coalition of six parties, in Sunday’s second round of voting.

“We think the most likely path forward under Erdogan will be a continuation of unconventional policy, which is characterized by low interest rates, restrictive foreign exchange regulations and high inflation,” said James Reilly, an economist at Capital Economics in London.

Turkey has attempted to manage the lira through direct intervention in the currency market and measures that have made it more difficult for individuals and businesses to purchase foreign currency or that have provided them with an incentive to hold the lira.

In a sign of mounting tensions, the value of deposits in savings accounts, which protect depositors from depreciation in the lira, rose to the equivalent of $121bn from $76bn at the start of the year, according to data from the banking regulator . Meanwhile, local banks are quoting the lira at close to 22 against the dollar.

Turkish assets trading in overseas markets are also under heavy pressure. The yield on dollar-denominated government bonds maturing in 2030 rose to 10.4 percent from 8.1 percent before the May 14 election. Bond yields rise when prices fall.

FactSet data shows that the cost of protecting against a Turkish debt default using a five-year credit default swap has risen from 490 bp to 676 basis points.

Analysts say the lira is likely to weaken significantly after the election if Erdogan does not switch to a more conservative set of policies. “We expect the lira to remain under downward pressure given excessive external imbalances and measures to contain the US dollar,” analysts at Oxford Economics wrote in a note.

A particular concern is the central bank’s dwindling foreign exchange reserves, which have fallen due to the country’s growing current account deficit and interventions to slow the lira’s decline.

Gross foreign exchange reserves fell by $9.5 billion in the six weeks leading up to the May 14 vote to $53.2 billion, according to central bank data. However, those figures include tens of billions of dollars borrowed from domestic banks, known as “swaps”. Reserves at the end of 2022 stood at $75bn.

Erdogan said in an interview on Thursday that Gulf countries had recently provided additional financial aid, but did not specify which countries had provided the support nor the scale of the funds provided. “Nobody should worry, our economy, banking system, financial system is very good,” he said on CNN Türk.

Additional reporting by Mary McDougall in London

Turkey’s lira has fallen to 20 against the US dollar for the first time, underscoring mounting pressure on the country’s economy and financial system as polls predict President Recep Tayyip Erdoğan will sweep this weekend’s election.

The currency traded as low as TL20.33 on Friday, according to FactSet data, the latest in a string of record lows and leaving it down 20 percent over the past year.

Turkey’s financial markets were surprised by Erdogan’s unexpectedly strong performance in the May 14 election. Investors are increasingly concerned that Erdogan, who has led Turkey for two decades, will continue to pursue unorthodox policies, which economists blame for triggering runaway inflation and a deep decline in the lira.

Two opinion polls this week suggested the 69-year-old president was the clear favorite to defeat rival Kemal Kilicdaroglu, who is leading an opposition coalition of six parties, in Sunday’s second round of voting.

“We think the most likely path forward under Erdogan will be a continuation of unconventional policy, which is characterized by low interest rates, restrictive foreign exchange regulations and high inflation,” said James Reilly, an economist at Capital Economics in London.

Turkey has attempted to manage the lira through direct intervention in the currency market and measures that have made it more difficult for individuals and businesses to purchase foreign currency or that have provided them with an incentive to hold the lira.

In a sign of mounting tensions, the value of deposits in savings accounts, which protect depositors from depreciation in the lira, rose to the equivalent of $121bn from $76bn at the start of the year, according to data from the banking regulator . Meanwhile, local banks are quoting the lira at close to 22 against the dollar.

Turkish assets trading in overseas markets are also under heavy pressure. The yield on dollar-denominated government bonds maturing in 2030 rose to 10.4 percent from 8.1 percent before the May 14 election. Bond yields rise when prices fall.

FactSet data shows that the cost of protecting against a Turkish debt default using a five-year credit default swap has risen from 490 bp to 676 basis points.

Analysts say the lira is likely to weaken significantly after the election if Erdogan does not switch to a more conservative set of policies. “We expect the lira to remain under downward pressure given excessive external imbalances and measures to contain the US dollar,” analysts at Oxford Economics wrote in a note.

A particular concern is the central bank’s dwindling foreign exchange reserves, which have fallen due to the country’s growing current account deficit and interventions to slow the lira’s decline.

Gross foreign exchange reserves fell by $9.5 billion in the six weeks leading up to the May 14 vote to $53.2 billion, according to central bank data. However, those figures include tens of billions of dollars borrowed from domestic banks, known as “swaps”. Reserves at the end of 2022 stood at $75bn.

Erdogan said in an interview on Thursday that Gulf countries had recently provided additional financial aid, but did not specify which countries had provided the support nor the scale of the funds provided. “Nobody should worry, our economy, banking system, financial system is very good,” he said on CNN Türk.

Additional reporting by Mary McDougall in London