Article

Turkey-Russia Alliance Could Boost Demand For The Lira

Fitch Solutions / Country Risk / Turkey / Tue 09 Aug, 2022

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Key View

  • We at Fitch Solutions expect that economic deeper ties between Turkey and Russia could stabilise the Turkish lira as Turkey will be allowed to purchase some of its gas needs using the domestic currency.
  • We also believe that Turkey will not face secondary sanctions even if it is viewed by EU lawmakers to be helping Russia evade Western sanctions against it.
  • High-level talks between Turkey and Russia will continue over the coming months as Turkey leverages its strategic role in the Russia-Ukraine conflict.
  • On August 5, Turkey’s president Recep Tayyip Erdoğan met with his Russian counter-part Vladimir Putin in Sochi to discuss how the two countries could benefit from closer ties. The meeting resulted in a commitment to deepen cooperation in trade and energy.

We at Fitch Solutions expect that deeper economic ties between Russia-Turkey will somewhat help stabilise the Turkish lira over the medium term. Although it appears no formal agreements have been made, several commitments have been announced. For instance, Erdoğan has told the media that Turkey would be paying for Russian gas partly using the lira and partly in Russian roubles. Given that neither side have clarified what proportion of Turkey’s gas bill will be split between the two currencies, we will not make any adjustments to our lira forecast for now. However, if there is more clarity on the deal in the forthcoming weeks, we will adjust our forecast for Turkey’s current account deficit and the lira. Notably, the meeting had limited impact on the Turkish lira (see chart below) – no doubt, it could be long-term positive for the unit if demand for Turkish items from Russia increases. We currently forecast that the Turkish lira will end the year at TRY18.80/USD from USD17.96/USD currently.

Lira Demand From Russia To Increase
Exchange Rate, TRY/USD
Source: Bloomberg, Fitch Solutions

Even if Erdoğan goes ahead with his stated intention of deepening trade and economic ties with Russia, we think it unlikely that the EU will impose sanctions on Turkey. The Turkish president’s intentions were treated with caution by European Union (EU) officials who told the Financial Times that if Erdoğan were to go ahead with the deal, then the EU should consider secondary sanctions against Turkey; others pointed out that such a move would be difficult given that Turkey is not the only major nation cutting such deals with Russia. Turkey has refused to uphold sanctions against Russia and has held that, given its strategic position in the conflict, the country is in a good place to act as an arbiter in the conflict and must therefore remain neutral. Indeed, Erdoğan played an important role in securing a grain deal between Ukraine and Russia that allows Ukraine to ship wheat out of besieged ports in its southern regions.

At the same time, the EU has limited bargaining power with Turkey. Although the bloc has long objected to the country’s foreign policy decisions, Turkey’s leverage with the EU regarding control of refugee flows requires the bloc to retain good working relations with Turkey. A deal struck between the union and Turkey in 2016 on hosting Syrian refugees essentially led to the mitigation of the crisis that could erupt once again if this agreement is threatened. If the EU were to impose secondary sanctions on Turkey we think it possible that Turkey might retaliate by reneging on its commitments to host refugees.

For Turkey, there are clear economic incentives for deepening links with Russia. The adoption of the so-called Mir cards – Russia’s equivalent to Visa and Mastercard – will help protect tourism businesses that have long been dependent on Russian patronage. Moreover, Turkey imports 25.0% of its oil needs and 45.0% of its gas needs from Russia – while no indication was given whether Russia would be selling Turkey its energy at a discount (India and China have secured such price cuts), using liras to pay for some of these imports will help Turkey preserve its rapidly dwindling reserves (USD61.1bn as of July providing 2.0 months’ worth import covers). Moreover, Turkish exports to Russia are also set to rise given that the country can fill a deficit for consumer electronics and electronic component parts, that is emerging in Russia as Western sanctions against it, takes hold. This could also provide support to the Turkish lira as the country’s current account deficit could narrow - we current forecast that Turkey's current account deficit could widen to 6.5% of GDP in 2022 from 1.8% in 2021.

We expect high-level talks between Turkey and Russia to continue over the months ahead. From Russia’s perspective, strengthening ties with Turkey despite its war with Ukraine will be a significant foreign policy win. Not only will the Russian economy benefit from access to cheap consumer and manufacturing goods, but closer Russia-Turkey ties will worry EU, US and Ukrainian officials. It is possible that Russia might work towards persuading Turkey to end its shipments of military drones to the Ukrainian army in return for cheap energy and raw materials.

This report from Fitch Solutions Country Risk & Industry Research is a product of Fitch Solutions Group Ltd, UK Company registration number 08789939 ('FSG'). FSG is an affiliate of Fitch Ratings Inc. ('Fitch Ratings'). FSG is solely responsible for the content of this report, without any input from Fitch Ratings. Copyright © 2021 Fitch Solutions Group Limited. © Fitch Solutions Group Limited All rights reserved. 30 North Colonnade, London E14 5GN, UK.

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