## _cr13363 - 0.7 percent of GDP structural improvement.

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### Key findings and diagnostics
- 2012 outcomes:
  - Growth slowed to 2.2 percent.
  - Current account deficit narrowed to 6.1 percent of GDP.
  - Inflation decelerated to 6.2 percent at end-2012 versus 10.4 percent a year earlier.
  - Large net gold exports were a one-off factor (gold surplus in excess of US$10 billion).
- Nature of the 2012 rebalancing:
  - Staff estimates about three quarters of the current account adjustment was due to a cyclical compression in imports.
- Staff assessment of imbalances and exchange rate:
  - Current account deficit remains 1½−3 percent of GDP higher than warranted by fundamentals and optimal policy settings.
  - Estimated exchange rate misalignment is 10–20 percent even after the recent depreciation.
- External position and risks on current policies:
  - With current policies, staff projects the current account deficit to remain in the 7−8½ percent of GDP range.
  - Gross external financing requirements implied in that range exceed 25 percent of GDP per year.
  - Net foreign asset position has deteriorated by about 25 percentage points of GDP since 2008 and is expected to continue worsening on current policies.
- Recent 2013 developments:
  - GDP grew by 1.5 and 2.1 percent q-o-q (seasonally adjusted, non-annualized) in Q1 and Q2; growth for the first half of 2013 was 3.7 percent y-o-y.
  - Credit growth reached peaks of close to 40 percent in annualized terms in mid year.
  - Nominal primary spending grew at more than 15 percent y-o-y for most of the last twelve months.
  - Inflation reached 7.9 percent y-o-y in September 2013; core inflation measures accelerated to about 7½ percent.
- External financing composition and market pressure in 2013:
  - Year-to-date current account deficit reached US$44.3 billion versus US$35.4 billion over the same period last year.
  - Deficit financed mostly by short term flows; very little contribution of FDI so far in 2013 and a significant increase in portfolio inflows.
  - Government benchmark bond rate increased by some 300 basis points since May.
  - Exchange rate depreciated by more than 10 percent against the euro-dollar basket; stock prices fell by close to 20 percent.
  - CBRT intervened in FX markets via auctions by about US$11.5 billion (more than 15 percent of net international reserves).
- Buffer assessment:
  - Households: net financial asset position about 20 percent of GDP; household debt rose from less than 30 percent of disposable income in 2006 to 50 percent now; average household debt maturity 4.1 years implying principal payments of about 20 percent of disposable income; households have no FX loan exposure.
  - Public sector: government debt 35 percent of GDP; one third of public debt carries FX risk; debt sustainability does not represent a risk on current policies; external financing risk is the most notable public debt vulnerability.
  - Non-financial corporates: widening short FX position jumped from US$78 billion in 2008 to US$165 billion; vast majority of this short FX position is long term; only slightly more than half of corporates' FX liabilities are vis-à-vis domestic banking system.
  - Banks: loan-to-deposit ratio increased from 76 percent in 2009 to around 110 percent; capital adequacy ratio 16 percent; liquid FX assets cover more than 100 percent of banks’ short term FX liabilities; small on-balance sheet FX exposure about US$20 billion fully closed via swaps.
  - Foreign reserves: gross reserves US$130 billion, about 115 percent of the Fund’s metric versus 98 percent at end-2011; net reserves about US$50 billion. The increase in gross reserves is substantially influenced by the reserve option mechanism (ROM).

### Outlook and scenarios
- Short-term growth projection:
  - Staff expects growth to reach 3.8 percent in 2013 and 3.5 percent in 2014.
  - Domestic demand projected to lead growth in both 2013 and 2014.
  - Domestic demand growth for 2013 projected at 4.8 percent; net export contribution for 2013 projected to swing to -1 percentage points from 2012’s exceptional 4.1.
- External and inflation outlook on current policies:
  - Current account deficit forecast to increase from 6.1 percent of GDP in 2012 to 7.4 percent in 2013 and 7.2 percent in 2014.
  - Staff expects inflation of 8 percent at year end 2013 (7.7 percent average inflation) and not returning to the 5 percent target in 2014 on current policies.
  - Gross external financing needs projected in excess of 25 percent of GDP annually.
- Medium-term baseline (current policies):
  - Baseline projects gradual convergence towards 4½ percent growth rates consistent with historical trend growth.
  - Widening current account deficits reaching 8¼ percent of GDP in 2018 given present savings levels.
- Sudden stop scenario:
  - A sharper and more sustained reversal of inflows would require a large compression in absorption to close the external deficit, leading to negative GDP growth and a much less benign growth path than baseline.

### Policy recommendations (short and medium term)
- Short-term policy stance:
  - Room for policy action in case of downside risks, but discretionary stimulus should be applied only if growth is expected to turn negative.
- Monetary and fiscal policy guidance:
  - Set monetary policy consistent with the inflation target and tighten fiscal policy to build buffers against potential shocks while creating space for monetary policy maneuver.
  - Monetary policy should strike a balance between supporting domestic growth and maintaining foreign investor demand.
  - Exchange rate flexibility should help buffer BOP pressures, with interventions limited to avoiding excessive overshooting.
- Macro-prudential and contingency measures:
  - Monitor vulnerabilities in the banking and corporate sectors; use macro-prudential measures to ease excessive credit impact; develop contingency plans in case of capital flow reversal.
- Structural and medium-term fiscal policy:
  - Increasing national savings and improving competitiveness are central to addressing vulnerabilities.
  - Ambitious medium-term fiscal targets consistent with a 2 percent of GDP consolidation over the next five years and deepened structural reforms are needed.
  - Accelerate structural reforms to increase productivity and competitiveness; reassess fiscal policy in light of medium-term impacts of slower growth on the fiscal structural position.

### Traction of Fund advice and authorities’ stance
- Areas of alignment:
  - Authorities share staff’s view on the need to raise savings, reflected in the 2014 Medium-Term Plan and their 10th development plan.
  - They introduced macro-prudential measures to address growing household leverage; more measures are under consideration.
- Areas of divergence:
  - Authorities have a more benign view of external vulnerabilities and therefore monetary and fiscal policies are looser than staff recommends.
  - Authorities concur that lowering inflation is a key objective but believe their monetary framework serves them well and intend to continue normalization.

### Box 2 — Medium-Term Program, 2014–16 (authorities’ MTP vs staff)
- Authorities’ claims and assumptions:
  - MTP shifts growth trajectory downwards by 1 percentage point in 2014 and revises inflation up for 2013–14.
  - Authorities expect the current account deficit to decline to 5½ percent of GDP by 2016, attributing decline to higher domestic savings, increasing energy efficiency, and lower gold imports.
- Key contrasts (numeric):
  - Growth: authorities assume GDP growth of 4–5 percent in 2014–16 versus staff’s 3½–4½ percent.
  - Inflation: authorities project inflation to fall rapidly and converge close to the central bank’s 5 percent target; staff do not expect the target to be reached.
  - Current account: authorities see the current account deficit narrowing despite an acceleration in growth; staff expect the deficit to widen.
- Fiscal projections and differences (numeric):
  - Change in primary spending relative to last year’s MTP: +½ percent of GDP.
  - Primary spending decline envisaged for 2014 in new MTP: 0.4 percent.
  - Central government primary balance (authorities, 2016): 1.0 percent of GDP.
  - Central government primary balance (staff, 2016): -0.1 percent of GDP.
- Other numeric projections and facts:
  - Turkey’s net foreign asset position: close to -50 percent of GDP.
  - Credit growth: about 25 percent (recent); exceeded 30 percent on average over the last three years in another assessment.
  - ROM accumulations since early 2012: some US$35 billion in gross reserves.
  - Authorities’ current account deficit target (authorities): 5½ percent of GDP by 2016.

### Monetary policy stance and recommendations (staff)
- Staff view of CBRT policy framework:
  - Current stance not consistent with the inflation target and needs tightening.
  - Policy rates and corridor (levels cited):
    - Top end of the corridor: 7.75 percent.
    - Main policy rate (one-week repo): 4.5 percent.
    - De facto average rate at which the central bank is providing liquidity: about 6−6½ percent.
  - With inflation close to 8 percent and inflation expectations for end year above 7 percent, policy rates are negative in real terms.
- Staff recommended actions:
  - A one step increase of 250bps in the main policy rate (the one-week repo) to reach positive real levels, with systematic provision of liquidity at this policy rate.
  - Narrowing the interest rate corridor (equivalent to about 100–150 bps tightening relative to current levels).
  - Limiting foreign exchange intervention to addressing excessive exchange rate volatility; FX intervention cannot substitute for the right monetary stance.
  - Normalization toward a more orthodox framework: narrower corridor, consistent provision of liquidity at the main policy rate, clearer focus on inflation, while complementing interest rate policy with macro and micro-prudential measures.
- Criticisms of the existing framework:
  - Complexity: wide interest rate corridor (425 basis points at present), variable cost of liquidity, ad-hoc provision of liquidity at higher overnight repo rate, and the reserve option mechanism (ROM).
  - Multiple objectives beyond inflation have contributed to repeated misses of the inflation target, hampered communications, weakened monetary transmission, and insufficient prevention of significant increase in private sector leverage.
  - ROM boosts gross reserves but is not a substitute for net international reserves; during 2013 stress the CBRT had to use net reserves.

### Box 3 — Reserve Option Mechanism (ROM) specifics and assessment
- ROM features (numeric limits and ROCs):
  - Banks can convert up to 60 percent of their reserve requirements into FX with ROCs ranging from 1.4 to 2.8 and up to 30 percent into gold with ROCs ranging from 1.4 to 2.5.
- Intended benefits and limitations:
  - ROM intended to limit exchange rate fluctuations, limit conversion of FX inflows into bank lending, incentivize banks to accumulate FX buffers, and boost gross reserves.
  - ROM worked during inflows but did not sufficiently help when inflows weakened in summer of 2013.
  - ROM is not a perfect substitute for net international reserves for balance of payments needs.

### Fiscal outlook and recent performance (2013)
- Central government primary surplus target: 0.5 percent of GDP (budgeted for 2013); performance to August is consistent with this target.
- Nominal central government revenues: grew 17 percent y-o-y in the year to August (compared with 9 percent growth last year).
- Primary spending growth: 15 percent in the year to August versus a full year budget target of 11 percent.
- Privatization revenues and repayments of tax arrears by public companies have already exceeded the full year targets; privatization revenues are below the line and not accounted in the fiscal balances quoted.
- Staff assessment (2013 stance and near-term):
  - Structural primary balance: expected deterioration of ½ percent of GDP in 2013 relative to baseline.
  - Staff view this and high nominal spending growth as indicative of an expansionary stance.
- Staff recommendations for remainder of 2013:
  - Contain expenditure in the last four months of the year to avoid further overruns.
  - Save any additional one-off revenues rather than use them to add to primary spending.

### Fiscal policy recommendations for 2014 and medium term (numeric)
- 2014 recommendation:
  - Target central government expenditure ratio of 22 percent of GDP as contemplated in the 2013–15 medium-term plan.
  - Achieve a structural tightening of ¾ percent of GDP compared to the baseline.
- Rationale: appropriate given very high current account deficit and to relieve pressure on monetary policy.
- Neutral nominal spending benchmark (staff view):
  - Given potential growth of around 4 percent and the central bank’s inflation target of 5 percent, nominal spending growth of around 9 percent would be about “neutral” and consistent with the primary surplus target advocated by staff.
- Medium-term fiscal recommendation (staff numeric):
  - Target a primary surplus of around 2 percent of GDP in the medium term (akin to targeting a 1 percent of GDP structural primary surplus by 2018).
  - Propose the 2014 MTP target a central government primary balance of 1.2 percent of GDP by 2016 (consistent with an increase in the structural primary balance relative to baseline of 1.1 of GDP over three years).

### Financial sector performance, risks, and macro-prudential recommendations
- Key banking and financial metrics:
  - NPL ratio: about 3 percent; including loans restructured before becoming non-performing, the ratio of “problem” loans reaches around 2.84 percent of total loans.
  - Bank profitability (first half of year): net interest margins remain at 4 percent; return on equity close to 17 percent.
  - Capital adequacy ratio (system, Basel 2.5 definition): 16 percent; capital is almost entirely tier 1.
  - Liquidity: liquid assets cover more than 100 percent of short-term liabilities under conservative assumptions.
  - On-balance sheet open FX position of banks: slightly below US$20 billion or 2½ percent of GDP, hedged off-balance sheet through swaps.
- Corporate FX exposure (Box 5 figures):
  - Non-financial corporate FX liabilities (as of June 2013): US$251 billion.
  - Non-financial corporate FX assets: US$87 billion.
  - Net FX position: US$164 billion.
  - Net position mid-2008: US$78 billion.
  - Domestic banks provide US$130 billion in FX loans, representing some 52 percent of total FX liabilities of non-financial corporates (compared to 23 percent in mid-2008).
  - Corporate FX deposits: total around US$60 billion; share held in domestic banking system increased to two-thirds, up from some 42 percent in 2008.
- Macro-prudential recommendations:
  - Consider raising risk weights and provisioning on FX loans to non-financial corporates.
  - Aggregate and, ideally, publish data on export receipts, financial hedges, and FX collateral underpinning FX loans.
  - Subject FX indexed lending to the same prudential measures as FX lending.
  - Extend measure linking clients’ income to credit card limits to general purpose loans; consider a general consumer debt-to-income limit as a prudential requirement.

### Active policy scenario versus baseline (selected numeric comparisons)
- Active scenario assumptions:
  - 2 percent of GDP structural fiscal adjustment spread over five years; immediate monetary tightening equivalent to 150 basis points (Jan 2014 for scenario).
  - Fundamental behavioral assumptions: fiscal multiplier = 1; 100 basis points monetary tightening → contraction of 0.6 percent of GDP at peak dissipating after two years; 1 percentage point reduction in growth → reduction in current account deficit of 0.4 percent of GDP; Ricardian offset of fiscal policy = 0.5; elasticity of current account to the REER = 0.15.
- Central government primary balance (percent of GDP):
  - Baseline (2013–2018): 2013 0.5; 2014 0.1; 2015 0.0; 2016 -0.1; 2017 -0.2; 2018 -0.3
  - Active policies (2013–2018): 2013 0.5; 2014 0.8; 2015 1.1; 2016 1.4; 2017 1.6; 2018 1.8
- Current account deficit (percent of GDP):
  - Baseline (2013–2018): 2013 7.4; 2014 7.2; 2015 7.4; 2016 7.7; 2017 7.9; 2018 8.3
  - Active policies (2013–2018): 2013 7.4; 2014 6.5; 2015 6.2; 2016 6.1; 2017 5.8; 2018 5.6
- Gross external financing needs (percent of GDP):
  - Baseline (2013–2018): 2013 25.3; 2014 27.5; 2015 26.4; 2016 26.9; 2017 27.8; 2018 29.5
  - Active policies (2013–2018): 2013 25.3; 2014 27.4; 2015 25.6; 2016 24.9; 2017 24.1; 2018 23.6
- CPI inflation (average):
  - Baseline (2013–2018): 2013 7.7; 2014 6.5; 2015 6.0; 2016 6.0; 2017 6.0; 2018 6.0
  - Active policies (2013–2018): 2013 7.7; 2014 5.0; 2015 4.0; 2016 4.0; 2017 4.0; 2018 4.0
- GDP growth (percent):
  - Baseline (2013–2018): 2013 3.8; 2014 3.5; 2015 4.3; 2016 4.4; 2017 4.5; 2018 4.5
  - Active policies (2013–2018): 2013 3.8; 2014 2.2; 2015 3.6; 2016 4.0; 2017 4.1; 2018 4.1
- Staff conclusion:
  - Active scenario could reduce the current account deficit by 2¾ percent of GDP by the end of the projection period relative to the baseline and reduce gross financing needs by some 6 percent of GDP.
  - Gains from slightly slower growth but less risk of a sudden stop would far outweigh the costs; structural reforms would complement macro policies to boost growth in outer years.

### Public debt sustainability (ANNEX I) — key numeric findings
- Public debt level and outlook:
  - At close to 35 percent of GDP, Turkey’s public debt ratio is well below its historical ten-year average.
  - Staff forecast debt-to-GDP ratio will decline to 31.6 percent in 2018—down by 8.4pp since end-2008.
- Gross financing needs and vulnerability:
  - Staff projects gross financing needs will be 10.4 percent of GDP in 2013 and reach 11.4 percent at the end of the projection period.
  - Debt dynamics are sensitive primarily to lower GDP growth rates.
- Baseline nominal gross public debt (selected years):
  - 2011: 52.1; 2012: 39.1; 2013: 36.2; 2014: 35.4; 2015: 34.4; 2016: 33.2; 2017: 32.6; 2018: 31.6
- Stress-test outcomes (selected):
  - Growth shock (4.6pp reduction for 2 years): debt-to-GDP rises to about 43 percent during the shock and stabilizes around 39 percent by end of period; gross financing needs climb toward 15 percent of GDP at the end of period.
  - Combined shock: would increase debt to around 45 percent of GDP.
- Debt profile:
  - Average maturity just under 5 years; 60 percent share of fixed interest debt; 30 percent denominated in foreign currency; 30 percent of marketable debt held by non-residents.
  - A 100 basis points shock to the yield curve raises interest bill by 0.1 percent of GDP; a 5 percent real exchange rate shock impacts gross public debt by 0.5 pp.

### External debt sustainability (ANNEX II) — key numeric findings
- Baseline and projections:
  - Gross external debt projected to rise to 50 percent of GDP by 2018.
  - Baseline external debt (percent of GDP): 2008 38.5; 2009 43.8; 2010 39.9; 2011 39.3; 2012 42.8; 2013 46.4; 2014 47.7; 2015 47.9; 2016 48.1; 2017 49.2; 2018 50.3.
- Liquidity and rollover risks:
  - Annual gross external financing needs are large at 25 percent of GDP and forecast to remain elevated over the medium term.
  - Share of short-term debt at 34 percent of total has almost doubled since end-2009; financial institutions account for roughly 70 percent of short-term borrowings.
- Vulnerability to exchange rate shocks:
  - A one-time depreciation of 30 percent would cause the external debt stock to rise above 70 percent of GDP.
- Key projections and ratios:
  - External debt-to-exports ratio (percent): 158.1; 185.2; 185.8; 165.4; 163.3; 176.3; 179.0; 188.3; 197.9; 210.2; 222.7 (2008–2018).
  - Gross external financing need (billions of US dollars): 124.7; 112.0; 140.6; 193.1; 172.0; 208.3; 238.5; 255.4; 281.3; 315.2; 352.5 (2008–2018).

### IMF executive and Directors’ observations (summary)
- 2012: welcomed reduction of imbalances; 2013: acceleration in growth due to monetary and fiscal stimulus with renewed deterioration in inflation and the current account.
- Recommendations emphasized by Directors:
  - Tighten macroeconomic policies and step up structural reforms to strengthen external performance and bolster growth.
  - Normalize monetary policy framework to improve communications and transmission.
  - Tighter fiscal policy to reduce external vulnerabilities and relieve pressure on monetary policy; contain current spending and save revenue overperformance.
  - Targeted macro-prudential measures for household credit and corporate FX lending; address AML/CFT deficiencies noted by FATF.
  - Raise private and public saving and step up structural reforms to attract FDI and enhance competitiveness.

*Source: Turkey — International Monetary Fund, November 1, 2013.*

### 0.7 percent of GDP structural improvement.

### _cr13363 - 0.7 percent of GDP structural improvement.

### Key findings and diagnostics
- Turkey achieved a welcome reduction of imbalances in 2012, with growth slowing to 2.2 percent and the current account deficit narrowing to 6.1 percent of GDP. Inflation decelerated to 6.2 percent at end-2012 versus 10.4 percent a year earlier.  
- Much of the 2012 rebalancing was cyclical: staff estimates about three quarters of the current account adjustment was due to a cyclical compression in imports, and large net gold exports were a one-off factor (gold surplus in excess of US$10 billion).  
- Staff assesses the current account deficit remains 1½−3 percent of GDP higher than warranted by fundamentals and optimal policy settings; estimated exchange rate misalignment is 10–20 percent even after the recent depreciation.  
- With current policies, staff projects the current account deficit to remain in the 7−8½ percent of GDP range, implying gross external financing requirements exceeding 25 percent of GDP per year.  
- The net foreign asset position has deteriorated by about 25 percentage points of GDP since 2008 and is expected to continue worsening on current policies.  
- Recent developments in 2013: GDP grew by 1.5 and 2.1 percent q-o-q (seasonally adjusted, non-annualized) in Q1 and Q2; growth for the first half of 2013 was 3.7 percent y-o-y. Credit growth reached peaks of close to 40 percent in annualized terms in mid year. Nominal primary spending grew at more than 15 percent y-o-y for most of the last twelve months. Inflation reached 7.9 percent y-o-y in September 2013; core inflation measures accelerated to about 7½ percent.  
- External financing composition and market pressure in 2013: year-to-date current account deficit reached US$44.3 billion versus US$35.4 billion over the same period last year. The deficit is financed mostly by short term flows, with very little contribution of FDI so far in 2013 and a significant increase in portfolio inflows. Government benchmark bond rate increased by some 300 basis points since May; the exchange rate depreciated by more than 10 percent against the euro-dollar basket; stock prices fell by close to 20 percent. The CBRT intervened in FX markets via auctions by about US$11.5 billion (more than 15 percent of net international reserves).  
- Buffer assessment:  
  - Households: net financial asset position about 20 percent of GDP; household debt rose from less than 30 percent of disposable income in 2006 to 50 percent now; average household debt maturity 4.1 years implying principal payments of about 20 percent of disposable income; households have no FX loan exposure (banks not allowed to lend to them in foreign currency).  
  - Public sector: government debt 35 percent of GDP; one third of public debt carries FX risk. Debt sustainability does not represent a risk on current policies. External financing risk is the most notable public debt vulnerability.  
  - Non-financial corporates: widening short FX position jumped from US$78 billion in 2008 to US$165 billion; vast majority of this short FX position is long term; only slightly more than half of corporates' FX liabilities are vis-à-vis domestic banking system. FX loans restricted by regulation to large corporates or firms with FX receipts.  
  - Banks: loan-to-deposit ratio increased from 76 percent in 2009 to around 110 percent; capital adequacy ratio 16 percent; liquid FX assets cover more than 100 percent of banks’ short term FX liabilities; small on-balance sheet FX exposure about US$20 billion fully closed via swaps.  
  - Foreign reserves: gross reserves US$130 billion, about 115 percent of the Fund’s metric versus 98 percent at end-2011; net reserves about US$50 billion. The increase in gross reserves is substantially influenced by the reserve option mechanism (ROM).

### Outlook and scenarios
- Short-term growth projection: staff expects growth to reach 3.8 percent in 2013 and 3.5 percent in 2014. Domestic demand is projected to lead growth in both 2013 and 2014. Domestic demand growth for 2013 projected at 4.8 percent; net export contribution for 2013 projected to swing to -1 percentage points from 2012’s exceptional 4.1.  
- External and inflation outlook on current policies: current account deficit forecast to increase from 6.1 percent of GDP in 2012 to 7.4 percent in 2013 and 7.2 percent in 2014. Staff expects inflation of 8 percent at year end 2013 (7.7 percent average inflation) and not returning to the 5 percent target in 2014 on current policies. Gross external financing needs projected in excess of 25 percent of GDP annually.  
- Medium-term baseline: on current policies, baseline projects gradual convergence towards 4½ percent growth rates consistent with historical trend growth, but would entail widening current account deficits reaching 8¼ percent of GDP in 2018 given present savings levels—associated with increasing vulnerability to capital flow weakening or reversal.  
- Sudden stop scenario: a sharper and more sustained reversal of inflows than seen in recent months would require a large compression in absorption to close the external deficit, leading to negative GDP growth and a much less benign growth path than baseline.

### Policy recommendations (short and medium term)
- Short-term policy stance: there is room for policy action in case of downside risks, but discretionary stimulus should be applied only if growth is expected to turn negative.  
- Monetary and fiscal policy guidance: set monetary policy consistent with the inflation target and tighten fiscal policy to build buffers against potential shocks while creating space for monetary policy maneuver. Monetary policy should strike a balance between supporting domestic growth and maintaining foreign investor demand. Exchange rate flexibility should help buffer BOP pressures, with interventions limited to avoiding excessive overshooting.  
- Macro-prudential and contingency measures: monitor vulnerabilities in the banking and corporate sectors; use macro-prudential measures to ease excessive credit impact; develop contingency plans in case of capital flow reversal.  
- Structural and medium-term fiscal policy: increasing national savings and improving competitiveness are central to addressing vulnerabilities. Ambitious medium-term fiscal targets consistent with a 2 percent of GDP consolidation over the next five years and deepened structural reforms are needed. Accelerate structural reforms to increase productivity and competitiveness; reassess fiscal policy in light of medium-term impacts of slower growth on the fiscal structural position.

### Traction of past Fund advice and policy divergence
- Authorities actions aligned with Fund advice: authorities share staff’s view on the need to raise savings, reflected in the 2014 Medium-Term Plan and their 10th development plan. They introduced macro-prudential measures to address growing household leverage in line with Fund advice, and more measures are under consideration.  
- Areas of divergence: authorities have a more benign view of external vulnerabilities and therefore monetary and fiscal policies are looser than staff recommends. Authorities concur that lowering inflation is a key objective but believe their monetary framework serves them well and intend to continue normalization of the policy framework.

*Source: Turkey — International Monetary Fund, November 1, 2013.*

### Box 2. Medium-Term Program, 2014–16

### Box 2. Medium-Term Program, 2014–16

### Macroeconomic assumptions and comparison with staff
- Authorities’ MTP shifts the growth trajectory downwards by 1 percentage point in 2014 and revises inflation up for 2013–14.
- Authorities expect the current account deficit to decline to 5½ percent of GDP by 2016, attributing the decline to:
  - higher domestic savings, stimulated through structural and macro-prudential measures;
  - increasing energy efficiency; and
  - lower gold imports.
- Key contrasts between the MTP and staff projections:
  - Growth: authorities assume GDP growth of 4–5 percent in 2014–16 versus staff’s 3½–4½ percent.
  - Inflation: authorities project inflation to fall rapidly and converge close to the central bank’s 5 percent target; staff do not expect the target to be reached.
  - Current account: authorities see the current account deficit narrowing despite an acceleration in growth; staff expect the deficit to widen.

### Fiscal projections and differences
- The new MTP envisages a slightly more ambitious path for the public sector primary surplus than its predecessor, while allowing spending pressures to move with higher expected revenues.
- Changes relative to last year’s MTP:
  - Primary spending will increase by ½ percent of GDP, on account of higher capital spending.
  - For 2014, the new MTP envisages a decline in primary spending of 0.4 percent explained by the unwinding of the previous year’s increase in capital expenditures, whereas current spending continues its upward trend.
- Staff versus authorities on central government primary balance by 2016:
  - Authorities expect the central government’s primary surplus to reach 1.0 percent of GDP by 2016.
  - Staff forecast a central government primary deficit of 0.1 percent of GDP by 2016.
- Source of discrepancy: about two thirds of the difference are on the spending side, with revenues accounting for the rest. Staff assume a more modest decline in current spending as a share of GDP and see risks to the assumed compression in capital spending in 2014.

### Key statistics and numeric projections (as presented)
- Current account deficit target (authorities): 5½ percent of GDP by 2016.
- Authorities’ medium-term GDP growth: 4–5 percent (2014–16).
- Staff medium-term GDP growth: 3½–4½ percent (2014–16).
- Central government primary balance (authorities, 2016): 1.0 percent of GDP.
- Central government primary balance (staff, 2016): -0.1 percent of GDP.
- Change in primary spending relative to last year’s MTP: +½ percent of GDP.
- Primary spending decline envisaged for 2014 in new MTP: 0.4 percent.
- Turkey’s net foreign asset position: close to -50 percent of GDP.
- FX lending to non-financial corporates has grown much faster than exports over the last three years.
- Credit growth: about 25 percent (recent); exceeded 30 percent on average over the last three years in another assessment.
- ROM accumulations since early 2012: some US$35 billion in gross reserves.

### External imbalances and risks
- External imbalances remain a priority to address quickly; stock imbalances worsen and balance sheets become more stretched each year imbalances persist.
- A growing vulnerability: FX lending of banks to non-financial corporates has grown much faster than exports over the last three years.
- A deterioration in net foreign assets (close to -50 percent of GDP) increases the probability that a sharp economic adjustment could lead to systemic distress.
- If capital flows weaken and the risk premium rises, investment and GDP could slow significantly.

### Authorities’ views
- Authorities broadly share staff’s views on the outlook for 2013 and 2014 but disagree on medium-term forecasts.
- Authorities’ convictions and arguments:
  - Turkey can grow at 4−5 percent in the medium term and still reduce the current account deficit.
  - Staff underestimates the cyclical component of the current account deficit tied to slow growth in Europe.
  - Excluding gold, they expect the current account deficit to decline this year despite close to 4 percent growth.
  - They view the exchange rate as close to equilibrium.
  - After the Federal Reserve announced a delay in tapering, odds of a market-led adjustment receded considerably.
  - In the event of a reversal in flows, they see the private sector as fully capable of absorbing the shock and recovering quickly as in 2008–09.
  - They emphasize banks are very well capitalized and have no open FX position.
  - On corporate FX liabilities: increase acknowledged, but comfort taken from long maturity and natural or financial hedges and/or very strong balance sheets.
  - They concur that ROM cannot cover all balance of payments shortfalls and agreed that regular interventions had been needed to provide liquidity as a result of weaker BOP financing; they also noted they are accumulating net reserves via the export/import bank.

### Policy discussions — Monetary policy stance and recommendations
- Staff view:
  - Current stance is not consistent with the inflation target and needs tightening.
  - Policy rates and corridor (levels cited):
    - Top end of the corridor: 7.75 percent.
    - Main policy rate (one-week repo): 4.5 percent.
    - De facto average rate at which the central bank is providing liquidity: about 6−6½ percent.
  - With inflation close to 8 percent and inflation expectations for end year above 7 percent, policy rates are negative in real terms.
  - Staff recommended:
    - A one step increase of 250bps in the main policy rate (the one-week repo) to reach positive real levels, with systematic provision of liquidity at this policy rate.
    - Narrowing the interest rate corridor (equivalent to about 100–150 bps tightening relative to current levels) to improve signaling.
    - Limiting foreign exchange intervention to addressing excessive exchange rate volatility; FX intervention cannot substitute for the right monetary stance.
  - Call for normalization toward a more orthodox framework: narrower corridor, consistent provision of liquidity at the main policy rate, clearer focus on inflation, while complementing interest rate policy with macro and micro-prudential measures.

- Criticisms of the current CBRT framework (staff):
  - Complexity: wide interest rate corridor (425 basis points at present), variable cost of liquidity, ad-hoc provision of liquidity at higher overnight repo rate, and the reserve option mechanism (ROM).
  - Multiple objectives beyond inflation (financial stability and growth) have contributed to:
    - Repeated misses of the inflation target.
    - Hampered communications with market participants.
    - Weakened monetary transmission (short-end affected more than long-end).
    - Insufficient prevention of significant increase in private sector leverage.
  - ROM limitations: ROM boosts gross reserves but is not a substitute for net international reserves; during 2013 stress the CBRT had to use net reserves.

### Box 3 — Reserve Option Mechanism (ROM) specifics and assessment
- ROM features:
  - Allows commercial banks to meet reserve requirements on lira‑denominated liabilities by using foreign exchange and gold.
  - Conversion happens at the market exchange rate multiplied by an increasing penalty parameter, the Reserve Option Coefficient (ROC).
  - Current limits: banks can convert up to 60 percent of their reserve requirements into FX with ROCs ranging from 1.4 to 2.8 and up to 30 percent into gold with ROCs ranging from 1.4 to 2.5.
- Intended ROM benefits:
  - Limit exchange rate fluctuations; limit conversion of FX inflows into bank lending; incentivize banks to accumulate FX buffers.
  - Lower counterparty risk by swapping FX with the central bank rather than private banks.
  - Boost gross reserves (though ROM-part reserves are not under CBRT’s full control).
- ROM performance and limitations:
  - ROM worked during inflows but did not sufficiently help when inflows weakened in summer of 2013.
  - Release of FX held in ROM was limited when outflows were driven by money, government debt, and equity market outflows.
  - Sales from ROM would have opened short FX positions for banks, restricted by regulations.
  - ROM is not a perfect substitute for net international reserves for balance of payments needs; in times of heightened pressures increased costs of TL liquidity likely limit release of FX; communication of ROM mechanics has proved challenging.

*Source: Turkish Aurthorities.*

### 20.      The authorities are on track to meet their 2013 budget targets, despite rapid spending

### 20.      The authorities are on track to meet their 2013 budget targets, despite rapid spending growth.

### Fiscal outlook and recent performance (2013)
- Central government primary surplus target: 0.5 percent of GDP (budgeted for 2013); performance to August is consistent with this target.
- Nominal central government revenues: grew 17 percent y-o-y in the year to August (compared with 9 percent growth last year).
- Privatization revenues and repayments of tax arrears by public companies have already exceeded the full year targets.
- Primary spending growth: 15 percent in the year to August versus a full year budget target of 11 percent.
- Note: Privatization revenues are below the line and not accounted in the fiscal balances quoted above; Turkish law allows excess privatization revenues to be spent freely and they are financing sources for additional spending.

### Staff assessment (2013 stance and near-term)
- Structural primary balance: expected deterioration of ½ percent of GDP in 2013 relative to baseline; staff view this and high nominal spending growth as indicative of an expansionary stance.
- Macroeconomic context cited by staff:
  - First half annualized GDP growth: more than 7 percent.
  - Inflation: 8 percent.
  - Current account deficit: characterized as high.
- Staff recommendations for remainder of 2013:
  - Contain expenditure in the last four months of the year to avoid further overruns.
  - Save any additional one-off revenues rather than use them to add to primary spending.

### Fiscal policy recommendations for 2014 and medium term
- 2014 recommendation:
  - Target central government expenditure ratio of 22 percent of GDP as contemplated in the 2013–15 medium-term plan.
  - Save any revenue over-performance.
  - Achieve a structural tightening of ¾ percent of GDP compared to the baseline.
- Rationale: appropriate given very high current account deficit and to relieve pressure on monetary policy.
- Constraints noted:
  - Rapidly growing non-discretionary primary spending increased its share in total spending from 47 percent before the crisis to almost 60 percent now.
  - Staff recommended focusing fiscal effort on containing primary discretionary expenditure growth, notably current spending.
- Neutral nominal spending benchmark (staff view):
  - Given potential growth of around 4 percent and the central bank’s inflation target of 5 percent, nominal spending growth of around 9 percent would be about “neutral” and consistent with the primary surplus target advocated by staff.

### Role of discretionary fiscal stimulus
- Staff view:
  - Discretionary fiscal stimulus should be reserved for scenarios where growth is expected to turn negative.
  - For a moderate slowdown, respond primarily with automatic stabilizers given the large current account deficit and inflation well above target.
  - Past precedent: authorities used discretionary stimulus during 2008–09; room exists for discretionary stimulus if growth were projected to turn negative due to low public deficits and debt.

### Authorities’ views on fiscal matters
- Authorities believe 2013 headline budget targets will be met or exceeded but acknowledge that expenditure overruns will occur.
- For 2014, they agreed on the need to respect the primary surplus target in the 2013–15 medium-term plan and that this should be achieved primarily via expenditure restraint.
- They see less scope for adjustment at the central government than staff recommend, but expect some room for gains outside central government.
- On rising non-discretionary primary spending, authorities note this was allowed for by a permanent decline in debt service costs due to past fiscal efforts; some wage-bill increases reflect hiring of additional teachers to reform education.

### Financial sector performance and risks
- Non-performing loan (NPL) ratio: about 3 percent; including loans restructured before becoming non-performing, the ratio of “problem” loans reaches around 2.84 percent of total loans.
- Bank profitability (first half of year): net interest margins remain at 4 percent; return on equity close to 17 percent.
- On-balance sheet open FX position of banks: slightly below US$20 billion or 2½ percent of GDP, hedged off-balance sheet through swaps.
- Banks’ FX lending to non-financial corporates: increased to some US$130 billion from about US$40 billion in mid-2008.
  - Large corporations account for 84 percent of total FX loans by banks.
  - Sector concentration: energy sector accounts for 15 percent of the total; no other sector accounts for more than 10 percent.
- FX-indexed loans: some US$25 billion in FX indexed loans not subject to the same regulations, though they carry similar risks.

### Capital, liquidity, and stress test metrics
- Capital adequacy ratio (system, Basel 2.5 definition): 16 percent; capital is almost entirely tier 1.
- Liquidity adequacy ratios: liquid assets cover more than 100 percent of short-term liabilities (one week or one month maturity, total or FX only) under conservative assumptions about deposits “at risk of flight.”
- Regulator stress tests: under large GDP shocks the system’s CAR would remain above 12 percent, with no bank falling under 8 percent.
- Staff recommendation: further elaborate regulator models, especially on transmission from GDP shocks into unemployment, credit growth, exchange rate, and from there to NPLs; calibrate macro and satellite models regarding unemployment and exchange rate movements.

### Box 5 — Foreign exchange exposure in the non-financial corporate sector (key figures)
- Non-financial corporate FX liabilities (as of June 2013): US$251 billion.
- Non-financial corporate FX assets: US$87 billion.
- Net FX position: US$164 billion.
- Net position mid-2008: US$78 billion (implying about 50 percent increase in liabilities since mid-2008).
- Exports growth in US dollar terms since mid-2008: increased by 17 percent.
- Domestic banks provide US$130 billion in FX loans, representing some 52 percent of total FX liabilities of non-financial corporates (compared to 23 percent in mid-2008).
- External parties' nominal exposure scaled back by US$16 billion (-17 percent) over the same period.
- Corporate FX deposits: total around US$60 billion; share held in domestic banking system increased to two-thirds, up from some 42 percent in 2008.
- Data gaps: aggregate data on corporate hedges and FX collateral are not readily available; staff emphasized need to fill these gaps.

### Macro-prudential recommendations and policy stance
- Suggested measures to address corporate FX vulnerability:
  - Consider raising risk weights and provisioning on FX loans to non-financial corporates.
  - Aggregate and, ideally, publish data on export receipts, financial hedges, and FX collateral underpinning FX loans.
  - Subject FX indexed lending to the same prudential measures as FX lending.
- Household leverage and consumer credit:
  - While households are not very leveraged relative to peers, debt-to-income ratios have grown rapidly.
  - Staff welcomed the measure linking clients’ income to credit card limits; suggested extending this to general purpose loans.
  - Recommended a general consumer debt-to-income limit as a prudential requirement (currently limits exist internally across banks but are not uniform or enforceable).
- Use of macro-prudential policies:
  - Staff argued macro-prudential tools should be used primarily to guarantee financial stability, not to stimulate specific credit segments absent microeconomic distortions.
  - Cautioned they should not substitute for proper monetary and fiscal stance.
- FATF/CFT concerns:
  - Turkey remains on the FATF list of jurisdictions that have not made sufficient progress to address strategic deficiencies in AML/CFT frameworks, leading to heightened due diligence from foreign financial institutions.
  - Turkey strengthened its CFT legal framework earlier in the year, but FATF considers certain concerns remain and need addressing.

### Medium-term policies: savings, growth, and fiscal role
- National saving rate: at a low of 15 percent of GDP.
- Correlation between GDP growth and capital flows in Turkey: about 80 percent (0.8), much higher than in peer countries.
- Historical trend growth: around 4 percent; staff estimate the rate of growth consistent with a stable current account is around 2¾−3½ percent.
  - Every year growth exceeds this ±3 percent speed limit by one percentage point, the current account deteriorates by 0.3−0.4 percent of GDP (staff regression result).
- Staff fiscal recommendation for medium term:
  - Target a primary surplus of around 2 percent of GDP in the medium term (akin to targeting a 1 percent of GDP structural primary surplus by 2018), about 2 percent more than under current policies baseline.
  - Propose the 2014 MTP (2014–16) target a central government primary balance of 1.2 percent of GDP by 2016 (consistent with an increase in the structural primary balance relative to baseline of 1.1 of GDP over three years).
- Authorities’ recent measures: reform of the private pension system noted as bringing new savers into the system; staff consider this insufficient alone to close the savings gap.

*International Monetary Fund staff summary extracted from the cited PDF content.*

### 35.      Tighter monetary and fiscal policies, as recommended by staff, would deliver a

### _cr13363 - 35.      Tighter monetary and fiscal policies, as recommended by staff, would deliver a

### Effects of tighter monetary and fiscal policies (staff recommendation)
- Tighter monetary stance and fiscal adjustment would reduce imbalances; could have costs in terms of growth but would lower the current account deficit and associated external financing needs.
- In the active scenario:
  - The current account deficit could be reduced by 2¾ percent of GDP by the end of the projection period relative to the baseline.
  - Gross financing needs could be some 6 percent of GDP lower.
  - Reduction in external imbalance plus commitment to strong policies could materially reduce the probability of an abrupt, market-led adjustment.
- Staff view: gains from slightly slower growth but with less risk of a sudden stop would far outweigh the costs.
- Structural reforms could complement macro policies to boost growth in the outer years.

### Turkey: Comparison of Baseline and Active Policies' Scenarios (selected series)
- 1/ The active scenario is predicated on a 2 percent of GDP structural fiscal adjustment spread over five years, and an immediate (i.e., Jan 2014 for the purpose of the scenario) monetary tightening equivalent to 150 basis points. The fundamental assumptions are: (i) the fiscal multiplier is 1; (ii) the impact of a 100 basis points monetary tightening is a contraction of 0.6 percent of GDP at peak, dissipating after two years; (iii) a 1 percentage point reduction in growth is associated with a reduction in the current account deficit of 0.4 percent of GDP; (iv) the Ricardian offset of fiscal policy is 0.5; and (v) the elasticity of the current account to the REER is set at 0.15.
- Central government primary balance (percent of GDP)
  - Baseline: 2013 0.5; 2014 0.1; 2015 0.0; 2016 -0.1; 2017 -0.2; 2018 -0.3
  - Active policies: 2013 0.5; 2014 0.8; 2015 1.1; 2016 1.4; 2017 1.6; 2018 1.8
- Current account deficit (percent of GDP)
  - Baseline: 2013 7.4; 2014 7.2; 2015 7.4; 2016 7.7; 2017 7.9; 2018 8.3
  - Active policies: 2013 7.4; 2014 6.5; 2015 6.2; 2016 6.1; 2017 5.8; 2018 5.6
- Gross external financing needs (percent of GDP)
  - Baseline: 2013 25.3; 2014 27.5; 2015 26.4; 2016 26.9; 2017 27.8; 2018 29.5
  - Active policies: 2013 25.3; 2014 27.4; 2015 25.6; 2016 24.9; 2017 24.1; 2018 23.6
- REER (year average)
  - Baseline: 2013 115.0; 2014 112.1; 2015 116.2; 2016 120.3; 2017 124.5; 2018 128.8
  - Active policies: 2013 115.0; 2014 110.4; 2015 112.1; 2016 113.7; 2017 115.2; 2018 116.6
- CPI inflation (average)
  - Baseline: 2013 7.7; 2014 6.5; 2015 6.0; 2016 6.0; 2017 6.0; 2018 6.0
  - Active policies: 2013 7.7; 2014 5.0; 2015 4.0; 2016 4.0; 2017 4.0; 2018 4.0
- GDP growth (percent)
  - Baseline: 2013 3.8; 2014 3.5; 2015 4.3; 2016 4.4; 2017 4.5; 2018 4.5
  - Active policies: 2013 3.8; 2014 2.2; 2015 3.6; 2016 4.0; 2017 4.1; 2018 4.1
- Source: IMF staff calculations.

### Budget rigidities and public savings (Box 7 — findings and policy implications)
- Findings:
  - Interest spending declined by more than 2 percent of GDP relative to the 2005–07 average, but total spending increased by some ¾ percentage points of GDP because of non-discretionary primary spending items such as salaries and pensions.
  - Non-discretionary primary spending items now account for close to 60 percent of total spending compared to 47 percent five years ago.
  - From 2005 to 2012, central government primary spending increased by 4.4 percent of GDP.
  - The decrease in interest payments over the same period was almost 3.6 percent of GDP.
  - Salaries increased from 23 percent to almost 28 percent of spending.
  - 75 percent of central government revenues are directly linked to domestic demand and import growth.
  - Informal sector estimates: informal sector now accounts for a quarter of GDP, some 7 percentage points lower than ten years ago.
  - FDI flow in 2012: 1.6 percent of GDP (Box 8 also reports this figure).
- Undesirable consequences of rising non-discretionary spending:
  - Squeezed investment spending, which until this year remained below 3 percent of GDP.
  - Makes a 2 percent consolidation spread over five years difficult, requiring very low nominal growth in discretionary spending, particularly personnel costs.
  - Limits fiscal policy room to respond quickly to shocks.
- Policy recommendations / options (based on international best practice):
  - Gradually move to a more binding medium-term spending ceilings.
  - Introduce mechanism to adjust for past deviations.
  - Save over-performance in revenues.
  - Report a detailed reconciliation between budget realizations and MTP spending.
  - Sustain efforts to address the informal sector (e.g., plans to double the number of tax inspectors; proposed PIT/CIT reform to simplify and harmonize income taxation, broaden the income tax base, and improve progressivity).
  - Labor market reforms to facilitate part-time and temporary labor, reduce high cost of pension and severance premia relative to part-time wages.

### Competitiveness challenges (Box 8 — findings and priorities)
- Key indicators pointing to competitiveness challenge:
  - Low inward FDI stock at slightly more than 20 percent of GDP.
  - Limited export sophistication: about 75 percent of exports are concentrated in agriculture and low- and medium-tech manufacturing.
  - Fast wage growth.
  - Current account on trend: average deficit of 4.7 percent of GDP since 2002.
  - 2012 current account deficit: 6.1 percent of GDP; expected to widen to 7.4 percent of GDP in 2013.
  - IMF EBA (end-2012 outturns) assessment: current account deficit 4 percentage points of GDP higher than levels suggested by fundamentals; REER overvaluation of 20-30 percent. Alternative view: a 10-20 percent REER overvaluation based on a current account gap in the range of 1½– 3 percentage points of GDP.
  - 2012 FDI flow: 1.6 percent of GDP versus G-20 emerging-market peers average 2.2 percent of GDP.
  - Share of FDI in tradable sectors increased to 55 percent in 2012 from 50 percent in the previous year.
- Structural measures and priorities:
  - Attracting FDI: address slow and inconsistent judiciary, cumbersome licensing and regulations, costly tax policy and administration, and high wage costs.
  - Reducing energy dependence: privatizations of energy distribution, encouragement of renewables, tender for a second nuclear plant — medium-term gains expected.
  - Raise domestic savings and boost exports’ short-term price competitiveness.
  - Over the medium term: sustained productivity gains via increasing technical capacity of the workforce, encouraging investment, and improving labor market functioning.
  - Recent measures: investment incentive scheme and education reform noted as positive steps.

### Authorities’ views and staff appraisal
- Authorities:
  - Believe staff underestimates Turkey’s capacity to adjust and maintain high growth while reducing external imbalances.
  - Gauge Turkey’s competitiveness gap to be smaller: current account deficit about 1 percent above its sustainable norm; REER close to equilibrium.
  - Committed to tackling low savings: reform of private pension scheme attracted many entrants; 10th National Development Plan addresses energy dependence, labor force participation, labor market flexibility, and informality.
- Staff appraisal (summary):
  - Authorities’ policies delivered a welcome rebalancing in 2012 while maintaining low unemployment; set stage for acceleration in 2013.
  - Rebound in 2013 led by private consumption and public investment driven by policy stimuli since second half of 2012.
  - Full year growth expected at 3.8 percent for 2013; under current macroeconomic policies next year’s growth forecast at 3½ percent.
  - Domestic demand-led recovery exerts upward pressures on the current account deficit and inflation.
  - Current account deficit projected to widen to above 7 percent of GDP in 2013 (in part due to gold imports) and likely to stay close to that level next year.
  - Inflation trends and currency depreciation likely to result in inflation again above the central bank’s target of 5 percent both this and next year.

*Source: IMF staff calculations.*

### 41.      The authorities’ immediate priority should be to reduce imbalances. The market

### _cr13363 - 41.      The authorities’ immediate priority should be to reduce imbalances. The market

### Immediate priority and external vulnerability
- The authorities’ immediate priority should be to reduce imbalances.
- The market reappraisal of advanced economies’ monetary policies has exposed Turkey’s main vulnerability—its sizable external imbalance.
- Recent portfolio rebalancing has led to a re-pricing of Turkish assets and caused lira depreciation.
- With gross external financing needs projected to remain high over the next few years, a weakening or a reversal of capital flows presents a major challenge for the Turkish economy.
- Policies need to focus on mitigation of these risks.

### Monetary stance and framework
- Monetary stance needs to be tightened to be consistent with the inflation target.
  - Rationale: High credit growth, inflation (both headline and core) well above the end-year target of 5 percent, and the high and widening current account deficit warrant positive real policy rates, in particular the one week repo rate.
  - Without positive real policy rates it would be hard to bring inflation and expectations in line with the authorities’ target, and to establish a strong nominal anchor.
- The CBRT should re-consider its monetary policy framework.
  - The current framework might not be helping to deliver the authorities’ inflation target and may have weakened the monetary transmission mechanism.
  - The framework is complex and has too many objectives, complicating communication and being increasingly questioned by markets in a more unforgiving external environment.
  - Normalizing the framework would boost policy credibility and simplify communication.

### Foreign-exchange intervention and reserves
- Authorities should use sales of foreign exchange reserves only to address excessive volatility.
  - Foreign exchange rate interventions cannot substitute for the right monetary stance.
  - This approach would preserve limited net foreign exchange reserves.
  - Net reserves should be increased through sterilized intervention if inflows resume.

### Fiscal stance, targets, and budget structure
- Authorities are on track to meet the fiscal targets for 2013, but the fiscal stance is expansionary and should be reined in.
  - Revenue performance year-to-date has been strong, with some help from one-off effects.
  - The authorities are broadly on track to meet their 2013 budget deficit target, further reducing public debt from already modest levels.
  - Buoyant revenues have allowed large nominal expenditure increases; the government will exceed the approved 2013 budget expenditure ceilings, notably due to investment spending.
- Fiscal policy has a critical role to play in reducing external vulnerabilities.
  - The 2014 budget should target the primary spending levels set by the government in the 2013–15 medium-term fiscal plan and save any revenue over-performance.
  - This policy objective—which implies a 0.7 percent of GDP improvement of the structural deficit—would make a critical contribution to the envisaged gradual reduction of Turkey’s macroeconomic imbalances and reassure markets that fiscal discipline is intact.
- Revisit budget structure to prevent increasing rigidity.
  - Non-discretionary primary spending has been allowed to grow to more than half of total expenditure, limiting the ability to target priority areas and reducing flexibility over time.
  - Containing current expenditure would increase room for public investment and create buffers enabling fiscal policy to better respond to unexpected adverse shocks.
  - Ongoing efforts to broaden the tax base and improve tax administration will further enhance the structure and resilience of the budget.

### Financial sector soundness and prudential measures
- The Turkish financial system continues to perform well, although risks remain.
  - Banks’ leverage and the level of non-performing loans are low relative to peers; capital adequacy ratios remain high; loans are largely funded by deposits; and open FX positions are not large.
  - Risks are being taken in this period of rapid credit expansion, so continued careful monitoring is needed.
  - More attention to FX credit to corporate clients is warranted, as FX-induced liquidity or solvency problems in the corporate sector can quickly lead to rising non_performing loans.
  - Monitoring the amounts and structure of FX funding of the sector remains important given the current external environment.
- Prudential policies should be targeted at household credit and corporate FX lending segments.
  - Data gaps with respect to all aspects of FX lending to the non-financial corporate sector need to be addressed.
  - Consider increasing risk weights or reserve requirements for FX loans to corporates.
  - Prudential regulations on FX-indexed lending should be brought in line with regulation of FX loans.
  - In the rapidly growing household credit segment, the measure to link clients’ credit cards exposure limits to income is welcome and could be extended to general purpose consumer loans.
  - In the absence of microeconomic distortions, use of prudential policies to stimulate credit to specific sectors is not warranted.

### Medium-term growth, savings, and structural reform
- The medium-term challenge is to boost growth without increasing imbalances.
  - It will be difficult for Turkey to sustain an average growth of 4 to 5 percent per year while continuing to accumulate large external liabilities year after year.
  - The present low level of domestic savings implies that investment is determined by the availability of volatile external inflows.
  - Without structural reforms, growth would have to be below the historical trend to avoid increases in external imbalances and accompanying bouts of instability.
- Authorities have correctly identified the need to increase domestic savings.
  - Last year’s private sector pension reform has started to bear some results.
  - The public sector must also lead the way with a sizeable contribution to raise savings.
  - The 1¼ percent of GDP increase in public savings envisioned in the 10th development plan is commendable.
  - Authorities are encouraged to target over the medium-term a more ambitious primary surplus in line with levels observed before the onset of the global financial crisis.
- Structural reform priorities to boost competitiveness and growth:
  - Further improvements in the business climate to attract more foreign direct investment.
  - Increase educational outcomes to boost productivity.
  - Reduce energy dependence further to decrease the energy import bill, which represents a significant part of Turkey’s trade deficit.
  - Sustain efforts to address the large informal sector.
  - Implement reforms to improve the functioning of the labor market to boost productivity and employment.

*IMF staff analysis as presented in the content unit*

### 53.      It is recommended that the next Article IV Consultation with Turkey be held on the

### It is recommended that the next Article IV Consultation with Turkey be held on the standard 12-month cycle.

### Real sector: growth, inflation, labor
- Population (2012): 74.9 million
- Per capita GDP (2012): $10,527
- Real GDP growth rate by year (2008–2014): 0.7; -4.8; 9.2; 8.8; 2.2; 3.8; 3.5
- Contributions to GDP growth (selected): Private domestic demand (2008–2014): -1.8; -8.3; 12.6; 9.5; -2.9; 3.3; 2.7
- GDP deflator growth rate (2008–2014): 12.0; 5.3; 5.7; 8.6; 6.8; 6.9; 6.9
- Nominal GDP growth rate (2008–2014): 12.7; 0.2; 15.4; 18.1; 9.1; 11.0; 10.6
- CPI inflation (12-month; end-of period) (2008–2014): 10.1; 6.5; 6.4; 10.4; 6.2; 8.0; 6.0
- PPI inflation (12-month; end-of-period) (2008–2014): 8.1; 5.9; 8.9; 13.3; 2.5; 6.9; 6.0
- Unemployment rate (2008–2014): 11.0; 14.0; 11.9; 9.8; 9.2; 9.4; 9.5

### External sector: current account, debt, reserves
- Current account balance (percent of GDP) (2008–2014): -5.5; -2.0; -6.2; -9.7; -6.2; -7.4; -7.2
- Nonfuel current account balance (percent of GDP) (2008–2014): 0.0; 2.2; -1.8; -3.6; 0.6; -0.9; -0.7
- Gross external debt (percent of GDP) (2008–2014): 38.5; 43.8; 39.9; 39.3; 43.0; 46.4; 47.7
- Net external debt (percent of GDP) (2008–2014): 21.3; 24.2; 23.8; 23.9; 24.0; 28.3; 31.1
- Short-term external debt (by remaining maturity) (percent of GDP) (2008–2014): 13.7; 15.5; 16.1; 16.0; 18.4; 21.5; 21.8
- Gross foreign reserves (CBRT) in billions of U.S. dollars (2008–2018, selected): 74.0; 74.8; 86.1; 88.4; 119.4; 128.0; 128.0 (projected thereafter at 128.0)
- Net international reserves (billions of U.S. dollars) (2008–2014): 57.1; 57.3; 63.4; 51.9; 53.4; 48.4; 48.4

### Balance of payments and financing (levels and flows)
- Current account balance (billions of U.S. dollars) (2008–2018): -40.4; -12.2; -45.4; -75.1; -48.5; -60.7; -61.5; -69.7; -80.0; -91.3; -106.8
- Trade balance (incl. shuttle trade), net (billions of U.S. dollars) (2008–2018): -53.0; -24.9; -56.4; -89.1; -65.3; -78.4; -81.8; -92.9; -106.3; -121.4; -138.4
- Exports of goods (billions of U.S. dollars) (2008–2018): 140.8; 109.6; 120.9; 143.4; 163.2; 167.9; 174.9; 182.6; 191.7; 202.4; 214.0
- Imports of goods (billions of U.S. dollars) (2008–2018): -193.8; -134.5; -177.3; -232.5; -228.6; -246.3; -256.7; -275.6; -298.0; -323.8; -352.4
- Capital and financial account balance (percent of GDP) (2008–2018): 4.9; 1.5; 7.8; 8.3; 8.7; 8.8; 7.2; 7.4; 7.7; 7.9; 8.3
- Gross external financing requirements (billions of U.S. dollars) (2008–2018): 122.7; 111.4; 138.4; 190.3; 170.7; 207.4; 238.5; 255.4; 281.3; 315.2; 356.8
- Available financing (billions of U.S. dollars) (2008–2018): 122.7; 111.4; 138.4; 190.3; 170.7; 207.4; 238.5; 255.4; 281.3; 315.2; 356.8

### Public sector finances and fiscal stance
- Quota (2012): SDR 1,455.8 million
- Nonfinancial public sector primary balance (percent of GDP) (2008–2018): 1.7; -0.9; 0.9; 1.9; 0.9; 0.6; 0.3; 0.2; 0.2; 0.0; -0.2
- Nonfinancial public sector overall balance (percent of GDP) (2008–2014): -2.6; -5.4; -2.8; -0.8; -1.8; -2.0; -2.2
- General government gross debt (EU definition) (percent of GDP) (2008–2014): 40.0; 46.1; 42.3; 39.1; 36.2; 35.4; 34.4
- General government structural primary balance (percent of GDP) (2008–2014): 0.4; 1.0; 0.5; -0.6; -0.7; -1.2; -1.2
- Primary revenue of central government (percent of GDP) (2008–2018): 20.4; 21.0; 21.9; 22.2; 22.4; 23.2; 22.7; 22.2; 21.9; 21.6; 21.5
- Primary expenditure of central government (percent of GDP) (2008–2018): 18.4; 22.4; 22.3; 20.8; 21.8; 22.7; 22.6; 22.2; 22.0; 21.8; 21.9

### Banking system and financial sector soundness
- Assets (percent of GDP) (2008–2013): 77.1; 87.6; 91.6; 93.8; 96.8; 99.5
- Loans / total assets (2008–2013): 50.2; 47.1; 52.2; 56.1; 58.0; 60.6
- Government securities / total assets (2008–2013): 26.5; 31.5; 28.6; 23.4; 19.7; 18.1
- Loan-to-deposit ratio (2008–2013): 80.8; 76.6; 85.2; 98.2; 102.9; 108.7
- Year-on-year loan growth (2008–2013): 28.6; 6.9; 33.9; 29.9; 16.4; 27.5
- NPLs (gross, percent of total loans) (2008–2013): 3.6; 5.4; 3.7; 2.7; 2.9; 2.8
- Provisioning ratio (percent of NPLs) (2008–2013): 79.8; 83.6; 83.8; 79.4; 75.2; 74.8
- FX loans / total loans (2008–2013): 28.7; 26.6; 27.0; 29.0; 26.0; 26.4
- FX deposits / total deposits (2008–2013): 35.3; 33.7; 29.7; 33.9; 32.6; 33.4
- Capital adequacy ratio (2008–2013): 18.0; 20.6; 19.0; 16.5; 17.9; 15.9
- Return on assets / equity (2013 annualized): Return on assets 2.5; Return on equity 16.0 (note: return on assets/equity is annualized)

### Households and corporates: leverage, FX exposure, profitability
- Household sector: household debt and debt service rising though described as comfortable by peer standards; households have no FX debt (textual finding in figures)
- Nonfinancial corporates: leverage increased; short FX position is large and growing, mostly long-term and partially hedged via swaps or export receipts (textual finding in figures)

### Medium-term projections and scenario highlights (2008–18 tables)
- Medium-term average real GDP (2013–18 average): 4.3 (Table 2 shows projected annual growth rates for 2015–2018 at 4.4; 4.5; 4.5)
- Projected current account (percent of GDP) 2015–2018: -7.4; -7.7; -7.9; -8.3
- Projected gross external debt (percent of GDP) 2015–2018: 47.9; 48.1; 49.2; 50.3
- Projected gross foreign reserves (CBRT) (billions of U.S. dollars) remain at 128.0 in staff projections for 2013–2018 (Table 3)

### Key staff recommendation (administrative)
- It is recommended that the next Article IV Consultation with Turkey be held on the standard 12-month cycle.

*Source: IMF staff report tables and figures contained in the Turkey staff report excerpt.*

### ANNEX I: PUBLIC DEBT SUSTAINABILITYANNEX I:

### ANNEX I: PUBLIC DEBT SUSTAINABILITY

### Overview and key findings
- At close to 35 percent of GDP, Turkey’s public debt ratio is well below its historical ten-year average.
- Gross financing needs are slightly above 10 percent of GDP, and are expected to rise to around 11 percent of GDP over the medium term.
- The DSA suggests that Turkey’s government debt is sustainable even under different shock scenarios.
- Given the debt structure (average maturity of 5 years and 60 percent of total debt at fixed interest rates) the direct interest pass-through to the budget is relatively slow.
- Only the impact of lower GDP growth rates represents a significant threat to debt dynamics.
- While all public debt profile indicators are below early warning benchmarks, the high external financing requirements point to risks arising from the external debt position.

### Baseline and realism of projections
- Debt dynamics are underpinned by a primary surplus and trend GDP growth above the real interest rate.
- Stronger fiscal effort in 2012, higher privatization proceeds, and higher growth are expected to push down the debt-to-GDP ratio relative to previous estimates.
- Staff forecast the debt-to-GDP ratio will continue its declining path from already moderate levels, reaching 31.6 percent in 2018—down by 8.4pp since end-2008.
- Staff projects gross financing needs will be 10.4 percent of GDP in 2013—down from 19.7 percent on average for 2002–2010—and will reach 11.4 percent at the end of the projection period.
- Growth projections are slightly above those of one year ago; output gap is expected to close after being slightly negative in the next two years.
- Sovereign yields: yields on public sector debt around 9.0 percent; spreads against US bonds averaged 213 bps over the last three months (01-Jun-13 through 30-Aug-13), compared with the lowest value of 118 bps in May 2013.
- Effective interest rate is forecast to rise from 9.8 percent in 2012 to 10.3 percent in 2013, returning to 2012 values at the end of the forecast period.
- Fiscal adjustment: in the baseline the structural primary balance deteriorates due to lower structural revenues and primary spending drift; maximum projected 3-year adjustment of the cyclically-adjusted primary balance is close to zero.
- Maturity and rollover: average maturity just under 5 years; 60 percent share of fixed interest debt to total debt; 30 percent denominated in foreign currency; only 30 percent of marketable debt held by non-residents.
  - A 100 basis points shock to the yield curve is estimated to raise the interest bill by just 0.1 percent of GDP.
  - A 5 percent shock in real exchange rate impacts gross public debt stock by just 0.5 pp.

### Shocks and stress-test outcomes (selected scenarios)
- Primary balance shock:
  - A deterioration of 1.0pp of GDP in the primary balance delays by 2 years the downward trend of debt-to-GDP ratio relative to the baseline.
  - Sovereign borrowing costs increase by 25 bps for each 1 percent of GDP worsening in the primary balance.
  - Debt-to-GDP ratio and gross financing needs end up at similar levels compared to the baseline by 2018.
- Growth shock:
  - Real output growth lowered by 1 standard deviation, or 4.6 percentage points, for 2 years starting in 2014.
  - Inflation falls by 0.25 percentage points per 1 percentage point decrease in GDP growth.
  - Nominal primary balance reaches -3.9 percent of GDP by 2015.
  - Debt-to-GDP ratio increases to about 43 percent during the growth shock and stabilizes around 39 percent by the end of the projection period.
  - Gross financing needs climb toward 15 percent of GDP at the end of period.
- Interest rate shock:
  - Spreads increase by 525 bps.
  - Implicit average interest rate reaches almost 11.1 percent by 2018.
  - Debt-to-GDP ratio reaches 32.3 percent in 2018.
  - Gross financing needs reach around 12 percent of GDP by 2018.
- Contingent liability shock:
  - One-time bail out increases non-interest expenditures by 10 percent of banking sector assets, combined with a real GDP growth shock (1 standard deviation for 2 years).
  - Debt rises to 44 percent of GDP in 2015 and stabilizes at 39 by 2018.
  - Gross financing needs jump to about 17 percent of GDP in 2014 and come down to 14 percent by end of period.
- Combined shock:
  - Incorporates largest effects of individual shocks on real GDP growth, inflation, primary balance, exchange rate and interest rate.
  - Combined shock would increase debt to around 45 percent of GDP, still below Turkey’s average debt of 52.1 percent of GDP between 2002 and 2010.

### Debt profile vulnerabilities and indicators
- Bond Spread over U.S. Bonds (average over 01-Jun-13 through 30-Aug-13): 213 bp.
- Public debt held by non-residents: 30 percent of marketable debt.
- Public debt in foreign currency: 30 percent of total debt.
- Gross financing needs benchmarks and stress-test color coding apply; Turkey’s indicators are generally below early warning benchmarks but external financing requirements remain a concern.

### Baseline scenario projections (selected numeric series)
- Nominal gross public debt:
  - 2011: 52.1
  - 2012: 39.1
  - 2013: 36.2
  - 2014: 35.4
  - 2015: 34.4
  - 2016: 33.2
  - 2017: 32.6
  - 2018: 31.6
- Public gross financing needs (in percent of GDP):
  - 2011: 19.7
  - 2012: 10.4
  - 2013: 9.3
  - 2014: 10.4
  - 2015: 9.8
  - 2016: 9.0
  - 2017: 11.3
  - 2018: 11.4
- Real GDP growth (baseline projections, in percent):
  - 2013: 3.8
  - 2014: 3.5
  - 2015: 4.3
  - 2016: 4.4
  - 2017: 4.5
  - 2018: 4.5
- Inflation (GDP deflator, in percent): 2013: 6.9; 2014: 6.9; 2015–2018: 6.0 each year.
- Primary balance (baseline, in percent of GDP): 2013: 0.7; 2014: 0.3; 2015: 0.2; 2016: 0.2; 2017: 0.0; 2018: -0.2.
- Effective interest rate (percent): 2013: 10.3; 2014: 10.0; 2015: 9.2; 2016: 10.1; 2017: 10.1; 2018: 9.7.
- Cumulative change in gross public sector debt (2011–2018): -4.6 (cumulative).

### Scenario comparisons and stress-test assumptions (selected)
- Historical scenario: Real GDP growth series shown as 3.8; 5.1; 5.1; 5.1; 5.1; 5.1 for 2013–2018.
- Constant Primary Balance scenario assumes Primary Balance = 0.7 percent of GDP each year 2013–2018.
- Stress-test assumptions:
  - Growth shock magnitude: 4.6 percentage points (1 standard deviation) for 2 years starting in 2014.
  - Interest rate shock: increases spreads by 525 bps in the shock.
  - Contingent liability shock: non-interest expenditures increase by 10 percent of banking sector assets (one-time), combined with growth shock.

*Source: IMF staff.*

### ANNEX II: EXTERNAL DEBT SUSTAINABILITY

### ANNEX II: EXTERNAL DEBT SUSTAINABILITY

### Overall assessment and baseline
- Turkey’s gross external debt is sustainable under the baseline scenario, but the rising path points to increased vulnerabilities.
- External debt is projected to rise to 50 percent of GDP by 2018 reflecting the large and widening current account deficit and reliance on debt-creating inflows.
- In 2012, despite improvements in the current account balance, external debt-to-GDP ratio deteriorated on account of slower growth and a continued buildup of external liabilities.
- These liabilities continued to grow in the first half of 2013, but the pace has since moderated due to changing external funding conditions.
- Turkey made its last repurchase to the Fund in May 2013.

### Debt composition and sector exposure
- Most of the external debt is long term although the share of short-term debt has been rising.
- At 34 percent of total, the share of short-term debt has almost doubled since end-2009.
- Financial institutions account for roughly 70 percent of short-term borrowings.
- In terms of sector exposure, two thirds of the total external debt are held by the private sector, with an even split between financial and non-financial institutions.

### Stress tests and vulnerability analysis
- The external debt is relatively robust to interest rate, growth, and current account shocks.
- To be conservative, the standardized growth shock of one-half standard deviation was replaced with a one standard deviation shock equivalent to a 4.6 percentage-point reduction in growth.
- The interest rate shock was customized to mirror the large increase in spreads experienced in 2008.
- Under these scenarios (standardized current account balance shock, or a combination of the three shocks), external debt would remain below 60 percent of GDP.
- Turkey’s external debt sustainability, however, is vulnerable to large exchange rate depreciations:
  - A one-time depreciation of 30 percent would cause the external debt stock to rise above 70 percent of GDP.
  - Note: individual shock scenarios assume all other variables follow their baseline paths; in practice a real exchange rate shock of this magnitude would precipitate adjustment in the current account that would help mitigate the impact on external debt.

### Liquidity and rollover risks
- Given the large external financing requirements, liquidity and rollover risks are the most pertinent concerns for debt sustainability.
- Annual gross external financing needs are large at 25 percent of GDP and are forecast to remain elevated over the medium term.
- The high current account deficit and the reliance on short-term financing are the main culprits behind the persistently large external financing needs.
- Turkey’s debt sustainability therefore remains susceptible to sudden and sustained shifts in international investors’ risk appetite, which could trigger a simultaneous increase in both borrowing cost and exchange rate pressure.

### Key statistics and projections (2008–2018 unless otherwise noted)
- Baseline: External debt (in percent of GDP): 38.5, 43.8, 39.9, 39.3, 42.8, 46.4, 47.7, 47.9, 48.1, 49.2, 50.3
- External debt-to-exports ratio (in percent): 158.1, 185.2, 185.8, 165.4, 163.3, 176.3, 179.0, 188.3, 197.9, 210.2, 222.7
- Gross external financing need (in billions of US dollars): 124.7, 112.0, 140.6, 193.1, 172.0, 208.3, 238.5, 255.4, 281.3, 315.2, 352.5
- Gross external financing need (in percent of GDP): 17.1, 18.2, 19.2, 24.9, 21.8, 25.3, 28.0, 27.1, 27.0, 27.3, 27.5
- Identified external debt-creating flows and components (selected items from projections):
  - Current account deficit, excluding interest payments (in percent of GDP): 4.0, 0.3, 5.1, 8.7, 5.0, 3.9, 2.4, 6.3, 6.0, 6.3, 6.4
  - Deficit in balance of goods and services (in percent of GDP): 4.7, 1.0, 5.4, 8.9, 5.4, 6.4, 6.0, 6.1, 6.3, 6.5, 6.7
  - Exports (in percent of GDP): 24.3, 23.6, 21.5, 23.8, 26.2, 26.3, 26.7, 25.4, 24.3, 23.4, 22.6
  - Imports (in percent of GDP): 29.0, 24.7, 26.9, 32.7, 31.6, 32.7, 32.7, 31.6, 30.7, 29.9, 29.3
  - Net non-debt creating capital inflows (negative, in percent of GDP): -2.5, -1.6, -1.5, -1.6, -1.9, -1.0, -1.8, -2.3, -2.4, -2.5, -2.5
- Growth shock used in stress testing: one standard deviation equivalent to a 4.6 percentage-point reduction in growth.
- Real depreciation shock scenario: one-time real depreciation of 30 percent.

*Source: ANNEX II: EXTERNAL DEBT SUSTAINABILITY*

### 1.      Turkey and the World Bank Group have a strong partnership, which continuously

### _cr13363 - 1.      Turkey and the World Bank Group have a strong partnership, which continuously

### World Bank Group engagement and objectives
- Country Partnership Strategy FY12–15 envisages financing levels of around US$4.5 billion and increased provision of analytical and advisory services, including new fee-based services.
- CPS three strategic objectives/pillars:
  - (i) enhance competitiveness and employment;
  - (ii) improve equity and public services;
  - (iii) deepen sustainable development.
- Collaboration aims to share Turkey’s development experience abroad.

### IBRD portfolio and sectors supported
- Turkey is the IBRD’s second largest borrower in terms of debt outstanding.
- Active investment portfolio: 11 projects with total net commitments of US$4.6 billion.
- Investment portfolio supports: financial and private sector development, urban development, the energy sector, transport, and health and education.

### IFC activities and impact
- Turkey is the IFC’s second largest exposure in terms of committed portfolio with more than US$3 billion.
- FY2013 IFC investments in Turkey: US$985 million in 20 projects (record year).
- FY12–15 IFC expected investment: US$1.7–2 billion; to date invested about US$1.8 billion.
- IFC activities: addressing energy demand, developing domestic capital markets, supporting SMEs and agribusiness, and helping Turkey become a regional leader.
- IFC cross-border investment support: $580 million in 23 private sector projects with Turkish companies investing outside Turkey.
- IFC Istanbul Operations Center (IOC): established to support Istanbul as an international finance center; IOC has about 200 staff serving 52 countries in Europe, the Middle East, and North Africa (EMENA).

### Analytic, knowledge, and advisory services provided
- Recent and ongoing products include:
  - Programmatic Jobs Series (labor market through the economic cycle, activation of low-skilled youth and women, creation of good jobs);
  - Country Economic Memorandum on foreign trade (following previous on savings and sustainable growth);
  - Programmatic Education Series (quality and basic education, improving early childhood education, efficiency of delivery of education);
  - Programmatic Health Series (family medicine, pharmaceuticals, universal health coverage);
  - Investment climate assessment;
  - Roadmap for development of a corporate bond market;
  - Transport Public Expenditure Review;
  - Technical assistance on food safety, sustainable development, watershed management, promoting gender equity in the private sector and entrepreneurship.
- Much analytic and advisory work is carried out together with Turkish authorities, the private sector, academia, or civil society stakeholders.
- World Bank Group collaborates closely with IMF, the EU, UN organizations, and other key bilateral partners.

### Statistical issues — overview
- Data provision to the Fund is broadly adequate for surveillance purposes, despite certain shortcomings.
- Turkey subscribes to the Special Data Dissemination Standard (SDDS).

### Real sector statistics
- Producer and consumer prices: published monthly, with a short lag.
- Monthly industrial production: published with a lag of five to six weeks.
- CPI and PPI: generally conform to international standards.
- CPI methodology improvements:
  - 2003-based index introduced; new CPI in effect since 2005.
  - Further improvement in 2009 regarding collection of telecommunication services prices.
  - New CPI does not cover owner-occupied housing, commodities produced by households for own consumption, and expenditures on commodities obtained through in-kind payments.
- PPI compiled according to NACE Rev. 1.
- Quarterly national accounts: published with a 2–3 month lag.
  - Turkstat publishes national accounts in current and constant prices for production and expenditure approaches to GDP.
  - Only quarterly GDP data are presented on a seasonally adjusted basis.
- March 2008 revised estimates released for 1998 onwards following introduction of ESA 1995; GDP time series not constructed prior to 1998.
- Ongoing work: incorporate annual collections, develop independent estimates of household consumption, enhance estimates for the non-observed economy.
- Project initiated to extend scope to full sequence of accounts for the total economy, annual supply and use tables, and institutional sector accounts.
- Labor market data: wide range available; HLFS replaced with a monthly survey beginning 2000.
  - Labor data published annually until 2005 and quarterly from 2005 with a three months lag.
  - Coverage of private sector wage developments improved via quarterly manufacturing sector surveys.

### Government finance statistics
- Budgetary data published monthly, with a lag of 15 days.
- Budget coverage incomplete: some fiscal operations via extra budgetary funds available only with long lags.
- Fiscal analysis complications:
  - Omission of certain transactions from fiscal accounts;
  - Quasi-fiscal operations by state banks, state economic enterprises (SEEs), and other public entities;
  - Technical problems consolidating cash-based governmental accounts with accrual-based SEEs.
- Difficulty reconciling fiscal data with monetary and BOP data, particularly external debt flows and central government deposits.
- Authorities have requested technical assistance to improve these statistical issues.
- Turkey reports fiscal data for Government Finance Statistics Yearbook; latest data available are for 2012 covering general government and subsectors.
- Monthly data reported irregularly for International Financial Statistics starting September 2009.

### Monetary and financial statistics
- Central bank balance sheet and provisional data on main monetary aggregates and total domestic credit: published weekly with one- and two-week lag, respectively.
- Monetary survey and deposit interest rates: published monthly with a one month lag, except year-end data lag of two months.
- CBRT reports SRF 1SR for the Central Bank monthly with one month lag and SRF 2SR for Other Depository Corporations with one month lag (year-end data lag two months).
- Public data on banks’ external funding could be improved:
  - CBRT reports banks’ foreign assets and liabilities including transactions with banks’ branches abroad classified as non-residents from BOP perspective.
  - BRSA maintains consolidated banking sector data with more accurate foreign assets and liabilities but does not currently disseminate it publicly.

### External sector statistics
- CBRT reports quarterly BOP data to STA with about two months lag; started reporting quarterly IIP data from 2006 onwards in May 2012.
- CBRT participates in CPIS and CDIS.
- External sector statistics compiled in broad conformity with BPM5 conceptual framework.

### IMF Executive Board assessment (Article IV Consultation, November 20, 2013)
- 2012: Turkish economy achieved a welcome reduction of imbalances.
- 2013: Growth accelerated significantly due to monetary and fiscal policy stimulus.
  - Economy projected to expand by 3.8 percent in 2013 with private consumption and public investment as main contributors.
  - Current account deficit widening again; inflation remains above target.
- Authorities on track to meet 2013 budget targets despite rapid spending growth; one-off factors boosted revenues, government increased capital expenditure beyond budget ceiling while maintaining overall deficit targets.
- Banking system: well capitalized, capital ratios well above regulatory minima; NPLs subdued with some uptick over the last year.

Directors’ key observations and recommendations:
- Faster growth partly due to policy stimulus; domestic demand-led growth leading to renewed deterioration in inflation and the current account deficit.
- Encourage authorities to:
  - Tighten macroeconomic policies and step up structural reforms to strengthen external performance and bolster economic growth.
- Monetary policy:
  - Less accommodative monetary stance considered more appropriate given still-high inflation.
  - Normalizing monetary policy framework would help improve communications and strengthen monetary transmission.
  - Some Directors noted challenge of volatile capital flows and improvements in inflation relative to the past.
  - Suggest building up net foreign reserves through sterilized intervention when capital inflows resume.
- Fiscal policy:
  - Tighter fiscal policy would help reduce external vulnerabilities and relieve pressure on monetary policy.
  - Authorities encouraged to contain current spending and save any revenue overperformance.
  - Caution that discretionary stimulus should be reserved for potential negative economic outturn.
  - Medium-term fiscal consolidation would raise public saving and contribute to real exchange rate depreciation.
  - Greater budgetary flexibility needed to allow greater spending on priorities such as education and infrastructure.
- Financial sector:
  - System generally sound, but banks’ indirect exposure to foreign exchange risk requires careful monitoring.
  - Macroprudential measures should be targeted at household credit and corporate foreign exchange lending.
  - Encourage further efforts to address deficiencies in regime for anti-money laundering and combating the financing of terrorism identified by FATF.
- Structural issues:
  - Noted low saving rate and reliance on external financing.
  - Importance of raising private and public saving and stepping up structural reforms to raise competitiveness, attract FDI, and enhance growth while reducing external imbalances.
  - Authorities’ efforts cited as positive: decrease energy dependence, increase labor market flexibility, reduce informal sector, reform private pension.
  - Further efforts to improve the business climate important.

### Selected economic indicators, 2008–14 (as presented)
- Population (2012): 74.9 million
- Per capita GDP (2012): $10,527
- Quota (2012): SDR 1,455.8 million

Real sector (Percent)
- Real GDP growth rate: 2008 0.7; 2009 -4.8; 2010 9.2; 2011 8.8; 2012 2.2; 2013 3.8; 2014 3.5
- Contributions to GDP growth:
  - Private domestic demand: 2008 -1.8; 2009 -8.3; 2010 12.6; 2011 9.5; 2012 -2.9; 2013 3.3; 2014 2.7
  - Public spending: 2008 0.6; 2009 0.8; 2010 0.9; 2011 0.4; 2012 1.0; 2013 1.5; 2014 0.7
  - Net exports: 2008 1.9; 2009 2.7; 2010 -4.4; 2011 -1.1; 2012 4.1; 2013 -1.0; 2014 0.1
- GDP deflator growth rate: 2008 12.0; 2009 5.3; 2010 5.7; 2011 8.6; 2012 6.8; 2013 6.9; 2014 6.9
- Nominal GDP growth rate: 2008 12.7; 2009 0.2; 2010 15.4; 2011 18.1; 2012 9.1; 2013 11.0; 2014 10.6
- CPI inflation (12-month; end-of period): 2008 10.1; 2009 6.5; 2010 6.4; 2011 10.4; 2012 6.2; 2013 8.0; 2014 6.0
- PPI inflation (12-month; end-of-period): 2008 8.1; 2009 5.9; 2010 8.9; 2011 13.3; 2012 2.5; 2013 6.9; 2014 6.0
- Unemployment rate: 2008 11.0; 2009 14.0; 2010 11.9; 2011 9.8; 2012 9.2; 2013 9.4; 2014 9.5
- Average nominal treasury bill interest rate: 2008 19.2; 2009 11.6; 2010 8.5; 2011 8.7; 2012 8.8; 2013 ...; 2014 ...
- Average ex-ante real interest rate: 2008 12.3; 2009 2.8; 2010 1.9; 2011 1.0; 2012 1.7; 2013 ...; 2014 ...

Nonfinancial public sector (Percent of GDP)
- Primary balance: 2008 1.7; 2009 -0.9; 2010 0.9; 2011 1.9; 2012 0.9; 2013 0.6; 2014 0.3
- Net interest payments: 2008 4.3; 2009 4.5; 2010 3.7; 2011 2.7; 2012 2.8; 2013 2.7; 2014 2.5
- Overall balance: 2008 -2.6; 2009 -5.4; 2010 -2.3; 2011 -0.8; 2012 -1.8; 2013 -2.0; 2014 -2.2
- General government structural primary balance 1/: 2008 0.4; 2009 1.0; 2010 0.5; 2011 -0.6; 2012 -0.7; 2013 -1.2; 2014 -1.2

Debt of the public sector
- General government gross debt (EU definition): 2008 40.0; 2009 46.1; 2010 42.3; 2011 39.1; 2012 36.2; 2013 35.4; 2014 34.4
- Nonfinancial public sector net debt: 2008 34.5; 2009 39.5; 2010 36.8; 2011 33.3; 2012 30.2; 2013 29.8; 2014 29.3

External sector (Percent of GDP)
- Current account balance: 2008 -5.5; 2009 -2.0; 2010 -6.2; 2011 -9.7; 2012 -6.2; 2013 -7.4; 2014 -7.2
- Nonfuel current account balance: 2008 0.0; 2009 2.2; 2010 -1.8; 2011 -3.6; 2012 0.6; 2013 -0.9; 2014 -0.7
- Gross financing requirement: 2008 16.8; 2009 18.1; 2010 18.9; 2011 24.6; 2012 21.6; 2013 25.2; 2014 28.0
- Foreign direct investment (net): 2008 2.4; 2009 1.2; 2010 1.0; 2011 1.8; 2012 1.1; 2013 0.8; 2014 1.4
- Gross external debt 2/: 2008 38.5; 2009 43.8; 2010 39.9; 2011 39.3; 2012 43.0; 2013 46.4; 2014 47.7
- Net external debt: 2008 21.3; 2009 24.2; 2010 23.8; 2011 23.9; 2012 24.0; 2013 28.3; 2014 31.1
- Short-term external debt (by remaining maturity): 2008 13.7; 2009 15.5; 2010 16.1; 2011 16.0; 2012 18.4; 2013 21.5; 2014 21.8

Monetary aggregates
- Nominal growth of M2 broad money (percent): 2008 27.5; 2009 12.9; 2010 19.0; 2011 11.5; 2012 10.3; 2013 ...; 2014 ...

GDP (billions of U.S. dollars) 3/
- 2008 730.3; 2009 614.6; 2010 731.1; 2011 774.8; 2012 788.3; 2013 ...; 2014 ...

GDP (billions of Turkish lira)
- 2008 950.5; 2009 952.6; 2010 1,98.8; 2011 1,297.7; 2012 1,415.8; 2013 1,571.0; 2014 1,737.6

Notes included in source:
- Structural balance estimated using the absorption gap method and excludes one-off operations.
- External debt ratio calculated by dividing external debt numbers in U.S. dollars based on official Treasury figures by GDP in U.S. dollars calculated by staff using the average exchange rate (consolidated from daily data published by the CBRT).
- GDP in U.S. dollars derived using the average exchange rate (consolidated from daily data published by the CBRT).

### Statement by Turkish authorities (November 20, 2013)
- Authorities thanked staff for the Article IV mission and papers; noted fruitful discussions with some differing views.
- Economic outlook:
  - After policy-induced slowdown in 2012 to rebalance the economy, growth gained momentum in first half of 2013.
  - Third quarter figures suggest more moderate growth compared to second quarter; PMI indicators confirm this trend.
  - Main confidence indicators provide mixed signals regarding the remainder of 2013.

*IMF press release and staff report material as provided in the source document.*

### 2.2 percent in 2012, which was more effective than the initial plan of a slowdown to 3.2, the

### _cr13363 - 2.2 percent in 2012, which was more effective than the initial plan of a slowdown to 3.2, the

### Medium-Term Program and overall strategy
- The 10th Development Plan identified underlying factors of structural weaknesses and set medium- and long-term targets to improve domestic savings and transform the economy into a more productive and competitive one.
- The Medium-Term Program’s main goals are: (1) putting the current account on a sustainable path; (2) lowering the inflation rate; (3) maintaining a strong fiscal stance; and (4) boosting growth potential and creating jobs.
- The Medium-Term Program provides a multi-faceted response to external imbalances using monetary, fiscal, macroprudential, and structural policies.
- Domestic savings rate is projected to reach 16 percent in 2016, implying an increase of 3.4 percentage points in the following 3 years.
- The new three-year Medium-Term Program relies mainly on structural and macroprudential measures to boost the private savings rate and enable the Central Bank to focus fully on the price stability objective.

### Fiscal policy: performance and priorities
- Central government budget deficit target in 2013 was revised down from 2.2 percent to 1.2 percent in the Medium-Term Program.
- The over-performance in revenues stemmed from: acceleration of growth, one-off revenues from energy state-owned enterprises (SOEs), and administered price hikes; part of these revenues were saved.
- 2014 budget assumptions:
  - Budget revenues assumed to increase by approximately 7.1 percent.
  - Budget expenditures expected to increase by about 7.3 percent.
  - Central government budget deficit projected to be around 1.9 percent in 2014.
- EU-defined public debt-to-GDP ratio lowered to around 35 percent in 2013; downward trend expected to continue.
- Expenditure allocations in the Medium-Term Program:
  - Education expenditures increased to 4.6 percent of GDP in 2014.
  - Investment allocation raised to 2.6 percent of GDP.
- Policy trade-offs noted: increases in current expenditures (recruiting more teachers, social security, tax inspectors) could raise short-term budget rigidities but are expected to yield larger benefits via improved education and reining in the unregistered economy.

### Financial and corporate sector resilience and risks
- Banking sector metrics and developments:
  - System capital adequacy level is approximately 16 percent, according to the Basel 2.5 definition.
  - Non-performing loan ratios remain low and bank profitability has been strong.
  - Annual rate of credit growth declined from around 35 percent at the end of 2010 to around 18 percent at the end of 2012.
- Corporate sector FX exposures:
  - FX loans to corporates have increased the banking system’s indirect exposure to FX risk; these loans are mostly to large corporations with FX income and are not concentrated in a few sectors.
  - Corporate sector’s FX borrowing and rollover: latest figures show the rollover ratio has exceeded over 120 percent despite higher costs; high rollover ratios attributed to strong collaterals.
  - Authorities note need for more data and information to ensure proper regulatory insight into these risks.
- Macroprudential measures:
  - Authorities are proactively designing additional macroprudential measures targeting credit cards as well as SME and export loans, seeking to avoid distortions.
  - Measures associated with credit cards could maintain household sector strength and rein in private consumption.
  - These measures are expected to support resilience and improve the current account balance in line with Medium-Term Program targets.

### Monetary policy and inflation outcomes
- Central Bank implemented a new policy framework with additional adjustments to adapt to unconventional global liquidity conditions and serve the economy’s needs.
- Key outcomes and indicators:
  - Consumer price index reached 6.2 percent, described as the lowest year-end figure in 44 years.
  - Current account deficit-to-GDP ratio declined from 9.7 percent in 2011 to 6.1 percent at the end of 2012.
  - Overall growth slowed to 2.2 percent (2012).
- 2013 developments and policy response:
  - Inflation forecast for 2013 was revised upwards by 0.6 percent: 0.4 percentage points due to exchange rate developments and 0.1 percent due to change in average oil price assumption.
  - In response to heightened global risks in 2013, authorities implemented cautious monetary policy and tightened liquidity policy, macroprudential policy, and, to a more measured extent, fiscal policy.
  - Rising loan rates and cautious monetary stance helped rein in strong credit growth observed in the first half of 2013.
  - Recent deterioration in the current account deficit since January 2013 stemmed mainly from gold trade (about 1 percent of GDP); improvement in the non-gold current account balance continued.
- Assessment: new policy framework positively contributed to rebalancing the economy and preserving financial stability; historically low inflation in 2012 and resilience in the second half of 2013 support this view.

### Structural policy priorities and constraints
- Priority areas to improve domestic savings and reduce the current account deficit include energy diversification, lowering energy intensity, and increasing domestic and renewable energy use, including nuclear, plus intensified exploration domestically and overseas.
- Energy context: an import dependency rate of over 70 percent in the energy area is identified as an important drag on the current account deficit.
- Need to improve the business and investment environment and boost competitiveness to increase Turkey’s share in Foreign Direct Investment (FDI), which would help finance the current account deficit.
- Constraint noted: ongoing economic and financial problems in European countries, an important source of FDI, are not supporting current initiatives.

*https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2013/_cr13363.pdf*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2013/_cr13363.pdf_