Turkey experienced a period of exceptional growth and institutional transformation in the run-up to the global financial crisis. The country invested in infrastructure, education and health in addition to adopting a number of market-oriented reforms. Data shows that in the years prior to 2008, Turkey grew at a pace similar to that of China.
After the crisis, its rebound was even stronger, but this pace is now difficult to sustain. Turkey’s poor export performance, low foreign investment stocks and unbalanced growth due to a reliance on domestic demand are among the culprits.
The boom decade
Turkey is now unrecognisable from how it was back in 2000. “At the turn of the millennium, there was a huge momentum for reforms and opening, and money coming in spurred among other factors by the negotiations for the country’s accession to the EU,” Vincent Koen, the OECD’s head of Country Studies division, told the Financial Times.
Since then employment in agriculture has more than halved from 40 per cent to less than 20 per cent; the infant mortality rate dropped from 32 per 1,000 live births to 11; male school enrollment in university jumped from less than 30 per cent to 85 per cent.
Turkey’s GDP per capita has converged with that of the EU and is now about one third of the regional average ‒ up from half that proportion.
Unfortunately, civil rights reform did not progress as well as other social measures.
But the future may not be as rosy
Turkey is now growing at a slower pace than a few years ago and it’s failing to meet its potential. In a phase of catching up and with a population that is much younger than other emerging markets in the region, Turkish growth could be much stronger than the 4 per cent of last year.
“The export sector should be considerably strengthened,” the OECD has warned. Turkey’s exports of goods and services account for 28 per cent of GDP, a small proportion compared to Romania’s 41 per cent and Poland’s 47 per cent.
Domestic companies that are largely oriented at the domestic market and low involvement of foreign companies are not helping the country’s trade performance. Indeed, Turkey has one of the lowest foreign direct investment (FDI) stocks as a share of GDP in the region.
“The level of FDI is rather modest due in large part to political uncertainties, but also to the way policy makers make discretionary decisions about what type of investors they are going to favour,” Dr Koen told the FT.
“This is an environment in which foreign investors feel insecure and at a disadvantage compared to well-connected domestic investors”, he added.
There are examples of successful integration in the global value chain. Take the case of Turkey’s car manufacturing industry which produces car components that are exported internationally. Foreign firms ‒ such as Japan’s Toyota and Honda, Germany’s Daimler and the US carmaker Ford ‒ invested in Turkey in order to create assembly facilities which are labour intensive and therefore cheaper to contract to Turkey than in their home country.
The automotive industry is the fourth largest sector of Greenfield foreign investment in the last decade, and indeed one of the most dynamic export sectors. Cars account for the largest export product: around 12 per cent of total export, up from 2 per cent at the beginning of 2000.
But a large proportion of Turkish firms are not part of the global production chain. They tend to be affected by low productivity, have a domestic market orientation and large levels of informality.
Unbalanced growth
“Economic growth remains disproportionately centred on domestic demand,” writesthe OECD in its country’s economic survey released in July. A huge increase in the minimum wage ‒ up 30 per cent from January 1 this year ‒ and strong job creation helped sustain domestic demand despite adverse economic and political conditions in the country and the region.
However Dr Koen warned that “this is not the type of growth that we would like to see, we would prefer economic growth driven more by investments and exports”.
Strong domestic demand and poor export performance result inevitably in a large current account deficit that has been worrying analysts for some time.
Turkey’s current account deficit reached its lowest point in 2011 when it accounted for about 10 per cent of GDP and has narrowed since 2014, largely helped by lower oil prices. But with the recovery of oil prices, the OECD has forecast Turkey’s current account deficit to hover around 5 per cent of GDP in 2017.
This makes the country “highly vulnerable to reversal of capital flows” which could be “highly disruptive because private consumption, investment, and government expenditure must be curtailed abruptly when foreign financing is no longer available”.
The impact of political turmoil
The failed coup and the following institutional fallout threaten economic sustainability in two main ways. The obvious one is a reversal of foreign capital, this was feared in the aftermath of the coup but has not yet been materialised. Secondly, longer term effects could be the lack of reforms and a slowing down in foreign investments.
In order to improve Turkey’s unbalanced growth the government should “work on labour market reforms to make the supply side more efficient and their exports more competitive and they have to make efforts on energy conservation to reduce the energy import bill”, explains Dr Koen.
Turkey took measures to contain domestic demand and as a result lending growth to consumers has slowed down. But with the latest political events and the country’s accession to the EU now in doubt, Dr Koen said there is a real “fear that the reforms momentum could be lost”.
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