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TÜSİAD-KOÇ UNIVERSITY ECONOMIC RESEARCH FORUM WORKING PAPER SERIES TEMPORARY STAR OR EMERGING TIGER? TURKEY S RECENT ECONOMIC PERFORMANCE IN A GLOBAL SETTING Ziya Öniş İsmail Emre Bayram Working Paper 0805 October 2008 TÜSİAD-KOÇ UNIVERSITY ECONOMIC RESEARCH FORUM Rumeli Feneri Yolu Sarıyer/Istanbul TEMPORARY STAR OR EMERGING TIGER? TURKEY S RECENT ECONOMIC PERFORMANCE IN A GLOBAL SETTING Ziya Öniş and İsmail Emre Bayram (forthcoming in New Perspectives on Turkey, Fall 2008) ABSTRACT This article assesses the recent performance of the Turkish economy, questioning whether the currently observed unusual boom conditions will lead to a process of sustainable growth. The latest phase of Turkish neo-liberal transformation in the post-2001 era is placed in a broader historical and global context; at the same time, the performance of the economy in recent years is compared with that of other key emerging markets, based on selected macroeconomic indicators. Utilizing the East Asian experience as the principal benchmark for comparison, this paper examines whether Turkey is on its way to accomplishing tiger-like development performance. Given the current challenges to sustainable growth, we conclude that it is premature to suggest that the impressive performance of the recent years will lead to durable success and tiger-like performance. While the focus is on the Turkish experience, the paper also probes the very nature of tigerlike performance itself, highlighting the fact that in setting standards for exceptional economic performance we need to extend our horizons beyond high rates of economic growth sustained over time, to broader indicators of social, political and human development. Keywords: Turkey, hyper-growth, East Asian tigers, emerging markets, human development, democratization JEL: O11, O5, O57. Ziya Öniş, Department of International Relations, Koç University, İstanbul, Turkey İsmail Emre Bayram, Department of International Relations, Koç University, İstanbul, Turkey. Authors Note: The authors gratefully acknowledge the contributions of the two anonymous referees of the journal, as well as the comments and review by Caner Bakır and Leon Pinsky. 2 Introduction The Turkish economy has experienced one of its most outstanding phases of growth in recent years. The period following the crisis of 2001 witnessed a successful transformation of the Turkish economy, due to a combination of structural reforms and measures aimed at establishing macroeconomic stability. In the post-2001 period, the Turkish economy managed to achieve high rates of growth. Furthermore, this growth was accomplished in an environment of fiscal discipline and single-digit inflation, which marked a dramatic departure from the endemic instability and chronic inflation that had become a norm over the last few decades. Another striking feature involved large inflows of foreign direct investment, again representing a major contrast to previous years. Privatization also gathered momentum, with large-scale privatization of state economic enterprises during the latest phase of Turkey s ongoing neo-liberal structuring process. The wave of regulatory reforms encompassing, among others, the banking sector, the Central Bank, government expenditures and revenues, as well as foreign investment legislation constituted the very foundations of this impressive performance. It is fair to say that Turkey made significant progress in terms of establishing an effective regulatory state during this period. This paper examines the interaction of domestic and external influences that played a critical role in the recent transformation process. More significant, however, is the question whether the new institutional reforms towards establishing a regulatory state will be sufficient for generating outstanding performance on a durable basis. In other words, this paper questions whether or not the Turkish economy can emerge as a new tiger. The basic premise of this paper is that exceptional economic performance rests on the following set of interrelated conditions: (a) High levels of investment form the central ingredient of economic growth. (b) The ability to attract foreign investment is important. However, a balanced structure necessitates high levels of domestic investment to complement 3 foreign investment. This, in turn, requires high levels of domestic savings. (c) The ability to sustain export orientation is essential. Export orientation is also critical for the ability to diversify exports in the direction of high-value added products with significant technology content. (d) The ability to devote resources to research and development as well as to education and human capital are key ingredients for success. The role of the state in development continues to be critical; an improvement of regulatory capacities of the state alone will not be sufficient for exceptional success. (e) Economic and political stability on a sustained basis forms a major underlying element of exceptional success. While the presence of an authoritarian regime is not a precondition for success, weak or unconsolidated democracies find it particularly hard to generate economic and political stability on a sustained basis, which, in turn, undermines their long-term growth potential. (f) Favorable regional dynamics, such as the EU enlargement process, embody a powerful transformative potential. External stimuli can help to generate a virtuous cycle of growth by creating a mutually reinforcing process of trade expansion, foreign investment flows and institutional improvement as part of the democratic consolidation process. An assessment of the Turkish economy in the recent period necessitates a multidimensional analysis within the context of both its own historical development and the global setting. Based on this multi-dimensional approach, the principal sections of this paper are organized along the following lines: The recent success in the Turkish economy will be evaluated based on its own historical standards, with particular reference to its early neoliberal experience and instability in the 1990s. Achievements in terms of inflation control, attraction of FDI and success on the privatization front will be all the more striking when compared to Turkey s earlier experience in the economic realm (Section 2). Although the comparison of the two key periods in the history of the Turkish economy provides many insights into its continuities and ruptures, the assessment of the recent performance of the 4 Turkish economy in isolation is still inadequate, and a better understanding requires embedding the Turkish experience in a broader global and comparative context. Before comparing Turkey to key emerging markets, the East Asian (EA) development success and the concepts of Asian tigers and tiger-like performance will be analyzed in order to use the EA experience as a benchmark for the assessment of long-term sustainable growth in the Turkish case. Examining certain macroeconomic and social indicators of the EA success, this section indicates not only the measures responsible for providing sustainable growth, but also alternative theories specifying the reasons for the EA miracle (Section 3). Based on the insights gained from the EA experience, this section extends the limits and geographical scope of our inquiry, assessing the recent performance of the Turkish economy in a comparative perspective. Not only the EA economies, but also a number of key emerging markets from Latin America (LA) and Central Europe (CE) constitute an essential part of this analysis. The similarities with LA neo-liberal restructuring and the effects of the EU accession process in the CE context provide additional perspectives for the comparison (Section 4). Although the assessment of the recent performance of the Turkish economy supported by inter-temporal and cross-country comparisons highlights its impressive nature, this section argues that there exist certain weaknesses and observable threats to long-term growth. The large current account deficit, low savings rates, and overall dependence on foreign and favorable global liquidity are particularly striking in this context. Furthermore, the weakening of external anchors and rising political instability emerge as major challenges to the sustainability of the recent economic success. However, we also argue that these challenges can be balanced by medium- and long-term opportunities such as regional cooperation, the geo-strategic importance of Turkey with respect to energy pipelines, and a demographic structure based on an unusually young working population (Section 5). Even though the first sections of the paper explicitly focus on conditions conducive or detrimental 5 to sustainable growth, in order to have a complete picture of development we go beyond the strict economic measures of growth and deal with the social dimensions of long-term development, incorporating into the analysis such factors as unemployment, inequality, poverty, and human development (Section 6). The last section summarizes the main arguments. The Turkish neo-liberal experiment: The 2001 crisis as a turning point The Turkish neo-liberal experience started in 1980 with the January 24 program, under the auspices of the World Bank and the International Monetary Fund (IMF). The program rapidly reached its initial targets in terms of reducing inflation, achieving higher growth rates, and taking steps towards trade and financial liberalization. 1 With the crisis of the late 1970s, import-substituting industrialization (ISI) policies appeared to have reached their limits; thus, the January 24 program was not only a stabilization program in a conventional sense, but also a starting point for the structural transformation of the Turkish economy along neo-liberal lines. As a result of ISI policies, Turkey managed to sustain high growth rates, introduce planned development, achieve rapid industrialization and outperform most LA cases in the period between 1963 and 1977; however, its growth failed to match the performance of EA economies. Indeed, excessive, indiscriminate and long-term protectionism associated with the ISI era in the Turkish economy was an important contributor to export stagnation and the endemic balance of payments crisis which had emerged by the late 1970s. 2 The first half of the 1980s under neo-liberal structuring appeared to reverse the previous trend and represented a certain progress towards establishing an externally competitive economy through a 1 For a detailed assessment of the period, see Ertuğrul & Selçuk (2001). According to the data provided by these scholars, the Turkish economy grew steadily by an average of 5.8% in the period between 1981 and See also Arıcanlı & Rodrik (1990) for a critical assessment of the Turkish neo-liberal experience. 2 For an account of major policy phases and shifts in Turkish economic history, see Öniş & Şenses (2007) and Pamuk (2007). An important study which investigates the economic and political determinants of growth in Turkey from the nineteenth century to the present is Altuğ, Filiztekin and Pamuk (2007). 6 significant increase in exports. The ratio of total exports to GDP increased between 1980 and 1988, from 4.1% to 13.3%. 3 Moreover, the process was accompanied by a diversification of exports, involving a striking increase in the share of manufactured exports at the expense of agricultural exports. However, the success on the export front could not be sustained in the second half of the 1980s. 4 This pattern appears to be a rather typical feature of Turkish economic development. There have been a number of such periods of unusual economic progress in the post-war era. However, these periods tended to be relatively short-lived and were followed by periods of stagnation and crisis. The second phase of Turkish neo-liberalism in the 1990s was characterized by a high degree of macroeconomic and political instability, lower growth rates, chronic inflation and weak budgetary performance. The appreciation of the Turkish Lira (TL) was the major driving force behind the slowing pace of exports and rise of imports, leading to an external deficit. The ratio of external deficit to GDP increased to 2% in 1989, 4% in 1990, and 6% in Towards the end of 1993, it was more or less obvious that the fiscal deficit and external balance situation became unsustainable. 5 Not surprisingly, given the size of the disequilibrium which had emerged, Turkey encountered its first crisis of the neo-liberal era in 1994 the TL was devalued twice, in January and April of Not only major shocks, but also chronic inflation turned out to be the essential characteristics of the neo-liberal era in the Turkish context. Due to the government s low level of credibility and its lack of commitment to the stabilization program, as well as the high degree of currency substitution (dollarization) and the high costs of borrowing, chronic inflation could not be reduced during the 1990s. Similarly, due to the serious interest burden on government expenditures, PSBR / GNP ratios reached extremely high levels by international standards, rendering inflation control all the more difficult. 3 Ertuğrul & Selçuk (2001) 4 For an explanation of the slow-down in export growth during the second half of the 1980s, see Öniş (1993). 5 Ertuğrul & Selçuk (2001) 7 In retrospect, the experience of the 1990s clearly illustrates the fact that the optimism surrounding the early phase of neo-liberal restructuring could not be sustained. Indeed, a number of analysts have pointed out the long-term institutional regularities which led to the reemergence of crisis-generating tendencies during the neo-liberal era. For example, in his analysis of Turkey-EU relations from an economic perspective, Mehmet Uğur, intending to explain why Turkey fell behind Central and East European countries (CEECs), even though Turkey s liberalization efforts predated theirs, has argued that liberalization in Turkey was introduced within an institutional environment marked by excessive discretion and pervasive rent-seeking. As a result of intensive lobbying and rent-seeking activities by various interest groups, these discretionary acts involved a frequent use of governmental decrees and relied heavily on extra-budgetary funds. 6 Similarly, Mine Eder has argued that, in contrast to the rhetoric of neo-liberal economic policies, populism survived in the form of deinstitutionalization, patronage politics, and charismatic leadership. 7 In short, the neo-liberal era was clearly not different from the previous periods in respect to the institutional environment, leading to corruption and rent-seeking activities. In addition, there were two major turning points in the second half of the 1980s, which are crucial for understanding the institutional features of instability in the 1990s. The first dramatic change affecting the institutional dynamics and the patterns of incentives for the actors in the Turkish economy was the revitalization of political competition in 1987, which enhanced the role of the populist element in Turkish politics. After the 1980 military intervention, Turkey was ruled by a military government for three years, and all political 6 See Uğur (2004). In order to indicate that Turkey falls behind CEECs, Uğur utilizes seven measures taken from the Transparency International and World Bank Governance Indicators. These measures are corruption perception, growth competitiveness, microeconomic competitiveness, quality of public institutions index, macroeconomic environment, company operations and microeconomic business environment. In almost all measures, Turkey falls behind the eight CEECs and is only able to outperform Bulgaria and Romania in some of these measures. 7 See Eder (2004). For a detailed account of Özal s economic legacy and the early period of Turkish neo-liberal era, see Öniş (2004). 8 parties and labor unions were banned. 8 Although general elections were held in 1983, the old political parties and leaders were not permitted to enter the competition. Without serious rivals, the Motherland Party (MP) emerged as the sole winner of the 1983 elections and established a majority government. The 1987 elections witnessed the re-emergence of political competition, with the entrance of the center-right True Path Party (TPP) as a follower of the Justice Party and the center-left Social Democratic Populist Party (SDPP) following in the footsteps of the Republican People s Party. Although the MP managed to satisfy the government majority due to the uneven nature of the electoral system in the 1987 elections, it was finally defeated by the TPP and the SDPP in the 1991 general elections, and a postelection coalition government was established. What appealed to the masses was the coalition s promise to improve people s living standards, which had been repressed by the wage rigidity of the post-coup authoritarian regime. Combined with the lack of budgetary discipline and loss of pace on the export front, this new populist element in the Turkish economy was responsible for creating institutional instability in the 1990s. The second key turning point is the capital account liberalization and the full convertibility of the TL in Arguably, this critical decision managed to postpone a possible financial crisis, but at the expense of a highly fragile pattern of debt-led economic growth. 9 Much more importantly, the decision of capital account liberalization was made without establishing the necessary institutional environment to supervise and regulate the high liquidity of international flows Although beyond the scope of this paper, another interesting debate on the role of the military intervention in the neo-liberal era is whether military interludes have created a stable environment for reforms. One should be mindful of the fact that the authoritarian nature of the military rule allowed an implementation of repressive policies, reducing real wages and eliminating political opposition by shutting down former political parties, labor unions and other civil society elements, in a sense blocking the mechanisms of interest intermediation in the political process. In addition, it undermined the trust of key social actors and prevented the institutionalization of the party system, leading to discontinuity and fragmentation. For a detailed discussion of the argument, see Öniş (1997). It should also be taken into account that the military intervention and the interruption of the democratic process caused the deterioration of Turkey-EU relations throughout the 1980s and 1990s, preventing the EU from playing its role as an anchor not only in terms of democratization, but also economic development. 9 See Öniş (2003) for a detailed discussion on the return of the populist element to Turkish politics and premature capital account liberalization leading to debt-led growth. 10 For pre-mature capital account liberalization, see Arıcanlı &Rodrik (1990). 9 Speculative attacks in an environment of large budget deficits proved to be the key proximate causes for the successive crises of 1994, 2000, and The post-2001 period represents a clear rupture from the unstable macroeconomic environment of the 1990s in terms of higher growth rates, lower inflation, fiscal discipline, attracting FDI, and success on the privatization front. The recent success of the Turkish economy in comparison to earlier periods can, first of all, be observed through growth performance data. Figure 1 clearly demonstrates that the post-2001 period outperforms the unstable 1990s with regard to the GDP growth. The average growth rate between 1991 and 1995 and between 1996 and 2000 appeared as 4.1% and 3.9% per annum, respectively. It should also be noted that in the 1990s growth was not steady and sustainable, as it was challenged by the immense rece
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