MENA & Turkey Financials

Ercan Uysal

Thematic (Sector/Industry)

<p>A wide array of leading indicators suggest that the Turkish economy has started to contract sharply in 3Q18 largely due to a steep downturn in credit impulse following a 40% YTD devaluation in TL. Against this backdrop, the CPI and PPI have climbed to 24.5% y/y and 46.2% y/y in Sept-18, respectively, on the back of mounting fx pass-through pressures. Despite similarities with a stagflationary environment such as a sharp economic slowdown and rising inflation caused by a supply-shock of sorts via higher energy and intermediate goods prices, we believe the unprecedentedly high private sector (households and firms) indebtedness makes the current situation far more complicated. Unless a credible macro-stabilization program supported by a strong external financial back-stop is put in place in the near term, the Turkish economy might be on the cusp of a vicious inflation-devaluation spiral, which could lead to a disorderly unwinding of excessive leverage in the system.  Our macro model implies that the Turkish economy will likely contract by about 4-5% y/y on a cumulative basis by the end of 2019E, pushing the unemployment rate to the 15-16% levels in 1H19. In our view, the worst is not over for the Turkish assets.</p>

A wide array of leading indicators suggest that the Turkish economy has started to contract sharply in 3Q18 largely due to a steep downturn in credit impulse following a 40% YTD devaluation in TL. Against this backdrop, the CPI and PPI have climbed to 24.5% y/y and 46.2% y/y in Sept-18, respectively, on the back of mounting fx pass-through pressures. Despite similarities with a stagflationary environment such as a sharp economic slowdown and rising inflation caused by a supply-shock of sorts via higher energy and intermediate goods prices, we believe the unprecedentedly high private sector (households and firms) indebtedness makes the current situation far more complicated. Unless a credible macro-stabilization program supported by a strong external financial back-stop is put in place in the near term, the Turkish economy might be on the cusp of a vicious inflation-devaluation spiral, which could lead to a disorderly unwinding of excessive leverage in the system.  Our macro model implies that the Turkish economy will likely contract by about 4-5% y/y on a cumulative basis by the end of 2019E, pushing the unemployment rate to the 15-16% levels in 1H19. In our view, the worst is not over for the Turkish assets.

Stagflation at the Gates? Worst Not Over for Turkish Assets