By Nevzat Devranoglu

ANKARA (Reuters] -Turkey’s lira fell more than 2% against a U.S. Dollar on Wednesday. Its bonds also dropped sharply, as concerns grew about a rise in inflation and depleted reserves. This was fueled by President Tayyip Erdogan’s promise to keep cutting interest rates this week.

The lira fell as low as 17.196 against the dollar and headed towards the record 18.4 mark it reached on December 20, during a currency crisis that was triggered by unorthodox interest rate cuts.

Following a loss in 2014 of 44%, the currency lost 22% over this year’s session. Households are feeling stressed ahead of the mid-2023 election due to 73% inflation and the currency’s depreciation.

Erdogan unleashed the latest episode of his weakness following Monday’s cabinet meeting. He stated that Turkey would not increase rates, but instead continue to reduce them due to high living expenses.

Emre Akcakmak (Dubai-based senior consultant for East Capital) stated that an economic soft landing seems the most likely scenario given the current imbalances. However, achieving this is unlikely to be possible before the election.

Since December’s crisis, the central bank used foreign reserves to support lira. Traders have called it either a “dirty flot” or a managed marketplace.

According to Reuters, senior bankers have told Reuters that the government is looking at exchange rate sustainability. They also said that foreign currency demands from corporations due to import payments were being observed on the market.

The policies emphasize sustainability of the exchange rate. “I see the recent weakening in FX as a positive move because it will lead to a higher price,” the anonymous banker said.

Although the central bank had $12.2 billion in net foreign reserves at May’s end, they were still very negative after swaps have been deducted. Turkey tried to restore its buffer by obtaining foreign currency swap lines, but with limited success.

Erdogan’s economic and monetary policies have led to the deterioration of performance in emerging markets over several years.

According to Refinitiv data, sovereign dollars bonds felt the same pain as the rest with yields pushing up into double digits.

Turkey five-year credit default swaps soared 32 basis points (bps) from Tuesday’s close to 769 bps, levels last seen during the global financial crisis in 2008, data from S&P Global (NYSE:) showed.

The yields of the 10-year local government bond increased by more than 200 basis points per day, to 24.78%.

Akcakmak explained that although recent comments regarding lowering interest rate may have increased the lira’s weakness, it is not without fundamental causes.

He said that a rising trade deficit, rapid decline in central bank foreign reserves, increasing external financing costs, and “unstoppable” inflation are all factors which have been putting pressure on the lira.