Turkey's Predicament by Bill O'Grady of Confluence Investment Management In 2013, we wrote a WGR that looked at Turkey’s likely rise to regional hegemon status.1 In that report, we made the case that Turkey was well positioned to return to its historic status as a dominant regional power. This remains our view over the next few decades. However, in the near term, the situation is much less clear. Turkey has been trying to run a foreign policy of having “no problems” with its neighbors. This stance has become impossible to maintain. Unfortunately for its president, Recep Erdogan, Turkey is encircled by instability and is struggling to develop a response. In this report, we will examine Turkey’s geopolitical situation, the risks it faces as conditions deteriorate and how the Erdogan government has responded thus far. As always, we will conclude with market ramifications. Turkey's Situation To some extent, Turkey is on the front lines of slow moving geopolitical “tectonic plates” that have been shifting since the end of the Cold War. The Cold War and the superpower duopoly created a whole set of “frozen conflicts.” Some were obvious, such as the walls that divided communist Europe from the free world Europe. In Asia, the U.S. demanded a pacifist constitution from Japan to prevent that nation from attacking the region again. However, what was generally unappreciated was the degree to which the Soviet Union was an empire. Numerous areas were capable of independent nationhood but were trapped inside the Soviet Union by Russia’s historic need to always expand its areas of control. Even the Middle East essentially divided along Cold War lines, with Iran, Saudi Arabia, the Gulf States, Israel and Pakistan siding with the free world and Iraq, Syria, Egypt and Yemen aligning with the communist bloc. There was some movement in the Middle East during the Cold War; Egypt and Yemen shifted their allegiances to the West, whereas Iran joined the non-aligned movement after the 1979 Revolution. Although the Mullahs’ economic stance was socialist, their aversion to godless communism put them in alignment with India and other non-aligned nations. In the end, the key geopolitical factor that dominated the Middle East was that the Cold War enforced the colonial borders drawn up by Sir Mark Sykes and François Georges-Picot. Turkey, as it emerged from the collapse of the Ottoman Empire, existed in the borderlands of the Middle East, Europe and the Soviet Union. The U.S. quickly recognized its importance in the waning days of WWII. The Soviets were pressing for military bases in the Turkish Straits, and Greece was facing a communist rebellion. Aligning with Turkey would allow the U.S. to bottle up the Soviet navy in the Black Sea and act as a base of operations to quell the Greek communists. Turkey became a member of NATO and is generally part of both Europe and the Middle East. The end of the Cold War tore all these relationships asunder. The Soviet Union fell apart with numerous new nations emerging from the old empire. The Baltic States along with Ukraine, Belarus and Moldova became part of Eastern Europe. The “stans” were established in Central Asia. Both ends of Eurasia blossomed economically. A united Germany emerged as an economic powerhouse and China became one of the most remarkable economic growth stories in history. However, Europe did face some issues. Yugoslavia devolved into several nations which led to a sectarian conflict that eventually required NATO involvement. Although the Middle East borders held together, Saddam Hussein made a bid to absorb Kuwait; this annexation was repelled by a large U.S. coalition. During the 1990s, the U.S. held the dominant and undisputed position of global hegemon, a true unipolar superpower. The short war against Iraq in the early 1990s signaled to the rest of the world that the U.S. was unmatched in terms of conventional warfare. From the early 1990s until 9/11/2001, U.S. dominance was generally unquestioned. The events of 9/11 showed that while the U.S. had unquestioned superiority in conventional warfare, it was vulnerable to unconventional attacks.2 The Iraq War and the subsequent quagmire that developed further undermined the perceptions of... More