Thursday, June 17, 2010

Understanding the Turkish Liquidity Shortage

I got a couple of questions on the chronic TRY and FX liquidity in the banking system. I'll quote the whole thing from my friends at GlobalSource (also the guys who bring you Turkey Data Monitor); as there is no way I could have told the story better myself.
More importantly though, evidence (both anecdotal and from rising deposit rates) suggests that banks are starting to feel the liquidity pressures in both lira and F/X markets, having grown a bit too dependent on CBT funding on the former, and having lost a good chunk of their F/X liquidity to de-dollarization and to the financing of current account deficits. This is hardly surprising, and follows from Turkish Macro 101 that we’ve shared on occasion. A mixture of “monetary approach to balance of payments” and elementary monetary theory, this story runs as follows: Credit growth can be sustained through an expansion of financial sector balance sheets. Financial sector balance sheets expand, if base money expands. Base money expands, if the Central Bank builds F/X reserves, which is the only mechanism for creating permanent liquidity in the system. And the Central Bank builds F/X reserves, if the balance of payments runs a surplus.
As you can see, this is another artifact of deficit-financed growth. Let me know if you'd like me to elaborate on this excellent explanation further.

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