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bne October 2020 Companies & Markets I 17
It also reflects the downside risks associated with the authorities' inadequate reaction function, which makes Turkey more likely to suffer a full-blown balance of payments crisis in the coming years.
Finally, it reflects elevated levels of geopolitical risk on several fronts.
Moody's also lowered Turkey's foreign currency deposit ceiling by one notch to Caa1, two notches above default and seven notches below investment grade, from B3.
The short-term foreign currency bond ceiling and short-term foreign currency deposit ceiling both remain unchanged at Not Prime (NP).
Ceilings generally act as the maximum ratings that can
be assigned to a domestic issuer in Turkey, including for structured finance securities backed by Turkish receivables, Moody’s noted.
The alignment of the foreign currency bond ceiling and the government bond ratings reflects Moody's view that exposure to a single, common threat – loss of external confidence and capital – means that the fortunes of public and private sector entities in Turkey are, from a credit perspective, increasingly intertwined.
In the below, bne IntelliNews relays some of what Moody's is saying.
Likelihood of BoP crisis
Turkey's foreign currency reserves have been drifting downward for years on both a gross and a net basis but are now at a multi-decade low as a percentage of GDP because of the central bank's unsuccessful attempts to defend the lira since the beginning of 2020.
Gross foreign exchange reserves (excluding gold, in line with Moody's methodology) were at $44.9bn (as of September 4), marking a decline of more thatn 40% since the beginning of the year.
Turkey has tried a number of measures to increase gross reserves – including a tripling of the country's swap line with Qatar to $15bn and increasing banks' reserve requirements – but by any measure there is an exceptionally low buffer when measured against upcoming external debt payments.
Moody's forecasts that the country's external vulnerability indicator (EVI), an indicator of the adequacy of foreign currency reserves to cover external debt repayments and non-resident deposits, will rise from 263% in 2019 to 409% in 2021, which represents heightened exposure to changes in international investor sentiment.
In a crisis, the authorities could use the commercial banks' reserves of $44bn deposited at the central bank to repay
maturing external debt, which is why Moody's uses gross reserves in its EVI calculation.
However, such a situation would increase the risk of the government imposing restrictions to safeguard its scarce FX assets.
In fact, if banks' required reserves for Turkish lira and FX liabilities are netted out, net foreign-exchange reserves are now close to zero.
Moreover, the reliance on swaps has grown at a very rapid pace in 2020. As of the end of July, the Turkish central bank had a $53bn net short position in the swap market, up from $30bn in March.
In other words, all the commercial banks' reserves at the central bank would be insufficient to cover this short position if these swaps were not rolled over.
“All the commercial banks' reserves at the central bank would be insufficient to cover this short position if these swaps were not rolled over”
Turkey does hold substantial gold reserves, and due to both increases in the gold price and an increase in gold volumes held, gold holdings are now broadly equal to FX reserves ($42.7bn at the beginning of September).
The lower the gross and net reserves go, the more likely it is that Turkey experiences a severe balance of payments crisis, causing acute disruptions to economic activity and further deterioration in the government's balance sheet.
In the past, when the economy came under pressure, Turkey's flexible exchange rate acted as a shock absorber that insulated the real economy from macroeconomic shocks and allowed the country to muddle through without addressing its structural imbalances. More recently, the authorities have been unwilling to allow the lira to float freely because of the economic consequences of a weaker currency.
Turkey's weaker exchange rate does not have as much of an impact on growth and export competitiveness of goods as it does in many other countries because of the high import content of exports in some exporting industries.
That said, the tourism industry is highly responsive to a more competitive exchange rate, and periods of exchange rate weakness often coincide with tourist arrivals hitting
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