Market pressure, financial exposure and a potential review of a key migration deal with Ankara has made Italy the most vulnerable country to the recent financial turmoil in Turkey.
Fresh challenges on the economic and migration fronts for Rome could further worsen its relation with the EU, as Italy’s populist government intends to disregard the bloc’s expenditure rules and has already closed its ports to migrants rescued at sea.
In its latest economic forecast, the EU executive warned last month that the turmoil in the financial markets of “some of the more vulnerable countries” among the emerging markets (i.e Turkey and Argentina) would imply lower growth over the forecast horizon.
The Commission noted that global growth has become less synchronised over the past months and expected the output outside the EU to moderate to 4.1% next year, slightly weaker than in spring.
The currency crisis in Turkey was exacerbated after US President Donald Trump decided to double tariffs on Turkish exports of steel and aluminium. The decision came as a response to the Turkish authorities’ refusal to release a US pastor.
Turkey’s lira fell more than 20% last week but has in the last few days recovered most of the lost ground.
Turkish banks and non-financial companies borrowed heavily in dollars. A fall of the lira will sharply increase their financing costs, which could turn into a full-blown debt crisis.
Turkish minister of finance and treasury, Berat Albayrak, said on Thursday that the country would emerge from the volatility period “stronger” and rejected the rumours of a bailout request to the IMF.
But the ongoing tensions with the US could further impact the Turkish economy and affect neighbouring Europe at a complicated moment.
In response to US restrictions, Turkey also doubled tariffs on various US goods, including alcohol (140%), cars (120%) and leaf tobacco (60%). Turkish president Recep Tayyip Erdogan also threatened a boycott of IPhones.
The uncertainty about the Turkish economy came against the backdrop of a looming difficult autumn for European decision makers.
“Even though the European recovery started in 2013, some European countries are still vulnerable – as could be seen in the reactions of bond markets for Greece and Italy”, Bruegel’s Grégory Claeys and Guntram Wolff wrote this week in a blog post.
Italy, the third biggest eurozone economy, holds the largest amount of public debt and ‘bad loans’ in the EU.
The recent volatility came as the pace of the euro area expansion slowed in the second quarter to 2.2% compared to the same period of 2017, when the output grew 2.5% in annual terms.
In addition, member states will struggle to detail after the summer break the political solution reached in June to stem the number of arrivals of migrants to Europe.
The Italian government forced the EU countries to set up new disembarkment platforms and ‘controlled’ centres as they closed their ports to rescue vessels despite the significant drop in the number of arrivals.
Turkey played an essential role in cutting down the number of arrivals, as part of a €3 billion deal reached with EU member states in 2016.
But Claeys and Wolff warned that the agreement could be a collateral victim of the current volatility.
“Could a financial crisis change politics so much that it would lead to a change in Turkey’s approach to migration? The answer to that question is of great importance to the European Union,” they wrote.
The mounting challenges for Italy came as Rome is heading toward a new confrontation with the Commission over its public expenditure this autumn.
The government is willing to cut taxes and increase social spending in the draft budget for 2019 to be submitted to Brussels by mid-October.
Matteo Salvini, the head of the leading coalition party La Lega, also blamed the EU’s budgetary rules for the collapse of a bridge in Genova.
“The Turkey issue is something on the radar, but it is far more idiosyncratic at a bank level and all eyes will be on Italy,” Tom Kinmonth, fixed income strategist at ABN Amro, told CNBC.
Italian banks are also on the radar of European supervisors due to the Turkish turmoil.
Financial Times reported that the ECB was increasingly concerned about some European lenders, especially Unicredit, Spain’s BBVA and France’s BNP, although the situation was not critical.
Unicredit, Italy’s largest bank by assets, owns Yapi Kredi, the fourth largest bank in Turkey and seen by analysts as the most vulnerable in terms of capital levels.
But Unicredit played down its exposure given that its Turkish unit represented less than 2% of its total revenues.
BBVA has an exposure of €73.2 billion to Turkey. BBVA was not available for comment when Euractiv contacted the bank on Thursday.
Turkey accounts for only 1% of the global economy. But despite the limited exposure of European companies and banks, Claeys and Wolff believe that EU partners need to decide on a policy line and instruments “now” in case Ankara requests external aid.
“The EU cannot be an indifferent bystander,” they wrote.