## Turkey — 1. Turkey’s External Sector ## Source details **Canonical URL:** [Turkey — 1. Turkey’s External Sector](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr14329.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr14329.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr14329.pdf.json) --- ### Context: High Growth, Persistent Imbalances - Growth and inflation: - Strong growth rebound averaging 9 percent per year in 2010–11; growth more modest thereafter. - Average inflation 7.9 percent and average current account deficit 7½ percent of GDP during 2010–13. - 2013: GDP grew 4.1 percent; current account deficit widened to 7.9 percent of GDP; inflation ended the year at 7.4 percent (above the 5 percent target). - Private sector and external funding: - Ample capital inflows intermediated by the financial sector supported rapid private sector credit and consumption growth. - Private savings decreased, creating a large gap between (low) saving and (modest) investment; national savings around 14 percent of GDP (Box 4 background). - Hedged external wholesale FX borrowing became key to sustaining loan growth; loan-to-deposit ratio rose well above 100 percent. - Early 2014 turbulence and policy response: - 15 percent exchange rate depreciation early in 2014 after Fed tapering, loose/opaque monetary policy, and political uncertainty. - Initial unsterilized FX intervention led to rapid loss of international reserves. - CBRT increased the one week repo rate by 550 basis points and adjusted its policy framework. - Banks and corporate sector showed resilience; corporate FX losses did not translate into NPLs. - Macroeconomic vulnerabilities (staff view): - Current account deficit projected to remain between 5½–6 percent of GDP on current policies. - Gross external financing requirements exceed a quarter of GDP per year (Annex II). - NIIP deteriorated by about 25 percentage points of GDP since 2008 and will weaken further. - Current account deficit remains 2½–5 percent of GDP higher than warranted by fundamentals and optimal policy settings. - Estimated REER overvaluation in the 10–20 percent range (Annex III and Box 1). - Policy critique: - Fiscal and monetary policies have been too loose: public sector expenditure grew faster than GDP and the structural primary balance deteriorated. - Monetary stance emphasized growth over inflation, producing negative real policy interest rates, high inflation, erosion of competitiveness, and reduced incentives for private savings. - External environment and politics: - US monetary policy normalization may reduce capital flows; Euro Area easing may partially offset. - Long electoral cycle: parliamentary elections by June 2015. ### Box 1 — Key External Sector Points (Selected) - 2013: current account deficit 7.9 percent of GDP, driven by strong private domestic demand and re-stocking of gold. - Five-year average current account deficit: 6.4 percent of GDP with large fluctuations. - 2014: weaker domestic demand and decreased gold imports point to rebalancing; deficit expected to narrow to 5.8 percent of GDP by year-end. - Exports to MENA: - Share fell from 32.2 percent in 2012 to 27.9 percent in 2013. - Iraq accounted for 8 percent of total exports (second largest after Germany). - REER and inflation: - CPI- and PPI-based REERs fell by 10 and 9 percent respectively compared to end-2012; staff view REER overvaluation in the 10–20 percent range. - Despite nominal depreciation of 13 percent since end-2011, CPI- and PPI-based REERs about the same as at end-2011 due to high inflation. - FDI: - 2013 FDI inflow 1.6 percent of GDP (below G-20 emerging peers average of 2.5 percent). - Share of FDI in tradable sector receded to 47 percent of total. ### Outlook: Cyclical Rebalancing and Staff Projections - Short-term cyclical rebalancing: - Growth decelerated to 2.7 percent (annualized) in H1 2014; private consumption and investment weakened. - Monetary tightening, macroprudential measures, and depreciation compressed import growth and reduced the current account deficit; reduction largely cyclical and one-off (gold). - Staff projections: - GDP growth: 3 percent in both 2014 and 2015. - Monetary easing since April and easier financing expected to modestly rebound private demand in H2 2014. - Net exports and public sector each likely to contribute about 1½ percentage points to GDP growth in 2014. - 2015 on current policies: growth around 3 percent with larger domestic demand contribution; private investment subdued during long electoral cycle. - Inflation and current account: - Year-end inflation expected at 9 percent due to pass-through from lira depreciation and food prices; above 5 percent target. - On unchanged policies, inflation not expected to return to target next year. - Current account deficit projected to widen to 6 percent of GDP in 2015 from 5¾ percent in 2014 based on an oil price assumption of US$99.4 per barrel. - Medium-term baseline: - Revised annual medium-term growth to about 3½ percent on current policies and national saving rates. - Inflation and the current account projected to remain elevated at about 6 percent. - Baseline assumes continued investor willingness to finance a large external deficit. ### Risks: Capital Flows and External Shocks - Principal risk: capital flow reversal due to advanced-economy normalization or changes in emerging-market growth expectations; sharp decrease in inflows could force large compression of absorption and trigger a recession. - Given large imbalances and diminishing buffers, impact could be more pronounced than the 2009 recession. - Other risks: - Slower European growth (main export market). - Geopolitical conflicts (Syria, Iraq) and tensions (Ukraine–Russia) increasing risk aversion. - Sharp oil price increases would immediately widen Turkey’s import bill and external gap. ### Buffers and Policy Space (Box 2 highlights) - Balance-sheet deterioration since 2008: - Banks’ external funding rose to 18 percent of GDP by end-2013 from 5½ percent five years earlier. - Non-financial corporates’ FX borrowing from banks increased to 18 percent of GDP in 2013 from around 5 percent in 2008. - Households hold more FX assets than liabilities (FX lending to households prohibited). - Buffers reduced but present: - Banks’ capital buffers declined since 2008 but remain well-above regulatory minimum. - Household leverage increased to over 50 percent of disposable income. - Policy space more constrained: - Gross reserves rose 2008–2013 but driven by banks’ FX deposits; net FX reserves declined. - Real policy rate negative in 2014 versus around 6½ percent in 2008. - Structural fiscal position deteriorated but government debt low at around 36 percent of GDP. - Key fiscal numbers: - Central government total primary revenues: increased by 10 percent y-o-y through August and projected to increase by 9 percent in 2014, exceeding budget forecast by about 0.2 percent of GDP. - Central government primary spending: grown by 13½ percent y-o-y through August versus budget target of 7.4 percent for the year, implying an overrun in primary expenditure of about 1 percent of GDP. - On a net basis, central government primary balance likely to miss the budget target by about 0.2 percent of GDP. - Structural deficit: about 3 percent of GDP this year. - Between 2006 and 2013: central government primary spending grew by 5.4 percentage points of GDP; interest spending declined by 3 percentage points of GDP. ### GIMF Policy Scenarios (Box 4 summaries) - Four scenarios (relative to baseline) analyzed: i) A 2 percent of GDP permanent increase in private savings. ii) A 2 percent of GDP permanent increase in public savings. iii) A 2 percentage point increase in the monetary policy rate for one year. iv) An increase in the country risk premium (initial 4 percent increase that gradually falls to ½ percent). - Key outcomes: - GDP falls in the first year in all four scenarios. - Tighter monetary policy: largest immediate negative impact on GDP (~2½ percent). - Higher country risk premium: persistent negative impact on GDP (~2 percent permanent reduction). - Increased private or public savings: improve current account by 1 percent of GDP short run and 1½–2 percent long run; increased private savings increases GDP in the long run. - Tighter monetary policy: limited and short-lived current account improvement (less than ½ percent of GDP). ### Policy recommendations (staff advice and priorities) - Overall objective: bring down external imbalance and lower inflation to reduce vulnerabilities and preserve competitiveness. - Preferred adjustment: higher domestic savings to preserve investment (private savings emphasized). - Near-term advice: - Tighter fiscal and monetary policies to achieve higher domestic savings and lower inflation. - Use macroprudential policies to preserve financial sector resilience. - Fiscal policy guidance: - Staff recommended a frontloaded fiscal adjustment: cumulative fiscal adjustment of 2 percent of GDP for 2015–17 vis-à-vis staff baseline (aiming for central government primary surplus close to 2 percent by 2017). - Mission recommended increasing primary balance by 1½ percent of GDP by 2016 and an additional ½ percent in 2017, skewed towards expenditure measures and permanent actions. - Staff sees room for discretionary fiscal stimulus only in case of a major shock causing recession. - Monetary policy guidance: - Increase policy interest rate to reach a positive real level and sustain it to bring inflation and expectations to target. - Normalize the monetary policy framework by committing to provide full liquidity at the policy rate. ### Monetary policy stance, reserves, and credibility (staff findings) - Monetary policy actions and credibility: - CBRT tightened in January 2014 (one-week repo increase by 550 basis points) which contained fallout. - Spring 2014 loosening judged premature; created a significant credibility gap (Box 6). - Staff called for full normalization and provision of full liquidity at the policy rate to improve transmission. - Reserve adequacy: - Gross reserves: US$135 billion (~117 percent of the Fund’s metric in mid-2014). - Adjusting for ROM, CBRT international reserves ~95 percent of the Fund’s ARA metric. - Net international reserves directly under CBRT control: US$41 billion. - Staff: net reserves too low to credibly intervene during high exchange rate volatility; advised gradual accumulation of FX reserves as conditions allow. ### Financial sector resilience and macroprudential policy - Banking sector indicators: - NPL ratio: 2.8 percent. - Banks’ net interest margin: around 2 percent after January rate increase. - Return on equity: fell to 12½ percent. - System-wide capital adequacy: above 16 percent, mostly Tier 1. - Liquid assets cover more than 100 percent of short-term liabilities under conservative assumptions. - FX funding and exposures: - Sector loan-to-deposit (LtD) ratio: 114 percent; foreign (FX) LtD 84 percent; local currency LtD 131 percent. - Wholesale external FX funding rose from US$61 billion in 2009 to US$137 billion at end-Q1 2014; US$85 billion at short maturity. - FX lending to non-financial corporates increased to ~US$151 billion in July 2014 from 70 percent of short-term borrowings; non-resident deposits half of that amount. - Creditor composition: private creditors 68 percent; bond investors 20 percent; official creditors 12 percent. - Stress tests: - Baseline: external debt around 50 percent of GDP medium term (49.3 percent in 2014). - A sustained one-time 30 percent depreciation would increase external debt to almost 80 percent of GDP (77 percent reported). - Under individual and combined shocks (growth, interest rate, current account), external debt remained below 60 percent of GDP in simulations. - Policy implications: - External debt sustainable under baseline and plausible shocks but vulnerabilities remain; particularly susceptible to large depreciation shocks. - Recommended: significantly tighter fiscal policy over medium term, structural reforms to raise private savings, keep real interest rates positive, and accumulate net international reserves when possible. ### Recent Macro‑Prudential Measures (Annex IV — timeline and key features) - Selected measures and dates: - Dec 2010: LTV ceilings — housing 75 percent; commercial real estate 50 percent. - Spring 2011: guidance: credit growth (adjusted for FX) should not exceed 25 percent in 2011. - June 2011: higher risk weights for fast-growing consumer loans (150 percent for <2 years; 200 percent for >2 years) and increased provisioning for consumer loans (performing 1→4 percent; pre-NPL 2→8 percent). - Oct 2013–Dec 2013–Feb 2014: credit card limits tied to income; maturity caps (36 months general consumer; 48 months car loans); installment caps and bans on installments for certain categories. - Feb 2014: car loan LTV: 70 percent up to TRY 50,000; 50 percent above TRY 50,000. - Nov 2014: remuneration of TRL required reserves — 2014: weighted average CBRT funding rate minus 700bps for all banks; from 2015: minus 500bps for banks above sector average core funding ratio that maintain/increase it, minus 700bps for remaining banks. - Conditionalities and thresholds preserved: - Provisioning conditionality applies if consumer loan portfolio >20 percent of total loans or general purpose loan NPL >8 percent. - Credit growth guidance: “should not exceed 25 percent.” - Installment cap: maximum number of installments capped at 9 months (Feb 2014). - Consumer loan maturities capped: 36 months (general), 48 months (car loans). - RR remuneration formulae as above. ### Data, Statistics, and Reporting - Publication frequency and coverage: - Central bank balance sheet and main monetary aggregates published weekly (1–2 week lag); monetary survey and deposit rates monthly (1 month lag, year-end 2 months). - Reporting to STA and international publications: - CBRT reports quarterly BOP to STA with ~2 months lag; started reporting quarterly IIP data from 2006 onward in May 2012. - Turkey subscribes to SDDS; latest Data ROSC published September 2009. - Data quality and vintage (as of Oct 15, 2014): - Exchange rates: latest observation Oct. 2014. - International reserve assets: latest observation Sep. 2014. - GDP: latest observation 2014Q2 (received 2014Q3). - Broad set of monetary, fiscal, external statistics with weekly/monthly/quarterly frequency and quality ratings noted in source. ### Staff Appraisal, Executive Board and Authorities’ Views (Selected) - Staff appraisal: - Commended Turkey’s growth and employment performance since 2010 but emphasized high inflation and large external deficit as key vulnerabilities. - Near-term: growth moderating; 2014 GDP expected to grow 3 percent; inflation will exceed target again. - Medium-term without policy change: growth slows to about 3½ percent; risks of slow income convergence. - Executive Board Assessment: - Welcomed growth and employment gains; highlighted need to rebalance economy, lower inflation, strengthen buffers, and pursue ambitious structural reforms. - Fiscal policy should do more to address external vulnerabilities; supported fiscal tightening envisaged in 2015 budget and 2015–17 medium-term program. - Monetary policy: focus on reducing inflation by setting and sustaining a positive real policy rate; normalize framework to improve communication and transmission. - Financial sector: maintain vigilance; consider measures to curb wholesale FX funding growth and reduce corporates’ exchange rate risk incentives. - Authorities’ views (as presented): - More optimistic on buffers and risks; expect growth acceleration to around 4 percent in 2015; view real exchange rate close to equilibrium; consider corporate and banking balance sheets robust; view buffers sufficient. - Authorities aim to increase primary surplus towards 2 percent of GDP in next three years (starting with about 1 percent adjustment in 2015 budget); cite potential upside from a tax amnesty affecting about TL100 billion of arrears. *International Monetary Fund — Turkey: 1. Turkey’s External Sector (content unit).* ### 1. Turkey’s External Sector__________________________________________________________________________6 ### 1. Turkey’s External Sector ### Context: High Growth, Persistent Imbalances - Strong growth rebound after the global financial crisis, averaging 9 percent per year in 2010–11; growth more modest thereafter. - Average inflation 7.9 percent and average current account deficit 7½ percent of GDP during 2010–13. - 2013: GDP grew 4.1 percent and the current account deficit widened to 7.9 percent of GDP; inflation ended the year at 7.4 percent, above the 5 percent target. - Private sector developments: - Ample capital inflows, intermediated by the financial sector, and financial deepening eased credit constraints and led to rapid growth of private sector credit and consumption. - Private savings decreased, creating a large gap between (low) saving and (modest) investment. - Hedged external wholesale foreign currency borrowing became key to sustaining loan growth; the loan-to-deposit ratio rose well above 100 percent. - Early 2014 turbulence: - Fed tapering, loose and opaque monetary policy, and domestic political uncertainty led to a 15 percent exchange rate depreciation early in the year. - Authorities’ initial unsterilized FX intervention resulted in a rapid loss of international reserves. - Central bank increased the one week repo rate by 550 basis points and adjusted its policy framework. - Banks and corporate sector showed resilience; corporate FX losses did not translate into non-performing loans. - Macroeconomic vulnerabilities: - Staff projects the current account deficit will remain between 5½–6 percent of GDP on current policies. - Gross external financing requirements will exceed a quarter of GDP per year (Annex II). - Net foreign asset position deteriorated by about 25 percentage points of GDP since 2008 and will weaken further. - Current account deficit remains 2½–5 percent of GDP higher than warranted by fundamentals and optimal policy settings. - Estimated real effective exchange rate misalignment is 10–20 percent (Annex III and Box 1). - Policy setting critique: - Fiscal and monetary policies have been too loose; public sector expenditure grew faster than GDP and the structural primary balance deteriorated. - Monetary stance emphasized growth over inflation, producing negative real policy interest rates, high inflation, erosion of competitiveness, and reduced incentives for private savings. - External environment: - US monetary policy expected to start normalizing over the next year, potentially reducing capital flows to emerging markets. - Euro Area monetary policy moving in the opposite direction; Turkey’s investment grade sovereign credit rating may continue to support capital inflows. - Overall environment for capital flows to Turkey likely to be more mixed. - Political context: - Long electoral cycle: After local election win earlier in the year, parliamentary elections by June 2015. ### Box 1. Turkey’s External Sector — Key Points - 2013: current account deficit 7.9 percent of GDP, driven by strong private domestic demand and re-stocking of gold. - Current account deficit averaged 6.4 percent of GDP over the past 5 years, with large fluctuations. - Weaker domestic demand and decreased gold imports in 2014 point to another episode of external rebalancing; deficit expected to narrow to 5.8 percent of GDP by year-end. - Exports to the MENA region: - Share of exports to the region fell from 32.2 percent of total in 2012 to 27.9 percent in 2013, partly due to diminished gold re-exporting activities. - Iraq is the most important export market in the region and the second largest export destination for Turkey (after Germany), accounting for 8 percent of total exports. - Conflicts in several MENA countries in 2014 expected to negatively impact Turkey’s trade with the region. - Real effective exchange rates (REERs): - CPI- and PPI-based REERs fell by 10 and 9 percent, respectively, compared to end-2012; depreciated in the second half of 2013 and continued to depreciate in Q1 2014, but subsequently re-appreciated to levels seen in the 3rd quarter of 2013. - Staff view: REER overvaluation in the 10–20 percent range—consistent with a current account gap of 2½–5 percent of GDP (Annex III). - Despite nominal exchange rate depreciation of 13 percent since end-2011, CPI- and PPI-based REERs are about the same as at end-2011 due to high inflation. - Foreign direct investment (FDI): - 2013 FDI inflow 1.6 percent of GDP, below the G-20 emerging-market peers average of 2.5 percent of GDP. - Share of FDI in the tradable sector receded back to 47 percent of total, due to greater FDI into financial services. - Low FDI may reflect post-2009 trend decline in emerging market FDI flows and Turkey’s high inflation, volatile growth, and structural bottlenecks. - Competitiveness indicators: World Economic Forum’s 2014 Global Competitiveness Report ranks Turkey low on reliance on imports (106th/144), inflation performance (122nd/144), and labor market efficiency (131st/144); quality of primary education (94th/144) and higher education (89th/144). ### Outlook: Cyclical Rebalancing, Modest Medium-Term Prospects - Short-term cyclical rebalancing underway: - Growth decelerated to 2.7 percent (annualized) in the first half of 2014, driven by public sector spending and net exports, as private consumption and investment weakened. - Monetary policy tightening in response to early-2014 exchange rate pressure, macroprudential measures, and exchange rate depreciation weakened private domestic demand, compressing import growth and reducing the current account deficit. - The smaller external deficit is mostly due to cyclical factors and the one-off effect of net gold imports. - Staff projections: - GDP growth expected 3 percent in both 2014 and 2015. - Monetary easing since April and easier financing conditions should produce a modest rebound of private domestic demand in the second half of 2014. - Public spending expected to remain supportive of growth. - Net exports and the public sector likely to contribute each about 1½ percentage points to GDP growth in 2014. - 2015 on current policies: growth around 3 percent, with a larger domestic demand contribution (including sizeable contribution by the public sector) and negative net exports; private investment expected to remain subdued until the end of the long electoral cycle. - Inflation and current account outlook: - Premature monetary easing left negative real policy interest rates; pass-through from lira depreciation and food price inflation expected to leave inflation at 9 percent at year-end, above the 5 percent target. - On unchanged policies, inflation is not expected to return to target next year. - As GDP rotates towards domestic demand in 2015, current account deficit projected to widen to 6 percent of GDP in 2015, from 5¾ percent in 2014 based on an oil price assumption of US$99.4 per barrel. - Medium-term baseline: - On current policies and national saving rates, staff revised annual medium-term growth to about 3½ percent. - Inflation and the current account projected to remain elevated at about 6 percent. - Baseline assumes continued willingness of investors to finance a large external deficit. ### Risks: Capital Flows and Other External Shocks - Principal risk: capital flow reversal. - Shocks to market expectations about monetary policy normalization in advanced economies or changes in expectations about emerging economies’ growth prospects could reduce capital inflows or trigger a sudden stop. - A sharp decrease in inflows would require a large compression of absorption to close the external deficit and lead to a recession. - Given large imbalances and diminishing buffers, the impact could be more pronounced than the 2009 recession (Box 2). - Loose macroeconomic policies to maintain fast growth increase risks by slowing external rebalancing and lowering credibility. - Even a gradual adjustment of the external imbalance will take several years, leaving vulnerability to capital flow volatility significant. - Other risks: - Slower European growth would hurt demand in Turkey’s main export market. - Geopolitical issues: conflicts in Syria and Iraq have negatively impacted exports; tensions between Ukraine and Russia could lead to generalized risk aversion. - Sharp increase in oil prices would immediately widen Turkey’s import bill and external gap. ### Authorities’ Views (as Presented) - Authorities broadly share staff’s outlook but are more optimistic on risks and buffers. - They recognize downside risks to their original official growth forecast for 2014 and that inflation is likely to exceed their objective. - For 2015, authorities expect acceleration of growth to around 4 percent, driven by larger domestic demand. - Authorities believe the real exchange rate is close to equilibrium and that improvement in the external balance will continue with increased net exports. - They view the corporate and banking sectors’ balance sheets as robust, point to a strong public sector position and flexible exchange rate, and consider buffers sufficient to cope with shocks. - Authorities assess recent developments—exports to Europe grew in the first half of 2014 despite low European growth—and expect exports to Iraq to rebound later in the year. - They believe investor sentiment remains favorable towards Turkey and that Euro Area monetary easing will be supportive of flows to emerging markets. *International Monetary Fund — Turkey: 1. Turkey’s External Sector (content unit).* ### Box 2. The External Imbalance: Buffers and Policy Space ### Box 2. The External Imbalance: Buffers and Policy Space ### Balance sheets: more stretched since 2008 - Current account deficits from 2008 to 2013 have weakened the net international investment position (NIIP). - Banks rely more on external funding: 18 percent of GDP by the end of 2013 compared to 5½ percent five years earlier. - Increase in external liabilities was not matched by a similar increase in external assets; expansion was instead in domestic credit to the private sector. - Banks’ on-balance sheet FX exposure has not increased because open positions are hedged off-balance sheet and much of the domestic corporate credit expansion has been in FX. - Non-financial corporates’ FX borrowing from banks: increased to 18 percent of GDP in 2013 from around 5 percent in 2008, with a corresponding increase in non-financial corporates’ net open FX position. - Households hold more FX assets than liabilities because FX lending to households is prohibited. ### Buffers: reduced but present - Banks, corporates, and households have become more leveraged. - Corporates have less equity to absorb potential losses from currency depreciation. - Banks’ direct FX exposure is limited, but indirect exposure has risen via credit risk from FX lending to non-financial corporates. - Banks’ capital buffers have declined since 2008, although they remain well-above the regulatory minimum. - Household leverage has increased to over 50 percent of disposable income, driven by high consumer credit growth. ### Policy space: more constrained than in 2008 - Gross international reserves rose from 2008 to 2013, but this is driven by banks’ FX reserves; net FX reserves (those directly available for intervention) have declined. - Real policy rate is negative, providing no monetary policy space, whereas in 2008 the real rate was around 6½ percent. - Structural fiscal position has deteriorated, but fiscal space remains because government debt is low at around 36 percent of GDP. ### Key fiscal and macro numbers (selected) - Central government total primary revenues: increased by 10 percent y-o-y through August and projected to increase by 9 percent in 2014, exceeding the budget forecast by about 0.2 percent of GDP. - Central government primary spending: grown by 13½ percent y-o-y through August versus a budget target of 7.4 percent for the year, implying an overrun in primary expenditure of about 1 percent of GDP. - On a net basis, central government primary balance likely to miss the budget target by about 0.2 percent of GDP. - Structural deficit: about 3 percent of GDP this year. - Between 2006 and 2013: central government primary spending grew by 5.4 percentage points of GDP; interest spending declined by 3 percentage points of GDP. ### Vulnerabilities highlighted - NIIP and several balance-sheet indicators deteriorated between 2008 and 2013 (visual indicators in source show orange for increased vulnerability). - Banks’ external liabilities, loans/deposits ratio, NFC FX liabilities from banks, NFC net open FX position, households’ net FX asset positions, banks’ capital adequacy ratio, banks’ liquid assets, corporate equity, and HH leverage all reflect weaker buffers or higher exposures compared to 2008. ### Box 4 modeling: Policy options to reduce the external imbalance (GIMF results) - Background: National savings around 14 percent of GDP, about 6 percentage points below investment. - Four policy scenarios analyzed (relative to baseline): i) A 2 percent of GDP permanent increase in private savings (e.g., second pillar pension system or prefunding severance payments). ii) A 2 percent of GDP permanent increase in public savings (lower transfers, lower public consumption, increased VAT). iii) A 2 percentage point increase in the monetary policy rate for one year. iv) An increase in the country risk premium (initial 4 percent increase that gradually falls to ½ percent). - GDP effects: - In the first year GDP falls in all four scenarios. - Tighter monetary policy has the largest immediate negative impact on GDP of about 2½ percent. - A higher country risk premium has a persistent negative impact on GDP of about 2 percent (permanent reduction). - Increased private or public savings have limited negative impacts; increased private savings increases GDP in the long run. - Investment effects: - Higher country risk premium: 10 percent lower investment for three years, settling at 4 percent lower in the long run. - Tighter monetary policy: reduces investment temporarily by about 4 percent. - Increased private and public savings: moderate effects on investment, with a slight positive long-run effect from increased private savings. - Current account and REER effects: - Tighter monetary policy: limited improvement in the current account (less than ½ percent of GDP) and short-lived; import contraction offsets exchange rate appreciation from higher rates. - Increased private or public savings: improve the current account by 1 percent of GDP in the short run and 1½-2 percent of GDP in the longer run, entirely via higher national savings. - Higher country risk premium: immediate current account improvement of 2 percent of GDP due to a sharp 5 percent temporary depreciation, but driven by lower private investment with negative growth consequences. ### Policy recommendations and staff advice - Macroeconomic policy mix should focus on bringing down the external imbalance and lowering inflation to reduce vulnerabilities and preserve competitiveness. - Preferred adjustment: higher domestic savings to preserve investment. - Near-term advice: tighter fiscal and monetary policies to achieve higher domestic savings and lower inflation, while using macroprudential policies to preserve financial sector resilience. - Role for fiscal policy: - Staff recommended a frontloaded fiscal adjustment; for 2015–17, a cumulative fiscal adjustment of 2 percent of GDP vis-à-vis staff’s baseline (aiming for a central government primary surplus close to 2 percent by 2017). - Mission recommended targeting an increase in the primary balance of 1½ percent of GDP by 2016 and an additional ½ percent in 2017, skewed towards expenditure measures and permanent actions rather than temporary measures. - Staff sees room for discretionary fiscal stimulus only in case of a major shock pushing the economy into recession. - Authorities’ position: - Authorities agreed higher public savings are needed in the medium term and aim to increase the primary surplus towards 2 percent of GDP in the next three years, starting with about 1 percent of GDP adjustment in the 2015 budget. - Authorities cited a new tax amnesty affecting about TL100 billion of arrears as a possible upside risk to tax revenues and social security collections; they expect a slowdown in capital spending later in the year to help contain expenditure overruns. - Monetary policy: - With a credibility gap and a negative real policy rate, monetary policy space is limited; staff advised tighter monetary policy as part of the adjustment alongside fiscal consolidation. *Source: Box 2 and supporting text from the IMF staff report excerpt provided.* ### 22. Staff welcomed the adjustment of the ### _cr14329 - 22. Staff welcomed the adjustment of the ### Monetary policy adjustment and stance - Staff welcomed the adjustment of the monetary stance and framework in January 2014: the CBRT’s increase in interest rates and move towards normalization effectively contained fallout from heightened domestic uncertainty and financial market volatility. - Spring loosening and credibility concerns: - Monetary policy loosening starting in May was judged premature by staff given inflation was close to double-digits and inflation expectations were deteriorating. - This resulted in a monetary stance inconsistent with the authorities’ inflation target and “by most measures opened a significant credibility gap (Box 6).” - The CBRT limited liquidity provision at the policy rate to drive funding costs above the policy rate, moving the framework away from a conventional setup. - Staff recommendation on stance and framework: - Staff argued for a tighter monetary policy stance. - With year-end inflation expectations at 9 percent and credit growth running at 18 percent, the policy rate remained negative in real terms. - Staff called for an increase in the policy interest rate to reach a positive real level and to be sustained to bring both inflation and expectations to target. - Staff called for full normalization of the monetary policy framework by committing to providing full liquidity at the policy rate to facilitate communication and improve monetary transmission. ### Credibility gap (Box 6) — findings on inflation targeting and expectations - Between 2006 and 2013, the inflation target was met only twice. - Causes identified: - Unorthodox liquidity provision at multiple rates and with multiple instruments hampered markets’ ability to gauge the CBRT reaction function. - High exchange rate pass-through generates inflation volatility during periods of less favorable capital inflows. - Consequences: - Inflation expectations are poorly anchored and the monetary transmission mechanism has been undermined. - Markets do not expect the CBRT to meet the inflation target in the medium term; inflation outturn in the medium term is likely to be in the upper region of or beyond the 200 bps band around the inflation target. ### Reserve adequacy and recommendations - Gross reserves and composition: - Gross reserves of US$135 billion account for about 117 percent of the Fund’s metric in mid-2014. - Much of these reserves are commercial bank FX deposits related to the reserve option mechanism (ROM) and FX reserve requirements. - Adjusting for ROM, the CBRT’s international reserves stand at about 95 percent of the Fund’s ARA metric. - Net international reserves directly under the control of the CBRT stand at US$41 billion. - Staff assessment and recommendation: - Net international reserves under CBRT control are too low to credibly intervene during times of high exchange rate volatility given Turkey’s external financing needs. - Staff advised the authorities to accumulate more foreign exchange reserves over time, as market conditions allow. ### Authorities’ views (as presented) - The central bank’s assessment: - The CBRT believes it reacted well to January turbulence; the interest rate hike restored confidence and stabilized the exchange rate. - Simplification of the monetary framework helped communication, and the change in the upward trend in resident FX deposits is cited as a sign of restored credibility. - The CBRT views high inflation as due to idiosyncratic shocks (notably drought-driven high food inflation) and exchange rate pass-through; they expect headline inflation to decline and judge conditions supportive of disinflation with a negative and widening output gap. - The CBRT deems the pace of accumulation of international reserves appropriate and is satisfied with accumulation through EXIM bank loans, while acknowledging a need for higher net reserves. ### Financial sector resilience and macroprudential policy - Banking sector health and performance: - NPL ratio: 2.8 percent. - Banks’ net interest margin remained at around 2 percent after January’s rate increase. - Return on equity fell to 12½ percent. - System-wide capital adequacy remains above 16 percent, with capital almost entirely tier 1. - Liquidity adequacy ratios show liquid assets cover more than 100 percent of short-term liabilities under conservative assumptions. - Wholesale foreign exchange funding and risks: - Sector loan-to-deposit (LtD) ratio: 114 percent; 84 and 131 percent for foreign (FX) and local currency respectively. - Wholesale external funding in FX rose from US$61 billion in 2009 to US$137 billion at end of the first quarter of 2014, US$85 billion of which is at short maturity. - Banks hedge exchange rate risk mainly off balance sheet; net open FX position of the sector is 0.1 percent of GDP, but rollover/refinancing risk and FX liquidity risk associated with gross exposure are significant. - FX lending to non-financial corporates increased to some US$151 billion in July 2014 from less than US$40 billion in 2008. - US$27 billion in FX-indexed loans are not subject to the same regulations as FX loans. - Consumer credit and prudential measures: - Consumer credit growth slowed from almost 40 to 18 percent (13-week moving average, annualized) in the year to August 2014 after policy measures (tightening credit card limits, increasing provisioning rates, limits on installment purchases). - Staff welcomed plans to introduce general debt-to-income limits for consumer lending and improvements in stress testing methodologies. - Macroprudential policy recommendations: - Consider additional macroprudential measures targeting banks’ wholesale external FX financing after a comprehensive quantitative impact study (Box 8). - Suggested price-based options: increase the reserve requirement differential between FX and Lira liabilities; adjust reserve requirement rates to discourage short-term FX wholesale borrowing; increase remuneration differential between Lira and FX reserve requirements. - Suggested non-price measures: ceilings on derivatives for FX hedging while keeping net open position limits; ceilings on non-core to core FX liabilities ratio; ceilings on Lira or overall loan-to-deposit ratio. - Staff cautioned these measures would indirectly affect domestic demand and are not a substitute for tighter macroeconomic policies. - To reduce corporate incentives to take exchange rate risk, consider higher risk weights and/or additional provisioning on FX loans, and align prudential treatment of FX-indexed lending with that of FX lending. *Source: INTERNATIONAL MONETARY FUND.* ### 36. Staff noted the increased loans flowing in to the construction sector, partly in foreign ### _cr14329 - 36. Staff noted the increased loans flowing in to the construction sector, partly in foreign ### Construction sector lending and foreign exchange (FX) risk - Loans to the construction sector—which account for 6½ percent of GDP—have risen sharply over the last year. - Employment in the sector contracted significantly this year, which might indicate some sectoral slowdown. - So far, there has not been an increase in construction-related NPLs in the banking sector. - Staff cautions: - The construction sector in general, and residential construction in particular, do not necessarily have a natural foreign currency hedge: even if rents and purchase prices are indexed to foreign currency, incomes are not, leaving developers exposed to FX risk. - Allocation of resources to construction may prevent their use in more productive sectors. - Policy recommendation: - Carefully monitor lending to the construction sector. - Discourage unhedged FX lending to this sector. ### AML/CFT framework progress - Turkey has made significant progress in enhancing its anti-money laundering and combating the financing of terrorism (AML/CFT) framework. - Deficiencies that had prompted closer monitoring by the Financial Action Task Force (FATF) were addressed, including adequately criminalizing terrorist financing and establishing procedures to identify, freeze, and confiscate terrorist assets. - In October, Turkey was removed from the FATF’s list of countries with strategic AML/CFT deficiencies and FATF no longer calls on countries to consider the risk emanating from such deficiencies. ### Authorities’ views on the banking system and FX funding - BRSA assessment: - The banking system is healthy and the regulatory framework is adequate. - Indicators cited: high capitalization, low NPLs, and good liquidity buffers. - Recognition of declining bank profitability due to lower consumer credit growth and fee restrictions; studies suggest the impact will remain manageable. - Recent macroprudential measures have slowed household leverage growth. - Impact studies under way for prudential debt-to-income limits for consumer loans. - On rollover and FX funding risk: - Authorities agree rollover risk linked to banks’ wholesale external funding in foreign exchange has increased in recent years. - They emphasize ease of obtaining such funding and banks’ substantial FX deposits at the CBRT associated with ROM and FX reserve requirements. - Point to a micro-based study suggesting many corporates borrowing in FX are naturally hedged and to anecdotal evidence of FX collateral for some loans. - BRSA does not currently see a need for additional macroprudential measures targeted at banks’ wholesale external FX funding, arguing this funding does not translate to domestic FX lending. - Authorities view prudential and macroprudential policies as integral to macroeconomic management and welcomed FATF’s recognition. ### Structural policies — boost productivity and raise private sector savings - Authorities’ planned initiatives focus on: business environment, energy dependence, informality, labor market, and education. - New commercial code adopted in 2012. - Large-scale privatizations of energy distribution networks and expansion of renewable and nuclear electricity generation expected to contain energy imports over the medium term. - Measures to decrease informality to level the playing field and improve incentives to invest in human and physical capital. - National employment strategy to facilitate part-time and temporary labor in the formal market. - Staff assessment and recommendations: - Structural reforms are critical; prioritization and implementation are essential. - Additional private and public pension reform could increase private sector savings in the medium term. - Given staff’s assessment that Turkey’s exchange rate is overvalued, focus on reforms that reduce the competitiveness gap. - Specific recommendations: - Simplify licensing, regulation, tax administration and compliance to improve the business climate. - Improve efficiency and consistency of the judiciary. - Reduce the labor wedge and simplify taxation of labor—specifically by adopting the draft income tax reform and reducing the relatively high cost of pension and severance premia for part-time workers. - Reforms to increase educational outcomes to boost productivity and employment. - Authorities’ view on structural agenda: - Point to the 10th Development Plan as evidence of a bold and well-targeted set of structural reforms. - Plan aims to reduce energy dependence via renewables, nuclear, domestic-source generation, and energy efficiency. - Measures to increase labor force participation and improve labor market functioning through labor code changes, enhanced child care, better education, and tax incentives for employment. - Incentives to encourage companies to rely on equity rather than debt financing to increase domestic savings and reduce external imbalance. - The Development Plan has been approved by parliament; coordinated implementation plans are being drafted, but key steps are planned to start only after the 2015 parliamentary elections. ### Staff appraisal — growth, risks, and policy priorities - Recent performance: - Turkey’s economy has grown by an impressive 6 percent on average since 2010. - The economy recovered swiftly from the great financial crisis and unemployment dropped to its lowest level in the last decade. - Authorities effectively contained fallout from heightened domestic uncertainty and financial market volatility. - Current imbalances: - Rapid growth accompanied by high inflation and a large external deficit, constraining growth potential and increasing risks. - Near-term growth and inflation outlook: - Growth is set to continue at a more moderate pace. - In 2014, GDP is expected to grow by 3 percent, driven by public sector support, net exports, and a mild revival of private domestic demand in the later part of the year. - Inflation will exceed the central bank’s target once again, reflecting premature monetary easing. - The current account deficit—although decreasing—will remain elevated. - Medium-term projection without policy change: - Annual economic growth is expected to slow to about 3½ percent in the medium term under current policies and national saving rates. - Slower growth would limit inflation and deterioration of the current account deficit but risk slow income convergence and potential middle income trap. - Financial sector and external vulnerabilities: - Financial system remains well-capitalized: high capital adequacy ratios based on high quality capital; nonperforming loans are low and well provisioned. - Banks increasingly reliant on ample and cheap external wholesale funding in foreign exchange. - Banks have increased indirect FX risk through foreign currency lending to non-financial corporations. - Main risk: a sharp decrease in capital inflows. - External gross financing needs of more than 25 percent of GDP leave the country exposed to sudden shifts in capital flows. - Increased private sector leverage has diminished buffers to withstand shocks. - Policy recommendations and priorities: - Near term: stronger macroeconomic policy mix to rebalance the economy and address imbalances, especially until structural reforms bear fruit. - Fiscal policy: - Authorities commended for proposed fiscal adjustment in the next three years to reduce the external imbalance and relieve pressure on monetary policy. - Government non-interest current expenditure has been growing faster than the economy; policy has been too stimulative. - New 2015–17 medium-term plan aims to increase the primary surplus towards 2 percent of GDP by 2017. - Intention to achieve the adjustment through expenditure reductions would strengthen the structural balance and reduce the burden on monetary policy. - Monetary policy: - The current policy rate is not compatible with reducing inflation to the 5 percent target. - Monetary stance needs to be tightened and sustained to anchor expectations and lower inflation to the targeted rate. - Monetary effort would be smaller if the fiscal stance were tighter. - Normalizing the policy framework would facilitate communication (as was apparent in January 2014) and improve monetary transmission. - Reserves: - Although gross international reserves are adequate, net reserves are low and provide limited buffers. - Central bank should gradually bolster net international reserves through sterilized interventions, as market conditions permit. - Financial stability and prudential measures: - Preserve the strength of the banking sector through maintained supervision standards and a level playing field. - Consider expanding prudential and macroprudential toolkit to maintain financial stability. - After careful impact analysis, consider measures to encourage banks to reduce wholesale foreign exchange funding and reduce incentives for the corporate sector to borrow in foreign exchange—while noting such policies are not a substitute for tighter macroeconomic policies. - Prudential measures (in particular eligibility criteria) applied to foreign exchange-indexed lending should be brought in line with those applied to straight foreign exchange loans. - Medium term: - Revitalize structural reform agenda and accelerate implementation of the 10th Development Plan. - Priority: implement policies that encourage higher private sector savings and promote lower energy dependence. *INTERNATIONAL MONETARY FUND* ### 54. 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 - Real GDP growth rate: -4.89 (2009), 9.2 (2010), 8.8 (2011), 2.1 (2012), 4.1 (2013), 3.0 (2014), 3.0 (2015). - Contributions to GDP growth: - Private domestic demand: -8.3 (2009), 12.6 (2010), 9.5 (2011), -2.9 (2012), 5.1 (2013), -0.1 (2014), 2.6 (2015). - Public spending: 0.8 (2009), 0.9 (2010), 0.4 (2011), 1.0 (2012), 1.6 (2013), 1.5 (2014), 0.9 (2015). - Net exports: 2.7 (2009), -4.4 (2010), -1.1 (2011), 4.0 (2012), -2.6 (2013), 1.6 (2014), -0.4 (2015). - GDP deflator growth rate: 5.3 (2009), 5.7 (2010), 8.6 (2011), 6.9 (2012), 6.1 (2013), 9.7 (2014), 6.8 (2015). - Nominal GDP growth rate: 0.2 (2009), 15.4 (2010), 18.1 (2011), 9.2 (2012), 10.5 (2013), 13.0 (2014), 10.0 (2015). - CPI inflation (12-month; end-of-period): 6.5 (2009), 6.4 (2010), 10.4 (2011), 6.2 (2012), 7.4 (2013), 9.1 (2014), 7.0 (2015). - PPI inflation (12-month; end-of-period): 5.9 (2009), 8.9 (2010), 13.3 (2011), 2.5 (2012), 7.0 (2013), 8.9 (2014), 6.2 (2015). - Unemployment rate: 13.1 (2009), 11.1 (2010), 9.1 (2011), 8.4 (2012), 9.0 (2013), 9.5 (2014), 10.4 (2015). - Headline and core inflation: described as "remain well-above target." ### Public finances and fiscal stance - Nonfinancial public sector primary balance (percent of GDP): -0.9 (2009), 0.9 (2010), 1.9 (2011), 1.1 (2012), 1.2 (2013), 0.3 (2014), 0.9 (2015). - Net interest payments: 4.5 (2009), 3.7 (2010), 2.7 (2011), 2.8 (2012), 2.7 (2013), 2.3 (2014), 2.5 (2015). - Overall balance (percent of GDP): -5.4 (2009), -2.8 (2010), -0.8 (2011), -1.7 (2012), -1.4 (2013), -2.0 (2014), -1.7 (2015). - General government structural primary balance (percent of GDP): 0.9 (2009), 0.6 (2010), 0.1 (2011), -0.7 (2012), -0.7 (2013), -0.8 (2014), -0.6 (2015). - General government gross debt (EU definition, percent of GDP): 46.0 (2009), 42.3 (2010), 39.1 (2011), 36.2 (2012), 36.2 (2013), 33.7 (2014), 32.4 (2015). - Memo: "Deficits remain contained ......with double digit total revenue growth... while expenditure growth remains elevated. Public debt ratios remain comfortable... a legacy of strong efforts in the last decade, notably at the central government level." ### External sector: current account, financing, reserves - Current account balance (percent of GDP): -2.0 (2009), -6.2 (2010), -9.7 (2011), -6.1 (2012), -7.9 (2013), -5.8 (2014), -6.0 (2015). - Nonfuel current account balance (percent of GDP): 2.3 (2009), -1.8 (2010), -3.6 (2011), 0.5 (2012), -1.9 (2013), 0.0 (2014), -0.4 (2015). - Gross financing requirement: 18.1 (2009), 18.9 (2010), 24.6 (2011), 21.6 (2012), 25.4 (2013), 26.8 (2014), 26.1 (2015). - Foreign direct investment (net, billions): 1.2 (2009), 1.0 (2010), 1.8 (2011), 1.2 (2012), 1.2 (2013), 1.1 (2014), 1.7 (2015). - Gross external debt (percent of GDP): 43.8 (2009), 39.9 (2010), 39.2 (2011), 43.0 (2012), 47.4 (2013), 49.3 (2014), 49.0 (2015). - Net external debt (percent of GDP): 24.2 (2009), 23.8 (2010), 23.8 (2011), 24.1 (2012), 28.0 (2013), 30.1 (2014), 30.8 (2015). - Short-term external debt (by remaining maturity, percent of GDP): 15.5 (2009), 16.2 (2010), 16.0 (2011), 18.4 (2012), 20.8 (2013), 21.2 (2014), 20.4 (2015). - Gross foreign reserves (CBRT, billions of U.S. dollars): 74.8 (2009), 86.1 (2010), 88.4 (2011), 119.4 (2012), 130.3 (2013), 135.3 (2014), 135.3 (2015). - Net international reserves: 57.3 (2009), 63.4 (2010), 51.9 (2011), 53.4 (2012), 47.1 (2013), 47.2 (2014), 47.2 (2015). - Balance of payments composition and financing: - "External imbalances have decreased... but the financing of the current account deficit remains tilted towards portfolio and debt creating flows." - Trade balance (incl. shuttle trade), net (billions of U.S. dollars): -24.9 (2009), -56.4 (2010), -89.1 (2011), -65.3 (2012), -80.0 (2013), -65.4 (2014), -69.9 (2015). - Exports of goods (billions of U.S. dollars): 109.6 (2009), 120.9 (2010), 143.4 (2011), 163.2 (2012), 163.4 (2013), 173.6 (2014), 181.3 (2015). - Imports of goods (billions of U.S. dollars): -134.5 (2009), -177.3 (2010), -232.5 (2011), -228.6 (2012), -243.4 (2013), -239.0 (2014), -251.2 (2015). - Gross external financing requirements (billions of U.S. dollars): 122.7 (2009), 111.4 (2010), 138.4 (2011), 190.4 (2012), 170.6 (2013), 209.1 (2014), 218.5 (2015). - Memo: "Turkey has large gross financing requirements... and lower foreign exchange reserves than peers." ### Monetary policy and exchange rate - Average nominal treasury bill interest rate (latest available): 11.6 (2009), 8.5 (2010), 8.8 (2011), 8.4 (2012), 7.4 (2013), 9.6 (2014). - Average real policy rate (percent): 2.4 (2009), -1.6 (2010), -0.4 (2011), -2.9 (2012), -2.5 (2013), -0.3 (2014). - CBRT actions and monetary stance (qualitative findings from figures): - "The CBRT tightened in January 2014... though only on a gross basis, with net reserves still low." - "The CBRT has been selling FX reserves instead of rebuilding buffers." - "The CBRT progressively relaxed the monetary stance since May..." - Interest rate indicators and exchange rate: benchmark bond rate and US-euro basket exchange rate are tracked; FX auctions shown (daily FX auctions, negative denotes FX sale). ### Financial sector: banking system, exposures, and risks - Banking system at a glance (selected indicators): - Total Assets (billions TL): 87.6 (2009), 91.6 (2010), 93.8 (2011), 96.7 (2012), 110.7 (2013), 103.5 (2014, Q2). - Gross Loans (billions TL): 41.2 (2009), 47.9 (2010), 52.6 (2011), 56.1 (2012), 66.9 (2013), 63.5 (2014, Q2). - Deposits (billions TL): 54.0 (2009), 56.2 (2010), 53.6 (2011), 54.5 (2012), 60.4 (2013), 55.1 (2014, Q2). - CAR (capital adequacy ratio): 20.6 (2009), 19.0 (2010), 16.5 (2011), 17.9 (2012), 15.3 (2013), 16.3 (2014, Q2). - NPLs / Gross Loans (percent): 5.3 (2009), 3.7 (2010), 2.7 (2011), 2.9 (2012), 2.7 (2013), 2.8 (2014, Q2). - Loan-to-Deposit ratio: 76.3 (2009), 85.2 (2010), 98.2 (2011), 102.9 (2012), 110.7 (2013), 115.3 (2014, Q2). - Liquid Assets / Assets: 27.2 (2009), 28.2 (2010), 26.2 (2011), 26.0 (2012), 24.3 (2013), 23.9 (2014, Q2). - Banking system detailed data (billions TL): - Total Assets: 834.0 (2009), 1,006.7 (2010), 1,217.7 (2011), 1,370.7 (2012), 1,732.4 (2013), 1,830.3 (2014, Q2). - Gross Loans: 392.6 (2009), 525.9 (2010), 682.9 (2011), 794.8 (2012), 1,047.4 (2013), 1,123.9 (2014, Q2). - Deposits: 514.6 (2009), 617.0 (2010), 695.5 (2011), 772.2 (2012), 945.8 (2013), 975.1 (2014, Q2). - Financial sector qualitative findings: - "Growth has weakened......and the composition has shifted from private to public demand and net exports... as credit growth decelerated." - "The financial system has buffers......and leverage among corporates and households is low by peer standards." - "Profitability has worsened in recent months... NPL ratios remain near lows despite recently edging up." - "The loan-to-deposit ratio is increasing with lending financed from abroad. Banks are leveraging in FX to maintain profitability, albeit positions are fully hedged." - Corporate sector: "Leverage in the corporate sector has increased.... the short FX position is large and growing, albeit mostly long-term and partially hedged via swaps or export receipts." - Households: "Within sectors, household debt ratios continue to increase, even if they remain comfortable by peer standards. Turkish households have no FX debt." ### External vulnerability and peer comparisons - External financing requirement (2013, percent of GDP): Turkey among the highest vs peers (chart context). - Public debt (2013, percent of GDP): Turkey lower than some peers; "ample fiscal space." - FX exposure: "Exposure to FX risk is also larger than in most peer countries..." - Reserve adequacy: "Turkey has large gross financing requirements... and lower foreign exchange reserves than peers." *Sources: Turkish authorities; and IMF staff estimates and projections.* ### Annex I. Public Debt Sustainability ### Annex I. Public Debt Sustainability ### Summary findings - Public debt ratio: "about to 35 percent of GDP (measured as general government gross debt according to Maastricht criteria)" and "well below its historical ten-year average." - Gross public sector financing needs: "about 10 percent of GDP" in 2013, and "will remain high at about 7 percent of GDP over the medium term." - Debt sustainability: "DSA suggests that Turkey’s government debt is sustainable even under different shock scenarios." - Debt structure: "average maturity of 6 years, 64 percent of total debt at fixed interest rates, and only 31 percent of the debt in foreign exchange" — implies "direct interest and exchange rate pass-through to the budget is relatively slow." - Main vulnerability: "Only the impact of lower GDP growth rates represents a significant threat to debt dynamic." - External risk: "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-levels: - "staff forecast that the ratio will continue its declining path from already moderate levels reaching 29.5 percent in 2019—down by 6.7 pp since end-2013." - "At 10 percent of GDP in 2013, gross public financing needs have decline from 18.4 percent on average for 2003–2011—but will remain high by the end of the projection period." - Growth: - "Past projections of growth outcomes show high forecast errors" but "don’t seem to have a systematic bias that undermine the assessment of sustainability." - "The current growth projections are below those of a year ago." - "The output gap is roughly closed in 2014, and is projected to remain closed over the medium term." - "Turkey’s debt is highly sensitive to big swings in GDP growth, highlighting the relevance of growth shocks in the stress tests." - Sovereign yields: - Recent spreads: "spreads against the US bonds in the last three months remained on average at 217 bps, higher than its lowest value of 118 bps observed in May 2013." - Effective interest rate: "forecast to decline from 10 percent in 2013 to 8.8 percent in 2014." - Medium-term: "the effect of lower inflation will counter the push from international rates yielding slightly lower rates." - Fiscal adjustment: - "In the baseline the structural primary balance deteriorates due to lower structural revenues and the primary spending drift linked to increasing budget rigidities." - "The maximum projected 3-year adjustment of the cyclically-adjusted primary balance is close to zero." - Maturity and rollover: - Reiterated: "average maturity of 6 years, 64 percent share of fixed interest debt to total debt, and only 31 percent denominated in foreign currency" leading to "direct interest and exchange rate pass-through to the budget are small." ### Shocks and stress tests — scenarios and outcomes - Primary balance shock: - Scenario: "A deterioration of 1.0pp of GDP in the primary balance for 2 years." - Outcome: "delays by 2 years the downward trend of debt-to-GDP ratio relative to the baseline." - Sovereign borrowing costs: "pushed up (25 bps for each 1 percent of GDP worsening in the primary balance)." - Impact on debt-to-GDP ratio and gross financing needs by 2019: "modest." - Growth shock: - Scenario: "Real output growth rates are lowered by 1 standard deviation, or 4.6 percentage points, for 2 years starting in 2015." - Inflation response: "lower inflation (0.25 percentage points per 1 percentage point decrease in GDP growth)." - Fiscal outcome: "nominal primary balance deteriorates significantly ... reaching -3.7 percent of GDP by 2016." - Debt outcome: "debt-to-GDP ratio increases to about 42 percent during the growth shock and then gradually trends down." - Gross financing needs: "climb toward 10 percent of GDP" by end of period. - Interest rate shock: - Scenario: "The real effective rate reaches similar levels as in 2009, which implies a permanent increase in spreads by 682bps." - Interest bill: "implicit average interest rate of 12.2 percent by 2019." - Debt outcome: "debt-to-GDP ratio remains at low levels reaching just 32.6 percent in 2019." - Gross financing needs: "reach around 11½ percent of GDP by 2019." - Contingent liability shock: - Scenario: "A one-time bail out of the financial sector is assumed to increase non-interest expenditures by 10 percent of banking sector assets. 2 This is combined with real GDP growth shock (1 standard deviation for 2 years)." - Note: "This shock is equivalent to 5.4 percent of GDP." - Additional contingent exposures noted: "PPP projects with treasury investment guarantees amount to 0.9 percent of GDP, while treasury guaranteed loans (outside the general government) amount to 1.2 percent of GDP." - Inflation response and sovereign borrowing cost rule: "inflation declines (0.25 percentage points per 1 percentage point decrease in GDP growth). Sovereign borrowing costs are pushed up (25 bps for each 1 percent of GDP worsening in the primary balance)." - Debt outcome: "Debt rises to 42 percent of GDP in 2016 and then gradually declines." - Gross financing needs: "increase to about 10 percent of GDP in the medium term." - Combined shock: - Scenario: "incorporates the largest effect of individual shocks on all relevant variables (real GDP growth, inflation, primary balance, exchange rate and interest rate)." - Outcome: "a combined shock would increase debt to around 46.5 percent of GDP, still below the average debt level between 2003 and 2011." ### Debt profile and vulnerabilities (indicators) - Bond spreads and market perception: - "Bond Spread over U.S. Bonds ... 217 bp" (4/ average over 03-Jul-14 through 01-Oct-14 noted in figure). - CDS: "206" (bp) shown in table. - Key projected indicators (selected entries from projections table): - Nominal gross public debt: "48.2 36.2 36.2 33.7 32.4 31.4 30.9 30.1 29.5" (series shown for 2012–2019). - Public gross financing needs: "18.4 8.4 10.4 9.3 5.3 6.3 7.7 6.1 7.2" (series shown for 2012–2019). - Real GDP growth (in percent): "5.4 2.1 4.1 3.0 3.0 3.7 3.5 3.5 3.5" (2012–2019). - Inflation (GDP deflator, in percent): "10.0 6.9 6.1 9.8 6.7 6.3 6.2 6.2 6.2" (2012–2019). - Effective interest rate (in percent): "15.3 9.8 10.0 8.8 9.8 9.0 8.8 7.4 7.9" (2012–2019). - Change in gross public sector debt (cumulative 2012–2019): "-3.9 -3.0 0.0 -2.5 -1.3 -1.0 -0.6 -0.8 -0.6 -6.6" (table entries). - Identified debt-creating flows (cumulative): "-3.9 -2.1 -0.3 -2.3 -0.8 -0.5 -0.1 -0.3 -0.1 -4.2" - Primary deficit series: "-2.6 -1.2 -0.9 -0.3 -0.8 -0.4 -0.2 0.0 0.0 -1.8" - Composition of public debt (figures illustrated in charts): - By maturity: shares of "Medium and long-term" and "Short-term" over time (charts in source). - By currency: shares of "Local currency-denominated" and "Foreign currency-denominated" debt over time. ### Baseline assumptions and alternative scenarios (selected) - Baseline underlying assumptions (2014–2019, selected): - Real GDP growth: "3.0 3.0 3.7 3.5 3.5 3.5" - Inflation: "9.8 6.7 6.3 6.2 6.2 6.2" - Primary Balance: "0.3 0.8 0.4 0.2 0.0 0.0" - Effective interest rate: "8.8 8.8 9.0 8.8 7.4 7.9" - Historical scenario (alternative): - Real GDP growth: "3.0 4.9 4.9 4.9 4.9 4.9" - Primary Balance: "0.3 2.1 2.1 2.1 2.1 2.1" - Constant Primary Balance scenario: - Primary Balance: "0.3 0.3 0.3 0.3 0.3 0.3" - Effective interest rate differences noted versus baseline. - Stress-test specific assumption excerpts (selected from stress test tables): - Primary Balance Shock projected primary balance path: "0.3 -0.2 -0.6 0.2 0.0 0.0" - Real GDP Growth Shock projected growth path: "3.0 -1.6 -0.9 3.5 3.5 3.5" - Real Interest Rate Shock projected effective interest rates: "8.8 9.8 10.1 11.0 11.0 12.2" - Real Exchange Rate Shock (effective interest rate path): "8.8 10.1 8.8 8.4 7.2 7.8" - Combined Shock projected primary balance path: "0.3 -1.2 -3.7 0.2 0.0 0.0" - Contingent Liability Shock projected primary balance path: "0.3 -4.6 0.4 0.2 0.0 0.0" ### Additional analytic notes (as presented) - Realism and forecast track record: - Charts and analyses indicate Turkey’s forecast errors for "Real GDP Growth", "Primary Balance", and "Inflation (Deflator)" with percentile ranks (Turkey median forecast error indicators shown). - "3-Year Adjustment in Cyclically-Adjusted Primary Balance (CAPB) (Percent of GDP)" and "3-Year Average Level of Cyclically-Adjusted Primary Balance (CAPB) (Percent of GDP)" percentile ranks: "has a percentile rank of 57%" and "has a percentile rank of 64%" respectively. - DSA methodological references: - The new DSA framework is cited: "(http://www.imf.org/external/np/pp/eng/2013/050913.pdf)." (as indicated in source footnote) *Source: IMF staff (Annex I. Public Debt Sustainability).* ### Annex II. External Debt Sustainability ### Annex II. External Debt Sustainability ### External debt overview and vulnerabilities - At end-2013, gross external debt stood at 47.4 percent of GDP. - Gross external debt is "nearly 50 percent of GDP" and is identified as a source of vulnerability. - The high external debt stock reflects reliance on debt-creating inflows to finance a large and persistent current account deficit. - Pace of external debt buildup is expected to moderate as the current account deficit stabilizes and external funding conditions normalize. - Turkey’s net international investment position (NIIP) is about -48 percent of GDP. - Short-term debt liabilities account for 16 percent of GDP. ### External financing requirements and rollover risk - Annual gross external financing needs are large—around 27 percent of GDP in 2014. - Over the medium term, gross financing needs are projected to come down slightly to around 24 percent of GDP. - Gross external financing need (in billions of US dollars): - 2009: 112.1 - 2010: 140.6 - 2011: 193.2 - 2012: 172.6 - 2013: 209.9 - 2014: 218.5 - 2015: 225.0 - 2016: 230.6 - 2017: 247.6 - 2018: 254.3 - 2019: 260.8 - Gross external financing need (in percent of GDP): - 2009: 18.2 - 2010: 19.2 - 2011: 24.9 - 2012: 21.9 - 2013: 25.5 - 2014: 26.8 - 2015: 26.1 - 2016: 25.3 - 2017: 25.6 - 2018: 24.8 - 2019: 24.1 - Large financing needs create rollover risks and make debt sustainability vulnerable to sudden and sustained shifts in international investors’ risk appetite. ### Debt composition and maturity - Most external debt is long-term, but short-term debt increased and is estimated to have peaked in 2013 at 33 percent of total. - The share of short-term debt is projected to decline to around 26 percent of total by 2019. - Banks account for over 70 percent of short-term borrowings; non-resident deposits (classified as short-term debt) account for half of that amount. - Creditor composition of external debt: - Private creditors: 68 percent - Bond investors: 20 percent - Official creditors: 12 percent - External debt-to-exports ratio (in percent): - 2009: 185.1 - 2010: 185.7 - 2011: 164.9 - 2012: 164.2 - 2013: 185.4 - 2014: 180.0 - 2015: 181.2 - 2016: 186.5 - 2017: 188.0 - 2018: 188.7 - 2019: 189.9 ### Stress tests and scenario results - Baseline: External debt projected to remain around 50 percent of GDP over the medium term (baseline figures show 49.3 percent in 2014 and path around 50–51.5 percent through 2019). - Under standard shocks customized for Turkey: - Growth shock: one standard deviation equivalent to a 4.6 percentage-point reduction in growth (growth shock specification used instead of standard one-half standard deviation). - Interest rate shock: customized to mirror the large increase in spreads experienced in 2008; "Interest rate rises to the maximum rate experienced over a ten-year history." - Current account shock: standard current account balance shock applied. - Under individual shocks and combinations (growth, interest rate, and current account), external debt remained below 60 percent of GDP. - Vulnerability to exchange rate shocks: - A sustained one-time depreciation by 30 percent (with other variables following baseline paths) would increase external debt to almost 80 percent of GDP (77 percent reported in the scenario figure). - The report notes such a scenario is unlikely to materialize without sharp current account adjustments that would mitigate the debt impact. ### Projections and key macroeconomic assumptions (selected series) - Baseline: External debt (in percent of GDP) 2009–2019: - 2009: 43.8 - 2010: 39.9 - 2011: 39.2 - 2012: 43.0 - 2013: 47.4 - 2014: 49.3 - 2015: 49.0 - 2016: 50.4 - 2017: 50.8 - 2018: 51.2 - 2019: 51.5 - Change in external debt (annual, in percent of GDP): - 2009: 5.3 - 2010: -3.9 - 2011: -0.7 - 2012: 3.8 - 2013: 4.4 - 2014: 2.0 - 2015: -0.3 - 2016: 1.4 - 2017: 0.4 - 2018: 0.4 - 2019: 0.3 - Identified external debt-creating flows (4+8+9) (in percent of GDP): - 2009: 7.3 - 2010: -2.3 - 2011: 5.6 - 2012: 3.4 - 2013: 4.7 - 2014: 2.9 - 2015: 2.4 - 2016: 2.0 - 2017: 1.5 - 2018: 1.3 - 2019: 1.2 - Current account deficit, excluding interest payments (in percent of GDP): - 2009: 0.3 - 2010: 5.0 - 2011: 8.7 - 2012: 5.1 - 2013: 6.9 - 2014: 4.8 - 2015: 4.8 - 2016: 4.6 - 2017: 4.1 - 2018: 3.8 - 2019: 3.6 - Deficit in balance of goods and services (in percent of GDP): - 2009: 1.0 - 2010: 5.4 - 2011: 8.9 - 2012: 5.4 - 2013: 6.9 - 2014: 4.9 - 2015: 5.1 - 2016: 4.9 - 2017: 4.7 - 2018: 4.6 - 2019: 4.5 - Exports (in percent of GDP): - 2009: 23.7 - 2010: 21.5 - 2011: 23.8 - 2012: 26.2 - 2013: 25.6 - 2014: 27.4 - 2015: 27.1 - 2016: 27.0 - 2017: 27.0 - 2018: 27.1 - 2019: 27.1 - Imports (in percent of GDP): - 2009: 24.7 - 2010: 26.9 - 2011: 32.7 - 2012: 31.6 - 2013: 32.5 - 2014: 32.3 - 2015: 32.1 - 2016: 32.0 - 2017: 31.8 - 2018: 31.7 - 2019: 31.6 - Net non-debt creating capital inflows (negative = outflows) (in percent of GDP): - 2009: -1.6 - 2010: -1.5 - 2011: -1.7 - 2012: -2.0 - 2013: -1.3 - 2014: -1.6 - 2015: -2.2 - 2016: -2.3 - 2017: -2.6 - 2018: -2.8 - 2019: -3.0 - Automatic debt dynamics contribution (in percent of GDP): - 2009: 8.6 - 2010: -5.8 - 2011: -1.4 - 2012: 0.2 - 2013: -0.8 - 2014: -0.3 - 2015: -0.2 - 2016: -0.3 - 2017: 0.0 - 2018: 0.4 - 2019: 0.5 - Contribution from nominal interest rate (in percent of GDP): - 2009: 1.7 - 2010: 1.2 - 2011: 1.0 - 2012: 1.1 - 2013: 1.1 - 2014: 1.1 - 2015: 1.2 - 2016: 1.5 - 2017: 1.7 - 2018: 2.1 - 2019: 2.2 - Contribution from real GDP growth (in percent of GDP): - 2009: 2.2 - 2010: -3.4 - 2011: -3.3 - 2012: -0.8 - 2013: -1.7 - 2014: -1.4 - 2015: -1.4 - 2016: -1.7 - 2017: -1.7 - 2018: -1.7 - 2019: -1.7 ### External position, reserves, and policy assessments - Current account: - The current account deficit increased to 7.9 percent of GDP in 2013 (partly reflecting temporary gold restocking). - The deficit is expected to decrease to 6.3 percent of GDP in 2014. - Staff assessment: underlying CA in 2013 was some 2½ to 5 percent of GDP weaker than the level implied by medium-term fundamentals and desirable policies. - The EBA model estimates a 2013 CA gap of -5.7 percent of GDP. - Real effective exchange rate (REER): - EBA regression estimated a 19 percent overvaluation for the 2013 year average REER. - Staff assessment: REER was 10–20 percent stronger on average in 2013 than consistent with fundamentals; adjusted assessment in technical notes places REER valuation in the range of 0–10 percent given subsequent depreciation through April 2014. - Capital and financial accounts: - Net inflows (including net errors and omissions) in 2013 amounted to some 9 percent of GDP. - Reserve accumulation in 2013 was about 1.2 percent of GDP. - Turkey did not make use of capital controls on inflows or outflows during this period. - FX intervention and reserves: - The central bank started selling foreign exchange to banks through regular auctions in June 2013; cumulative sales reached US$17.6 billion in 2013 and US$20.2 billion at end-January 2014. - Turkey’s gross reserves equaled 116 percent of the IMF composite adequacy metric at end-2013 versus 114 percent at end-2012. - Adjusting for ROM-related reserve holdings reduced the metric to 95 percent at end-2013. - Reserve cover of short-term debt declined from 83 percent in 2012 to 78 percent at end-2013. - Taking account of the current account deficit that needs to be financed, reserve cover drops to 53 percent. - Assessment: reserves available for intervention are significantly lower than gross reserves; given low net international reserves, reserve accumulation is warranted. ### Policy recommendations and implications - External debt is sustainable under the baseline and plausible alternative scenarios but with increased vulnerabilities; susceptible to large depreciation shocks. - Potential policy responses recommended: - Significantly tighter fiscal policy over the medium term. - Continued structural reforms geared at increasing private sector savings. - Monetary policy should continue to keep real interest rates solidly in positive territory. - The CBRT should use any opportunity to accumulate net international reserves, limiting foreign exchange intervention to support the currency to smoothing periods of excessive volatility. - Given the external imbalance and short-term debt exposure, policies to reduce the current account deficit and strengthen external buffers are emphasized. *Source: IMF staff estimates, Annex II. External Debt Sustainability (Turkey).* ### Annex IV. Recent Macro-Prudential Measures ### Annex IV. Recent Macro-Prudential Measures ### Overview of measures and implementation dates - December 2010: Implements loan-to-value ceilings on housing loans to consumer (at 75 percent) and on purchases of commercial real estate (at 50 percent). - Spring 2011: The authorities provided guidance to banks that credit growth (adjusted for FX movements) in 2011 should not exceed 25 percent. - June 2011: Higher risk weights introduced for fast growing consumer loans: - For new general purpose loans with maturities below two years, the risk-weighting increased to 150 percent (from 100 percent). - For new general purpose loans with maturity greater than two years, the risk-weight increased to 200 percent (from 100 percent). - June 2011: Increased provisions for consumer loans: - For new (performing) general purpose loans, general provisions were increased from 1 percent to 4 percent. - General provisions for (pre-nonperforming) loans increased from 2 percent to 8 percent. - The higher provisioning requirements are conditional on banks having a consumer loan portfolio exceeding 20 percent of total loans or having a general purpose loan NPL greater than 8 percent. - June 2011: Limits to credit card payments: - If three or more monthly payments within a calendar year are less than half of the outstanding balance for the period, the individual credit card limits cannot be increased and cash advances for such credit cards cannot be permitted, unless the outstanding balance for the period is fully covered. - August 2011 (effective from 2012): Interest Rate Risk — Announced by the Banking Regulation and Supervision Agency (BRSA) to contain interest rate risk through capital charges on large maturity mismatches, discouraging duration gaps. - September 2011 (apply as of January 2012; abolished February 2013): Changes to minimum Capital Adequacy Requirements — Amended by the BRSA to apply to banks with foreign strategic shareholders. The minimum ratio would depend on various factors such as the CDS spread of the parent and its sovereign, EBA stress test results and the public debt ratio in the country of origin. - September 2011: Changes to deposit insurance premiums — The deposit insurance fund introduced a premium surcharge for large banks and a new factor to calculate the banks’ score for the deposit premium determination. - April 2013: Abolition of loan to value ratios for commercial real estate loans — Loan to value ratios for loans financing commercial real estate were abolished. - October 2013: Credit card limits introduced — Consumer credit card limits were tied to incomes. Minimum payment limits and risk weights were increased. Limit increases were linked to prior income tests. - October 2013: Changes to provisioning rate: - Increased general provisioning rates for uncollateralized consumer loans to 4 percent from 1 percent; - Decreased general provisioning rates on export and SME loans to 0 percent and 0.5 percent respectively from previous 1 percent. - October 2013: Increase in risk weights for consumer car loans — Risk weights of those consumer car loans were increased for loans with a remaining maturity longer than a year. - December 2013: Maturity limit on consumer loans — Maturity of consumer loans is capped at 36 months for consumer loans excluding housing loans and other real estate related loans, and at 48 months for car loans. - February 2014: Limits to installments and credit card cash advances: - As a general requirement, maximum number of installments is capped at 9 months. - Installments are banned for telecommunication device, jewelry, dining, groceries and fuel products. - February 2014: Loan to value requirements for car loans: - Consumer loans for the purchases of passenger cars (including purchases through financial leasing) shall be subject to an LTV ratio of 70 percent for those cars worth up to TRY 50,000 and 50 percent for the incremental car value in excess of TRY 50,000. - November 2014: Remuneration of TRL required reserves: - The CBRT starts paying an interest rate on banks and financing companies’ required reserves (RR) in TRL. - The interest rate on RR will be the weighted average cost of the CBRT’s funding rate minus 700bps for all banks for 2014. - Starting with 2015, the interest rate on RR will be the weighted average cost of the CBRT’s funding rate minus 500bps for banks and financing companies that have a core funding (i.e., (deposit+shareholder’s equity)/credit) ratio higher than the sector average and that maintain or increase their own core funding ratios with regard to the reference period, and minus 700bps for the remaining banks and financing companies. ### Key regulatory emphases and instrument types - Loan-to-value (LTV) ceilings and abolitions: - Housing LTV ceiling: 75 percent (December 2010). - Commercial real estate LTV ceiling: 50 percent (December 2010); abolished for commercial real estate loans (April 2013). - Car loan LTV: 70 percent up to TRY 50,000; 50 percent for incremental value in excess of TRY 50,000 (February 2014). - Credit growth guidance: - Implicit nominal credit growth target for 2011 set at not exceed 25 percent (Spring 2011). - Risk weights and provisioning: - Consumer loan risk weights increased to 150 percent and 200 percent depending on maturity (June 2011). - Consumer car loan risk weights increased for loans with remaining maturity longer than a year (October 2013). - General provisioning for new performing general purpose loans raised from 1 percent to 4 percent; pre-nonperforming from 2 percent to 8 percent (June 2011). - October 2013 provisioning adjustments: uncollateralized consumer loans to 4 percent from 1 percent; export loans to 0 percent; SME loans to 0.5 percent (from 1 percent). - Limits on consumer credit usage and repayment structures: - Credit card payment performance restrictions on limit increases and cash advances (June 2011). - Credit card limits tied to incomes; minimum payment limits and risk weights increased (October 2013). - Maximum number of installments capped at 9 months; installment bans for specified product categories (February 2014). - Consumer loan maturity caps: 36 months (general consumer); 48 months (car loans) (December 2013). - Macro-financial risk charges and capital adequacy: - BRSA measures to contain interest rate risk via capital charges on large maturity mismatches (announced August 2011; effective 2012). - Changes to minimum Capital Adequacy Requirements for banks with foreign strategic shareholders linking minimum ratio to CDS spreads, EBA stress test results, public debt ratio, etc. (September 2011; applied January 2012; abolished February 2013). - Deposit insurance and funding incentives: - Deposit insurance premium surcharge for large banks and new scoring factor for premium determination (September 2011). - Remuneration on TRL required reserves with a differential based on core funding ratio performance: weighted average cost minus 700bps for 2014 for all banks; from 2015 minus 500bps for banks above sector average core funding and minus 700bps for remaining banks (November 2014). ### Conditionalities, thresholds, and precise criteria preserved from source - Provisioning conditionality: higher provisioning requirements apply if consumer loan portfolio exceeds 20 percent of total loans or general purpose loan NPL greater than 8 percent (June 2011). - Credit growth guidance: “should not exceed 25 percent” (Spring 2011). - Consumer loan risk-weight thresholds: 150 percent for maturities below two years; 200 percent for maturities greater than two years (June 2011). - LTV car thresholds: 70 percent up to TRY 50,000; 50 percent for incremental car value in excess of TRY 50,000 (February 2014). - Installment cap: maximum number of installments is capped at 9 months (February 2014). - Consumer loan maturities: capped at 36 months (excluding housing and other real estate related loans); 48 months for car loans (December 2013). - RR remuneration formulae and basis: - 2014: interest rate on RR = weighted average cost of the CBRT’s funding rate minus 700bps for all banks. - From 2015: interest rate on RR = weighted average cost of the CBRT’s funding rate minus 500bps for banks/financing companies with core funding ratio higher than sector average and that maintain or increase their own core funding ratios; minus 700bps for remaining banks and financing companies (November 2014). *Sources: Turkish authorities; and IMF staff.* ### 6. Monetary and Financial Statistics: Data on the central bank balance sheet, and ### _cr14329 - 6. Monetary and Financial Statistics: Data on the central bank balance sheet, and ### Monetary and financial statistics: publication frequency and coverage - Data on the central bank balance sheet, and provisional data on the main monetary aggregates and total domestic credit, are published weekly, with a one- and two-week lag, respectively. - Data on the monetary survey and deposit interest rates are published monthly, with a one month lag, except for year-end data, where the lag is two months. ### Public data on banks’ external funding - The CBRT reports data on banks’ foreign assets and liabilities. - These CBRT-reported data include transactions with banks’ branches abroad that are classified as nonresidents in accordance with the IMF’s Monetary and Financial Statistics Manual and from the BOP perspective. - The Banking Regulatory and Supervision Agency (BRSA) maintains consolidated banking sector data compiled based on the Basel principles with more accurate information on true foreign assets and liabilities; however, these BRSA consolidated data are not currently disseminated in a public report. ### Financial sector surveillance: Financial Soundness Indicators (FSIs) - The BRSA reports: - all 12 core FSIs, - 12 of the 13 encouraged FSIs for deposit takers, - 11 of the other encouraged FSIs, broken down as: - two FSIs for other financial corporations, - three FSIs for the nonfinancial corporations sector, - one FSI for households, - two FSIs for market liquidity, - three FSIs for real estate markets. - The FSI data and metadata for Turkey are posted on the Fund’s FSI website. ### External sector statistics - External sector statistics are compiled in broad conformity with the conceptual framework of the fifth edition of the Balance of Payments Manual (BPM5). ### Data standards and quality - Turkey subscribes to the Special Data Dissemination Standard (SDDS). - The latest Data ROSC was published in September 2009. ### Reporting to STA and international publications - Turkey reports fiscal data for publication in the Government Finance Statistics Yearbook. The latest data available are for 2012 and cover the general government sector and its subsectors with coverage of both stocks and flows, including a full general government balance sheet. - Monthly data are reported on an irregular basis for publication in International Financial Statistics (IFS), starting from September 2009. - The Central Bank of the Republic of Turkey (CBRT) reports to STA the Standardized Report Forms 1SR for the Central Bank and 2SR for the Other Depository Corporations on a monthly basis with a one month lag. - The SRF 4SR for Other Financial Corporations has been reported to the Fund on a quarterly basis from May 2014 and published in IFS from the July 2014 issue. *Source: _cr14329 - 6. Monetary and Financial Statistics: Data on the central bank balance sheet, and* ### 13. The CBRT reports quarterly BOP data to STA with about two months lag; in May 2012, it ### _cr14329 - 13. The CBRT reports quarterly BOP data to STA with about two months lag; in May 2012, it ### Balance of Payments and External Statistics Reporting - The CBRT reports quarterly BOP data to STA with about two months lag. - In May 2012, the CBRT started reporting quarterly IIP data from 2006 onward. - The CBRT participates in: - Coordinated Portfolio Investment Survey (CPIS) - Coordinated Direct investment Survey (CDIS) - CPIS reporting changes (starting with end-June 2013 data): - Reports with semi-annual frequency and enhanced scope. - Includes data on the institutional sector of the nonresident issuers of securities. - Includes data on the institutional sector of the resident holder cross-classified by the institutional sector of selected nonresident issuers. - Commenced reporting encouraged additional detail on the currency composition of portfolio investment holdings. ### Data Frequency, Publication and Quality (as of October 15, 2014) - Exchange Rates - Date of latest observation: Oct. 2014 - Date received: 10/02/14 - Frequency of data: D - Frequency of reporting: D - Frequency of publication: D - International Reserve Assets and Reserve Liabilities of the Monetary Authorities - Date of latest observation: Sep. 2014 - Date received: 9/26/14 - Frequency of data: W - Frequency of reporting: W - Frequency of publication: W - Reserve/Base Money (narrow definition) - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: W and M - Frequency of reporting: W and M - Frequency of publication: W and M - Data Quality – Methodological soundness: O,O, LO, O - Data Quality Accuracy and reliability: O, O, O, O, O - Reserve/Base Money (broad definition) - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: W and M - Frequency of reporting: W and M - Frequency of publication: W and M - Broad Money - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: W and M - Frequency of reporting: W and M - Frequency of publication: W and M - Central Bank Balance Sheet - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: W and M - Frequency of reporting: W and M - Frequency of publication: W and M - Consolidated Balance Sheet of the Banking System - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: W and M - Frequency of reporting: W and M - Frequency of publication: W and M - Interest Rates - Date of latest observation: Oct. 2014 - Date received: 10/02/14 - Frequency of data: D/W/M - Frequency of reporting: D/W/M - Frequency of publication: W/M - Consumer Price Index - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: M - Frequency of reporting: M - Frequency of publication: M - Data Quality – Methodological soundness: O,LO,O,LO - Data Quality Accuracy and reliability: O, O, O, O, O - Revenue, Expenditure, Balance and Composition of Financing – General Government - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: M - Frequency of reporting: M - Frequency of publication: M - Data Quality – Methodological soundness: O, LO, O, O - Data Quality Accuracy and reliability: O, O, LO, O, LO - Revenue, Expenditure, Balance and Composition of Financing – Central Government - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: M - Frequency of reporting: M - Frequency of publication: M - Stocks of Central Government and Central Government-Guaranteed Debt - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: M - Frequency of reporting: M - Frequency of publication: M - External Current Account Balance - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: M - Frequency of reporting: M - Frequency of publication: M - Data Quality – Methodological soundness: O, O, O, LO - Data Quality Accuracy and reliability: O, O, O, O, O - Exports and Imports of Goods and Services - Date of latest observation: Aug. 2014 - Date received: Sep. 2014 - Frequency of data: M - Frequency of reporting: M - Frequency of publication: M - GDP/GNP - Date of latest observation: 2014Q2 - Date received: 2014Q3 - Frequency of data: Q - Frequency of reporting: Q - Frequency of publication: Q - Data Quality – Methodological soundness: O, LO,O, O LO, O, LO, O, LO - Gross External Debt - Date of latest observation: 2014Q2 - Date received: 2014Q3 - Frequency of data: Q - Frequency of reporting: Q - Frequency of publication: Q - International Investment Position - Date of latest observation: Jul. 2014 - Date received: Sep. 2014 - Frequency of data: M - Frequency of reporting: M - Frequency of publication: M ### Executive Summary of IMF Article IV Consultation (Press Release No. 14/535, November 21, 2014) - Recent performance and vulnerabilities: - Turkey’s economy has grown on average by 6 percent annually since 2010. - Growth has been accompanied by a large external deficit, increasing sensitivity to external financing conditions. - Macroeconomic policies described as too accommodative. - Inflation is high and well above the authorities’ target. - Real policy interest rates remain negative. - The exchange rate continues to be stronger than suggested by fundamentals. - These imbalances are holding back growth potential and increasing risks. - Financial system: - Remains well capitalized with non performing loans low and well provisioned. - Banks increasingly reliant on external wholesale funding in foreign exchange and have increased indirect foreign exchange risk. - Main risks: - Capital flows reversal associated with monetary policy normalization in advance economies or changes in the country risk premium. - Other risks: slower European growth, geopolitical issues, and the strength of the policy framework. ### Executive Board Assessment and Policy Recommendations - Directors’ assessment: - Welcomed Turkey’s positive growth and employment performance and commended authorities for weathering financial market turbulence in early 2014. - Noted high inflation, a large external deficit, and reliance on external financing as vulnerabilities. - Emphasized rebalancing the economy, lowering inflation, and strengthening buffers together with ambitious structural reforms. - Fiscal policy: - Fiscal policy should play a bigger role in addressing external vulnerabilities and reducing the burden on monetary policy. - Supported fiscal tightening envisaged in the 2015 budget and the substantial increase in the primary surplus within the 2015-17 medium-term program (some Directors favored a more ambitious pace). - Consolidation should focus on improving spending efficiency and limiting current expenditure growth while preserving capital investment. - Monetary policy: - Called for renewed focus on reducing the inflation rate by setting and sustaining a positive real policy rate to reduce inflation and anchor expectations. - Encouraged further normalization of the monetary policy framework to improve communications and monetary transmission. - A few Directors suggested monetary policy could have multiple objectives given country challenges. - Highlighted increasing foreign exchange reserves, as market conditions permit, to strengthen resilience. - Financial sector and macroprudential policy: - Financial system sound and well capitalized but requires continued vigilance. - Welcomed success of macroprudential measures to limit consumer credit growth and encourage more core funding in the banking sector. - Recommended additional steps to curb growth in wholesale foreign exchange funding and reduce incentives for non-financial corporates to take on exchange rate risk. - Commended progress in enhancing Turkey’s AML/CFT framework. - Structural reforms and savings: - Emphasized importance of increasing national savings, particularly private savings, and reducing reliance on external financing. - Encouraged moving forward with the ambitious reform agenda included in the 10th Development Plan, prioritizing: - Increasing private sector savings - Improving competitiveness and the business climate - Sustaining education and labor market reforms to boost productivity ### Selected Economic Indicators and Projections (2009–15) - 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: - 2009: -4.8 - 2010: 9.2 - 2011: 8.8 - 2012: 2.1 - 2013: 4.1 - 2014: 3.0 - 2015: 3.0 (Proj.) - Contributions to GDP growth: - Private domestic demand: - 2009: -8.3 - 2010: 12.6 - 2011: 9.5 - 2012: -2.9 - 2013: 5.1 - 2014: -0.1 - 2015: 2.6 - Public spending: - 2009: 0.8 - 2010: 0.9 - 2011: 0.4 - 2012: 1.0 - 2013: 1.6 - 2014: 1.5 - 2015: 0.9 - Net exports: - 2009: 2.7 - 2010: -4.4 - 2011: -1.1 - 2012: 4.0 - 2013: -2.6 - 2014: 1.6 - 2015: -0.4 - GDP deflator growth rate: - 2009: 5.3 - 2010: 5.7 - 2011: 8.6 - 2012: 6.9 - 2013: 6.1 - 2014: 9.8 - 2015: 6.7 - Nominal GDP growth rate: - 2009: 0.2 - 2010: 15.4 - 2011: 18.1 - 2012: 9.2 - 2013: 10.5 - 2014: 13.0 - 2015: 9.9 - CPI inflation (12-month; end-of period): - 2009: 6.5 - 2010: 6.4 - 2011: 10.4 - 2012: 6.2 - 2013: 7.4 - 2014: 9.0 - 2015: 7.1 - PPI inflation (12-month; end-of-period): - 2009: 5.9 - 2010: 8.9 - 2011: 13.3 - 2012: 2.5 - 2013: 7.0 - 2014: 8.8 - 2015: 6.2 - Unemployment rate: - 2009: 13.1 - 2010: 11.1 - 2011: 9.1 - 2012: 8.4 - 2013: 9.0 - 2014: 9.5 - 2015: 10.4 - Average nominal treasury bill interest rate 1/ (Average to latest available) - 2009: 11.6 - 2010: 8.5 - 2011: 8.8 - 2012: 8.4 - 2013: 7.4 - 2014: 9.6 - Average real policy rate 1/: - 2009: 2.4 - 2010: -1.6 - 2011: -0.4 - 2012: -2.9 - 2013: -2.5 - 2014: -0.3 Nonfinancial public sector (Percent GDP) - Primary balance: - 2009: -0.9 - 2010: 0.5 - 2011: 2.0 - 2012: 1.3 - 2013: 1.1 - 2014: 0.3 - 2015: 0.9 - Net interest payments: - 2009: 4.6 - 2010: 3.7 - 2011: 2.7 - 2012: 2.8 - 2013: 2.7 - 2014: 2.3 - 2015: 2.5 - Overall balance: - 2009: -5.5 - 2010: -3.1 - 2011: -0.7 - 2012: -1.5 - 2013: -1.6 - 2014: -2.0 - 2015: -1.7 - General government structural primary balance 2/: - 2009: 0.9 - 2010: 0.6 - 2011: 0.1 - 2012: -0.7 - 2013: -0.7 - 2014: -0.8 - 2015: -0.6 Debt of the public sector - General government gross debt (EU definition): - 2009: 46.1 - 2010: 42.3 - 2011: 39.1 - 2012: 36.2 - 2013: 36.2 - 2014: 33.7 - 2015: 32.4 - Nonfinancial public sector net debt: - 2009: 39.5 - 2010: 36.8 - 2011: 33.4 - 2012: 30.4 - 2013: 30.0 - 2014: 28.4 - 2015: 27.6 External sector - Current account balance (Percent of GDP): - 2009: -2.0 - 2010: -6.2 - 2011: -9.7 - 2012: -6.1 - 2013: -7.9 - 2014: -5.8 - 2015: -6.0 - Nonfuel current account balance: - 2009: 2.3 - 2010: -1.8 - 2011: -3.6 - 2012: 0.5 - 2013: -1.9 - 2014: 0.0 - 2015: -0.4 - Gross financing requirement: - 2009: 18.1 - 2010: 18.9 - 2011: 24.6 - 2012: 21.6 - 2013: 25.4 - 2014: 26.8 - 2015: 26.2 - Foreign direct investment (net) (Percent of GDP): - 2009: 1.2 - 2010: 1.0 - 2011: 1.8 - 2012: 1.2 - 2013: 1.2 - 2014: 1.1 - 2015: 1.7 - Gross external debt 3/ (Percent of GDP): - 2009: 43.8 - 2010: 39.9 - 2011: 39.2 - 2012: 43.0 - 2013: 47.4 - 2014: 49.4 - 2015: 49.1 - Net external debt (Percent of GDP): - 2009: 24.2 - 2010: 23.8 - 2011: 23.8 - 2012: 24.1 - 2013: 28.0 - 2014: 30.2 - 2015: 30.9 - Short-term external debt (by remaining maturity) (Percent of GDP): - 2009: 15.5 - 2010: 16.2 - 2011: 16.0 - 2012: 18.4 - 2013: 20.8 - 2014: 21.4 - 2015: 20.7 Monetary aggregates - Nominal growth of M2 broad money (percent): - 2009: 13.0 - 2010: 19.1 - 2011: 14.8 - 2012: 10.2 - 2013: 22.2 - 2014: 13.0 - 2015: 9.9 GDP (billions of U.S. dollars) 4/ - 2009: 614.4 - 2010: 731.5 - 2011: 774.7 - 2012: 788.6 - 2013: 821.9 - 2014: ... - 2015: ... GDP (billions of Turkish lira) - 2009: 952.6 - 2010: 1,098.8 - 2011: 1,297.7 - 2012: 1,416.8 - 2013: 1,565.2 - 2014: 1,769.3 - 2015: 1,944.5 Notes and recent developments highlighted by Turkish authorities - Turkish authorities noted average expansion of 5.5 percent between 2010 and 2014 (2014 figure based on the Medium-Term Program forecasts). - Authorities highlighted policy responses since the second half of 2011 to limit domestic demand growth, contain credit expansion, and reduce the current account deficit. - Current account deficit-to-GDP ratio declined by 3.6 percentage points to 6.1 percent in 2012 (authorities’ view). - Consumer price inflation reached 6.2 percent in 2012 year-end, described as the lowest level in the last 25 years. - In response to reemergence of inflationary pressures and a widening current account deficit in 2013, additional macroprudential measures and monetary tightening were implemented in late 2013 and early 2014. Outlook and Medium-Term Program (MTP) objectives and projections - MTP main objectives: - Maintain price stability. - Improve external imbalances. - Bolster domestic savings. - Reorient resources to more productive sectors. - Enhance production capacity and technological advancement. - Improve export contribution to GDP growth and boost productivity. - Authorities’ macroeconomic projections and expectations: - Growth projected to rise gradually to 4 percent next year (2015) and 5 percent in 2016 and 2017. - Private fixed investments expected to revive and grow by 8.7 percent on average during the MTP’s time frame. - Private savings expected to rise from 11.7 percent in 2014 to (projection truncated in source text). Italic: Summary derived from IMF staff report and related materials in the supplied content. ### 13.1 percent in 2017, making an important contribution to the increase in the domestic savings ### _cr14329 - 13.1 percent in 2017, making an important contribution to the increase in the domestic savings ### Macroeconomic outlook, savings, and current account - Domestic savings ratio will increase, with the public sector continuing to contribute given a tight fiscal policy stance. - Current account deficit projection: - Will remain contained at around 5 percent of GDP despite a surge in GDP growth. - The recent fall in oil prices, if sustained, would help achieve a much sharper reduction in the current account deficit despite sluggish growth in Turkey’s major export markets. - Oil and imports: - Favorable oil prices and measures to suppress reliance on imports support current account containment. - Export-import coverage: - Export-import coverage ratio stood at 60 percent in 2013 and is estimated to soar to 70 percent in 2018. ### Inflation and exchange rate dynamics - FX pass-through and inflation trajectory: - FX pass-through expected to die out by the end of 2015 following exchange rate stabilization. - Inflation is expected to fall to 6.3 percent at the end of 2015 based on assumptions that domestic food prices normalize, oil prices remain stable and exchange rate effects gradually weaken. - In the medium term, inflation is forecast to converge to the target. - Monetary–fiscal interaction: - A tight fiscal policy stance is identified as an essential factor contributing to the monetary guardian’s fight against inflation. ### Fiscal policy and public finances - Fiscal stance and composition: - Fiscal discipline remains intact. - Authorities plan to limit current expenditure growth, reorient capital spending to infrastructure and R&D. - Public sector balances and debt: - Total public sector primary surplus will increase by 1.4 percentage points to 1.8 percent of GDP in 2017. - Public sector overall balance yielding a surplus of 0.1 percent of GDP in 2017. - Improvement in the primary surplus will decrease public debt to 28.5 percent of GDP in 2017. - Budget priorities: - 2015 draft budget law aims to balance strengthening infrastructure, improving quality of public services and maintaining fiscal discipline. - Education and healthcare spending will continue to receive a major share of the budget, with education spending constituting 22.5 percent of tax revenues. - Tax and compliance reforms: - New Income Tax Law submitted to Parliament to broaden the tax base, make the tax system fairer and enforce voluntary tax compliance. - Planned modernization of tax procedures law and streamlining of stamp duty and other charges to lower the cost of doing business. - Commitment to effectively fight against the informal economy. ### Monetary policy actions and tools - 2013–2014 policy actions: - CBRT provided FX liquidity via foreign exchange selling auctions and direct interventions. - CBRT hiked the one week repo rate by 550 basis points to 10 percent in January 2014. - Monetary policy framework simplified with Turkish Lira liquidity mostly at the one week repo rate. - Frontloaded tightening helped risk premia recover notably in Q2 2014. - Subsequent adjustments: - CBRT initiated measured rate cuts as cumulative impact of depreciation on inflation declined. - April 2014: late liquidity window lending rate cut to 13.5 percent. - May–July 2014: one-week repo rate cut by a cumulative 175 basis points. - Recent liquidity tightening kept the yield curve flat, confirming a tight monetary policy stance. - Policy toolkit and stance assessment: - Broad toolkit includes policy rates, macroprudential policies, reserve requirement ratio and liquidity policy to manage inflation expectations. - Judgments based solely on policy rates may be misleading; liquidity policy and effective cost of funding from the CBRT matter. - Authorities believe financial conditions are tight and will quell the inflation rate. - Reserves accumulation: - Through export rediscount credits (extended in domestic currency and repaid in FX), a total of US $12.9 billion will be added to the reserves in 2014. - Authorities concur with staff that reserve buffers need bolstering, though the current pace of accumulation seems appropriate. ### Financial sector resilience and prudential measures - Banking sector soundness: - Average capital adequacy ratio is 15.9 percent. - Non-performing loans ratio remained well anchored at about 2–3 percent. - Stress tests by CBRT and BRSA indicate sector resilience to idiosyncratic shocks. - Consumer lending and macroprudential action: - Consumer lending growth slowed from 27.8 percent in 2013 to 14.3 percent in mid-September on FX adjusted terms; commercial loan growth remained robust. - Measures: changes in credit card limits and maturity limits; number of installments on credit card spending limited to 9 months in early 2014; differentiated loan-to-value requirements for car loans. - Higher funding costs reflected in consumer and commercial lending rates. - Reserve remuneration and incentives: - Turkish Lira component of required reserves will be remunerated; remuneration rate based on financial institutions’ core liability ratios. - Remuneration for November-December 2014: weighted average cost of the CBRT’s funding rate minus 700 basis points for all banks and financing companies. - Starting 2015: for institutions with core liability ratios above the sector’s average remuneration rate will equal weighted average cost of CBRT funding minus 500 basis points; for those below the average rate will be weighted average cost of the CBRT funding minus 700 basis points. - New prudential measures planned: - Work on collecting household income data to potentially introduce caps on household debt to income. - Ministry of Finance authorized to introduce a partial tax deductibility on corporate debt: lower tax deductibility threshold on debt from 100 percent to 90 for companies with total debt to assets ratio above 50 percent (not yet implemented). - FX risk management and backstops: - Banking sector FX loans to NFCs subject to strict underwriting rules; historically NPL ratio for FX loans under 1 percent. - Banks’ external FX funding rollover ratio remains above 100 percent. - Total FX bond issuances by Turkish banks abroad grew by 46.1 percent year-on-year in 2014 and reached US $23 billion with average maturity longer than 5 years. - Banks hold substantial FX deposits at the CBRT as part of ROM and FX reserve requirements. - CBRT stands ready to provide around US $10.8 billion to banks through its lender of last resort facility; rates for US$ and euros stand at 7.5 and 6.5 percent, respectively. - Micro-based CBRT study: 63 percent of real sector companies do not have FX loans; 68 percent of companies having FX loans generate export receipts, reducing FX risk. - External debt roll-over ratio for NFCs remained above 100 percent over the last four years. ### Structural reforms and transformation programs - Reform framework: - Authorities mapped out 25 comprehensive transformation programs in parallel with the 10th Development Plan to reach 2023 targets. - First reform package: - Unveiled in November; includes nine transformation programs and 417 action plans. - Primary goals: improve value added of exports and lower dependency on energy imports. - Industry-specific measures to increase productivity and competitiveness. - Special emphasis on innovation, R&D and technology development; support for startup companies especially in innovative fields; investments in technology intensive production. - Energy policy priorities: - Domestic resource utilization in energy production and energy efficiency to lower the energy import bill, which constituted approximately 22 percent of total imports in 2013. - Authorities will develop new financing models and incentives for energy efficiency investments, encourage capacity improvements in renewable energy and promote efficient use of domestic coal resources. - Remaining transformation programs: - Will address labor market weaknesses, improve the business climate, and bolster competitiveness and productivity. *Source: _cr14329 - 13.1 percent in 2017, making an important contribution to the increase in the domestic savings* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr14329.pdf_