Turkey’s New Dawn. Possibly.

President Erdoğan completed almost a formality on May 28 in securing a second round run-off victory. Now comes the hard part.

Recep Tayyip Erdoğan had confounded opinion pollsters and inflicted a terminal blow to Kemal Kılıçdaroğlu in the first round on May 14 by taking a 49.5%-45% lead, and then followed this by securing a 52%-48% second-round win.

Those predicting Erdoğan’s political demise have been proven wrong. His political nous and campaigning zeal have once again marked him out as Turkey’s most dominant politician since Kemal Atatürk. The 69-year-old will now be head of state for at least another five years, health allowing.

Winning the election might, however, appear the easy part, when two clear and related challenges lay ahead for Erdoğan. 

First, a crisis looms in Turkey-NATO relations around Erdoğan’s decision to stall Sweden’s bid to join the alliance. With the rest of the NATO alliance keenly focused on ensuring a Ukrainian win in its war with Russia, Turkish blocking tactics have been seen as unhelpful, or even supportive of the Kremlin’s agenda.

Turkey’s NATO allies perhaps recognized Erdoğan’s desire to use the issue — he complains that Sweden has failed to address Turkish concerns over Kurdish groups operating within the country — as nationalist red meat to win votes. But with the political dust settling after the vote in Turkey, NATO allies now expect Turkey to sign off before the alliance summit in Vilnius in July.

In truth, Turkey’s leader has pushed the issue about as far as he can. Swedish membership is a significant strategic and symbolic moment for NATO as a league of democracies. Blocking its expansion would deepen questions about Turkey’s suitability and reliability as a member. A May 29 call between Erdoğan and President Joe Biden — focusing on the possible US supply of large numbers of F-16 jets and Swedish accession — may hint at the possible compromise.

Second, economic challenges are mounting at home. Turkey, for at least the past decade — all of it under Erdoğan’s rule — has faced an almost perennial balance of payments problem as he allowed the economy to overheat. This resulted in red-hot growth, high import demand, large trade and current account deficits, and resultant selling pressure on the lira.

A mountain of short-term debt (over $180bn) had added to downward pressure on the currency. Economic textbooks would suggest the brakes need to be applied through higher interest rates and tighter fiscal policy. But Erdoğan has a seeming faith-based aversion to usury and interest rates. This has left interest rates too low, and heavily negative in real terms.

Faced with a large external financing gap (of more than $230bn) the options are limited — either to allow the currency to devalue even more or to use limited foreign exchange reserves (gross reserves stand at just over $100bn) to plug the gap and use a variety of soft capital controls to limit soaring dollar demand. Devaluation has been the main tool to rectify the imbalance over much of the past decade, but at the expense of high inflation — it reached over 80% at one point this year.

In the run-up to elections, mindful of the unpopularity of high inflation and devaluation, the central bank has been burning through scarce reserves to defend the lira. Central bank reserves appear close to critical levels, which now means that Erdoğan has to yet again make the choice between hiking policy rates, devaluation or further tightening capital controls. He could go cap in hand to the International Monetary Fund (IMF) but this likely would dent his heavily cultivated image as a strong man leading a proud and independent Turkey.

Failure to agree with allies over Swedish NATO membership would risk a geopolitical storm at a time when the Turkish economy is already heading into choppy waters over the worsening balance of payments.

That is why it’s very likely that Erdoğan will ultimately sign off on Swedish membership, restoring some harmony with its discontented allies and so remove at least one source of market angst. He may also hope that Western suspicion — also suffering from what is reported to be significant Turkish tolerance of sanctions-busting to aid Russia — improves as a result, Western financing channels might free up, securing much-needed capital inflows to help support the lira.

Sweden’s NATO accession might therefore help, but it will not be enough and it seems likely that Erdoğan will also need to compromise on economic policy. This perhaps explains news in late May of a meeting between Erdoğan and the orthodox former finance minister, Mehmet Şimşek.

Şimşek served in an earlier Erdoğan cabinet, and as an ex-Merrill Lynch economist is well respected by the market. His agreement to return would likely come at the cost of fiscal and monetary tightening as medicine to stabilize the balance of payments, anchor the lira and help ease inflationary concerns. 

Hence it is possible that in the coming weeks, despite market concern over another Erdoğan term, there are actually some better headlines around Turkey. Let’s hope so.

Timothy Ash is a Senior Emerging Markets Sovereign Strategist at RBC BlueBay Asset Management. He is an Associate Fellow at Chatham House on their Russia and Eurasian program. 

The opinions in this article are those of the author. 

Europe’s Edge is CEPA’s online journal covering critical topics on the foreign policy docket across Europe and North America. All opinions are those of the author and do not necessarily represent the position or views of the institutions they represent or the Center for European Policy Analysis.