By Behiye Selin Taner and Ali Kucukgocmen
ISTANBUL (Reuters) - The Turkish lira slid 0.8% on Monday in the face of U.S. and European threats of sanctions and embargoes, though skeptical traders said it would weaken much further if Western allies turned words into action over Turkey's incursion in Syria.
Underlining doubts over the threats, Turkish President Tayyip Erdogan was quoted as dismissing them as "quips" on Sunday, while the country's ambassador to the U.N. in Geneva called a possible European Union arms embargo "a joke."
In turn on Sunday, U.S. President Donald Trump said on Twitter that "big sanctions on Turkey are coming."
The lira
Turkish stocks and bonds also tumbled, with the main share index at its lowest level since June. The cost of insuring government bonds against default hit a six-week high.
The currency, which suffered a crisis last year that knocked Turkey's economy into recession, has fallen more than 12% so far this year and 5% this month alone as Ankara and Syrian allies attacked Kurdish-led forces in northeastern Syria. [nL5N26Z26G]
The intervention, now in its sixth day, has drawn international condemnation, including threats from Trump to "obliterate" Turkey's economy with "powerful" sanctions.
But many traders and investors said in effect they would believe it when they saw it, especially after U.S. threats earlier this year to sanction Turkey over buying Russian S-400 missile defenses did not materialize.
"After being led up the hill and down on the S-400 issue, markets don't really believe that Trump has the stomach to sanction Turkey in any meaningful way," said Tim Ash of BlueBay Asset Management.
FRAGILE ECONOMY
Economists said sanctions could set back Turkey's economic recovery, especially if a prolonged battle puts pressure on Turkey's trade ties with Europe.
Turkey's imports and exports amounted to 155 billion euros ($171 billion) with the EU in 2017, compared to $20 billion with the United States. Before the military incursion, Turkey and the United States said they aimed to boost that to $100 billion in annual trade.
Inanc Sozer, chief economist at Turkey Macroview Consulting, said given the sanctions threat he would consider zero economic growth this year a "success".
"But if the U.S. implements sanctions next year, we will be talking about a contraction again, which may be around 5%," he said.
"The economy is very fragile and its financial markets have been weak since last year. Sanctions may create a feedback loop that would put manufacturers under severe pressure," Sozer said.
Turkey's calendar-adjusted industrial output, largely viewed as a pre-cursor to growth figures, declined 3.6% year-on-year in August, more than expected, data showed on Monday.
Data from IHS Markit showed Turkish five-year credit default swaps (CDS) - which investors and traders use as protection - rose 11 basis points to 404 basis points.
Among Turkish stocks, an index of banks plunged 8%.
SANCTIONS, EMBARGOES
On Friday, U.S. Treasury Secretary Steven Mnuchin said that Trump had authorized "very powerful" sanctions targeting Turkey, to which Turkey said it would retaliate in kind.
But in Istanbul on Sunday, Erdogan was quoted as saying at a closed-door meeting with some media outlets that he expected such talk. "Of course things such as economic sanctions are being mentioned. Truthfully, I see those as quips along this process," he said, according to the state-run Anadolu agency.
The EU has condemned Turkey's military attack. On Monday France's foreign minister said it must call for "a firm position" establishing an arms embargo.
In Geneva, Turkish ambassador Sadik Arslan told reporters: "That arms embargo is a joke," adding Turkey has "enough of an industrial base to substitute them with our much better systems."
The Turkish incursion came after Trump spoke by phone with Erdogan and then decided to withdraw some U.S. troops from the region. On Sunday, Washington said it would withdraw the remaining 1,000 U.S. troops in the face of the expanding Turkish offensive.
It was unclear exactly what sanctions are in a U.S. Treasury order drafted last week. But Senate and House lawmakers have proposed targeting Turkish individuals, banks and its defense sector.
The "news flow regarding the military operation in Syria, arms embargo decision from EU and probability of sanctions from U.S., are creating uncertainty for investors", Oyak Securities said in a note to clients.
Separately, Turkey's TBB banking association said it would launch a restructuring program that would benefit large companies with loans of more than 25 million lira ($4.23 million).
The move comes as Turkey's economy shows signs of recovery from recession, which left its companies saddled with foreign currency debt.
(Additional reporting Tuvan Gumrukcu in Ankara, Can Sezer in Istanbul and Stephanie Nebehay in Geneva; writing by Jonathan Spicer; editing by Larry King)