Article:

　　Turkey’s unfolding economic crisis has deepened further after Donald Trump announced he was doubling US import tariffs on Turkish steel and aluminium, stoking the country’s currency freefall and rattling financial markets.

　　The Turkish lira plunged by more than 20% against the dollar after the president announced the move, amid a widening dispute between Washington and Ankara over the imprisonment of the US pastor Andrew Brunson.

　　Pressure has been applied on the country in recent days to stage an emergency interest rate rise to avert further economic damage.

　　Revealing an increase in US taxes on Turkish steel imports to 50% and on aluminium to 20%, the president tweeted: “Our relations with Turkey are not good at this time!”

　　Even before Trump’s tweet, the lira had plunged 14% as investors rushed for the exits, choosing to buy the dollar, yen and other assets seen as safe havens during times of financial market volatility. The lira has been under sustained pressure on foreign exchanges, dropping by almost 50% against the dollar in the past 12 months and hitting a succession of record lows this week.

　　Inflation reached an annual rate of 15.9% in July – more than five times the average rate for wealthy nations – and government borrowing in foreign currencies has risen dangerously high.

　　Recep Tayyip Erdoğan, having secured sweeping new powers in presidential elections this summer, tried to restore confidence in the currency on Friday in a speech filled with nationalist rhetoric but offered little to calm the international currency markets

　　Raising the spectre of shadowy forces influencing the currency, he told Turks to use

　　“gold under the pillow” to support the lira, while saying: “Don’t forget, if they have their dollars, we have our people, our God.”

　　Financial markets reacted badly and stock markets across the world dropped after Trump escalated the situation on Friday. Shares in European banks with sizeable operations in Turkey fell amid fears of contagion, including Spain’s BBVA, Italy’s Unicredit and France’s BNP Paribas.

　　Turkey’s trade minister, Ruhsar Pekcan, said the country was “deeply disappointed” by Trump’s decision and warned that the move would also affect US companies.

　　“Repeated efforts to communicate to the US administration that none of the stated criteria driving America’s tariffs are applicable to Turkey have thus far proven fruitless,” she said.

　　“Nevertheless, we implore President Trump to return to the negotiating table – this can and should be resolved through dialogue and cooperation.”

　　Ranko Berich, the head of market analysis at Monex Europe, said the Turkish president’s combative speech had further damaged international trust in its currency. “Erdoğan has reached for the crazy stick and given the lira another whack in a rambling speech that focused more on combative rhetoric than addressing market concerns,” he said.

　　Observers said the dispute could have broader implications for geopolitics and the situation in Syria and the Middle East if Turkey moves closer to Russia as a result.

　　David Chmiel of the political consultancy Global Torchlight said: “My initial reaction to the announcement from Trump was this was going to be another perceived knife in the back in terms of Erdoğan’s relations with the west.”

　　Emergency support from the International Monetary Fund has been mooted as an option for the country to save itself from the deepening crisis, although there are questions over whether Erdoğan would accept the strings that would come with any bailout deal.

　　Given the sizeable personal control Erdoğan commands over the running of the Turkish economy – after granting himself the right to appoint the central bank’s governors and naming his son-in-law as finance minister – economists reckon the government will attempt to muddle through.

　　However, the Turkish central bank has limited foreign exchange reserves to deploy to support the lira, stoking talk among economists of the nation using capital controls to halt the flow of money leaving its shores instead.

　　Analysts said raising borrowing costs aggressively in the coming days could help. Paul Greer of the fund management company Fidelity said an increase in interest rates of 1,000 basis points would be a “good start”, although he said this would probably tip the economy into recession.

　　Large sums borrowed in foreign currencies make Turkey especially vulnerable to a falling domestic currency because it becomes more expensive to pay off its debts.

　　Analysis & Evaluation:

　　The article discusses the Turkey’s economic crisis deepens as Trump doubles tariffs. Donald Trump doubled US import tariffs on Turkish steel and aluminum (an increase in US taxes on Turkish steel imports to 50% and on aluminium to 20%). And the Turkish lira plunged by more than 20% against the dollar after Trump doubled the tariff. Tariff is Taxes on imported goods; they are the most common form of trade restriction; Foreign exchange refers to foreign national currencies, i.e. for any country, it refers to currencies other than its own.

　　Trump doubled US import tariffs on Turkish steel and aluminum. Graph 1 can represent both American market of steel and aluminum. Initially the price of exporting Turkish steel and aluminum have the world price Pw. Tariffs raise the price of

　　steel/aluminum from Pw to Pw+t with the same domestic supply and demand curve, therefore the quantities of steel/aluminum imports from Turkey decrease from Q4 – Q1 to Q3 – Q2. Turkish steel and aluminum firms suffer due to loss of exports revenue.

　　(Graph 1)

　　The decrease in exports leads to a decrease in demand of Turkish lira. Consequently, lira depreciates. In addition, the article suggested that Turkish inflation already reached an annual rate of 15.9% in July – before Trump doubled the tariffs, and the lira had plunged 14% even before Trump’s tweet. This indicates that possible imported inflation due to depreciation of lira this time could aggravate the inflationary pressure on Turkey. Then there come two possible negative consequences. First, the uncertainty due to massive disruption of economic activities would lead to fewer investment in productive activities and more investment in assets that are believed to maintain their value as price arise, so the productivity and SRAS will fall. Turkey will also be unable to improve the productivity, due to the low investments in R&D and other programs which can improve human capitals and physical capitals. The LRAS therefore

　　decreases. Second, at the extreme, if hyperinflation is achieved (price level increases by more than 50% per month), lira will lose value altogether and people resort to barter, which in itself makes production and exchange extremely difficult. Consequently, Turkey will achieve lower economic growth, resulting in higher unemployment and lower living standard.

　　One policy solution targeting at the lira depreciation is to use foreign exchange reserves to buy lira and increase the demand of lira. It is likely to solve the problem in short term, but the Turkish Central Bank has limited foreign exchange reserves to deploy. In long term this solution will exhaust foreign exchange reserves and bring large debt (if the government decides to borrow from abroad). In addition, once the Central Bank can no longer support the lira against depreciation, the decreasing value of the liar would make the Turkish government unable to repay the existing debt. Consequently, the country will get poor international credit ratings and lose foreign direct investment, which can create recession or make an existing recession deeper. On the other hand, due to huge degree of lira depreciation, the other Turkish exports beside steel and aluminum will attract more buyers due to lower price level. As a result, the demand of lira will shift back at a certain extent and appreciate the lira.

　　Another solution is to raise borrowing costs (interest rate) aggressively in the coming days. It is demonstrated in Graph 2. Higher interest rate can attract more foreign financial investments which leads to higher demand of the lira, shifting its demand curve back to D2. Then the price of lira (dollars per lira) will become P2, which is higher than the original P1. The appreciation of lira can reduce the imported inflationary pressure. However, this solution involves contractionary monetary policy, which would probably tip the domestic economy into serious recession. The degree of this solution should be carefully considered by the Turkish government, since there is already a real example: Brazil actively attracted foreign direct investments after 1960s. Large amount of foreign direct investments poured in which boosted up the Brazil’s real GDP. However, foreign investors started to interfere Brazilian policy and held important national economic section. Therefore, the Turkish government should control the degree of attracting foreign direct investments.

　　(Graph 2)

　　The economic theory suggests that as exports of one country fall, the demand of that country’s currency falls. Consequently, the value of the currency falls. What happened in Turkey after Trump doubled the tariffs on the Turkish steel and aluminum matches the theory. The IA analyzes the possible consequences of the lira depreciation, and two possible solutions are evaluated on what extent they can solve the problem.

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