IMF Executive Board Concludes 2021 Article IV Consultation with Turkey

IMF News, June 11, 2021

Source details

Canonical URL: IMF Executive Board Concludes 2021 Article IV Consultation with Turkey

Other formats

Bibliographic details

Published: June 11, 2021

Economic context and pre-pandemic vulnerabilities

Growth became increasingly dependent on externally-funded credit and demand stimulus.
Large current account deficits were financed mainly by debt, leading to high external financing needs.
Rapid credit growth, led by state-owned banks, and high inflation undermined monetary policy credibility and fueled deposit dollarization.
Resulting pressure on the lira contributed to large reserve losses; Turkey entered the pandemic with lower buffers than most peers.

Pandemic impact and recovery

Human and economic toll: thousands of lives lost and many livelihoods compromised.
Recovery profile:
- Turkey experienced positive economic growth in 2020, among the few countries to do so.
- Key drivers: large interest rate cuts, rapid credit provision by state-owned banks, administrative and regulatory credit incentives, and extensive liquidity support.
Labor market: employment has partially recovered, but conditions remain challenging, particularly for females and the youth.
Fiscal stance: public debt remained contained at around 40 percent of GDP; direct fiscal support was relatively modest and central government deficit widened only marginally in 2020.
Some fiscal space remains, but is somewhat limited by contingent liabilities and potential debt rollover pressures.

Evolving vulnerabilities, reserves, and currency dynamics

Policies that supported the recovery also exacerbated vulnerabilities: higher inflation, increased dollarization, and a large shift in the current account increased pressure on the lira.
Heavy foreign exchange sales led to steep reserve declines from already-low levels.
Monetary policy: a shift towards a firm monetary policy stance since the Fall was initially well received but its durability has recently been called into question.
Currency movement: the lira stands nearly 40 percent below its pre-pandemic level.
Reserves: gross reserves are well below the recommended adequacy range; net international reserves are negative once foreign exchange swaps with the central bank are subtracted.
Lira depreciation added to non-financial corporate and bank balance sheet strains.

Outlook and risks

Growth projection:
- Growth should reach about 5¾ percent in 2021, mainly reflecting a large positive carryover from the sharp activity rebound in the second half of 2020, before returning to a lower trend from 2022 onwards.
Inflation: expected to remain high.
Reserves: expected to decline further.
Major risks:
- Domestic: premature relaxation of monetary and credit policies or other policy missteps that further erode credibility and buffers.
- External: interest rate increases in advanced economies and higher global risk aversion exposing vulnerabilities.
- Other: vaccination delays and adverse geopolitical developments.
Vulnerabilities: high external financing needs, sizeable domestic foreign exchange deposits, and low reserve buffers make the economy vulnerable to shocks and to changes in sentiment at home and abroad.

Executive Board assessment — findings and priorities

Recognition:
- COVID-19 has taken a severe toll, but Turkey’s recovery has been exceptional.
- Recovery driven by rapid money growth and credit provision by state-owned banks, and extensive liquidity support, while public debt has remained contained.
Concerns:
- These policies fueled inflation and external imbalances and exacerbated pre-pandemic vulnerabilities: low reserves, large external financing needs, and dollarization.
Priorities going forward:
- Adopt policies to reduce vulnerabilities, mitigate scarring, and improve prospects for durable growth, while responding to pandemic-related needs in the short term.
- Strongly commendation for hosting many refugees.

Policy recommendations from Executive Directors

Monetary policy and central bank framework:
- Strongly commit to, and deliver, a firm monetary policy stance to bring inflation towards target.
- Encourage a further timely and well-calibrated tightening if inflation expectations increase further.
- Strengthen central bank independence.
- Rebuild high-quality reserves.
- Further simplify the operational framework and improve policy communication.
Fiscal policy:
- Given relatively tight fiscal targets for 2021, scope exists for additional targeted and temporary support in 2021 to help vulnerable sections of society and to minimize scarring.
- Any support should be accompanied by a credible consolidation plan to lower debt over time, to be legislated now and enacted when the recovery is entrenched.
- Some Directors saw merit in firm fiscal restraint to reduce persistent imbalances and boost policy credibility.
- Encourage further steps to strengthen debt management, better monitor quasi-fiscal operations and extra budgetary institutions, and enhance fiscal transparency.
Financial sector:
- Reign in and refocus state-owned bank credit growth.
- Carefully monitor bank foreign exchange liabilities.
- Gradually reverse regulatory flexibility and loan deferrals as the pandemic recedes.
- Once the pandemic fades, a third-party asset quality review would help in better understanding underlying bank health.
- Additional reforms to strengthen regulatory, resolution, and AML/CFT frameworks.
Structural reforms:
- Focus on female labor force participation and youth employment.
- Increase labor market flexibility.
- Ensure viable but temporarily insolvent firms are restructured while winding down unviable firms.

Key statistics (from Table 1: Turkey: Selected Economic Indicators, 2019–26)

Population (2020): 83.6 million
Per capita GDP (2020): US$8,562
Quota: SDR 4,658.6 million

Real sector (Percent, unless otherwise noted)

Real GDP growth rate: 0.9; 1.8; 5.8; 3.3
Contributions to real GDP growth — Private consumption: 1.7; 3.4; 1.5; 1.9; 2.1; 2.2
Contributions to real GDP growth — Public consumption: 0.6; 0.3; 0.4; 0.5
Contributions to real GDP growth — Investment (incl. inventories): -3.8; 7.1; -3.3; 1.4; 1.2; 1.3
Contributions to real GDP growth — Net exports: 3.2; -7.3; 5.3; 1.0; -0.5; -0.4; -0.7
Output gap: -0.8; -2.2; 0.0
GDP deflator growth rate: 13.9; 14.3; 20.4; 11.4; 11.0; 11.5; 12.4; 12.2
Inflation (period-average): 15.2; 12.3; 16.9; 14.9; 12.8; 12.5
Inflation (end-year): 11.8; 14.6; 16.5; 14.0
Unemployment rate: 13.7; 13.2; 10.5

Fiscal sector (Percent of GDP)

Nonfinancial public sector overall balance: -5.8; -5.4; -6.1; -6.3; -6.5; -6.6; -6.7
General government overall balance (headline) 1/: -3.7; -4.5; -5.7; -6.0; -6.2; -6.4
General government gross debt (EU definition): 32.6; 39.5; 40.2; 41.5; 43.4; 44.6; 45.6; 46.5

External sector

Current account balance: -5.1; -2.7; -1.7; -1.8; -1.9; -2.0
Gross external debt: 57.2; 62.9; 58.4; 56.7; 52.6; 48.2; 43.8; 40.3
Gross financing requirement: 22.3; 29.4; 27.6; 25.9; 24.2; 23.0; 21.6; 19.9

Monetary conditions (Percent)

Real average cost of CBRT funding to banks: 5.4; …
Growth of broad money (M2): 27.3; 33.9
Growth of credit to private sector: 10.9; 34.7

IMF Communications Department. Press Release No. 21/169. June 11, 2021.