The Turkish economy has withstood several shocks. However, increased political uncertainty, a sharp fall in tourism revenues, and a high level of
corporate debt are all
taking a toll. The current monetary stance balances the need to contain inflation, which is still above target, against the backdrop of a slowing
economy.
Favorable external conditions have helped so far, but external financing needs remain large and limit fiscal space.
Nevertheless, some fiscal loosening is appropriate to support the economy. Macroprudential measures should be strengthened to lower foreign exchange
risk.
1. Following a strong performance last year, the economy slowed in 2016.
Output growth is projected to decline to 2.9 percent in 2016, due to weak business confidence and negative domestic and external shocks. The
unemployment rate is high and rising. Credit growth has slowed significantly. Uncertainty has increased due to geopolitical tensions, as well as
the July 15 failed coup attempt and its aftermath.
2. Inflation has declined somewhat but is expected to remain well above the authorities’ five percent target.
The 30 percent minimum wage increase and sticky expectations are likely to keep inflation at about 8 percent in 2016 and 2017.
3. The current account deficit remains sizable.
The effect of lower energy prices has been broadly offset by the weak tourism season and the current account deficit is projected at 4½ percent of
GDP in 2016. The economy’s external position remains weaker than the level consistent with medium-term fundamentals. The current account deficit is
expected to widen in 2017, due to higher projected oil prices and a wider fiscal deficit.
4. Significant external financing needs have been comfortably met due to ample global liquidity.
Despite some increase in average maturity of external debt, annual rollover needs remain close to a quarter of GDP. The recent rating downgrades
contributed to an increase in the cost of foreign funding.
The Policy Agenda
The main challenge is to avoid an excessive slowdown, which could trigger a deleveraging cycle. Favorable external financing conditions should be used
to rebuild buffers, reduce inflation, and address external imbalances
.
Fiscal policy
5. A moderate fiscal loosening is appropriate, but should be accompanied by a credible medium-term consolidation plan.
For 2017, a discretionary expansion of about ½ percent of GDP would support domestic demand without contributing significantly to external
imbalances. The authorities could consider an extension of the minimum wage subsidy at a reduced level to support employment. The increase in
public investment is welcome, but should be directed towards high return projects. The newly introduced project-based incentives may not meet the
authorities’ expectations, given the uncertainty and elevated private debt burden. The envisioned fiscal consolidation in the Medium-Term Plan
should be backed by credible measures.
6. Enhanced management of fiscal risks is warranted
. With continued expansion of the PPP portfolio and related guarantees, contingent liabilities are increasing. Stronger central oversight,
approval, and disclosure are needed. This should cover guarantees issued by entities other than the Treasury. Passage of a comprehensive PPP
framework law would help in this regard. The mission recommends that the governance of the sovereign wealth fund be aligned with international best
practices.
Monetary Policy
7. The current monetary stance balances the need to contain inflation against the backdrop of a slowing economy, and
should be maintained without further easing.
8. The simplification of the monetary framework is welcome.
A framework in which all liquidity is provided at the policy rate would improve the transmission of monetary policy. The enhanced provision of Lira
liquidity after the failed coup attempt was appropriate, but should be gradually withdrawn.
9. Reserves should be increased further.
Although the economy has buffers to sustain short-lived moderate capital outflows, Lira depreciation puts pressure on the balance sheets of
nonfinancial corporate sector. The economy remains heavily dependent on external financing.
The CBRT’s focus on boosting net
reserves should be maintained. The suspension of regular foreign exchange auctions is welcome.
Financial Sector Policy
10. Bank capital levels remain high although some buffers are decreasing.
Indicators of asset quality have deteriorated, especially in the household and SME sectors. Regulatory changes enable banks to restructure loans in
the tourism and energy sectors, as well as consumer loans and credit cards. Building on the enhanced legal framework for financial regulation,
supervisory processes and governance standards in banks should be further strengthened.
11. Macroprudential measures should be strengthened to lower foreign exchange risk in the economy.
The economic slowdown is increasing these risks. Moreover, macroprudential measures should not be relaxed for demand management purposes.
Structural Policy
12. Rebuilding business confidence and ensuring public institutional capacity are key priorities.
In addition, improvements to the investment climate should continue to focus on simplifying the procedures for starting a business, as well as on
enhancing the efficiency of the legal system.
13. The new pension auto-enrollment law is a welcome step in the right direction.
However, its impact on aggregate savings is likely to be small and the reform has a few design shortcomings which could impede its effectiveness.
14. Labor market reforms should aim at boosting productivity and participation.
Efforts to ease labor market rigidities – such as the recent amendments to the labor law on flexible employment – could help reduce informality and
encourage higher labor force participation. The reform of the severance pay system should also be accelerated. Future minimum wage increases should
be in line with expected inflation and productivity gains. The cost of labor should be appropriately differentiated according to regional economic
developments.
15. Better integration of refugees would provide stronger economic benefits.
Turkey is hosting a large number of refugees, who are entitled to public services. Although the legislative changes made in January 2016 allow
Syrian refugees to apply for work permits, the uptake has been low – in part due to skill mismatches. A simplified application process together
with an effective communication strategy could also improve integration of refugees into formal employment. Mobilizing international assistance
would improve access to education, health care, and public utilities.
The IMF team would like to thank the authorities and our counterparts in the private sector for their hospitality and open and constructive
discussions.
