Turkey’s Five Big Challenges

Turkey’s first direct presidential election has shone a spotlight on the economy’s key challenges. With real GDP growth expected to come in at just 2.2% in 2014, compared to a recent peak of 9.2% in 2010; the leadership has some serious challenges to overcome if Turkey is to achieve its goal of becoming one of the world’s 10 largest economies by 2023.

1.       The Lack of a Competitive Edge

Turkey’s competitiveness – its ability to compete in a global market place – is hampered by high costs and low productivity.  To some extent this has been helped by currency depreciation, which has lowered costs, but the underlying issues of low productivity, a need to continue to move further up the value added chain, and a burdensome regulatory environment remain.

Real Growth in Productivity in Turkey and BRIC: 2008-2013

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Source: Euromonitor International from ILO)/Eurostat/national statistics/IMF

2.      A Persistent Current Account Deficit

Linked to this is Turkey’s persistent current account deficit. In 2013, at 7.9% it was the highest of the BRIC and MINT economies. In 2014 it is forecast to narrow to 5.6% but will comfortably remain the largest of these eight economies. Political tension in Ukraine and the Middle East could lead to an increase in the oil price which would put more pressure on the deficit – because Turkey is reliant on imported energy. Added to which, beneath this headline figure, there lies the real problem – a reliance on short-term capital to finance the current account. These short term flows are easily reversed, which leaves Turkey vulnerable to investor sentiment.  At a time of uncertainty and tightening monetary policy in developed economies this is a significant risk to the outlook.

Current Account Balances of Major Emerging Markets: 2014

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Source: Euromonitor International from national statistics/IMF

Note: Data are forecast. Data for Nigeria refer to 2014

 

3.       Political Uncertainty

Political instability is the third challenge and has both domestic and international aspects. The country is divided politically: the ruling AKP has battled major corruption scandals and riots in recent years and has been seen to become increasingly authoritarian. Added to which, Turkey also faces problems outside of its borders in neighbouring Syria and Iraq. Iraq is the destination for an increasing share of its exports – 7.1% in 2013 up from 3.0% in 2008 – with a large proportion of trade stemming from the south-east of Turkey in particular. Tensions in these two countries have an economic, political and security impact on Turkey from the cost of supporting refugees through to fears of a spill-over of sectarian violence.

Turkey’s Global Exports: 2008-2013

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Source: Euromonitor International from national statistics/OECD/IMF

 

4.       Inflationary Pressures

Inflation is the fourth challenge. In 2013 the annual average rate of inflation stood at 7.5%, and in July 2014 it shot up to 9.3% – way above the central bank’s target of 5%. Despite this, interest rates have been cut and the central bank has indicated that this path will continue. Price pressures have not been helped by the weak currency, which makes imports more expensive. Inflation dampens consumer confidence, increases wage demands and erodes savings. This is a particular problem if inflation expectations remain high – as the anticipation of higher consumer prices fuels wage demands which can result in a vicious circle.

Inflation in Turkey: January 2013 – July 2014

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Source: Euromonitor International from national statistics/Eurostat/OECD/UN/IMF

5.       A Labour Market Unfit for Purpose

The fifth challenge is the labour market. At 68.1%, Turkey has a large population of working age, but a low proportion are economically active – 51.3% in 2013. This is due to a couple of factors including low female participation, with only 32.9% of working age women in the labour force in 2013. Secondly, the grey economy is large – the Council of Europe estimated it at 33% of GDP in 2011 – and many jobs are outside of the formal sector. Youth unemployment is also a challenge, although not one unique to Turkey, and 17.3% of those aged 15-24 were unemployed in 2013. Skills shortages compound these problems with just 8.8% of the population aged 15+ educated to tertiary level, placing Turkey below much lower-income countries such as the Philippines, China and Peru in terms of educational attainment.

Educational Attainment and GDP in Selected Emerging Markets: 2013

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Source: Euromonitor International from national statistics/Eurostat/OECD/UN/IMF

 

Potential Exists but the Will to Reform is Crucial

Whilst we don’t see Turkey achieving its goal of becoming one of the world’s 10 largest economies by 2023 it does have key advantages that it should be capitalising on: first and foremost is its strategic location on the border with the EU and Asia which if it exploited fully has the potential to drive economic growth through increased trade. It’s large and young population is another key advantage – at 75.6 million in 2014 it is the second-largest country in Europe (behind Germany) and the 18th largest globally. Added to which, taken as a whole the consumer market is large (on a par with South Korea) and on an individual level, at US$8,075 in 2013 per capita spending is high compared to other major emerging markets.

Nevertheless to unleash this potential Turkey needs to reform and focus on improving its macroeconomic fundamentals, competitiveness and the business environment.

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