Ready for Anything
Turkey has entered a challenging period following years of formidable economic growth. The political impasse reached in the June 2015 general election has had an adverse effect on the Turkish economy, restricting investment from abroad and dampening consumer confidence. In addition, developments in the wider region have created tension, further diminishing investor interest. However, the robust nature of the economy suggests that growth will continue in spite of these issues, albeit at a reduced rate compared with recent years.
The country’s rapid recovery after the global financial crisis in 2008 was impressive in comparison with much of the rest of the world. No state intervention in the banking system was required, unlike all other OECD nations, and unemployment levels soon dropped to their pre-crisis rates. An average annual growth rate of 6% lasted until 2013, but structural concerns have over time created a slowdown in growth. Government investment in infrastructure projects over this time provided a strong basis for growth as global economic activity grew increasingly unstable. However, the issue of volatile capital inflows will remain an issue going forward. In the face of these challenges the Ministry of Economy and the Central Bank (CBRT) have implemented policies to counter problematic external influences on the economy.
In 2014, the Turkish economy performed slightly worse than expected, with GDP growth standing at 2.9%. Per capita GDP stood at TRY22,722, or approximately $10,390 at current rates. Overall, GDP came in at approximately $799 billion, down on the previous year’s $823 billion. More recently, GDP growth came to 3.5% in 2Q2015, up from the previous quarter’s 2.5%. However, despite GDP growth coming 2013 had been 4.2%, according to the World Bank), the Ministry of Economy is working toward the state’s 2023 Vision which has established a goal of $2 trillion for GDP and a share of 1.5% of total global trade. To put the developments of the past decade from 2004 in context, over that time GDP grew by 105%, while other key macroeconomic indicators registered similarly impressive results. Public debt stock dropped from 74% of GDP to 33.5%, while the budget deficit decreased from 10% of GDP to one-tenth of that. These indicators are well below the Maastricht criteria. If similarly successful fiscal programs can be implemented in the coming years, reaching the 2023 objectives is quite achievable. Average growth of 3.5% has been predicted for the next five years by the IMF.
To this end, the CBRT has followed a cautious monetary policy geared toward encouraging loan growth through macroprudential measures. Though external demand remains low, steady domestic demand has helped to inspire growth. Supporting domestic demand also forms a key part of the Ministry of Economy’s strategy, with the control of import growth a defining element of its current program. On the inflation front, once again external factors have dictated recent developments. Summer 2015 saw the Turkish lira trade at record lows with the dollar, and the prospect of an extended period of political uncertainty, despite efforts by the interim AKP government, have investors concerned. Though energy prices are at present favorable for the economy and inflation rates, the currency rate situation has precluded any improvement. In 2014, inflation came in at 8.9%, up from 2013’s 7.5%, while in 2015 the rate stands at over 7% on average over the first three quarters. Maintaining the tight monetary policy going forward will be important as unpredictability in global markets balances out.
The preservation of reasonable levels of employment has also been a success for Turkey over the past decade, with exception of the period immediately following the financial crisis when unemployment rose to 14.8%. Rates since 2006 have, however, averaged at around 10%, with mid-2015 figures showing a drop to 9.6%. Over 27 million citizens aged 15 or older have jobs, representing a national employment rate of 47.1%. The labor force participation rate stands at 52.1%.
The current account deficit remains a major challenge. In 2014 it represented 5.8% of GDP, or around $46 billion, an improvement on 2013 when it stood at over $64 billion. It has traditionally been financed by short-term capital inflows, but the prospect of FED interest rate increases will lead to capital outflows, making the reduction of the CAD a priority for the state. Following the 2008 crisis, rapid credit growth and the consistent volatility in sourcing capital flows have forced the CBRT to rethink its approach, and work to diminish the effects of precarious cross-border capital flows on the domestic economy. Policymakers work to utilize a rich set of policy instruments such as credit and exchange rate channels, as well as interest rates and the Reserve Options Mechanism fashioned by the CBRT at the end of 2011. Other issues which are critical to the improvement of the country’s fortunes include raising the low levels of domestic savings and vastly improving competitiveness and productivity in the longer term
Crucially, the administration is working to foster exports through investment incentives, supporting the services trade, enlarging the export basket, and increasing FDI. Despite lower interest from investors at 1H2015, FDI has been increasing as a result of myriad incentives ranging from the high-tech to aerospace and pharmaceuticals. In 2014 alone Turkey attracted $12.5 billion in FDI, in equity investments or real estate. The state has a strongly liberal investment regime and the laws governing this area are favorable to investors. A number of organizations have been established to directly support investors, such as the Coordination Council for the Improvement of Investment Environment (YOİKK). This body works to reduce bureaucratic obstacles for firms interested in the Turkish market, while the Investment Advisory Council of Turkey (IAC) brings together major representatives of multinational corporations and policymakers and politicians at the highest levels of the state. In addition to investment incentives, structural reform to encourage the inflow of longer-term investments is ongoing.
The 2023 Vision is aiming for $500 billion in exports by that year. Foreign trade in 2014 was valued at $399 billion, less than the $403 billion seen in 2013 but still representing the continuation of a broader upward climb in volume. The country’s membership of international organizations such as the OECD, the International Centre for Settlement of Investment Disputes (ICSID), and the World Bank form the basis of many of its trade partnerships. Turkey has an already extremely diversified export output, and a balanced array of export destinations comprise its list of partners, which Germany frequently leads with approximately 10% of the total. Other EU markets, the MENA region, and the US form the majority of the remainder.
The tight fiscal policy and high levels of discipline maintained by policymakers will continue to play a central role in the nation’s economic model. Structural reform in all its guises and the extension of the economy’s strong macroeconomic performance going forward will form the basis of growth, allowing Turkish exports to thrive along with its robust services and financial sectors. Assuming the political deadline is overcome, and the stability of the past decade reestablished, Turkey’s status as one of the most attractive investment destinations in the world will be asserted once again.
THE MONETARY POLICY AT HAND
The lira has had a rough time of it lately, in the same boat as many other emerging market currencies that have become somewhat sensitive to speculation over when the US Federal Reserve (Fed) will hike interest rates. The lira has lost much value over the dollar in recent months, currently sitting at an exchange rate of just over 3:1. The Central Bank of Turkey (CBT) remains adamant, however, that any eventual Fed hike will not have a significant negative impact on the Turkish economy. Indeed, the Hürriyet Daily News wrote in July that the Governor of the CBT, Erdem Başçı, had said technical work was being carried out based on a single interest rate, while it may also review its reserve option mechanism. The CBT was also considering upping the reserve rations paid to Turkish banks to the Fed level. Post normalization, and Başçı suggests that a simpler rate policy framework could work for Turkey. For now, however, the CBT continues to tread carefully, cautioning observers from expecting “early loosening or excessive tightening.”On the topic of inflation, the CBT’s end-2015 expectation now stands at 6.9%. The loss in value of the lira is behind any marked improvement in the inflation rate, with a decline in food prices keeping it below 7% and offering up a favorable outlook. Other significant indicators include the rise of non-credit based domestic consumption, as well as growing exports to the EU. That said, the CBT is also keeping a close eye on geopolitical risks over exports, and suggests that growth this year may fall below targets. Başçı believes that while the current account deficit will narrow this year, foreign demand will limit improvement.All eyes will now be on the Fed, with some signs that the much-anticipated rate hike could come by the end of the year or in early 2016. News that officials at the Fed would not raise rates in September was positive for the lira, while a Fitch Ratings decision to maintain Turkey’s rating at BBB- with a stable outlook saw the currency rise 0.1% to 3.00034 against the dollar.