Future prospects for Turkey’s economy

DISCLAIMER: All opinions in this column reflect the views of the author(s), not of EURACTIV Media network.

Confidence in Turkey’s long-term economic prospects is growing but further labour market reforms, increased spending on education, better transparency of public finances and a more credible monetary policy are required if the country is to maintain its recent impressive growth, according to Rauf Gönenç, the senior officer responsible for Turkey at the Organisation for Economic Cooperation and Development (OECD), writing for EURACTIV Turkey.

The following is a reproduction of Rauf Gönenç’s contribution for EURACTIV Turkey. 

Following a period of uninterrupted growth in the wake of the reforms that followed its 2000-2001 economic crises, Turkey now finds itself in a difficult transition period. To successfully lead the country from “post-crisis recovery” into a new phase of sustainable high growth, its government needs to face up to some major challenges. The OECD, in its latest review of the Turkish economy, identifies three main areas for action: 

  • On the fiscal front, the government needs to maintain a rigorous policy stance while strengthening growth-enhancing public services and reducing distorting aspects of the tax system. 
  • Monetary policy must focus firmly on reducing inflation, backed by structural reforms to enhance competition and moderate prices, particularly in the service area. 
  • Labour market regulations must be revised to reduce barriers to formal employment and allow firms to move out of the informal or “grey” economy and into the formal sector. 

Will Turkey succeed in making the transition to a modern, sustainable-growth economy? If the response of policymakers to our recent Economic Survey of Turkey is anything to go by, I would say that there are grounds for optimism. Of course, action rather than words will show just how far the government is interested in implementing our recommendations. As an external observer who has interacted with Turkish economic policymakers for a number of years, however, I detect a significant change in attitudes. 

Until recently, OECD reports were viewed in Turkey as routine documents that mattered merely for Turkey’s “image”. As such, it was believed, any aspects of a survey with the potential to undermine Turkey’s credibility should be shortened or removed. In the last two to three years, by contrast, this approach has changed dramatically: these reports are now regarded as useful input for Turkish economic policymaking. This shift is one more signal that Turkey is moving from being “an outsider in the OECD environment, closer to the concerns of the developing world” to become “a modern market economy equipping itself with effective macroeconomic institutions and microeconomic rules”. 

Turkey’s recent economic performance gives grounds for optimism. The last six years of growth have not simply marked a return to past output or employment levels or the artificial result of inflows of “hot money”. Instead, growth has been underpinned by growing confidence in the long-term durability of Turkey’s enhanced macroeconomic prospects and business climate. Modern industries have coped with a stronger Turkish lira, which continues to create new employment opportunities. At the same time, however, traditional industries based on low-cost labour have been hit by competition from lower-cost emerging economies. With employment in these industries shrinking, young people flooding into the labour market and insufficient job opportunities elsewhere, Turkey’s total employment rate has declined and the aggregate unemployment rate has risen slightly. 

Addressing remaining macro- and micro-economic challenges can create a virtuous circle in the opposite direction. A return to strong trend growth and improved external imbalances would help to raise Turkey’s credit rating, reducing the high-risk premiums that companies currently have to pay on loans. This, combined with a fall in real interest rates, should give an extra push to investment, employment and growth. Under such circumstances, we believe that Turkey can sustain a somewhat higher current account deficit than in the pre-2001 period, within reasonable proportions, without relapsing into economic crisis. If the economy works to its full capacity, maintaining its competitive edge and increasing productive investments, it will be able to finance a higher current deficit through foreign investment inflows without having to resort to much higher external debt. 

The Turkish economy has already met a number of basic requirements for a higher credit rating and lower risk premiums. But it still suffers from a shortfall in the trust factor needed to support this. Political uncertainties have contributed to market unease, as have doubts about long-term fiscal prospects and the regulatory environment. 

To dispel these concerns, Turkey needs to ensure that its public finances become fully transparent through the publication of general public sector accounts in line with international standards and the consolidation of the recently adopted medium-term fiscal framework with annual spending ceilings. At the same time, the credibility of monetary policy must be assured. The central bank must be given more active support in its drive to lower inflation, both through structural reforms in such areas as competition and labour market policy and through wage and price restraint agreements between employers and labour unions. 

At the same time, Turkey needs to address the dysfunctional multipolarity of its economy, in which a formal sector made up of modern, financially transparent companies that respect laws and regulations and are able to tap financial markets and attract high-quality professional staff sits side by side with an informal sector that is highly flexible and competitive yet financially non-transparent and unable to handle official tax, social security and legal issues. This challenge has become all the more urgent in the last five to 10 years due to the emergence of a third economic force made up of more efficient and entrepreneurial medium-sized firms, many of them export-oriented, which are nonetheless finding it difficult to be fully transparent and law-abiding as a result of the cost and complexity of complying with regulations. 

This kind of fragmentation is not seen in more advanced OECD countries and is hindering Turkey’s ability to achieve its full potential. Until this “structural schizophrenia” is addressed, Turkey will fall short of full efficiency and competitiveness due to the barriers facing its companies in tapping capital markets, skilled labour resources and foreign direct investment. 

In parallel with further modernisation of its capital markets, Turkey needs far-reaching reform of labour market regulations and laws concerning free and fair competition. Rather than being imposed through legislation alone, these reforms need to be negotiated by the government with employers and labour unions, taking account of market conditions and productivity challenges. This is how successful OECD countries try to keep the balance between the flexibility demanded by global competition and societal goals. We consider that a similar approach is necessary for Turkey. We have already seen some instances of the government and civil society starting to adopt this kind of approach, but more initiatives along these lines are needed given the depth of Turkey’s structural reform agenda. 

Finally, one of the biggest challenges is to overcome the gap in education levels that divides Turkish society. The resources devoted to primary and secondary education in Turkey are proportionately among the lowest for any OECD country, at around 2.4 percent of GDP compared with an OECD average of 3.8 percent. In terms of expenditure per student, in purchasing power parity (PPP) terms the gap is even larger, with Turkey spending not more than 10-15% of the real resources spent per student by benchmark OECD countries. Limited resources allocated to education are also unevenly spent between elite institutions and under-resourced schools and universities. In these circumstances, public finance reforms should not just be about curtailing spending. They should also target strategic spending in priority areas and education has to be one of these. It is the key to Turkey’s future. 

Subscribe to our newsletters