What does the value of Turkey’s money have to do with your money?
Something called the Turkish lira is in a free fall, and it’s causing problems for Turkey’s economy, as well as for other emerging markets.
The value of the lira lost about 25% of its value this week, and it has fallen about 40% since the beginning of 2018. And there are signs that it may drop even further, as investors have rushed to sell off their lira.
Some background on Turkey
The Turkish economy is saddled with large amounts of debt and is afflicted by unstable politics. Turkey’s leader, president Recep Tayyip Erdogan has taken on dictatorial powers in recent years, squelching an independent judiciary and imprisoning political opponents, among other things.
Erdogan and President Trump have also gotten into heated exchanges after the U.S. doubled tariffs on Turkish steel and aluminum imports in recent weeks. In response, Turkey has imposed its own tariffs on two dozen U.S. products, including agricultural goods, cars, and electronics.
What does it mean when a currency depreciates
When a currency depreciates, it means things get more expensive for the people who use it.
That’s because when the value of a currency falls, it can lead to inflation, which makes the cost of goods and services rise, according to experts. Inflation in Turkey is currently running at about 15% annually, which cuts into the value of what workers take home for pay. (For comparison, inflation in the U.S. runs at about 2% annually, and the value of the dollar has been growing in recent years.)
Similarly, a depreciating currency also makes it harder for a country to repay its debts, if those debts are held in foreign currencies. Turkey has more debt denominated in foreign currency than any other emerging market, according to reports.
When a currency falls in value, it also makes imports more expensive, as businesses must purchase foreign goods using a currency that’s worth less.
Markets and economies are interconnected
So when problems emerge in one country, they can often spread—particularly when the economies are large. The financial meltdown in the U.S. in 2008, for example, sparked financial problems globally.
The lira crisis has caused a sell-off in the U.S. and in western European markets.
What’s an emerging market?
Turkey seeks membership in the European Union, a federation of 28 countries that includes some of the wealthiest economies in the world, such as England, Germany, and France. Nonetheless, Turkey is considered an emerging market.
An emerging market refers to a country with a developing economy and growing business infrastructure.
The term is used primarily to describe nations with free markets and expanding global trade, but which may still have some governmental and institutional instability, and areas that are still primarily rural or underdeveloped.
Mexico, India and China are three other countries widely referred to as emerging markets, but there are dozens of other examples throughout the world.
Throughout 2017, emerging market stocks posted some of the strongest growth globally, posting double-digit gains as these economies have emerged from years of low or no growth, and as the global economy has also increased.
The trade wars set off by U.S. tariffs on goods produced in China and elsewhere, however, have stalled growth, according to some analysts.
“Escalation in trade tensions is hurting emerging markets the most,” Neena Mishra, head of ETF research at Zacks Investment Research told CNBC recently.
Turkey is a relatively small country, however, representing less than 1% of total holdings on the leading emerging market index, according to reports.
It might help investors in emerging markets to keep in mind that it’s not a good idea to try to time the market, and volatility is a part of investing.
Past currency crises
Currency crises happen with some regularity.
In 1997, something called the Asian financial crisis rattled global markets. The Asian crisis started with a meltdown of the Thai currency, called the baht. But it soon spread to neighboring countries, including Japan, China, and Russia and then western economies.
The currency crisis ultimately caused a 554-point sell-off on the Dow. At the time, that was its biggest single-day decrease.
The effects of the Asian financial crisis were felt for years afterwards.
Russia, similarly, in the late 1990s suffered its own currency crisis, as did Brazil.