Fitch has downgraded Turkey from BB- to B+, with a negative outlook. As high inflation and low external liquidity continue to plague the nation, Fitch believes that the Turkish authorities’ policy response will lack efficacy in dealing with the issues at hand and sustainably alleviating macroeconomic risks. Fitch adds that President Erdogan’s expansionary policy mix including deep negative real interest rates  inspires little confidence in Turkish policy credibility because it could potentially entrench inflation at high levels and expose public finances to significant forex risk. While the introduction of FX-protected deposits is expected to support exchange rate stability and in turn ease inflationary pressures, Fitch’s view is that the new instrument is limited in its ability to improve domestic confidence in a high inflation environment. On the other hand, if the instrument does not successfully decrease domestic demand for FX, maintaining exchange rate stability without using interest rates would require constant FX intervention and tighter controls to monitor that credit allocations do not add to FX demand. This could have a counterproductive effect and weigh heavily on domestic confidence. While inflation continues to remain high with PPI close to 94%, Fitch expects inflation to level at 38% by end-2022. Other factors which pose further risk include Turkey’s low FX liquidity buffers and high external financing needs, with debt maturing over the next 12 months amounting to $167bn.

Turkey’s 3.25% dollar bonds due in 2023 are trading lower at 96.61, down by 0.34 points at an yield of 8.39%.

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