Guldem Atabay
Jan 10 2018

Turkey’s economy relapses as emergency rule to be extended again

Turkish President Recep Tayyip Erdoğan’s fresh bout of enthusiasm for improving ties with the European Union raised hopes that this year he might at least consider ending the state of emergency in Turkey. 

With domestic demand set to slow in 2018 amid higher nominal interest rates and the absence of last year’s fiscal stimuli, exports stand out as an important designated contributor to GDP growth for the next couple of years ahead. 

The desire to benefit from the improving fortunes of a stronger EU economy, along with the continent being a potent source of foreign direct investment, requires political normalisation at home. It at least needs effort shown in that direction, given the EU’s harsh criticism concerning he deteriorating rule of law in Turkey. 

Yet again it turns out that the president’s desire to use the state of emergency as a tool to secure victory in municipal, parliamentary and presidential elections next year rather than as a temporary means of ensuring security seems to have weighed heavier. Alongside cleansing the state of Gülenists, imprisoning political rivals and crushing the independent media has been the new norm under emergency rule.

Consequently, Deputy Prime Minister Bekir Bozdağ has spilled the beans and said Turkey would extend the state of emergency imposed after the 2016 coup attempt for another three months. It was the sixth such extension.     

To ascertain how the state of emergency is being utilised by the ruling Justice and Development Party (AKP), the figures speak for themselves. The number of people arrested totals 50,000 and an astonishing 150,000 have been sacked from their jobs in the military, public and private sectors. The size of the assets taken over by the state is said to have reached $11 billion. Equally depressing is how emergency rule opens the way for the president, through his use of the cabinet to bypass parliament, to issue decrees with the force of law that not only limit rights and freedoms, but affect economic decision-making as well. 

Thus, it is no surprise that a latest survey by polling company IPSOS revealed that Turks now worry more about the course of the economy and the deterioration in the education system. Concerns about terrorism have almost halved, while fears about the impact of the “Kurdish problem” have dropped to historic lows.

The government of course denies the never-ending emergency rule is weakening the economy, saying it has no effect on daily life or on economic activity. 

The figures do not support the government’s argument.

Leaving out the 2008 global financial crisis, consumer confidence levels in Turkey, at 65.1 as of December 2017, are near historic lows, contrasting with the 7 percent economic growth expected for 2017. In an effort to keep GDP growth robust and pressured by politicians, the central bank refrains from imposing a monetary policy compatible with double-digit inflation. Thus, inflation expectations seem out of control when compared with the central bank’s supposed commitment to a 5 percent inflation target for 2018. While the unemployment rate is also in double digits at 10.5 percent, it appears to be improving thanks to government fiscal measures to support domestic demand. Still, Turkey has the lowest labour force participation rate among OECD countries.      

turkey confidence
turkish inflation expectations

Given the damage to its brand value that a coup was even attempted in an EU candidate country, the continuing extension of emergency rule keeps foreign investors away from the country. Such a trend can clearly be seen in the balance of payments, where Turkey’s growing current account deficit is increasingly dependent on short-term portfolio inflows. As Erdoğan maintains a hard line in politics for domestic political reasons – he blames the West for attacking Turkey’s economy - his tone ensures that crucial tourism income remains way below its potential. In 2015, nearly 40 million tourists visited Turkey. They added roughly $30 billion to the nation’s accounts and, including indirect effects, the sector’s contribution to economic growth was a hefty 12 percent of GDP.

 

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Even though Erdoğan formally apologised to Russian President Vladimir Putin for downing a Russian warplane back in November 2015, the flow of Russian tourists is still not good enough. Tourists from Western countries are also hesitant to come to Turkey, despite cheaper offers and a very weak Turkish lira. The result is that as of 2017, tourists total 32 million and revenues at $20 billion. That trend of course contributes to the fragility of the Turkish economy, especially given that the U.S. Federal Reserve is expected to increase the pace of rate hikes in 2018, drawing money away from emerging markets. 

tourism

Importantly, it should be added that Turkey’s external borrowing requirement is a hefty $200 billion this year.

With foreign investment shying away from Turkey, growth is getting more dependent on domestic consumption and thus fiscal support. One-time tax deductions on the consumption of a selected basket of goods last year, along with tax amnesties, helped ensure GDP growth was robust. The flipside to this was a wider fiscal deficit, which doubled to 2 percent of GDP. The deficit is set to widen further until the elections, set for 2019.

Easy credit provided by the government’s loan guarantee scheme creates a brand-new source of concern for the future rollover abilities of both banks and non-financial companies, perhaps adding to the risk premium. Talking about risk premiums, it should be added that with political uncertainty and double-digit inflation, bank deposit interest rates are floating around 15 percent and the benchmark bond yield is at 13.3 percent, rendering the outlook for economic growth uncertain. Therefore macroeconomic discipline, the foundation of Turkey’s strong economy since the 2001 meltdown, could become a cause for concern. 

Erdoğan is now looking ahead to the 2019 elections conducted under emergency rule, just as last year’s referendum was.

Thus, as the rule of law, democracy and human rights deteriorate, Turkey has shifted gear to get economically closer and more dependent on Russia, a country that does not care much about these values. The presidential system, with strong consolidation of power around Erdoğan, was supposed to streamline decision-making and make government more effective, yet the key challenge now for Turkey’s economy is weak governance, because decisions cannot be taken without the consent of one man.

More than a year-and-a-half of emergency rule, combined with Turkey’s shift to authoritarianism, shows how taking this “upside-down” path plagues both the social and the economic environment.