INTERVIEW: Turkey sitting pretty

By bne IntelliNews May 11, 2010

David O'Byrne in Istanbul -

What a difference a decade makes.

Today, Turkey is sitting comfortably aloof from the turmoil that's roiling Europe and economists predict it will have the fastest-growing economy in emerging Europe in 2010. But only 10 years ago it was battling an inflation rate in the upper 50s and banks were collapsing on an almost daily basis as the fractious coalition government reeled from one insurmountable crisis to the next. Worse was to come in February 2001, when the mortally wounded Turkish lira was jolted from its dollar peg and dropped 60% overnight, forcing the government to adopt a stiff austerity programme in return for an unprecedented $20bn bailout by the International Monetary Fund (IMF) - a figure that appears positively bijou compared with the more than $500bn that's being stumped up to prevent the Greek debt crisis from spreading to other over-leveraged and under-performing EU economies.

What changed? Well, the election in 2002 of Tayyip Erdogan's Justice and Development Party (AKP) as the country's first single-party government in over a decade certainly helped, giving a stable base from which to impose the stringent IMF bailout conditions, as did the appointment as economy minister of the previously unknown Ali Babacan.

Open sesame

At only 35, Babacan's perceived inexperience was viewed by many as a serious risk. But they needn't have worried: the former Fullbright scholar with an MBA from the Kellog School of Management has proved more than adept at managing one of Europe's more volatile economies.

So much so that in August 2009, a two-year promotion to foreign minister was cut short to allow Babacan to pilot Turkey relatively unscathed through the uncharted waters of the global economic crisis, which he has done with remarkable aplomb. GDP growth over the last quarter of 2009 soared to 6.0%, reducing the contraction over the whole year to a more manageable 4.7%. Subsequent government projections of 3.5% growth for 2010 are expected to be revised upwards following first-quarter growth widely tipped to be closer to 10%. On April 10, Capital Economics raised its 2010 GDP forecast to 6.5% from 4.0%, which would make Turkey the fastest growing economy in emerging Europe this year. With such growth on the cards, Turkey has been able to turn down offers of a renewal of the IMF standby agreement that was brought in following the 2001 crisis.

Not surprisingly, perhaps, Babacan ascribes Turkey's remarkable economic performance to eight years of hard work and diligent reform. "We have affected a social, political and economic transformation - Turkey in 2002 and Turkey today are almost like two different countries," he says. "Most importantly, over the past two years we have seen that the economic reforms we conducted have protected us from the worst of the crisis."

Arguably, the most important reforms were made in Turkey's long-mistrusted financial services sector - something of a surprise given its recent history. "When we conducted our banking sector reforms between 2003 and 2006, we made our banks hold quite high capitalization and then conducted stress tests to see how they would perform," says Babacan, explaining that as a result some were asked to restructure and to increase liquidity.

"It was a silent process, but a very effective one, with Turkey the only country across the whole OECD which didn't have a single bank failure," he says, with just a hint of pride. "We didn't have to give any money to any of our banks, we didn't have to change the banking laws and we weren't forced to change the banking guarantee scheme - the TRY50,000 person limit we set in 2004 still stands."

Challenges still lie ahead, not least from the meltdown currently threatening EU economic stability given that Turkey's economic fortunes still rely to a large extent on exports to key European markets. But signs there are encouraging, with Turkey's exports for March reaching $9.9bn, up a healthy 22% on the same period last year, and just-released figures for industrial production for March show an equally encouraging 21.1% rise on year and 17% up on February. This has already begun to eat into Turkey's unemployment figures, which in January last year hit a record high of 15.5%, but which by year-end had dropped to 14%. "In terms of GDP growth and unemployment, the last three months of 2009 and the first three months of 2010 have been quite positive," confirms Babacan.

Highly rated

Probably the biggest boost to Turkey this year has come from the international bond markets, which on the back of ratings upgrades by Moody's Investors Services and Standard & Poor's enabled Turkey to complete most of its borrowing for the year at record low spreads.

A quite remarkable turnaround from a decade earlier and all the more noteworthy given recent events in the Eurozone, which Babacan is happy to confirm he doesn't expect to seriously impinge on Turkey. "In Spain, the ratio of debt/GDP is now 50-51% for 2009; ours is only 45.5%, so the markets aren't questioning the sustainability of Turkish debt," he says adding that he doesn't even envisage the need to raise either direct or indirect taxes, in the foreseeable future - a situation his counterparts over the border in the Eurozone may be eying enviously.

Still, Babacan isn't taking anything for granted. On May 11, Babacan unveiled more details of the government's much-vaunted fiscal rule, which is aimed at convincing the markets that in the absence of a standby deal with the IMF (and thus a beady eye on state finances), the government won't throw its newly found fiscal rectitude out the window at the first sign of trouble. Babacan noted that the new rule aimed to limit the budget deficit to 1% of GDP over the medium term, on the assumption of trend 5% real GDP growth, and this rule has won the backing of the IMF and World Bank. "Turkey is trying to make the case that, even without an IMF programme, it understands the need for prudence in public finances, and that its position and outlook is quite different to the likes of Greece, Portugal, et al," says Tim Ash of Royal bank of Scotland.

The government has indicated its intention to legislate the new fiscal rule in June or July, for implementation in 2011.

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