Turkey's new political economy

Economics Department

A new government has been formed in Turkey and an economic programme agreed. In this OECD Observer Economic Policy Brief with Alexandra Bibbee, OECD senior economist, we look at how these changes might affect the economic outlook for Turkey. 

A new government has been formed in Turkey. The economy has been in some difficulty. How have the markets responded to this new government?

Markets have responded quite positively: the stock market has risen by around 40% since the 3 November election; interest rates have fallen by over 10 percentage points, and the exchange rate has appreciated by 6%. The euphoria derives from the facts that: first, Turkey has for the first time in decades a one-party government which augurs well for political stability and the ability to pursue reforms effectively, in contrast to often unstable coalition governments of the past; and second, the ruling party, AKP, has for the most part been very cautious in its public statements, taking care not to sound radical in any sense while underlining continuity with the economic programme of the previous government.

Are interest rates likely to be under any new pressure and will Turkey's borrowing position change under this new government?

If the new government fulfils its early promise and announces a robust economic programme, so that markets are not disappointed, the downward movement we have already seen in interest rates should continue. This would then set up a "virtuous circle" whereby government interest payments decline sharply, making the achievement of fiscal targets that much easier while also eventually allowing some leeway for social spending which the government has promised to its electoral base. If, on the other hand, major mistakes are made in economic management, past experience shows that markets would quickly punish the government with high real interest rates and a consequent grave risk of the debt spiraling out of control.

How might the OECD economic forecast for Turkey be affected and what signs will you be looking for in three-six months time?

If financial market confidence continues to improve, real interest rates will decline steadily, allowing for moderate growth over the next two years with monetary and fiscal policies remaining very tight in accordance with the needs of economic stabilisation. Therefore in 3-6 months' time, we will be looking for steady declines in real interest rates, continuing disinflation (to under 30%), relatively stable exchange rates in real terms, and broad-based, steady growth. A too-rapid fall in interest rates (market overshooting) could be detrimental, however, as happened in 2000 when it led to overheating and balance of payments difficulties. But conversely, in the case of policy mis-steps, a renewed rise in interest rates combined with real exchange rate depreciation leading to inflation pressure, would be extremely alarming.

What about regulatory reform; are there specific areas you would ask the government not to backtrack on or to pay special attention to?

It is critical that the government not backtrack on the progress that has been made over the past two years in terms of the establishment of independent sectoral regulators in banking, energy, and telecommunications. These new institutions need to be kept free of political influence and indeed strengthened in this respect to enable markets to function well in Turkey. Similarly, the newly independent central bank must be allowed to stay independent to help eliminate high inflation once and for all. It is likewise important to pursue privatisation, which was a major weak point of the previous programme, notably regarding the above mentioned sectors.

Transparency and accountability of budget spending, to underpin the process of fiscal adjustment, will also be key areas to which the new government should pay attention, especially as its own electoral platform called for a reduction in “misconduct” in the public sector.

Turkey is a member of the OECD and yet not considered a leading candidate for EU membership. Is there any contradiction between these two situations?

There are other non-EU European countries in the OECD, like Norway, Switzerland and Iceland. Moreover, some prospective members of the EU are not currently members of the OECD (e.g., Romania). Turkey, it is true, is on a slower track in its candidature for EU membership in part because it has long suffered from high inflation, chronic budget deficits, and economic instability. However, economic policies have improved markedly since the last crisis, while the breadth and depth of recent political reforms have been remarkable. The EU has acknowledged Turkey's progress in both political and economic spheres, and is now looking for steady implementation of such reforms.

©OECD Observer November 2002 




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