Salvadoran President Nayib Bukele met with Turkish President Recep Tayyip Erdogan on Thursday in what was reportedly the first executive summit between the two countries. Despite dropping hints ahead of the meeting, Bukele reportedly didn’t talk to Erdogan about El Salvador’s best-known domestic policy: national Bitcoin adoption.
That’s likely just as well, because bitcoin isn’t a meaningful solution for Turkey’s monetary woes. The reasons for this are complex and highlight the rising need to understand bitcoin not just on its own terms, but as a novel force disrupting an established global monetary system, which already has its own arcane dynamics.
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Bukele and Erdogan’s meeting did come in the midst of a Turkish monetary crisis that has led citizens to swap their lira for crypto at record rates, once again demonstrating the novel utility of an instrument like bitcoin as a hedge for individual savers. But Turkey’s monetary structure is so vastly different from El Salvador’s that BTC simply isn’t a relevant solution to the crisis at the national level.
El Salvador’s move to adopt bitcoin seemed broadly sensible to many observers, including me, because the country was already fully dollarized – it does not have its own currency or monetary policy. Swapping dollars for bitcoin offered a marginal reduction in Salvadoran dependence on U.S. monetary policy, over which they have no control and which has recently become inflationary.
Turkey’s situation is much different, and very complex. Rather than being fully dollarized, Turkey is only largely dollarized – while it manages its own currency, the lira (TL), the U.S. dollar (USD) makes up about half of the bank deposit base there. As Turkish economist Lutfullah Bingol recently laid out on Bloomberg’s Odd Lots podcast, Turks essentially use dollars as a hedge against tail risk in the lira. At times of high lira volatility or inflation, they shift holdings to dollars for stability. (Odd Lots has done a great job providing a nuanced introduction to the situation. I highly recommend their coverage.)
That’s a huge part of Turkey’s current monetary problems, and the reason BTC isn’t a helpful fix. The availability of a dollar hedge exacerbates monetary instability there – speaking very broadly, a sinking lira can create a downward USD-TL spiral as more Turks sell lira for dollars.
This problem is rooted in the late 1980s when Turkey opened its capital accounts, allowing the lira to trade and float against other international currencies, at a point where it was still very much an emerging economy subject to periods of instability. At least according to Bingol, this opening was premature, coming before the lira was robust enough to withstand global trading (for comparison, China, now the world’s second-largest economy, still has not opened capital accounts to allow the yuan to float). Over the years that has eroded the lira’s domestic role. Worst of all, dollar dominance tends to rise precisely during instability like the current crisis, reducing the effectiveness of lira monetary policy at the moment it is most badly needed.
Reducing dollar dominance in a foreign market is known a de-dollarization, and it’s quite difficult, particularly in the middle of a crisis. Turkey is currently pursuing an intriguing strategy to resist further dollarization in the face of sharp inflation that would normally drive lira holders to USD en masse. Essentially, Turkey is offering lira holders a mirror of the hedge they would have in dollars – if the lira dips against USD, lira holders meeting certain conditions will be compensated with more lira.
This might not end well. When the Turkish policy was announced, some crypto observers noted its similarity to the so-called (3, 3) staking structure behind a non-pegged stablecoin called OHM, which uses interacting flows of multiple tokens to seek price stability in one of them. OHM has had a very rough month, and algorithmic stablecoins” in general are at high risk of arbitrage exploitation and collapse.
Turkey’s new lira policy broadly rhymes with the structure of many algo stablecoins, and more generally with attempts to peg any currency that has been allowed to float. The policy is the government writing effectively put options on the lira, according to fund manager Paul McNamara during a second Odd Lots episode on the topic. In very broad terms, Turkey has promised that if the lira falls against the dollar, it will pay lira holders with more lira – which it could wind up forced to effectively print, exacerbating the inflationary spiral that it was hoping to fight in the first place.
The core problem here is that Turkey’s economy and monetary policy are being badly mismanaged. As McNamara points out, the surest path to de-dollarization is macro stability, which makes foreign currencies riskier to hold. But absent that fix, Turkey’s proximate monetary problem is its citizens’ easy access to dollars as a currency hedge. Adding crypto to the mix only gives people more options for fleeing the lira, and Erdogan has no motivation to encourage that.