Press Information Notice: IMF Concludes Article IV Consultation with Turkey

August 5, 1997

Public Information Notices (PINs) are issued, (i) at the request of a member country, following the conclusion of the Article IV consultation for countries seeking to make known the views of the IMF to the public. This action is intended to strengthen IMF surveillance over the economic policies of member countries by increasing the transparency of the IMF's assessment of these policies; and (ii) following policy discussions in the Executive Board at the decision of the Board.

The IMF Executive Board on July 9, 1997 concluded the 1997 Article IV consultation1 with Turkey.


Following a sharp contraction in 1994, output growth rebounded strongly during 1995–96 (to average about 8 percent annually), reflecting strong export growth and a recovery in private consumption and investment, and, in 1996, a renewed expansionary fiscal stance. Growth in 1997 is projected at 5½ percent, again driven primarily by domestic demand, but with exports also rising strongly. Inflation in the course of 1997 is projected to remain in the 80–85 percent range.

The interpretation of developments in the balance of payments is complicated by the large but unrecorded "shuttle trade," mainly with the countries of the former Soviet Union. Although estimates of the magnitude of this trade vary widely, the Central Bank of Turkey has made a preliminary adjustment to the 1996 balance of payments data which reduces the current account deficit from 2.4 percent of GNP on an unadjusted basis to 0.8 percent of GNP, including shuttle trade receipts. Exports of goods and services grew by 12 percent a year during 1995–96 despite sluggishness in Europe and the rapid expansion of domestic demand.

Turkey’s external debt rose to about US$80 billion in 1996 (43 percent of GNP), of which almost US$49 billion was public debt (26.2 percent of GNP). Short-term external debt, mainly private, continued rising strongly in 1996. However, international reserves also increased almost by the same amount to a level of almost US$17 billion, or 3.8 months of imports, by end-1996. The government maintained access to external credit, raising US$3.1 billion in 1996 and US$1.4 billion so far in 1997, despite recent rating downgrades. The debt service ratio is expected to increase from 23.8 percent of current receipts (excluding shuttle trade) to 26½ percent in 1997.

The fiscal position deteriorated sharply in 1996 as the public sector borrowing requirement is estimated to have reached 11.3 percent of GNP, against 6.1 percent in 1995. Budgetary revenues stagnated (at 17.7 percent of GNP) and budgetary expenditures rose to about 26 percent of GNP, led by transfers (especially for social security) and interest payments, with the latter reaching about 10 percent of GNP, despite a decline in interest rates on domestic borrowing and a lengthening of maturities during the course of the year. Although domestic borrowing was very large in 1996, the stock of outstanding domestic and external government debt fell slightly in relation to GNP, reflecting the central government primary surplus, rapid economic growth, and below-market interest rates on noncash debt.

IMF staff projections indicate a decline of 1.7 percent in the central government primary surplus in 1997 (to 0.1 percent of GNP), an improvement of 0.7 percent in the public sector borrowing requirement (to 10.6 percent of GNP), and continued large domestic borrowing. Over the medium term, fiscal sustainability is threatened by the costs of an overly generous and poorly managed social security system whose deficit reached 2 percent of GNP in 1996. In addition, tax administration is weak and expenditure control hampered by the existence of extrabudgetary funds, which are included in the budgetary figures.

Privatization is an important means of reducing distortions, improving resource allocation and a major potential source of one-off budgetary financing. However, the achievement of ambitious targets for the sale of state assets (a target of 4 percent of GNP underlies the 1997 budget) has been frustrated by the failure to surmount legal and practical obstacles, and the absence of an adequate legal and regulatory framework.

The central bank has recently followed a monetary policy based on a real exchange rate rule, with day-to-day operations directed at smoothing fluctuations in overnight lending rates. As a result, the value of the lira remained substantially unchanged in real effective terms in 1996 while capital inflows, attracted by high interest rates, contributed to the sharp increase in the central bank’s foreign assets. These were partially sterilized, resulting in reserve money growth of some 81 percent in 1996.

The banking system displays a number of problem areas. The financial situation of the state banks, which account for over 40 percent of the system, including the two largest banks, remains weak. Directed lending at subsidized rates undertaken by state banks subjects them to perennial liquidity problems, losses, and inadequate capitalization (the risk-adjusted capital asset ratio of state banks declined to 0.4 percent at end-September 1996). Private commercial banks, for their part, have strengthened their balance sheets in recent years and currently exceed the Basle minimum capital adequacy ratio of 8 percent significantly. However, they still are exposed to a significant maturity mismatch on their assets and liabilities and a substantial open net foreign exchange position.

Executive Board Assessment

Executive Directors observed that output growth remained strong despite continued high inflation, and that international reserves were at an adequate level. However, Directors highlighted the adverse effects of high inflation on the sustainability of output growth and on income distribution. They also expressed concern about the weak fiscal position and the precariousness of the economy, reflected in the high level of short-term external debt and continued high domestic interest rates, as well as the recent downgrading of Turkey by major credit rating agencies. Directors stressed that the realization of Turkey’s economic potential required the rapid establishment and maintenance of a stable macroeconomic environment. Accordingly, while welcoming the new government’s intentions, they strongly urged it to embark on a bold and comprehensive program of stabilization policies and structural reform to reduce inflation and set the economy on a sustainable growth path.

Directors recommended a bold approach to disinflation in order to establish the credibility needed to break inflationary inertia. Fiscal consolidation was considered to be the linchpin of any stabilization effort, and it would require a significant and front-loaded increase in the primary fiscal surplus. A sustainable fiscal adjustment would necessitate far-reaching reforms in many areas. Directors emphasized the importance of restraint over discretionary spending, including, in particular, reductions in the wage bill, transfers and subsidies, and in the expenditures of extrabudgetary funds. To control the burgeoning deficit of the social security system, increases in the minimum retirement age and a tightening of the link between contributions and benefits should be introduced quickly.

On the revenue front, Directors urged the authorities to broaden the tax base, reduce exemptions, and strengthen tax administration. Suggestions were also made to unify and raise the value-added tax rate, to raise gasoline taxes, and to increase the share of direct taxes in total tax revenue. There was also an urgent need to strengthen budgetary control by eliminating the quasi-fiscal activities of the state banks and state economic enterprises, and by consolidating the extrabudgetary funds and bringing them into the formal budget to enhance the transparency of the public finances. Directors also urged the authorities to firmly resist pressures to adopt backward wage indexation in the public sector.

Directors called for an acceleration in the privatization process, and, in that context, stressed the importance of developing the necessary legal and regulatory framework. Urgent steps should be taken to eliminate the various legal and other obstacles to privatization and to foreign investment, particularly in the energy sector.

Directors considered that the adoption of credible measures to reduce the fiscal deficit, to limit backward indexation, and to address deep-seated structural problems would permit a reorientation of monetary policy toward reducing inflation. Greater central bank independence and the elimination of central bank advances to the treasury would also further bolster the effectiveness of monetary policy. Some Directors considered that under a bold and credible adjustment effort, a nominal exchange rate peg could be advantageous. However, a view was also expressed that given past experience, it would be difficult to be absolutely confident that all policies needed to underpin an exchange rate peg would be implemented, and that, therefore, a move to a peg would be risky.

Directors expressed concern about weaknesses in the banking sector, especially the low earnings, capitalization, and liquidity of the state banks, which required immediate attention. They urged the authorities to strengthen banking sector supervision and accounting standards, and to end the preferential lending of state banks to favored sectors, a practice that introduces distortions and undermines the stability of the banking sector as a whole. Eliminating the quasi-fiscal activities of state banks would also permit their eventual privatization, a goal that should be pursued as an essential element of banking sector reform.

Directors urged the authorities to move ahead forcefully with improvements in the coverage, quality, and timeliness of Turkey’s macroeconomic data. They strongly regretted the recent failure to release monthly data on budgetary receipts and expenditures, and urged the authorities to reinstate the monthly fiscal data releases and to improve the transparency of the fiscal accounts. They also encouraged the authorities to make additional efforts to assess the magnitude and implications of the shuttle trade and to improve data on the balance of payments and capital flows more generally.

A few Directors encouraged the authorities to consider an arrangement with the IMF to underpin a strong macroeconomic and structural adjustment program, and to enhance the credibility of the stabilization efforts that they regarded as essential for the future growth of the Turkish economy.

Turkey: Selected Economic Indicators

  1993 1994 1995 19961 19972

  Change in percent
Domestic Economy
    Real GNP 8.1 -6.1 8.1 7.9 5.5
    CPI (Dec. to Dec.) 71.1 125.5 78.9 79.8 84.0
    WPI (Dec. to Dec.) 60.3 149.6 64.9 84.9 85.3
    Unemployment (percent) 7.7 8.1 6.9 6.0 ...
  In billions of U.S. dollars
External Economy  
    Trade balance -14.2 -4.2 -13.2 -18.4 -21.3
    Current account -6.4 2.6 -2.3 -4.4 -5.7
    Current account (adjusted)3 ... ... ... -1.5 ...
    Foreign reserves4 7.7 8.5 12.6 16.8 ...
    Total external debt 67.4 65.6 73.3 79.8 82.5
         Medium- and long-term 48.8 54.3 57.6 59.2 58.8
         Short-term 18.5 11.3 15.7 20.5 23.7
    Debt service ratio5 27.0 30.5 28.7 23.8 26.5

Real effective exchange rate (1990=100)6

107.5 80.7 86.1 87.8 ...
  Percent of GNP
Financial Variables
    Public sector borrowing requirement7 14.9 9.3 6.1 11.3 10.6
    Consolidated budget deficit 6.4 4.0 3.8 8.3 7.7
         Primary balance -0.9 3.7 3.3 1.8 0.1
    Central government debt 29.4 38.1 32.3 31.3 31.2
         External 15.6 23.2 18.6 16.4 15.4
         Domestic 13.8 14.9 13.8 14.9 15.8

    Total domestic investment

26.1 21.2 23.1 23.6 24.1

Change in percent

Money and credit (end of year)

    Reserve money 66.2 82.6 84.9 80.9 77.0
    M2X8 263.3 147.8 103.4 109.6 87.3
    Interest rate (percent)9 85.8 161.0 123.5 136.2 ...

Sources: Data provided by the Turkish authorities; and IMF staff estimates.

3Adjusted for shuttle trade.
4Gross official reserves at end-of-period; excluded balances of the Turkish Defense Fund; includes gold.
5Interest plus medium- and long-term debt repayments as percent of current receipts (excluding official transfers).
6Period average.
7Adjusted for extrabudgetary and quasi-fiscal operations.
8M2 plus resident foreign exchange deposits.
9Three-month treasury bill rate, annual average.

1Under Article IV of the IMF’s Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country’s economic developments and policies. On return to headquarters, the staff prepare a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of directors, and this summary is transmitted to the country’s authorities. In this PIN, the main features of the Board’s discussion are described.


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