Turkey’s economy is teetering on the edge
Turkey has started sending out ominous signals in the past year
Turkey, which had been experiencing unprecedented economic growth since 2003, has started sending out ominous signals in the past year, with investor confidence shaken and the lira plunging to a record low. This week, the currency dropped to above 2.50 against the U.S. dollar for the first time in its history, and has lost nearly 80 percent of its value since a corruption scandal in 2013.
Higher borrowing costs prevent inflation from spinning out of control, but also stymie the kind of economic growth that could be used as a political asset in the run-up to parliamentary elections in June. Turkey received only $43 billion in foreign direct investment last year, compared with $73 billion in 2013.
Both at home and abroad, the government of Erdogan had been praised for preserving a healthy economy until a few years agoMahir Zeynalov
A drop in oil prices of more than 60 percent since June last year has greatly helped Turkey improve its balooning current-account deficit. Curbing domestic demand and pushing exports has also helped bring down the deficit by 30 percent to a four-year low.
Although the deficit of 5.7 percent of gross domestic product is close to the official target of 5 percent, foreign investors are still shunning Turkey as the Central Bank is struggling to maintain its independence in the face of unceasing assaults from the government.
Challenging textbook economics
The strangest part of the Turkish economic saga has been a war of words between President Recep Tayyip Erdoğan and Central Bank Governor Erdem Basci. Erdogan, surprisingly, insists that keeping interest rates low will help curb inflation and boost growth, challenging economic orthodoxy.
Basci, however, is determined to keep interest rates steady for price stabilization. He said this week that keeping inflation at 5 percent would be a “great contribution” to the economy. The Central Bank has so far rejected demands to drop interest rates, and its determination has pushed inflation 1 percent back.
Turkey lost half its wealth overnight during an infamous crisis in Feb. 2001, pushing the incompetent coalition government out of power. In the final months of the former administration, then-Finance Minister Kemal Dervis designed a financial discipline that has also been pursued by the current government.
To finance its investments and subsidies, the government made a striking $61.2 billion from privatization. Even during the global financial crisis, Turks heavily borrowed thanks to the Federal Reserve’s low interest rates.
The crux of Turkey’s economic success story is undoubtedly the construction sector, where pro-government businessmen have benefited enormously. Construction is said to trigger the development of other sectors related to housing, from carpets to refrigrators.
U.S.-based market analyst Nuray Yurt downplays the hype over the construction sector, saying it has failed to improve manufacturing. She says Turks continue to import most goods, and GDP growth is largely based on a single sector, which is risky for any economy. She said huge foreign loans to Turkey have had a small rate of return, if any, in building an enduring economy.
Both at home and abroad, the government of Erdogan had been priased for preserving a healthy economy until a few years ago. “Turkey had a story to tell: It is a liberal, secular democracy,” said prominent Turkish economist Ufuk Sanli. “Now it is gone.”
Sanli said long-absent inflation came to haunt Turks again this year, export targets could not be met, unemployment figures saw new highs, and growth targets have been revised down. He added that faced with economic iniquities, the government wants to reduce interest rates and boost domestic growth before elections this summer. “What they really want is citizens indebted due to low borrowing costs, citizens that support the government at any expense to avoid devastating economic instability,” Sanli said.
As foreign investor confidence has been significantly shaken, the construction sector - which has been a major driver of the economy - has shown signs of crumbling. To push consumers to revive the sector, Prime Minister Ahmet Davutoglu unveiled an incentive package, a subsidy program that will donate 15 percent of state funds to consumers’ mortgage savings.
Analysts say the government attaches more importance to employment than high inflation and a weaker currency because with employment and low borrowing costs, the argument goes, consumers are committed to long-term debt and mortgages, a key element in the government’s economic system. That is why Erdogan is challenging economic orthodoxy and demanding a drop in interest rates.
Mahir Zeynalov is a journalist with Turkish English-language daily Today's Zaman. He is also the managing editor of the Caucasus International magazine. You can follow him on Twitter @MahirZeynalov