An unintended consequence of a macro prudential warning… When CBT Governor Erdem Basci sounded a casual note of caution on the need to contain short FX positions in Turkey, at a presentation in Denizli on July 22, he probably did not anticipate such extensive media attention, or a reaction of such severity from the FX market. A few days later, at a meeting with the investor community in Istanbul, Mr Basci this time pointed out that there was no big FX short position in Turkey, an attempt that was seemingly intended to wipe away the impact of his previous remark. However, the damage was done; and the conundrum remains: Does Turkey indeed have a big FX short position or not?
Do we have a clue on FX positions in Turkey?... Management of risks associated with FX positions took on greater significance following the adoption of the floating exchange rate regime in Turkey. Moreover, increasingly volatile global capital movements in the recent period and accordingly, unanticipated changes in FX rates reinforced these risks. While the FX risk from the banks’ standpoint -- following the regulations adopted in 2001 and the measures consequently instituted -- stands remarkably low, for the corporates, which had been increasingly resorting to external borrowing facilities, the situation is not that clear. Besides, on the issue of FX positions, neither non-financial corporates are required to present additional reporting, nor are there any limits on capital adequacy ratios. Hence, while speculations on this area could arise quite easily, the extent of the related risks cannot be clearly fathomed. Obviously, any remarkable volatility in FX rates will have a significant impact on corporate profitability and capital. Besides, this situation also raises the spectre of additional risks for the banks, in the form of an increase in bad loans if the corporates fail to duly redeem their debt. In other words, although the banks had adopted the necessary measures to protect themselves from FX-related risks on their balance sheets, the situation is not all that secure from their perspective, as the FX risk assumed by the corporates could trigger credit risk. However, we are not completely clueless on this situation, either. The Central Bank of Turkey has been publishing the quarterly net FX positions of the corporates (Foreign Exchange Assets and Liabilities of Non-Financial Companies) based on Turkey’s International Investment Position (IIP) since 2006. According to these figures, the net open position of the corporates, after having surged to US$94.3bn as of end 2010, has increased further to US$111.7bn in 1Q11 (Graph 1). Within the 2006-08 period, the net open position increased rapidly to US$80.4bn from US$37.8bn, mainly due to a rise in the FX loans provided by domestic and external sources, thanks to favourable global economic conditions and ample global liquidity during that time. The global crisis in 2008-09 brought a temporary pause to the expansion of open positions, but did not change the trend; and the biggest ever quarterly increase was seen in 1Q11. However, the CBT data come with a significant lag (1Q figures in July) and do not reflect Turkey’s aggregate picture in terms of FX positions. This is because asset dollarization is still high in our economy, since households hold significant amounts of FX deposits in the banking system, whereas their FX liabilities are limited to FX-indexed consumer loans. Savings tends to be invested in FX-denominated assets, since households, having experienced chronic inflation for many years, consider these assets as more secure and expect to benefit from the movements in FX rates in periods of political uncertainty and unsteady economic growth. This means a massive long FX position in households, comparable to the corporate short FX position. Moreover, one should consider the similar long FX position of the Central Bank of Turkey when evaluating the FX risk in its entirety. Therefore, these major discrepancies prompt us to calculate Turkey’s net FX position -- and more importantly with less of a lag.
Our methodology and approach in short… We used monthly IIP data available for May to calculate the FX position of the corporates generated from transactions with institutions abroad. To this figure, we added their local FX positions, which resulted from their transactions with the domestic banking system. In order to compute corporates’ local open positions, we extracted FX-denominated and FX-indexed loans and receivables entered to the records by the Savings Deposit Insurance Fund (SDIF) from legal entities’ FX deposits, Eurobonds and FX-denominated Government Domestic Debt Instruments (GDDIs). The merger of these two figures gives us the total FX open position of the corporates. To compute households’ FX assets, we summed up their investments in FX deposits, Eurobonds, FX-denominated GDDIs and FX-denominated participation accounts in special finance institutions. Subtracting FX-indexed consumer loans from this figure, we came up with the FX positions of the households.
Turkey’s net FX position slid to negative territory in 1Q11, with a US$8.4bn deficit as of May 2011, for the first time in its history… The difference between the CBT’s study and our analysis is that we exclude direct investments abroad, which, we reckon, should not be considered as part of FX assets from a liquidity perspective, since they do not result from financial transactions. Consequently, the CBT’s findings for 1Q11 remain around US$5bn lower than our computation. Despite this difference, for this time period our analysis reveals trends that are similar to the CBT’s study (Graph 2). Moreover, our analysis presents a comparable outlook from 2000 until the second half of 2011. For the FX positions of other segments included in our calculation, such as domestic banks and the Central Bank of Turkey, we took the figures directly from the BRSA’s and the CBT’s bulletins. We used net FX position calculations for the banks (On-Balance Sheet FX Position – Off-Balance Sheet FX Position) and for the CBT (Foreign Assets – Total FX Liabilities). Unfortunately, we do not have information about the FX assets and liabilities of the public sector; but we think, as a financial agent of the Turkish Treasury, the CBT’s FX position could represent the big picture -- more or less. All in all, we found that Turkey’s net FX position fell into negative territory in 1Q11, reaching a US$8.4bn deficit as of May 2011, for the first time in its history, when we combined all the segments of the economy (Graph 3). The previous low (US$2.3bn surplus) was recorded in October 2008, a few months prior to the global crisis and the rapid deterioration in FX net positions during the 2008 expansion was totally in line with the previous peak in the current account of the Turkish economy. Although the overall net FX position still looks roughly balanced, the sharp widening in the short corporate FX position since the end of 2010, in particular, appears worrisome.
However, there are some factors that could impart some comfort when evaluating the overall risk... First of all, the calculations are performed on the basis of a balance sheet approach. Therefore, the net FX position is a stock indicator and does not tell much about the maturity structure. When FX liquidity is a concern during hectic market conditions, the maturity of FX assets and liabilities does matter. As the CBT has been collecting this information for some time, they have been able to calculate the short-term net FX position of the corporates. According to these figures, the difference between the FX assets and liabilities of the corporate sector shorter than 1-year maturity is only US$9.1bn as of 1Q11. Generally, FX assets are in the form of deposits and look more liquid, while liabilities are in the form of long-term loans with less roll-over and re-pricing risk. Second, for small and medium-sized enterprises (SMEs), we think that the figures on their balance sheet do not exactly reflect their actual FX position. In our opinion, to assess the total effect of FX movements on the economy, elevated FX-denominated assets of real persons and FX open positions of legal entities should be considered together. In other words, especially as regards to SMEs, we cannot disregard the possibility that the personal FX positions of the owners might be counterbalancing the open positions of their companies. As of May 2009, our analysis on a volume basis indicates that 84% of the total FX deposits pertain to amounts higher than TRL50K, belonging to 1mn persons, who constitute only 1.5% of the total number of depositors (Table 1).
Bottom-line… As confirmed by our findings, the existence of over US$100bn in short FX position by the corporate sector sounds disconcerting. Even the CBT’s entire FX reserves (US$93bn as of end-July) would be short of covering this amount, in the event that they decided to close all their positions. However, we demonstrate in our study that there are similar big FX long positions elsewhere in Turkey to counterbalance this amount when needed, and that the short-term portion of corporate FX positions is limited. Moreover, the widening of FX short positions is totally related with the expansion of the C/A deficit and the availability of its financing. Therefore, the second half of this year could present a very different picture, with signs of further slowdown in economic activity and improvement in the C/A deficit. We admit that this is far from relieving, and trends in FX positioning should be followed closely. Moreover, the corporates need to prudently manage their FX risks. Accordingly, we will publish the findings of this study regularly with the issuance of new data, such as international investment position and foreign debt stock, released on a quarterly basis.
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