In the wake of the Paris attacks and the destruction of a Russian plane by a bomb in Sinai, Russia had been once more calling for a new level of engagement with Western partners over operations in Syria. Even an ‘anti-terrorism coalition’ appeared to gain traction after the terrorist attacks in Paris. But Russian attacks on Western-backed opposition groups in Syria and continuing violation of Turkish airspace narrowed the window of opportunity for engagement between NATO member states and Russia in Syria, and Tuesday’s incident – where Turkey shot down a Russian bomber − fundamentally challenged this option. NATO allies and Secretary General Jens Stoltenberg were quick to call for ‘calm and de-escalation’ of the situation. But they face a problem: in the absence of a strategy, NATO lacks a mechanism—a form of transparent process for crisis resolution—between member states and partner nations when and if a dispute or disagreement arises.

NATO has three essential core tasks—collective defence (Article 5), crisis management and cooperative security; it does not prioritize one task over the other. Whereas collective defence applies to member states like Turkey, cooperative security involves engagement with partner nations, such as Russia, to assure Euro-Atlantic security. NATO’s role, in this sense, goes beyond protecting a member’s state’s sovereignty. This aspiration to provide enduring cooperation and cooperative security beyond members lies behind the now-obsolete NATO-Russia Founding Act on Mutual Relations, Cooperation and Security, signed in 1997.

NATO’s balance between these tasks and its role vis-à-vis partner states is ill-defined, and among the core issues the Alliance must consider at or before its next summit in Warsaw in July 2016. These discussions must include prioritizing and grouping partner nations—Russia and Sweden, for instance, are clearly not partners in equal terms – and clarifying the role of the NATO-Russia Council (NRC). The NRC is a venue for political dialogue that includes consultation, cooperation and joint action, but does not have a crisis resolution mechanism. From 2014 onwards, the NRC has not functioned, yet it is the only venue where NATO and Russia could have discussions regarding the future of Syria, focusing on ISIS as a major threat both to the Alliance and to the partner nations. Neither Russia nor the Alliance will benefit from escalation; thus, both sides should bear in mind that a troubling partnership is better than an adversarial relationship.

This is even more important because NATO member states do not have a cohesive strategy regarding Syria’s future. For some countries, like Germany, the efforts lie on refugee relief policies, while for others, such as France, the focus is the military fight against ISIS. Russia is clearly testing NATO’s response mechanisms through hybrid warfare techniques. Yet, NATO also does not have a coherent policy regarding Russia’s assertiveness in Ukraine, involvement in Syria and its annexation of Crimea.  NATO officials are in general agreement that there can be ‘no grand bargain with Russia’ as long as it continues to violate international treaties and norms. Russian aggression and assertiveness is a long-term problem for the Alliance to tackle. So far, though, NATO benefits from ‘avoid[ing] that situations, incidents and accidents spiral out of control’, as the NATO secretary general noted in his speech after the extraordinary North Atlantic Council meeting. Solidarity among allies and protecting Turkish territorial integrity is a clear role for NATO, but the Alliance’s response mechanism in crisis situations should not be exhausted and undermined with small-scale, bilateral disagreements and disputes.

NATO could move to incorporate a crisis resolution mechanism, in specified non-escalatory terms and processes, between member states and partner states, where NATO member states and Russia meet together as equals in case of a crisis. This could re-establish a communication channel between NATO and Russia in particular, especially when the NRC is not functioning. If such a mechanism were in existence today, Turkey could have taken the issue to NATO’s crisis management system and pointed out its concerns over airspace violations, rather than shooting down the Russian bomber. This could have enabled the Alliance and Russia to participate in a dialogue that has been silent for more than a year. Instead, this incident demonstrates the delicate strategy of balancing deterrence policies with engagement between a member state and a rather troubling partner nation.

When Syria’s future is discussed, as it will be, at the Warsaw summit, Russia will be an unavoidable part of the discussion. But until there is a way to de-escalate these small-scale incidents, it will be increasingly difficult for Russia and NATO to determine whether they do in fact have any scope for cooperation, or at the least collaboration, on shared challenges and threats.

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Summary

• Chatham House brought together 22 participants over a two-day period in May 2016 to discuss US and European responses to a potential conflict between Turkey and Russia. This was the third of four scenario roundtables (the first two involved a conflict between China and Japan and a potential breakdown in the Iran nuclear deal, respectively).
• The scenario was designed and the roundtable took place before a number of crucial subsequent developments, including the partial restoration of Turkish/Russian relations, the British vote to leave the European Union (EU), and the attempted coup against Turkish President Recep Tayyip Erdoğan. This paper should be read and understood in that context.
• In our simulation, the United States and Europe worked closely together, with cooperation particularly in evidence between the US and Germany. While the US was slightly more willing than Europe to threaten sanctions against Russia, transatlantic unity was not seriously threatened by a Turkey/Russia conflict.
• Western states were wary of bringing NATO into the picture for fear that this would be perceived as militarizing an already tense situation. The EU was also sidelined in favour of more ad hoc negotiating strategies.
• Russia was effective in using international law to defend its position, even as it took steadily more aggressive action in Syria. Neither the West nor Turkey deployed an effective countermeasure to this tactic.

Turkey witnessed some major developments over the last year. In August 2018, the dramatic Lira devaluation caused the Turkish economy to go into recession. In the 2019 local elections, which took place during the economic downturn, the Republican Peoples’ Party (CHP) mayoral candidates took control of Ankara and Istanbul after 25 years of dominance by the ruling Justice and Development Party (AKP).

The election results might lead to a rethink of the AKP leadership and consequences on Turkish politics will depend on Erdoğan’s interpretation of this reversal of his political fortune.

Will this affect the long-standing alliance between AKP and MHP that has characterised Turkish foreign policy for the past few years? What impact will this have on both the domestic and international level? Finally, will Turkey’s recent incursion into Syria have lasting effect on the country’s alliances with other powers and its standing?

In this context, the speaker will analyse the significance of these changes and the future trajectory of Turkish politics, economics and foreign policy.

Since the 2018 economic crisis, when the value of the lira plummeted and borrowing costs soared, Turkey’s economy has achieved a miraculous ‘V-shaped’ economic recovery from a recession lasting three quarters to a return back to quarterly growth above 1 per cent in the first three months of 2019.

But this quick turnaround has been built on vast amounts of cheap credit used to re-stimulate a consumption and construction boom. This so-called ‘triple C’ economy generated a rapid growth spurt akin to a modestly able professional sprinter injected with steroids.

This has made the currency vulnerable. The lira has steadily depreciated by 11 per cent against the US dollar since the beginning of 2019 and crossed the rate of 6 lira versus the US dollar on 7 February. And there are further warning signs on the horizon.

Credit bonanza

Statistics reveal that Turkish domestic credit grew by around 13 per cent on average throughout 2019.  The credit bonanza is still ongoing. Mortgage-backed home sales jumped by a record high of 600 per cent last December alone and the 2019 budget deficit catapulted by 70 per cent due to higher government spending.

Turkey’s central bank fuelled this credit expansion by cutting interest rates aggressively to below inflation and, since the start of this year, purchasing lira-denominated bonds equivalent to around one-third of total acquisitions last year to push yields lower.

Equally, it has linked bank lending to reserve requirements – the money that banks have to keep at the central bank – to boost borrowings via state and private banks. Banks with a ‘real’ loan growth (including inflation) of between 5 and 15 per cent enjoy a 2 per cent reserve ratio on most lira deposits, which authorities adjusted from an earlier band of 10-20 per cent that did not consider double-digit inflation.

Cumulatively, bond purchases (effectively quantitative easing) and reserve management policies have also contributed to eased credit conditions.

Commercial banks have also reduced deposit rates on lira accounts to less than inflation to encourage consumption over saving. Together with low lending rates, the boost to the economy has flowed via mortgages, credit card loans, vehicle leasing transactions and general business borrowings.

Accordingly, stimulus is at the forefront of the government’s economic approach, as it was in 2017 and 2018. It does not seem to be implementing structural change to re-orient growth away from consumption towards productivity. 

In addition, governance is, again, a central issue. President Recep Tayyip Erdogan’s near total monopolization of policymaking means he guides all domestic and external policies. He forced out the previous central bank governor, Murat Cetinkaya, in July 2019 because he did not share the president’s desire for an accelerated pace of interest rate reductions.

New challenges

Despite the similarities, the expected future financial turbulence will be materially different from its 2018 predecessor in four crucial respects. 

Firstly, foreign investors will only be marginally involved. Turkey has shut out foreign investors since 2018 from lira-denominated assets by restricting lira swap arrangements. Unsurprisingly, the non-resident holdings of lira bonds has plummeted from 20 per cent in 2018 to less than 10 per cent today.

Secondly, the Turkish government has recently introduced indirect domestic capital controls by constraining most commercial transactions to the lira rather than to the US dollar or euro to reduce foreign currency demand in light of short-term external debt obligations of $191 billion.

Thirdly, the Turkish state banks are intervening quite regularly to soften Lira volatility, thereby transitioning from a ‘free float’ to a ‘managed float’. So far, they have spent over $37 billion over the last two years in a futile effort to buttress the lira. This level of involvement in currency markets cannot be maintained.

Fourthly, the Turkish state is being far more interventionist in the Turkish stock exchange and bond markets to keep asset prices elevated. Government-controlled local funds have participated in the Borsa Istanbul and state banks in sovereign debt to sustain rallies or reverse a bear market.  

All these measures have one running idea: exclude foreign investors and no crisis will recur. Yet, when the credit boom heads to a downturn sooner or later, Turks will probably escalate lira conversions to US dollars; 51 per cent of all Turkish bank deposits are already dollar-denominated and the figure is still rising.

If Turkey’s limited foreign reserves cannot satisfy the domestic dollar demand, the government may have to impose comprehensive capital controls and allow for a double digit depreciation in the value of the lira to from its current level, with significant repercussions on Turkey’s political stability and economic climate.

To avoid this scenario, it needs to restore fiscal and monetary prudence, deal the with the foreign debt overhang in the private sector and focus on productivity-improving economic and institutional reforms to gain the confidence of global financial markets and Turks alike.

The mass killings of Armenians in the Ottoman Empire during the First World War continue to be a divisive and highly politicized issue. The mixed reactions to Prime Minister Recep Tayyip Erdoğan's message of condolence on 23 April highlighted the obstacles standing in the way of normalization of relations between Turkey and Armenia. This event will explore whether the upcoming centenary of the genocide represents an opportunity for improvement. The speakers will offer initial remarks for approximately 10 minutes each, followed by an hour for questions and discussion.

Attendance at this event is by invitation only.

Signs of growing anger at the restrained denunciation of Pennsylvania-based Muslim cleric Fethullah Gulen - whose followers are thought to have played a key role in the attempted coup - are being vocalised more and more, but this criticism only shows part of the true picture.

It is true that prominent liberal Turkish intellectual Soli Ozel spoke for many when he criticised EU politicians and Western media for failing to recognise the “invaluable democratic resistance shown by all political parties in a parliament bombed by war planes”, as well as demonstrating “a lack of sensitivity, empathy and solidarity that cannot be easily digested” by not sending anyone from an EU institution to offer solidarity with the Turkish parliament.

The criticism is reasonable - officials from Western governments and regional institutions such as the Council of Europe exhibited unconditional solidarity with Ukraine during its bitter feud with Russia, which leads some to believe that Muslim-majority Turkey does not apparently deserve the same treatment as its neighbours also experiencing an unlawful attempt to seize control of the state.

Moral authority at risk

It is also right that the West should have censured the coup plotters more forcefully and built upon Turkey’s fragile unity to encourage the country to pursue further democratic reform. To quote former Swedish Prime Minister and Foreign Minister Carl Bildt: “Europe risks losing its moral authority if it does not appear particularly engaged in dealing with the coup itself.”

In addition, the EU’s strong criticism of Turkey but not France, for imposing a state of emergency and for temporarily suspending the European Convention on Human Rights, undeniably, smacks of double-standards.

However, some of the criticism falls short. To begin with, the West’s tepidity can be explained (though not wholly justified) by Erdogan’s abrasive behaviour at home and towards Western and international media.

Just three days after the coup, Erdogan threatened in his characteristically defiant tone to revive the controversial construction plans that sparked the 2013 Gezi Park protests, saying: “If we want to preserve our history, we must rebuild this historic [Ottoman-era barracks] structure, [and] we will rebuild it.”

It is also fair for Turkey to be reproached for the widespread crackdown against tens of thousands of suspected Gulenists in the aftermath of the coup. Even if it is conceivable that all 1,577 university deans who were forced to resign were Gulenists, this action will also have a lasting negative impact on the reputations and career prospects of academics unconnected to Gulen.

Fervour against Gulenism

The vigilance by the West is understandable given the Turkish government’s fervour against Gulenism in the immediate post-coup period. It would make no sense for the West to attack the coup and yet, at the same time, equivocate on flagrant violations of due process and human rights. Both efforts are mutually inclusive and identifying such violations has the greatest potential to encourage policy reversals or corrective measures.

Similarly understandable is the attention on Erdogan himself. He is the most formidable and powerful figure in a hierarchical and top-down political system, able to make fateful decisions with few effective checks and balances. He single-handedly replaced Ahmet Davutoglu as prime minister with Binali Yildirim in a clear breach of the Turkish constitution.

Despite Erdogan’s tactical attempts at embracing all the opposition parties apart from the pro-Kurdish Peoples’ Democratic Party (HDP), his refusal to renounce his ambition to transform Turkey into a powerful executive presidency indicates that this fragile political unity will not last.

Only the West has the wherewithal to moderate his policies by continuing to express its friendship with Turkey, whilst not shying away from closely monitoring, scrutinising and commenting on the post-coup developments.

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Since the 2018 economic crisis, when the value of the lira plummeted and borrowing costs soared, Turkey’s economy has achieved a miraculous ‘V-shaped’ economic recovery from a recession lasting three quarters to a return back to quarterly growth above 1 per cent in the first three months of 2019.

But this quick turnaround has been built on vast amounts of cheap credit used to re-stimulate a consumption and construction boom. This so-called ‘triple C’ economy generated a rapid growth spurt akin to a modestly able professional sprinter injected with steroids.

This has made the currency vulnerable. The lira has steadily depreciated by 11 per cent against the US dollar since the beginning of 2019 and crossed the rate of 6 lira versus the US dollar on 7 February. And there are further warning signs on the horizon.

Credit bonanza

Statistics reveal that Turkish domestic credit grew by around 13 per cent on average throughout 2019.  The credit bonanza is still ongoing. Mortgage-backed home sales jumped by a record high of 600 per cent last December alone and the 2019 budget deficit catapulted by 70 per cent due to higher government spending.

Turkey’s central bank fuelled this credit expansion by cutting interest rates aggressively to below inflation and, since the start of this year, purchasing lira-denominated bonds equivalent to around one-third of total acquisitions last year to push yields lower.

Equally, it has linked bank lending to reserve requirements – the money that banks have to keep at the central bank – to boost borrowings via state and private banks. Banks with a ‘real’ loan growth (including inflation) of between 5 and 15 per cent enjoy a 2 per cent reserve ratio on most lira deposits, which authorities adjusted from an earlier band of 10-20 per cent that did not consider double-digit inflation.

Cumulatively, bond purchases (effectively quantitative easing) and reserve management policies have also contributed to eased credit conditions.

Commercial banks have also reduced deposit rates on lira accounts to less than inflation to encourage consumption over saving. Together with low lending rates, the boost to the economy has flowed via mortgages, credit card loans, vehicle leasing transactions and general business borrowings.

Accordingly, stimulus is at the forefront of the government’s economic approach, as it was in 2017 and 2018. It does not seem to be implementing structural change to re-orient growth away from consumption towards productivity. 

In addition, governance is, again, a central issue. President Recep Tayyip Erdogan’s near total monopolization of policymaking means he guides all domestic and external policies. He forced out the previous central bank governor, Murat Cetinkaya, in July 2019 because he did not share the president’s desire for an accelerated pace of interest rate reductions.

New challenges

Despite the similarities, the expected future financial turbulence will be materially different from its 2018 predecessor in four crucial respects. 

Firstly, foreign investors will only be marginally involved. Turkey has shut out foreign investors since 2018 from lira-denominated assets by restricting lira swap arrangements. Unsurprisingly, the non-resident holdings of lira bonds has plummeted from 20 per cent in 2018 to less than 10 per cent today.

Secondly, the Turkish government has recently introduced indirect domestic capital controls by constraining most commercial transactions to the lira rather than to the US dollar or euro to reduce foreign currency demand in light of short-term external debt obligations of $191 billion.

Thirdly, the Turkish state banks are intervening quite regularly to soften Lira volatility, thereby transitioning from a ‘free float’ to a ‘managed float’. So far, they have spent over $37 billion over the last two years in a futile effort to buttress the lira. This level of involvement in currency markets cannot be maintained.

Fourthly, the Turkish state is being far more interventionist in the Turkish stock exchange and bond markets to keep asset prices elevated. Government-controlled local funds have participated in the Borsa Istanbul and state banks in sovereign debt to sustain rallies or reverse a bear market.  

All these measures have one running idea: exclude foreign investors and no crisis will recur. Yet, when the credit boom heads to a downturn sooner or later, Turks will probably escalate lira conversions to US dollars; 51 per cent of all Turkish bank deposits are already dollar-denominated and the figure is still rising.

If Turkey’s limited foreign reserves cannot satisfy the domestic dollar demand, the government may have to impose comprehensive capital controls and allow for a double digit depreciation in the value of the lira to from its current level, with significant repercussions on Turkey’s political stability and economic climate.

To avoid this scenario, it needs to restore fiscal and monetary prudence, deal the with the foreign debt overhang in the private sector and focus on productivity-improving economic and institutional reforms to gain the confidence of global financial markets and Turks alike.