It seems a long time since Turkey’s economic growth expanded at around 8% per year in the early days of President Recep Tayyip Erdoğan’s rule. These days, inflation is just one of the problems. Erdoğan is still in charge, but his tinkering with economic levers has done little to alleviate the ailments.
A landslide victory in 2002, hailed as a shrewd leader who was turning Turkey’s fortunes around, Erdoğan was loved by the markets, especially as Turkey was then being tipped to join the European Union in the coming years. Even the 2008 global economic crisis could not dampen the Turkish economy, which registered growth rates of 8.5% just three years later.
But as developed economies started to recover, investors began to head back, moving capital out of riskier emerging markets such as Turkey. An infamously violent crackdown in 2013 on environmental protesters in Istanbul’s Taksim Square did not help, staining Erdoğan’s reputation as a democratic head of state and signalling a move into authoritarianism.
According to central bank data, investors were net sellers of Turkish assets from 2018-23, with the Turkish economy losing its lustre and Erdoğan appearing to have lost his magic wand. That may have been reflected back to him in April when, for the first time in two decades, his AK Party came second in local elections to the main opposition Republican People’s Party.
Centralising instincts
In the aftermath of the election defeat, Erdoğan took to social media to describe how Turks wanted to create a kind of dual structure with “local power” alongside the central government, calling it a “pipe dream.”
Cengiz Aktar, a senior scholar at the Istanbul Policy Centre, describes Turkey as a “hyper-centralised” country where the president keeps hold of power.
Aktar said: “Turkish electoral sociology warns us that in such a hyper-centralised country, the administrative tutelage of the central government over elected local officials is total, as enshrined in the Constitution, article 127.”
This centralisation came about after a failed coup attempt in 2016. Erdoğan, who survived through a stroke of luck, initiated huge reshuffles in the military, police, judiciary, and government. Thousands of companies were also seized.
The following year, Turkey adopted a partisan presidential system through a referendum. It gave Erdoğan wide-ranging powers with few checks and balances. The role of parliament, regulators, and the central bank were largely diminished. In 2018, Erdoğan installed his son-in-law, Berat Albayrak, as the country’s finance minister before the latter stepped down two years later.
Unorthodox policy
The central bank (CBRT) governor has changed five times since 2019, with Erdoğan insisting on an unorthodox monetary policy. He has been keen to keep interest rates low despite runaway inflation, which normally requires tight monetary policy to contain it. Loose policy (via lower rates) only adds to upward inflationary pressure.
Low interest rates led to accelerated price increases despite the president repeatedly claiming they would have the opposite impact. He sought to avoid rising borrowing costs and maintain high growth rates. Arguably, it did this, with Turkey’s economy expanding 4.5% in 2023 despite a devastating earthquake that year.
Yet it came at a price. That price was a currency crisis. The lira lost almost half its value in five years, adding to inflation and increasing Turkey’s exposure to the markets. It left millions struggling to make ends meet.
Read more: Turkey in the throes of strong economic headwinds
Disgruntled voters
Disgruntled, voters in urban areas handed Erdoğan the historic local election defeat. The weak lira had driven up industrial input prices, hitting the manufacturing sector, which accounts for a fifth of GDP, resulting in price hikes for 86 million Turks.
Read more: Erdoğan conducts post-mortem as local elections shake Turkey
Ankara belatedly reversed the policy, and there were eight consecutive interest rate rises. Central bank governor Fatih Karahan, appointed last February, further raised the rate from 45% to 50% in March, intent on cooling consumer prices.
The governor had little choice. Inflation was nearing 70% in March, the fifth consecutive monthly increase, which in turn had been driven mainly by a decision to almost double the minimum wage to 17,002 lira. The rate rises took borrowing costs to their highest levels since 2002. The central bank opted out of another hike last week, as expected by the vast majority of analysts.
Inflation in Turkey continued its upward trend in April despite recent significant increases in interest rates. In early May, the inflation rate reached 69.8%—a slight rise from 68.5% in March. This marks the sixth consecutive month of increasing inflation, primarily driven by expansive fiscal policies, including the decision to double the minimum wage earlier this year, which now stands at 17,002 Turkish Liras.
Additionally, Turkey announced a complete cessation of trade activities with Israel following its declaration to join South Africa in filing a case against Israel at the International Court of Justice.
Tatha Ghose, an economist at Commerzbank, said the decision in March was a “one-off adjustment to increased inflation risk, after which the central bank would wait and watch”.
Ghose added: “The lack of improvement has made the FX (foreign exchange) market increasingly nervous because it always imagined that Erdoğan would have limited patience with high interest rates. Now, this combination of high interest rates and still-high inflation has cost him dearly at the ballot box. He says inflation will improve in the second half of the year, but we must first see the rate of monthly price increases narrow down convincingly.”
Wage hikes shield purchasing power and the labour market, but they also stop inflation from coming down and keep the real interest rates deeply negative.
“It is probable that policymakers did not fully embrace the need to let the economy stall to the extent required to solve such a deeply entrenched inflation problem,” said Ghose.
Diplomacy shifts
Erdoğan has long seen himself as a leading statesman in the Middle East. With the Arab Spring and the rise of political Islam in the region, his political star seemed to be on the rise until economic challenges turned his gaze inward.
After the 2013 ouster of Egypt’s Islamist president Mohamed Morsi, Ankara and Cairo were at odds, but Erdoğan visited Egyptian President Abdel-Fattah El-Sisi (who overthrew Morsi) in Cairo last February, and this has helped thaw relations. The pair have now vowed to boost bilateral economic cooperation after a decade in which trade could have been far better.
Read more: Erdogan in Cairo: A new dawn for Egypt-Turkey ties?
Nor was Ankara friends with the Saudis or Emiratis who, unlike Erdoğan, are no fans of political Islam. However, they normalised relations in 2021; soon after, billions of Gulf dollars were invested in Turkey.
Still, Turkey’s detente with its neighbours “remains uncertain and unsustainable, as long as it keeps an aggressive undertone in its relations with the region,” said Aktar, specifically highlighting the country’s “pretension to become a regional power”.
Erdoğan’s self-styled role as a defender of Islam in the region fits his image in Turkey as a conservative Muslim, which feeds into his domestic support base. His diplomacy charm offensive in the Middle East began in earnest after the US withdrew from Afghanistan in 2021, fuelling fears of a possible power vacuum in the region, yet war in Gaza has reignited tensions.
At home, Erdoğan has been criticised for maintaining trade ties with Israel, whose army has now killed 35,0000 Palestinians, so it was no surprise when he announced this week that all Turkish trade with Israel was being suspended. Tel Aviv will respond in kind, and a trade war will hurt both, given that Turkey was Israel’s fifth-biggest supplier in 2023, with exports worth $4.6bn.
Still, Erdoğan will have felt compelled to act. The Islamist New Welfare Party, which takes a harder line on Gaza than the president, turned against the AK Party at the last election and appealed to conservative voters.
Erdoğan is now in his second and last presidential stint, which ends in 2028, although a further constitutional amendment could keep him in office beyond that. “He will do his utmost to push it through,” says Aktar.
Yet power and stature are two very different things, and the great survivor seems to have lost the latter. If he tames Turkey's economic problems and increases living standards, only then can he reclaim his political stature.
When the day finally comes, Aktar thinks that Erdoğan and his political allies will do what they can to stay in power. “They are ready to fight to the end...like all anti-democratic regimes.”
