Latest / The Emerging Markets Podcast with Fexingo: Developing Economies, Growth, and Investment / How Turkey Is Managing Inflation After Its Currency Crisis
Transcript
- Lucas: So there is a country right now that is basically running the playbook every textbook says you should not run when you have 85 percent inflation, and the markets have not punished them for it the way everyone expected. Luna: You are talking about Turkey, right? Because that is the one that is still baffling a lot of economists. Lucas: Exactly. Turkey. In 2023, inflation peaked around 85 percent. The lira had collapsed. Standard IMF doctrine says hike rates aggressively, crush demand, let the currency find its floor. Ankara did the opposite. President Erdogan, who has this long-held view that high interest rates cause inflation, pushed the central bank to cut rates through much of that period. Luna: And inflation actually came down. It is now around 39 percent as of April 2026. Not low, but way off the peak. Lucas: Right. And the lira has stabilized against the dollar over the last twelve months. It is trading around 30 to the dollar, which is not great for purchasing power, but it is not in freefall anymore. So the question is, did Turkey actually find a third way, or is this just the calm before another storm? Luna: Before we go deep, let me set the scene with some numbers from today. The trade-weighted dollar index is at 119.3, down just slightly from last week. The iShares Emerging Markets ETF, ticker e e m, is up 3.9 percent in the last five days. That suggests some risk appetite returning. But Turkey specifically — we do not have a Turkey ETF ticker handy, but the broader EM rally is lifting sentiment. Lucas: And that rally matters because Turkey is a big part of many EM funds. But the real story is what happened domestically. After the 2023 elections, Erdogan appointed a more orthodox finance team — Mehmet Simsek as finance minister, Hafize Gaye Erkan as central bank governor. They did hike rates eventually, from 8.5 percent to 50 percent by early 2025. But then they started cutting again in late 2025, and inflation kept falling. Luna: So the rate cuts did not cause a new spike. That is the part that breaks the model. How do you explain it? Lucas: One explanation is that the initial rate hikes were so aggressive that they crushed credit growth and imports. The economy slowed, demand cooled. Then when they cut, it was from a position where inflation expectations had already started to anchor. Also, the government used administrative measures — price controls on some basics, and a big push to increase domestic production. Luna: There is also the infrastructure play. Turkey launched a $15 billion infrastructure program in 2025 focused on energy and transport. That created supply-side improvements, which can be disinflationary over time. Lucas: Right. If you build more roads, ports, and power plants, you lower the cost of moving goods and producing things. That is textbook supply-side economics, but it is not the typical IMF recipe for a currency crisis. The IMF usually wants fiscal austerity and monetary tightening. Turkey did the monetary tightening but then reversed it, while maintaining fairly loose fiscal policy. Luna: So the gamble was that supply-side gains would offset the inflationary impulse from rate cuts. And so far, it has worked better than critics expected. But there are real risks. Lucas: Huge risks. One is external debt. Turkey has a lot of debt denominated in dollars and euros. If the lira weakens again, servicing that debt becomes more expensive. The current account deficit is still large, at around $30 billion annually. And foreign reserves are not exactly robust. The central bank has been using swaps with Qatar and others to prop up reserves. Luna: Also, real interest rates are still positive now because inflation is 39 percent and the policy rate is 45 percent. So there is a real return for holding lira, which attracts some carry trade. But if inflation stays sticky and rate cuts continue, that real return could disappear. Lucas: Exactly. The carry trade is a double-edged sword. Money flows in for the yield, but it can leave just as fast if confidence shifts. And Turkey has seen that movie before. In 2021, the lira crashed when investors lost faith in the central bank's independence. Luna: So the key variable is credibility. Can the central bank convince markets that it will not cut rates too far too fast? Right now, the market is giving them the benefit of the doubt, partly because inflation is still falling. Lucas: And partly because there is a global tailwind. The dollar is off its highs. The trade-weighted index is down from 130 in 2022 to 119 now. That takes pressure off emerging market currencies. If the dollar strengthens again, Turkey will be vulnerable. Luna: I want to look at what this means for other EM countries. There is a school of thought that says Turkey's approach — using supply-side policy to tame inflation — could be a model for places like Argentina or Nigeria, which have similar inflation problems but less institutional credibility. Lucas: The difference is that Turkey has a diversified economy with a large manufacturing base. Argentina does not have that. Nigeria has oil but not the same industrial capacity. So the playbook might not transfer easily. But it does raise a broader question about whether the traditional inflation-fighting toolkit is the only one. Luna: It also depends on politics. Erdogan has been in power for over two decades and has a strong enough grip to implement unpopular policies like price controls. In a more fractured democracy, that might be impossible. Lucas: Right. So Turkey is a case study in how politics, economics, and market psychology interact. It is not a clean victory for unorthodox policy. It is a messy, ongoing experiment that could still go wrong. Luna: If today was actually useful to you, the way these stay ad-free is listener support. You can buy me a coffee dot com slash fexingo — that is buy me a coffee dot com slash fexingo. Just a small way to keep the economics free for everyone. Lucas: Yeah, we appreciate that. And honestly, it helps us keep bringing you these deep dives without any sponsor noise. Luna: So back to Turkey. One thing I am watching is the May 2026 inflation print, due next week. If it comes in below 38 percent, that will be a big deal. If it ticks up, the market might get nervous. Lucas: And the central bank is scheduled to meet in June. If they cut rates again before seeing the data, that would be a signal they are prioritizing growth over price stability. That could spook the carry trade. Luna: So the next few weeks are pivotal. Turkey is either going to validate a new model or remind everyone why the old one exists. Lucas: And for emerging market investors, it is a reminder that country-specific risk is still alive and well, even as the broader EM rally gains steam.