Easy summer, hard fall in the Turkish economy Mustafa Sonmez(*)

In Turkey, which differs from the world economy with an annual inflation rate of 71.6 percent, the main goal is to return to normal, and for this reason, to reduce inflation to more manageable rates. President Recep Tayyip Erdoğan pursued populist policies that were unreasonable in view of the elections held in May 2023. As a result, the economy capsized and there was historic inflation. Now, Mehmet Şimşek, who was put in charge of the economy by Erdogan, who won the election with this populism, is trying to “return to rationality”.

Mehmet Şimşek, who has been at important levels of Erdoğan’s rule that started in 2002, is trying to carry the economic rudder he took at the beginning of June 2023 to the “Rational policies” lane in his own words. The way to do this is to reduce consumer inflation, which reached 71.6 percent annually in June 2024, to 40 percent by the end of 2024 and to 20 percent in 2025. Undoubtedly, these are ambitious goals, but they must be achieved for normalization.

How much of a “return to rationality” has Mehmet Şimşek been able to achieve as the first year of his ministry is behind him? Of course, the fact that his annual inflation, which was 38.5 percent when he took responsibility, reached 71.6 percent at the end of a year is not a good report card for Şimşek. However, it was almost predicted that this would be the case, and it was calculated that consumer inflation would reach 75.5 percent in May 2024 and then decline in the following months and end the year at 40 percent. Why such an ascent and then a descent?

Because, until Şimşek took the helm of the economy, there was a suppressed interest rate and currency price distortion. Erdogan’s instructions to his former staff were to keep the Turkish lira (TRY) interest rates low and to push the foreign exchange price down as much as possible. In practice, these preferences contrary to the market cheapened the use of the Turkish lira, and the pressure on foreign currency made imports cheaper. Both of these conveniences kept consumption, expenditures and domestic demand alive, the growth pace of the industry based on domestic demand increased, employment did not decrease, and the economy did not shrink or dry up, even if it led to inflation. This is what Erdogan wanted before May 2023 when he went to the polls.

After the election, Şimşek started by starting to turn these non-market preferences inside out. TRY interest rates were increased from 8.5 percent to 50 percent in one year. The currency, on the other hand, was released to the market in Mai-July 2023 and jumped around 34 percent during this period. Afterwards, it followed a near-horizontal course. However, the sharp correction in the currency, in particular, led to shock jumps in prices. When rising prices stimulated consumer spending and even stockpiling tendencies, this provoked demand sharply increased the prices of services as well as the prices of goods, and most importantly, expectations and confidence that inflation would be reduced at home and abroad weakened. This is an important hill that Şimşek still struggles to overcome.

Another political factor that reduced Şimşek’s performance in the past year was the local elections on March 31, 2024. Erdogan, who always reminded Şimşek of this important page of the political calendar, also prevented him from taking decisive steps in time. While radicalism was avoided in raising interest rates, little steps were taken in public savings, and other steps of income and monetary policies that would cool the economy and slow down domestic demand were ineffective. As a result of all this, inflation could not be brought down while growth remained in the 4,5 percent band, unemployment remained at 8-9 percent and the current account deficit stopped growing.

The heavy pressure of inflation, especially on the lower 40-50 percent of the population, the anger and the growth of grievances cannot be prevented. This inflation fire played a major role in the heavy defeat of Erdogan’s AKP party in the March 31, 2024 local elections.

As Şimşek’s first year is left behind and the economy is entering its second summer, it is observed that this summer is going to be quite easy. Although monthly price increases will hover around 2.5 percent per month with the best expectations, annual inflation will first fall to 60 percent and then 50 percent starting from June due to the base effect, and this trick of arithmetic will be used as an important propaganda material by Şimşek. Still, inflation is likely to be felt in 2024 at somewhere between 45-50 percent annually, even if it stabilizes in the summer, but with the increase in pace in the autumn months. This is a common belief and will not be considered a successful performance at all.

The relative increase in TRY interest rates, the flat course of the foreign exchange price, and the noticeable decline in the country’s risk in the outside world accelerated the inflow of foreign hot money into the Turkish stock markets. Tourism also contributes to this positive trend, which keeps the currency price flat. With the acceleration of tourist arrivals in the summer months, a meaningful flow of tourism foreign currency seems to accelerate the returns to TRY by reducing the attractiveness of the foreign currency. This is considered as a pleasantness of the summer months for Şimşek.

Both the Central Bank and Şimşek stated on many platforms that there should be no new increase in the minimum wage and lowest pensions in July. It was claimed that these increases were the winds to inflation by increasing aggregate demand. Erdoğan also implicitly confirmed that they will not increase the minimum wage, which is set twice a year during election periods, this year, and that there will be no new regulation for pensioners. Therefore, starting in the summer, Lightning will also use such a braking operation on the demand side. Steps such as savings in public expenditures that will reduce demand and reduce transfers from the budget to farmers are other gestures of the summer months to Şimşek.

What about the entrance to autumn and winter? Will everything go according to Şimşek’s expectations during these months? It’s not easy to say. It is known that autumn is the beginning of the new school year, the months when winter preparation expenditures are made. There is no data yet showing that expectations that inflation is declining on a monthly basis have strengthened. Spending, stockpiling, is still the dominant trend. The fact that the flat course in foreign exchange makes imports attractive and even encourages borrowing from abroad is observed as a trend and may be strengthened. These could quickly increase demand for foreign currency, and as it pushes up its price, it may have to push the rock of Sisyphus back up.

The general consensus of observers is that the key is to give enough confidence to domestic and foreign economic actors that inflation will fall. Unless there is a belief in this, it is difficult to normalize this inflation (without the need for IMF support or program). Especially in politics, as Erdoğan finds it difficult to govern as before, it may become difficult to hold the helm in the economy.

Summer seems easy, fall seems difficult.

(*)Mustafa Sonmez is a Turkish economist and writer. He has worked as an economic commentator and editor for more than 30 years and authored some 30 books on the Turkish economy, media and the Kurdish question. On Twitter: @mustfsnmz