Overcoming the recession in the economy will take at least 2 quarters.Demonstrating good growth in the fourth quarter of 2019 at 6.0% yoy, the Turkish economy expanded by another 4.5% yoy in the first quarter of 2020. However, in the second quarter the economy plunged, contracting by 9.9% yoy. As per our projection, the contraction of the economy in 3q2020 will be -6.3% yoy, slowing in 4q2020 to -3.7% yoy.
The monetary conditions of the Central Bank (CB)of Turkey do not support the lira and add to inflation. Amidst of rising double-digit inflation, the CB maintains a "pro-presidential" soft monetary policy aimed at expanding the lending to the economy. If in June inflation was 12.62% yoy, and in August 11.77% yoy, the rate on one-week repo transactions (the key rate of the CB for liquidity management) was 8.25% while the inflation target for 2020 was set at 5% +/-2%. During 2020, there is observed a high rate of lending that as of 7M2020 increased by 27% to 2.8 trn liras, supporting demand-pull inflation. To balance the financial system and slow the lending, the CB increased reserve requirements for banks by 300 bps on all liabilities since the end of July, and in August increased reserve requirements on metal accounts by 700 bps and by 200 bps on all bank liabilities in foreign currency. In addition to high lending rates and a key rate below inflation, weakening the national currency us a hurdle to meet the inflation target. Thus, as of the end of September, the Turkish lira has weakened by 31.5% YTD from 5.95 to 7.34 lira per US dollar.
The state budget deficit is to widen. According to the results of 6 months of this year, the plan on revenues of the state budget was implemented by 47.6%, which amounted to 455.4 bn liras ($66.5 bn). Tax revenues rose 9.2 percent to 336 bn liras ($49.1 bn) or 42.8 percent of the planned. The expenditure plan was executed by 51.6% in June and amounted to 564.9 bn Turkish liras (17.3% yoy) or $82.5 bn. The largest increase in the budget expenditures setup is observed by the current transfers (20% yoy), payment of interest payments on domestic debt (42% yoy) and on foreign debt (22.8% yoy). As of the end of June, the state budget was in deficit of 109.5 bn liras ($15.9 bn), which amounted to 78.8% of the planned budget deficit for 2020.
Decrease of the IRs is partly balanced by increase of gold holdings. As of the end of June 2020, Turkey's IRs decreased by $19.4 bn, or 18.3% to $86.3 bn YTD (-10.4% yoy). The decrease was due to 40.6% slump of IRs in foreign currency holdings since the beginning of the year (-36.4% yoy). At the same time, there was an increase in gold by 44.2% (71.0% yoy) partly resulting from the revaluation of the asset due to the growth of its face value in the global markets (17.4%), as well as due to its growth in volume by 24.2% (35.5% yoy) to 22.1 mn troy ounces (687.4 tons). As a result of the increase in the market value and volume of gold accompanied by reduction of IRs, the share of gold in the IRs setup of the CB increased from 23.7% in June last year to 45.2% in June of this year.
Current account - the deficit is to expand. The current account balance changed from a surplus of $8.9 bn at the end of last year to a deficit of $19.8 bn at the end of 1H2020 (a surplus of $185 mn in 1H02019). This deterioration was facilitated by the expansion of the trade account deficit by 2.6 times to $18.2 bn due to a fall in exports by 16.4% yoy to $74.7 bn, with a less significant decrease in imports by 3.5% to $92.9 bn. There is also a 3.6-fold decrease in the service account surplus to $3.7 bn resulting from decrease of the surplus on transportation services by 41.7% yoy to $4.3 bn and decrease the travel surplus by 3.2 times to $2.7 bn. The primary income account deficit decreased by 19.5% yoy to $5 bn due to decrease of investment account defcit by 21.1% yoy to 4.4 bn, while portfolio investment income account deficit increased by 2.9% yoy to $1.9bn. The secondary income balance was in deficit of $260 mn against a surplus of $146 mn a year earlier. According to the forecasts, Turkey's current account in 2020 will be in deficit of 2.0-2.4% of GDP.
