Armenian, Assyrian and Hellenic Genocide News

Turnabout in Turkish Prospects
by Stratfor.com - 08 December 2000
Posted: Friday, December 08, 2000 09:56 am CST

Summary

Until recently, the outlook for the economic future of Turkey was bleak. The European Union was expected to link membership for Ankara to controversial political settlements in Cyprus and the Agean Sea. A financial crisis caused investors to flee. But circumstances are turning around: an international loan has helped avert financial collapse and the EU has reversed its stance. The recently dismal economic prospects of this important market and producer are brightening.

Analysis

Signs of trouble began emerging in Turkey’s markets in late November, with reports that the state would launch criminal investigations into the management of 10 failed banks. Corruption in the Turkish banking system is nothing new, but in this case the news coincided with fears that other banks might also collapse.

Consequently, banks began refusing to lend to one another in the overnight market. Interbank rates briefly rose to almost 2,000 percent, a level that would have ruined nearly every Turkish bank if it had lasted more than a few days. Meanwhile, the Turkish lira came under severe pressure as foreign investors fled the Istanbul stock market, which fell over 40 percent in the two weeks to December 4.

The banking crisis is partly the result of an ongoing IMF program, which took effect in late 1999.The program has dramatically improved the country’s economic performance. After averaging more than 80 percent throughout the 1990s and 65 percent in 1999, inflation is expected to come in at 25 percent or less this year. Improved tax collection and tight controls on public spending have eliminated the central bank’s reliance on printing currency to cover budget shortfalls. The state’s financial position is also improving rapidly, with government debt expected to fall from 61 percent of gross domestic product to around 56 percent next year.

In most respects, Turkey is a poster child for economic orthodoxy. Given the banking system’s weakness, however, the IMF reforms may actually have put the economy at greater risk. Turkish banks earn much of their profits by investing in government bonds, exploiting high interest rates produced by inflation and economic volatility. Stable prices and reduced government borrowing caused yields on Turkish treasury instruments to fall, from over 90 percent in November 1999 to roughly 33 percent in early July. That represents a huge saving for taxpayers but an enormous loss for Turkey’s banks, now struggling to stay in the black.

Those pressures might not have led to last week’s crisis, but a series of unrelated events conspired to sour investor sentiment almost overnight. Recent strikes by teachers and health-care workers suggest public resistance to the austerity program is rising. Ankara’s coalition government has also waffled on IMF-imposed pledges to sell off major state enterprises.

Foreign policy problems played a role as well. A meeting of European Union foreign ministers in Brussels on Monday was expected to link Turkey’s EU membership to a political settlement in Cyprus, and to an agreement with Greece over disputed maritime boundaries in the Aegean. Nationalist sentiment in Turkey made it plausible that Ankara would rebuff those conditions, haltincg the country’s progress towards EU membership

Last week’s crisis seems to have sapped Europe’s resolve. EU members have good reason to help keep the Turkish economy on track, both to check the flow of illegal immigrants and to prevent financial instability from spreading. Partly for these reasons, the EU accepted Ankara’s demand that neither Cyprus nor the Aegean boundary dispute be treated as barriers to Turkish accession.

The EU’s concession was the first sign of international support for the Turkish economy. The real boost came from the Dec.6 IMF deal. In exchange for the loan, Ankara is moving hastily to sell stakes in Turk Telekom and Turkish Airlines – both companies will be tendered next week – and to privatize its electricity sector. The authorities also moved to take control of Demirbank, another troubled lender.

The combined actions of the IMF and the EU turned the tide, sending capital flooding back into the country and driving Istanbul shares sharply higher on Dec.5 and Dec. 6. Investors seem satisfied with promises of faster sales of state assets and enhanced prospects of EU membership.

The IMF has reason to rethink its earlier advice to Ankara. Apart from tighter fiscal policy, its main weapon in the war against inflation has been Turkey’s “crawling peg” exchange rate, which fixed the value of the lira against the U.S. dollar, and allowed it to fall gradually at a predetermined rate. The peg certainly brought prices under control, but it also offered a juicy target for speculators betting on a Thai-style currency collapse.

Turkey is believed to have spent at least $6 billion last week keeping the lira stable – close to the total value of the new IMF credits. Critics will probably argue that the IMF’s approach, which caused inflation to fall sharply over the past year, has increased the total cost of reform by helping spark the panic in the first place.

All the same, Ankara will feel the money was well spent. For all its faults, the IMF program has curbed decades of mismanagement. Turkey’s economic prospects now look surprisingly bright, eliminating a major obstacle to the country’s bid for EU membership. Now that Europe has effectively capitulated on the Cyprus issue, Turkey’s poor human rights record will likely take center stage as the last stumbling block on its path to accession. The country’s prospects for joining the EU will begin to turn on its ongoing domestic struggle over political reform.

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