Turkey's faltering economy, not protesters, could bend Erdogan

The Turkish lira has dropped to an 18-month low since protests began. That could undermine Prime Minister Erdogan, whose popularity has been tied to strong economic growth on his watch.

The Turkish government has taken steps to begin bailing out the economy, which is staggering after two weeks of protest. Since demonstrations began, the Turkish lira has dropped to an 18-month low and the Istanbul stock market has dropped by as much as 11 percent.

Citing the “excessive volatility” caused by “the international and domestic developments during the last month,” the Turkish Central Bank announced today that it would take steps to stabilize the lira. The announcement triggered a rebound for the currency, but it came as police unexpectedly reentered Taksim Square, igniting clashes with demonstrators.

The Turkish government's inability so far to bring the protests to a peaceful end is likely to have more far-reaching impacts on the economy than new bank policies. Stability has long been one of Turkey’s most attractive features to investors. Without it, the nation’s economy could face growing challenges. These economic shortfalls may also erode support for Prime Minister Recep Tayyip Erdogan and his Justice and Development Party (AKP). 

Mr. Erdogan has not yet swayed to the demands of protesters, but if the economy begins a serious downward trend, it may force him to adopt a more conciliatory tone. 

“Right now, it doesn’t seem to be moving toward a solution where both parties would agree to a solution, so [the economy] would be another factor that would push the government to be more accepting of the demands of the younger generation,” says Subidey Togan, a professor of international economics at Bilkent University. “As long as the whole struggle carries on it will really have an effect on the investors’ attitudes and how they view Turkey.”

Political stability = economic stability

Since he was first elected in 2002, Mr. Erdogan has overseen the explosive growth of the Turkish economy, which accounts for much of his popularity among supporters.

The per capita gross national income and the gross domestic product have both tripled in the past 10 years. Foreign investment has dramatically increased, with the number of foreign companies with international capital expanding from 6,700 in 2003 to nearly 30,000 in 2011. A.T. Kearney’s 2012 Foreign Direct Investment Confidence Index placed Turkey as the world’s 13th most attractive place to invest.

Prior to the protests, it appeared that Turkey’s economy would continue growing in 2013. Data released today about Turkey’s GDP show that the country did better than expected, achieving a 3 percent year-on-year growth rate for the first quarter.

To maintain this growth, finding a peaceful solution to the protests is key. But today the government did not appear ready to compromise. Speaking to the parliament about recent demonstrations on Tuesday morning, Erdogan vowed, “We won't show any more tolerance.”

The remarks, and the police raid on Taksim, which came shortly after Erdogan had offered to meet with protest leaders, may indicate that Turkey is about to see protests grow rather than dissipate.

In a report released yesterday, rating agency Moody’s wrote, “The protests remind investors of persistent Turkish domestic political risk, which in turn may reduce the attractiveness of Turkey to portfolio investors should they intensify.”

The report also warned that the longer the unrest continues, the more likely the instability would be to adversely affect Turkey's credit rating. 

Foreign capital has come to play a critical role in keeping the Turkish economy afloat.

“What is different before and after Gezi Park [where protests began]? I think the essential gist of the problem is this loss of confidence about the ability of the AKP party to manage to the Turkish economy because political stability was key to economic stability. Now political stability is a question mark,” says Seyfettin Gursel, the director of the Bahcesehir University Center for Social and Economic Research.

Downturn may only be temporary

The ongoing instability could also eat into tourist revenues, which account for 10.9 percent of GDP and generate an estimated 2 million jobs. The summer is traditionally the high season for tourism, but there are already media reports coming from neighboring European countries that travelers have begun rebooking in favor of safer destinations, such as Spain.

Still, there remains some optimism that the situation will be resolved before the Turkish economy suffers longterm damage. In its assessment, Moody’s cautioned that the political situation is not a “Turkish version of the Arab Spring,” explaining that despite Erdogan’s hardline approach to protests, other members of AKP have taken a more conciliatory tone.

In addition to a strong economy that has benefited many Turks in recent years, which they may be loath to jeopardize, upcoming elections in 2014 and 2015 will provide an opportunity for protesters to express themselves at the ballot box.

Bedri Kamil Onur Taş, an associate professor of economics at TOBB University of Economics and Technology, says that this current political situation may actually create investment opportunities for those looking to buy low.  

“I think this is a good time for investors to invest in the Istanbul stock market because this is an unnecessary low," he says. "It will rise from here because there are no longterm effects on the Turkish economy."