No Turkish Delight: The Implications of Erdogan’s Foreign Policy for the Turkish Economy

Three months after a failed coup on Turkey’s government in July 2016, President Erdogan stated that the country would no longer wait for problems to ‘knock on the door’ and would instead ‘go and find them’. This perhaps could indicate a precedent for his current, seemingly aggressive and unpredictable foreign policy, causing the Turkish economy to become increasingly isolated.


A recent failed coup allegedly caused by the Gulenists – supporters of Fethullah Gulen, a 79-year-old exiled religious leader preaching that Turkey is becoming too secular as nation – led to a significant crackdown by Erdogan, resulting in 60 kidnappings of supposed Gulenists from overseas. This was not an isolated event, and the breach of human rights has been an ongoing concern for the EU; Turkish involvement in the Nagorno-Karabakh conflict has further exacerbated this, with the country’s support of Azerbaijan being criticised. Equally, the conflict has exposed the limits of Russian influence in the Caucasus region and potentially endangers an already complex relationship with the nation. Erdogan’s support of the UN-backed government in Libya has angered Russia further as well as Egypt and the UAE. Furthermore, Erdogan’s acquisition of the S-400 defence system from Russia drew disdain from fellow NATO member USA. Subsequent sanctions have only been held back by President Trump who considered Erdogan an ally. It is expected that President Biden will take a tougher approach to relations, with him noticeably referring to Erdogan as an ‘autocrat’ in 2017. As such, Erdogan’s foreign policy is having significant repercussions on the Turkish economy and its ability to form trade relationships with other countries.


However, Erdogan’s potentially riskiest policy is Turkey’s claim on recently discovered natural gas reserves in the eastern Mediterranean, a claim based only on the country’s unrecognised occupation of North Cyprus. Greece also maintains that it is entitled to a share of the benefits resulted from the production and exportation of any gas finds in the area, however this is disputed by Turkey. The situation has escalated, with Turkish warships blocking off the ‘Eni’ drilling in offshore Cyprus in early 2018. This they called ‘unilateral hydrocarbon-related activities,’ ignoring the ‘inalienable rights’ of Turkish Cypriot people, who are the claimed co-owners of that particular area. The dispute has led to the EU planning to impose economic sanctions on Turkey, which are set to be announced in March 2021. The severity of EU sanctions is uncertain however, with the bloc reluctant to impose hardship on its number one trading partner, as well as its biggest source of inward investment.


The aggressive foreign policy sentiment is, however, contributing to further economic instability. For example, Volkswagen’s cancelled plans to build a factory after a Turkish assault on Kurdish forces in 2019, according to the Financial Times. The difficulties in attracting foreign capital come at a time when Turkey’s economy is struggling. The lira has devalued by more than 25% against the dollar in 2020 and inflation rose to 14% last November, leading to a fall in investor confidence. Equally, iShares MSCI Turkey ETF, (made of 39 companies trading on the Istanbul Stock Exchange), has five- and three-year annualized returns of -8.92% and -19.62% respectively, suggesting that Turkey’s economic woes have been present for a while and need addressing.


However, belief may be restored to investors with the appointment of the new central bank governor, Nacil Agbal. He is set to end to the bank’s strategy of selling dollars to prop up the lira, estimated to have cost the bank 150 billion USD in the last two years, according to Goldman Sachs. This will protect Turkey’s limited foreign exchange reserves. Equally, he is willing to raise the bank’s main interest rate, which stands at 15%, seeking a ‘convincing improvement in inflation’. This has led to the lira gaining 0.7% on the dollar and resulting in $2bn of Turkish bonds and stocks being bought by investors. Yet, cautious optimism should be exercised, as Erdogan has dismissed two central bank governors in the last 18 months and stated that high-interest rates are ‘the mother and father of evil’.


Despite EU sanctions remaining uncertain, Turkish investors should still arguably be concerned. The aggressive and unpredictable nature of Erdogan’s foreign policy, causing Turkey to be increasingly economically and politically isolated, exacerbates the issues generated by the already unstable lira. Even if the sanctions imposed by the EU in March prove to be relatively mild, further penalties could be imposed unless Turkey maintains a consistent and cooperative foreign policy. It is yet to be seen whether Mr Agbal can control Turkey’s high inflation and promote investor confidence. Ultimately, pending sanctions suggest that any investment into Turkey should be approached with caution and perhaps someday Erdogan’s foreign policy will lead to the “door” closing on him.


By Ainle McGuinn

Sector Head: Jared Gibson