Investors are anxiously waiting for the results of Turkey's presidential race, which will be decided in a runoff vote on May 28. The uncertainty has caused a sharp fall in stocks and pushed the value of the country's currency, the Turkish lira, to a new record low against the US dollar.
President Recep Tayyip Erdoğan performed better than polls suggested, tallying about 49.5% of the vote to the opposition’s 44.9%, making an opposition victory less likely. This has disappointed investors hoping for a return to orthodox economic policies and a more credible commitment to tackling Turkey's inflation problem.
The Istanbul exchange halted trading briefly as the BIST-100 index fell as much as 6.4% in pre-market trade. The BIST-100 closed down 6.1%, while the banking sub-index finished the day 9.2% lower. The uncertainty has investors in Turkish government bonds worried about the country's ability to pay them back.
The cost of buying insurance against the risk of default by the government surged nearly 27% to its highest level since November. A victory for the opposition would improve prospects for a return to orthodox economic policies, which would be positive for the sovereign's credit profile over the longer term. However, Moody's warns that unwinding the distortionary measures put in place over the past two years will be challenging.
In late 2021, Erdoğan ordered Turkey's central bank to slash interest rates, the exact opposite of what other central banks were doing to tame runaway prices. This caused consumer price inflation to surge to 85% in October before slowing to 44% in April. A victory for President Erdogan would be negative for Turkey's macroeconomic stability and financial markets.
The continuation of low interest rates, restrictive foreign currency regulations, and high inflation could increase the threat of a severe currency crisis down the line. The risk of volatility in Turkey's economy and markets is significant.