Turkey’s New Economy Programme lacks consistency and credibility

Since the Turkish government’s significant losses at the March 31 mayoral elections, the future of Treasury and Finance Minister Berat Albayrak, the son-in-law of President Recep Tayyip Erdoğan, has been reportedly under threat.  

Yet, watching him present Turkey’s New Economy Programme 2020-2022 (NEP-20/22), we now know that he is destined to retain his seat.

Albayrak’s speech eliminates the debate over a grand cabinet reshuffle within the AKP despite rising public discontent over the way the government has been managing the economy. We can also deduce that Erdoğan is set to maintain and tighten his grip over monetary and fiscal policy.

As per the announced programme, it was interesting to see how the Erdoğan-Albayrak duo plans to continue prioritising growth rather than tackling other troubling issues in the economy.

Still, there was a significant discrepancy between the former NEP’s economic growth estimate for 2019 of 2.3 percent and its revision to 0.5 percent. Events this year have shown clearly how domestic demand has collapsed in Turkey, forcing the government to act. 

Yet, the most interesting forecast in the programme is the target to achieve 5 percent GDP growth in 2020 and keep it constant at that figure for three years.

Of course, the base year effects and stable Turkish lira have opened the way for positive annual economic growth in the last quarter of 2019; yet still the recovery under way is far from the jump start that is needed to average 5 percent growth next year, as recent economic data confirms.

NEW ECONOMIC PROGRAMME TARGETS

 

2019 Initial Est.

2019 Revised Est.

2020 est.

2021 est.

2022 est.

Growth (%)

 

2.3

0.5

5.0

5.0

5.0

Inflation (%)

 

15.9

12.0

8.5

6.0

4.9

Budget Balance (% of GDP)

 

-1.8

-2.9

-2.9

-2.6

-1.8

Current Account Balance (% of GDP)

-3.3

0.1

-1.2

-0.8

balanced

 

Albayrak explains that next year’s growth target will be achieved with a decline in interest rates that will revive capital investments and stoke consumer demand. The economy will also expand with the help of investments by the Turkey Wealth Fund and higher bank lending now that banks’ balance sheets have allegedly been cleaned up, as Albayrak claims.

Yet the main trick up Albayrak’s sleeve seems to be public spending.

Despite the government’s tapping of the central bank’s resources to finance spending -- namely the mid-year transfer of the bank’s emergency reserve funds to the budget -- the end of year fiscal deficit is set to reach 125 billion liras ($22 billion) versus the official estimate of 80 billion liras. Thus, the central budget deficit-to-GDP ratio will increase to 2.9 percent, according to the NEP, compared to the 1.8 percent goal set by the budget law last year. While Albayrak claims that the widening deficit is due to lower tax income in a contracting economy, we know that it has its roots largely in keeping spending at double the inflation rate while revenue growth was less than half of inflation.  

This year has been a dismal one in terms of collapsing demand. The government pushed spending heavily to help turn the economy around. While the AKP may have gone overboard on the spending front, it would have been safe to assume that it will try to rein in the level of deterioration, knowing that fiscal discipline had been the main anchor of the Turkish economy since an IMF loan agreement expired back in 2008.  

Yet, for 2020, the NEP keeps the fiscal deficit-to-GDP ratio constant at 2.9 percent. If the desired 5 percent GDP growth for 2020 is to come from real sector investment growth, as claimed by Albayrak, then the government should be eager to pull down the central budget deficit to GDP ratio in a growth year to keep the fiscal anchor firm. In contrast to Albayrak’s rhetoric, plugged in to please the public, Erdoğan aims to keep growth firm through tapping public resources further next year.

The government’s motivation for keeping spending high could be either in preparation for the possibility of early elections – which some speculate will occur by the end of 2020 – or a sincere effort to pull Turkey out of recession sooner rather than later. Because what we know from past data is that 5 percent GDP growth is not feasible unless accompanied by heavy external fund flows into Turkey, which have not occurred in the recent past.

Erdoğan’s game plan to spend until economic growth reaches 5 percent could prove to be a dangerous experiment. If the desired GDP growth rate is not achieved by the end of next year or the year after, the fiscal deficit to GDP ratio could end up even higher. 

Turning to other details of the programme, the most amusing assumption concerns the government’s forecasts for the current account balance. Assuming 5 percent GDP growth is secured somehow for the next three years, it will be impossible to keep Turkey’s current account in virtual balance given the economy’s dependence on imported intermediary goods.  

Even if the AKP government is to succeed in structurally transforming Turkey’s production methods through much-needed reforms, such a transformation cannot be achieved in such a short space of time.

While 2020 could well be a year of posting economic growth based on stretched public spending and depressed external funding, the government’s target of keeping the current account deficit-to-GDP ratio within the zero to 1.2 percent of GDP band is a lost cause if growth is assumed to be 5 percent over the next three years.

Coming to the government’s inflation forecasts, it is also very unlikely that consumer price inflation will end up below 5 percent by 2022 or even at 8.5 percent by the end of 2020, as the government envisages. The AKP will keep on pushing spending, price hikes and perhaps tax hikes to generate the financial resources it will need.

Albayrak’s proudly and self-confidently announced game plan for the economy has garnered little applause from economists. Economic growth of 5 percent next year can only come with heavy public spending. And when there is growth at such levels, bringing down inflation to 8.5 percent and keeping the current account deficit limited to 1.5 percent of GDP is unrealistic.

Albayrak’s NEP-20/22 lacks consistency and credibility as public spending is bound to soar further in 2020 as the government keeps trying to stimulate the economy through various measures. Such steps will definitely impact fiscal goals, inflation and the current account balance. 

Perhaps the most unfortunate part of Albayrak’s speech this week to introduce the NEP was how he, meaning Erdoğan, singled out the construction industry as the cure for Turkey’s very high unemployment rate.

The government has pushed growth in the construction industry in recent years to startling proportions, adding to the country’s economic imbalances and the indebtedness of the private sector. A mounting pile of troubled loans is now at the centre of the problems in the banking industry.

When it comes to the finance industry, the government will keep on instructing state-run banks to support economic growth through measures such as cheap lending, because the overall sector will continue to grapple with high levels of non-performing loans, curtailing new lending.

In short, Turkey’s overall macro-economic outlook is for poor growth performance and ailing growth quality, rather than a dream of robust expansion over the next three years.