IMF Survey: Turkey—Navigating Through Choppier Waters

IMF News, May 9, 2008

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Turkey's economy has performed well since the 2001 crisis but is facing less favorable external conditions.
Thanks to good policies and a benign external environment, Turkey experienced six years of strong and stable economic performance relative to emerging market peers.
Global developments are creating headwinds for growth, inflation, and external financing.

High global prices for energy and food, combined with the effects of a domestic drought, have recently pushed up Turkish consumer price inflation to 9¾ percent.
There is a risk that these shocks might cause broader-based price pressures, significantly delaying convergence to the official 4 percent inflation target.
Growth projections and recent outcomes:
- Growth is projected to slip to 4.0 percent in 2008 from 4.5 percent in 2007 and 6.9 percent in 2006.
Global slowdown transmission:
- IMF staff research suggests that a 1 percentage point reduction in industrial-country growth tends to reduce Turkey's growth by a cumulative 0.8 percentage points over two years.
- Continued dynamism of other emerging markets should mitigate this impact somewhat; the share of emerging markets in Turkey's total exports rose from 20 percent to 26 percent over the past three years.

Only about half of the total spillover from industrial-country growth comes via the trade channel, highlighting the importance of financial transmission channels.
Turkish asset prices have tended to respond more strongly to global market fluctuations than any other large emerging market.
Turkey's external financing requirement and composition:
- Large external financing requirement—about 17½ percent of GDP in 2008.
- The composition of external financing has improved, with FDI inflows surging to unprecedented levels and covering half of the current account deficit in 2007.
- Turkey's stock of gross external debt is 34 percent of GDP.
Historical trends imply tighter global liquidity would normally reduce capital inflows for Turkey, although data for the last two years point to some decoupling.

The IMF Executive Board on May 9 completed the seventh and final review under the three-year SDR 6.66 billion (about $10.8 billion) Stand-By Arrangement for Turkey.
Completion of this review enables Turkey to draw immediately the remaining balance under the arrangement, equivalent to $3.65 billion.
Public sector balance sheets have sharply strengthened, partly offset by an increase in private sector external debt due to extensive corporate borrowing.

Turkey is in a much stronger position to cope with external headwinds than in the pre-2001 period, having achieved:
- Fiscal consolidation,
- Large foreign exchange reserves,
- Central bank independence and inflation targeting,
- Progress on privatization,
- Reforms in social security, tax administration, and the banking sector.
Short-term policy challenges:
- Authorities must balance growth concerns with the need to ensure disinflation and external adjustment.
- Following last year's fiscal slippages, it is critical to stick closely to this year's fiscal target (a primary surplus of at least 3.5 percent of GDP).
- Engineer a gradual tightening of monetary policy over the coming months.
The chosen policy mix leaves little margin for error.

Turkey's medium-term challenge: combine continued macroeconomic policy discipline (close adherence to the announced medium-term fiscal path and convergence to the 4 percent inflation target) with microeconomic reforms to increase resilience and boost potential growth.
IMF-recommended actions in four main areas:
- enhancing the institutional framework for fiscal policy by adopting a fiscal rule;
- making labor markets more flexible;
- addressing bottlenecks in electricity supply; and
- deepening financial intermediation.
Expected outcomes from reforms:
- Generate fiscal space to lower high marginal tax rates,
- Create jobs,
- Reduce informality, and
- Raise productivity to afford higher living standards on a sustained basis.

Source: IMF Survey: Turkey—Navigating Through Choppier Waters (May 9, 2008).