November 22 (SeeNews) - Standard&Poor's Ratings Services said on Friday it has affirmed its unsolicited BB+/B long- and short-term foreign currency sovereign credit ratings on Turkey as well as the unsolicited BBB/A-2 local currency ratings and the TrAAA/trA-1 Turkey national scale ratings.
Turkey's dependence on external financing remains significant but monetary policy flexibility and meaningful scope of fiscal expansion provide important buffers. The outlook on the ratings is stable, balancing risks from persistent current deficits and more expensive external financing against Turkey's strong economic growth prospects, S&P said in a statement.
The ratings agency also said in the statement:
"[..] RATIONALE
The key ratings constraint continues to be Turkey's high external risks, which are associated with its large current account deficits and substantial net external liability position. Data from the Central Bank of the Republic of Turkey (CBRT) indicate that the corporate sector's net short foreign currency position is about 20% of GDP, implying that Turkish investment activity--and therefore growth--is considerably vulnerable to exchange rate developments.
Additional ratings constraints include the country's moderate income levels, reflecting relatively low productivity and labor force participation, as well as what we consider to be a large grey economy and a continued dependence on rapid credit growth as a driver of economic expansion. Turkey's relatively effective institutions and governance, flexible monetary policy, well-capitalized and generally well-regulated financial sector, and its moderate general government debt burden support its ratings.
Given its heavy dependence on external financing, Turkey is vulnerable to changes in global markets. We estimate that Turkey's net external liability position will increase to more than double its current account receipts (CARs) this year. We project external debt, net of official reserves and financial sector external assets, to rise to more than 120% of CARs, from less than 100% before 2009, reflecting increased dependence on debt financing in recent years.
With the growth of the local currency market and considerable nonresident interest in Turkish-lira-denominated assets, we now consider the lira an actively traded currency, as defined in our criteria. However, external liquidity risk remains significant as Turkey has high and persistent current account deficits above 20% of CARs and needs to roll over an estimated 78% of CARs of external short-term debt by remaining maturity every year on average between 2013 and 2015. Financing costs have edged upward since May 2013, probably related to an expected gradual tightening of global monetary conditions.
Given its large external funding needs, we believe that Turkey will be among the most vulnerable emerging sovereigns if global liquidity dwindles (see "Emerging Market Sovereigns In Europe Could Be Most At Risk In A Liquidity Squeeze," published on July 4, 2013). Its vulnerability could be exacerbated if political dissatisfaction within Turkey increases, weakening our current view of the government's policy flexibility. A temporary confluence of these factors led to a sharp reversal in portfolio equity flows in mid-2013, although we note that offsetting net FDI inflows have remained robust.
We expect Turkey's increased external financing costs to reduce the rate of credit expansion among Turkish banks and lead to weaker economic growth in the second half of 2013. In September, the financial regulator, Banking Regulation and Supervision Agency (BRSA), proposed to raise risk weights on bank and credit card loans to consumers, which could potentially constrain domestic demand and, at the same time, reduce imports. We expect export growth to decelerate from its 2012 high as the contribution from gold exports diminishes. That said, we believe export growth will remain robust in the medium term as external demand recovers, particularly in its trading partners in Europe, the destination of more than 50% of Turkey's goods exports.
We project annual growth of about 3.0% for 2013, accelerating to 3.6% in 2014. These forecasts take into account several structural weaknesses in the Turkish economy including a heavy dependency on imported energy; the high import content of exports; a low savings rate and therefore a reliance on increasingly expensive and volatile external funding; and substantial regional disparities in education and development. Because Turkey has persistently high current account deficits, our growth projections will remain highly contingent on the external environment and any related pressure on the exchange rate. Over the longer term, we believe that Turkey's growth potential will remain strong due to its favorable demographics and relatively flexible labor and products markets. Structural reforms, particularly those aimed at reducing the cost and scale of Turkey's net energy import bill, could enhance growth.
Given our relatively modest near-term growth outlook for Turkey, and the municipal, presidential and parliamentary elections scheduled for 2014 and 2015, we believe fiscal policy will be modestly expansionary. Assuming the lira's real effective exchange rate holds fairly steady, we anticipate the general government debt burden will continue its downward trend--albeit at a slower pace than we previously expected. If economic performance weakens much more than we currently expect, we believe the government will increase deficits and borrowings to stimulate the Turkish economy and support employment growth.
The floating lira and a deepening local currency capital market support Turkey's monetary policy flexibility. However, dependency on external funding and exchange rate volatility complicate monetary policy. This is because domestic financial conditions are partly determined by events outside the direct control of the central bank. The central bank has accumulated significant net foreign exchange reserves through lending to Turk Eximbank, and raised gross foreign currency reserves through increases in the reserve requirement ratios for the banking sector. This has created a sizable cushion for the central bank to counter portfolio flow volatility, as it did during the summer of 2013.
CBRT also responded to continued pressure on capital outflows by increasing interest rates slightly, although the real central bank reference rate remains negative. After the Federal Reserve Bank's September 2013 announcement that it was maintaining the pace of quantitative easing, external flows have somewhat stabilized for Turkey. However, the lira remains weaker than it was at the beginning of 2013. Depreciation passes through to the inflation rate via both higher inflation expectations and higher import prices. We expect inflation to reach 8% by the end of 2013, but to ease again when the lira stabilizes.
OUTLOOK
The stable outlook reflects our view that there is a less than one-in-three likelihood we will raise or lower our ratings on Turkey within the next year. This is because we believe the risks from persistent current account deficits and more expensive external financing are balanced against Turkey's strong economic growth prospects.
We could consider raising the ratings on Turkey if the authorities continue to implement fiscal and monetary policies that are independent of election-cycle considerations and support more-balanced economic growth that depends less heavily on external borrowing. We could also consider an upgrade if structural reforms boost employment and investment to the extent that we significantly revise upward our expectations for Turkey's growth potential.
We could lower the ratings if credit growth accelerates further, relative to GDP; if current account deficits widen substantially; or if external leverage of the Turkish economy increases materially. We could also consider a downgrade if external borrowing was to become significantly more costly. The ratings could also come under pressure if external imbalances are corrected by a more abrupt economic adjustment that sees imports and domestic demand contract. We believe this would weaken Turkey's fiscal and financial stability, and could undermine social cohesion and reduce economic policy flexibility. That said, we do not view this scenario as very likely."