Turkey’s Economy Was Winning. Then The Iran War Came

Until February 28, Turkey's economic recovery was producing results that even skeptics had to take seriously. Finance Minister Mehmet Şimşek's orthodox stabilization program, launched in mid-2023 after years of policy chaos, had secured three Moody's upgrades and wound down the KKM deposit protection scheme from a $140 billion fiscal liability to under $11 billion. Across six sectors I tracked over the past year for a Nordic institutional investor assessment, the signs pointed in the same direction: a $930 billion banking sector with capital ratios near 20%, renewable energy capacity exceeding targets ahead of schedule, Middle Corridor cargo volumes up more than 60% year-over-year with Maersk and Nurminen Logistics already routing through Turkish ports. Rate cuts had begun in December 2024. The pain was converting into measurable progress.

Then the United States and Israel launched Operation Epic Fury, the Strait of Hormuz closed, and Brent crude went from $72 to $119 in three weeks. Şimşek's entire program had been built on a $65 per barrel oil assumption. The gap between that assumption and the market is now roughly $45. That gap is dismantling the recovery from the outside in.

Between late February and late March, the CBRT sold over $26 billion in foreign currency to defend the lira, with sales continuing at pace into the final week of March, according to Bloomberg and Reuters data. It sold approximately 22 tons of gold outright and used another 34 to 36 tons in gold-for-foreign-exchange swap arrangements, an $8 billion operation marking the largest weekly reserve drawdown since August 2018. Gross reserves including gold fell from a January peak of roughly $218 billion to around $178 billion by mid-March, per CBRT weekly data. Meanwhile Turkey's private sector entered the war carrying a net foreign exchange short position of $197.6 billion, the highest in eight years according to central bank data. The CBRT is defending the currency while the corporate sector sits on its largest unhedged exposure since before the 2018 crisis.

The Three Channels

The war transmits through Turkey's economy via three routes, and each attacks a different pillar of Şimşek's program.

The first is inflation. The CBRT's March survey of expectations contains the figure that matters most: households expect 49.89% inflation by year-end. The central bank's own target sits at 15 to 21%. That 30-percentage-point gap between target and expectation represents a credibility problem that rate policy alone may not repair. February CPI came in at 31.53%, breaking the disinflation trend before the oil shock fully registered. March data, released April 3, showed annual inflation easing to 30.9%, a positive surprise that beat the 31.4% consensus. But this reading captures only the very beginning of the oil pass-through. The Istanbul Chamber of Commerce reported 37.7% for Istanbul in March, and an Anadolu Agency survey of 32 economists found a year-end consensus of roughly 26%, up from under 24% in the previous month. Once expectations detach this far from the target, businesses and wage-earners price accordingly, and the expectation writes itself into the outcome.

The second channel is the budget. Ankara activated the Eşel Mobil sliding-scale fuel tax, absorbing roughly 75% of global price increases by cutting the Special Consumption Tax as oil rises. The fuel tax was budgeted to raise roughly 600 billion lira in 2026. Most of that will go uncollected. On top of this, Energy Minister Bayraktar disclosed that BOTAŞ's energy subsidies, which absorb roughly 60% of the gap between global and domestic gas prices, will triple from 300 billion lira to approximately 950 billion lira this year at current oil prices. Burcu Aydın, TEPAV's center director and a former IMF economist, estimated that energy subsidies alone now represent roughly 25% of the projected budget deficit. Şimşek acknowledged the fuel buffer is "not sustainable if high oil prices persist". January's deficit had already widened to TRY 214.5 billion, with interest payments up 180%. The fiscal anchor and the monetary anchor are loosening simultaneously, and that combination raises the question of whether Turkey still has a coherent stabilization framework or whether the program has shifted into day-to-day crisis management.

The third channel is the current account. Turkey imports over 90% of its crude and 96% of its natural gas. The CBRT's analysis shows every $10 oil price increase adds $4.5 to $5 billion to the deficit. With oil sustaining a $30-plus premium over the program's baseline, that is roughly $15 billion in mechanical deterioration before anything else breaks. ING revised its full-year current account deficit forecast to around $45 billion, up from $30 billion in 2025. Turkey must also roll over $101.8 billion in short-term external debt this year. That rollover requires foreign investor confidence, and confidence requires orthodox policy, and orthodox policy requires inflation to keep falling. The chain was holding until the war reversed the direction of every variable in it.

The economists Barry Eichengreen and Ricardo Hausmann called this structural trap "original sin": the inability of emerging markets to borrow internationally in their own currency. Turkey's version is severe. The dollar-denominated debt must be serviced regardless of what happens to the lira or to oil prices, and the cost of servicing it rises exactly when the economy is least able to bear it.

The Damage Below the Headline

The oil price captures attention. The second-order shocks do quiet, cumulative damage that compounds over months.

Turkey imports nearly $2 billion in petrochemical inputs annually from the Gulf, including Monoethylene Glycol, a feedstock for its $30 billion textile and packaging export base. When that supply breaks, production lines stop. The manufacturing PMI dropped to 47.9 in March, a five-month low, with commercial lending rates above 50% crushing corporate investment on top of the supply disruption.

The fertilizer channel may matter more than the oil channel by summer. FAO data indicate that if the crisis persists, global fertilizer prices could run 15 to 20% above last year's levels in the first half of 2026. Energy costs account for roughly 70% of fertilizer production. Turkey imports significant volumes from the Gulf, agricultural output has been contracting, and food dominates household budgets. Selva Demiralp, an economics professor at Koç University, identified this as the transmission route most analysts undercount: the war's energy shock feeding through fertilizer costs into food inflation in a country where food prices already drive both the CPI basket and voter anger. The food inflation spike from this channel hits lower-income households hardest, the same constituency that drove the AKP's historic defeat in the March 2024 local elections.

Tourism, which generates tens of billions of dollars in annual revenue, faces a diminished summer. Middle Eastern arrivals, roughly a quarter to a third of Turkey's tourist mix by industry estimates, have effectively stopped. European bookings are declining. Even a significant decline narrows the CBRT's window for reserve recovery during the months that traditionally repair the current account.

The sectoral picture, tracked across banking, green energy, healthcare, infrastructure, manufacturing, and defense for institutional investors over the past year, confirms that the war changes the risk calculus across the board. Banking faces rising NPLs (projected at 3.0 to 3.2% by year-end) and the BIST Banking Index dropped 5.73% in March. Healthcare is caught in a widening gap between the government's SGK reimbursement reference rate and the actual euro exchange rate, forcing manufacturers to absorb losses or create shortages. Green energy faces a strengthened strategic case but surging equipment import costs and tighter global financing conditions, with the EBRD warning that project timelines may slip. The partial exception is defense, where the S-400 impasse appears to be resolving under wartime alliance pressure, with possible F-35 program readmission under discussion. But defense procurement doesn't pay energy import bills.

The Trilemma in Real Time

International economics has a name for what the CBRT is navigating. The Mundell-Fleming trilemma holds that no country can simultaneously maintain a stable exchange rate, independent monetary policy, and free capital movement. You get two. The CBRT is trying to keep all three by spending reserves. The lira has traded in a managed band between 44.11 and 44.48. The policy rate held at 37% on March 12 while the effective overnight rate was pushed to 40% through liquidity operations. At over $26 billion in verified FX sales in the first three weeks alone, that approach has a shelf life measured in weeks.

Demiralp made the comparison that clarifies the constraint. The United States entered this crisis with inflation under 3%. Turkey entered it at over 30%. The Fed can tolerate inflation rising and still cut rates to support growth if needed. Turkey cannot. At ten times the inflation rate, with expectations unanchored near 50%, the CBRT's only option is to keep financial conditions tight enough to prevent capital flight, even though tight conditions are crushing the real economy. In a high-beta economy like Turkey, currency depreciation feeds into expectations in a way that doesn't self-correct when the currency stabilizes. That asymmetry is why the CBRT will probably choose rate hikes over a managed float at the April meeting, absorbing the growth cost to preserve what remains of the program's credibility.

Two Stories, One Finance Minister

In late March, while the CBRT was executing its largest gold liquidation in modern history, Şimşek flew to London. At the Turkish Embassy, addressing the 20th anniversary of the Presidential Investment Office, he told international asset managers that Turkey is "re-emerging as a destination for global talent and capital." He cited $360 billion in infrastructure investment, called the war's effects "negative but manageable," and said disinflation would continue.

Back in Ankara, the story sounded different. Pro-government daily Yeni Şafak attacked high interest rates and blamed the orthodox framework for corporate bankruptcies. That paper does not freelance its editorial line. Erdoğan himself, hosting a World Economic Forum session in Istanbul, called the war "senseless, unlawful, and extremely wrong", positioning Turkey as a responsible actor caught in someone else's crisis.

The distance between those two performances measures the gap between the program's external credibility and its domestic sustainability. Şimşek needs London to believe the program holds. Erdoğan needs Ankara to believe he feels the public's pain. Both can be true at the same time, but not indefinitely.

Erdoğan has reversed orthodox programs multiple times before and dismissed six central bank governors in five years. The program survived the İmamoğlu crisis of April 2025, which required emergency rate hikes to 46% and tens of billions in reserve operations. But that was a domestic political shock the government could shape the narrative around. A war-driven oil shock operates differently. The pain is at the pump, it is externally caused, and pro-government media is already attacking the framework that was supposed to fix the economy before 2028. The political logic that sustained orthodoxy through the İmamoğlu episode was "this pain is temporary and the president chose it for good reasons." The war introduces pain that is visible, not the president's choice, and may not be temporary. That is a harder story to hold together.

Whose War, Whose Bill

The Turkish commentator Adnan Boynukara argued recently in Perspektif that Middle Eastern wars don't merely destroy. Through oil prices, dollar demand, and debt pressure, they reactivate dependency structures already embedded in the international monetary system. Susan Strange made the same argument in more precise language in States and Markets: power operates not only through what one state forces another to do, but through control of the structures within which everyone else must act. The security shock transmits through the financial structure. The country waging the war is the world's largest oil producer, insulated from the price shock it created. The countries absorbing the financial damage had no seat at the table.

Turkey had spent two and a half years building something that was starting to work. The S&P sovereign review on April 17 and the CBRT's April rate decision will show whether that progress retains institutional credibility, or whether $100 oil and 50% inflation expectations are dismantling it faster than the program's architects can adapt. The answer turns on how long the Strait of Hormuz stays closed, and that is a variable Ankara does not control.