Home Ratings and Research Archive ERA rates TURKEY BB, outlook Stable
ERA rates TURKEY BB, outlook Stable
Friday, 18 January 2019

The unsolicited credit rating BB assigned to Turkey stems from constant indebtedness growth paralleled with limited international reserves, the low risk of public debt non-servicing, high midterm inflation, sustained negative external balances, and the deteriorated quality of monetary regulation.

Rating components

Macroeconomic factors

Economic factors

Moderate

Debt and current account sustainability factors

Low

Public finance factors

Moderate

Private finance factors

Moderate

Foreign exchange stability factors

High

Liquidity factors

high

Final assessment

 Moderate

Forward-looking factors

Political and economic stability

Low

Efficiency and reforms potential

Moderate

Final assessment

Low

Overall score

Moderate

Final rating

BB

Macroeconomic factors of rating assessment

Turkey’s economy shows signs of stabilization in the monetary sector and unchanging imbalances in the external sector. The external debt, though being spread somewhat smoothly throughout the servicing period, is relatively high.


The Central Bank's independence failure and resulting late monetary instrument usage:

Certain concerns over the monetary regulator independence are associated with the increased influence of executive authorities to intervene with the monetary policy formulation. The CBRT leadership refrained from adjusting the policy despite expectations of steeply increasing inflation, which is viewed as a result of the deteriorated quality of monetary policy authorities service and independence.

The target-actual CPI discrepancy has been rather significant for a number of years already, and the CBRT has admitted that the gap will not go away until the end of 2019.

The monetary shock led the Central Bank to tighten the policy in an attempt to mitigate inflation tendencies. After reaching a high in September-October 2018, the year-on-year CPI (24.5-25.24%) at last started to stabilize in November. However, the impetus of this negative shock is still ongoing through the real sector. From July to December 2018, the Real Sector Confidence Index (seasonally adjusted) stayed pessimistic. According to ERA's expectations, the disinflationary process will last through 2019 with a slow downward tendency thanks to monetary policy impulse and the voluntary price-cut program. By the beginning of 2020, year-on-year CPI will still be in the two-digit zone, namely around 10% year-on-year. The time-horizon invested to the monetary steps aimed at stabilizing price dynamics will result in the probable investment underperformance that is not very vivid already.

Turkey's CPI has been much higher than the official target for years and will remain so at least until the end of 2019

Fig1

Source: The Central Bank of the Republic of Turkey


Financing risks for public sector external debt are low, but may rise in cases of further reserve shocks:

The debt-repayment schedule for the public sector does not look like one associated with a high-risk profile. The debt-service of the public sector in 2018-2022 (for 2018, the amount represents debt servicing for August-December) to the current level of disposable international reserves does not surmount 13% of the country's total reserves or 19% of its official reserves for 2018 until 2022 inclusively for each year. The highest debt-servicing amount is the one for 2019, when the government will have to repay or rollover 13% of currently held official reserves.
Overall, the servicing schedule for the public sector does not bring significant burden unless a drastic negative shock to the volume of disposable reserves occurs. Therefore, reserves deplete, and thus the surge in external financing risks for the public sector is somewhat correlated with the risk of more pressure on the Lira's exchange rate.

Turkey's international reserves had been growing despite the negative current account for a long time, but dropped in 2018 (USD Million)

Fig2
Source: The Ministry of Treasury and Finance of the Republic of Turkey


Turkey's external debt-servicing schedule is spread smoothly, with just a slight increment in 2019 (Bln USD)


Fig3

Source: The Ministry of Treasury and Finance of the Republic of Turkey


Risks associated with the possible repayment of the private sector's external debt by the government are truly high:

The private sector's debt servicing is mainly constituted from the banking sector's debt, which is about 67% of the sector's total in the short-term and 43% in the long-term. Throughout 2008-2018, commercial banks had been accumulating external debt, and its share in the total private sector's external debt surged from 20% to more than 40%. This tendency and the plunge of Turkey's official reserves in 2018 resulted in the fact that the banks' external debt equals 67% of total reserves and roughly equals the country's official reserves. Even though the debt-servicing schedule does not apply significant squeeze in the short-term, and it is rather smoothly distributed throughout the servicing period, the banks' liabilities are a serious concern for a country with weakening currency and a sector concentrated on the domestic market, thus having its main inflow in local currency.

Turkey's banking sector had been an active debt-creator since 2008 (mln USD)


Fig4

Source: The Ministry of Treasury and Finance of the Republic of Turkey


Turkey's total reserves will be scarce when the government is obliged to repay the banks' external debt (Bln USD)


Fig5

Source: The Ministry of Treasury and Finance of the Republic of Turkey


The depreciated Lira is unlikely to receive a bolster from a volatile economy with imbalanced fiscal and external accounts:

The national currency, though supported by the stimulus policy (exchange liquidity provided to the market in the form of limiting engagement in cross-currency swaps), showed a drastic depreciation in 3Q2018, thereby worsening the currency risk that goes from the long period of external investments inflow, both direct and portfolio (negative financial accounts seize this tendency). The initial demand on the exchange liquidity comes from the period of active growth in Turkey when the economy had been growing each year by 3-11% in real terms since 2010 (after the 2009 recession).

The Turkish economy has been able to sustain a negative current account by constantly growing external liabilities

Fig6

Source: The Ministry of Treasury and Finance of the Republic of Turkey

Such optimistic outlooks had led to tangible external indebtedness and stably negative primary income since 2003. The growth and the amounts of new debts and potential primary income repayments were not echoed by the analogous growth in liquidity reserves and all international reserves. In fact, the latter even shrank by USD 8.2 bln in 2017 and 2018.

The tendency of the stably negative current account prolongs the pressure on the Lira's currency rate, thereby prolonging the indebtedness problem by currency risk.


Turkey's current account and net exports have been negative for more than a decade

Fig7

Source: The Central Bank of the Republic of Turkey


Forward-looking factors of rating assessment

Turkey demonstrates average scores on all forward-looking indicators. However, in recent years the country has showed certain deterioration on both the Reform Capacity group of indicators and on the Political and Economic Stability group of indicators.


Efficiency and reforms capacity:
The 2018 outcome on the Turkish Reforms Capacity category of factors is evaluated as moderate. A slightly better outcome is seen on the Government Efficiency indicator and a lower one on the Regulatory Quality category of factors. The overall assessment of this group of indicators is the worst this decade, featuring a slow but sustained plunge in the capacity for reforms and government efficiency, including both fiscal policy and the independence of the Central Bank of Turkey.

Political and economic stability:
Turkey's Corruption Control assessments illustrate constancy. Other indicators of this group of factors declined throughout 2010-2017, which is especially true for the Social Cohesion assessment and the Rule of Law.

In addition, the Syrian conflict status remains frozen, thereby also freezing refugees' status in Turkey, which adds to uncertainty in terms of security, political stability, and social progress trends. This might be a more significant issue in the long run.

Yet another acute issue is the potential of cross-border instability on the Iraqi and Syrian border of the Republic of Turkey. Although currently the situation is not seen as alarming, its potential remains highly significant for security, economy, and the general domestic policy.

Another potentially negative factor is the intensification of geo-political confrontation between Turkey and its international counterparts.

Outlook: Stable

The forecast has been assigned based on expectations of stable external debt amounts, dropping but remaining positive economic growth and sluggishly stabilizing consumer inflation.

The Stable outlook assumes that the rating will most likely stay unchanged within the 12-month horizon.

Key assumptions

  • Stable public sector external debt in 2019-2020, with its servicing amount not exceeding 15% of the country's current reserves for each year;
  • The unemployment rate staying within 10-12% in 2019-2020;
  • Inflation remaining high in 2019 and by the start of 2020, being around 10% with the low probability of a further surge.

Potential outlook and/or rating change factors

A negative rating action may be prompted by:

  • Substantial deterioration of economic growth with a drop in main export-oriented industries;
  • Further depletion of liquidity reserves (apart from the debt-repayment goals);
  • Revitalization of insecurity actions in the country triggering additional budgetary imbalances and investment shrinkage through a more demanding social burden and worsening of the investment and trade climate;
  • Substantial increase in the NPL ratio to levels restricting the borrowing capacity of the banking sector.


A positive rating action may be prompted by:

  • The government's adherence to the enhanced policy of regulatory quality and CBRT independence;
  • Positive and upward-trending net exports to the extent that allows the current account balance to enter a positive zone in 2019-2020;
  • Significant relief on social obligations due to diminished unemployment and decisive policy towards refugees' status.

Appendix 1. Peer-analysis materials. Turkey's stance among the peer-group sovereigns

Fig8

Source: IMF

Fig9

Source: IMF


Fig10

Appendix 2. Major sovereign indicators

Indicators

2014

2015

2016

2017

2018_E

2019_F

GDP, bln USD

934.075

859.449

863.390

851.521

713.513

631.163

GDP growth rate, %

5.167

6.086

3.184

7.441

3.477

0.374

Population, mln

77.696

78.741

79.815

80.811

81.867

82.884

Unemployment, %

9.915

10.279

10.907

10.904

10.97

12.332

Youth unemployment, %

19.1

18.2

21.8

19.1

19.7

19

Consumer inflation, Dec/Dec, %

8.170

8.808

8.533

11.920

10.4

10

Consumer inflation, year-average, %

8.86

7.67

7.78

11.14

16.2

10.5

Public net debt, year-end %

4.3

11.1

13.5

16.4

21.1

21

External debt to GDP, year-end %

43.4

46.4

47.4

53.4

64

72

Gross national savings, % of GDP

24.413

24.777

24.472

25.468

25.103

24.657

General government revenue, bln TL

651.265

752.188

854.307

968.09

1109.365

1264.527

General government expenditure, bln TL

680.499

781.775

915.039

1038.657

1256.465

1482.151

Total investment, % of GDP

29.033

28.362

28.227

30.97

30.652

26.367

Total international reserves, bln USD (incl,  gold)

127.4

110.5

105.9

107.7

129

127

General government gross debt, bln TL

588.165

646.471

738.501

882.681

1003.596

1161.702

Exports, bln USD

220.6

198.6

187.5

209.8

224.1

238.3

Imports, bln USD

257.6

222.5

213.2

248.8

241.7

249.9

Current account to GDP, %

4.672

-3.736

-3.838

-5.545

-4

-3.9

Current account, bln USD

-43.644

-32.109

-33.137

-47.437

-26

-24.5

Appendix 3. List of material data sources

International Monetary Fund

World Bank

The Bank for International Settlements

The Central Bank of the Republic of Turkey

The Turkish Statistical Institute

The Ministry of Treasury Finance of the Republic of Turkey

Regulatory disclosure

The unsolicited credit rating and outlook were issued in accordance with ERA methodology for sovereign entities in the version from July 4, 2018 (available at www.euroratings.co.uk, section Methodology). In the same section there is a rating scale including an explanation of the importance of each rating category and a default definition. Information on the rate of historical failure is available at www.cerep.esma.europa.eu, and the explanatory statement of the meaning of those default rates is available at www.euroratings.co.uk (Regulatory Framework/Disclosure). This rating is issued as an unsolicited rating, i.e., was not initiated by the rated entity or a related third party. The rated entity did not participate in the rating process and the information and documentation for its development was obtained from publicly available sources in accordance with ERA methodology. ERA did not have access to the rated entity’s internal documents. ERA, in the context of routine care, verified all sources entering the rating process. ERA considers the scope and quality of the information entering the analytical process to be sufficient to assign a credit rating. The disclosure of the unsolicited rating and outlook was preceded by the approval of the Rating Committee. No actual or potential conflicts of interest have arisen. Since July 30, 2012, ERA has been a registered credit rating agency according to Regulation (EC) No 1060/2009 of the European Parliament and of the Council of September 16, 2009, on credit rating agencies. The rated entity was notified on January 16, 2019  and after the notification there were no changes or amendments in the rating. This is the first release of the rating for distribution.



Download pdf:
Turkey_Sovereign_Report.pdf

Approved by the Rating Committee:

Natalia Porokhova, Head of credit rating analysts

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