The impression has been that national borders and regional differences are becoming less and less relevant as businesses increasingly operate in a single global market. However, in the past year or so, especially as the housing sector in the US slowed sharply and turmoil erupted in many financial markets, a different theme has come to the foreground: “decoupling.” This term refers to apparent divergences in economic performance among different regions of the world economy.
First, it underlines less synchronized industrial performance and business cycles among industrial economies. Second, decoupling is often used to refer to the fact that economic growth in the emerging market economies is being sustained, even as growth slows substantially in the US and, to a lesser extent, elsewhere in the industrial world. Finally, even as the financial markets of many industrial countries have been roiled by the turmoil that emerged last August, conditions in the traditionally volatile financial markets of emerging market economies such as Turkey have proven surprisingly resilient.
Let’s confine our decoupling discussion to the financial industry, as the extent of integration there has become painfully evident to investors and financial institutions during the current episode of financial turmoil, with the collapse of the subprime mortgage market in the US, spreading losses and funding pressures in many corners of the globe. However, unlike most of the industrial nations that have been almost equally affected by adverse financial turmoil, we have observed the apparent resilience of financial conditions in emerging market economies during the past year as an example of decoupling.
Then how do we reconcile the obvious expansion of international trade, labor and financial flows with the evidence, albeit mixed, of decoupling in the recent period? Three different points can help us do this.
One way in which integration might lead to less synchronization is through the tendencies of international trade. If economies become more specialized, then their economic growth, and even equity markets, may be driven more by developments that are specific to the industries which have taken root in each country.
Turkey is a part of this process. Turkey has achieved a remarkable rise in productivity across many modern and rising industries since 2002. Additionally, Turkey has successfully proliferated its export markets and shifted its heavy dependence on the European markets to the Gulf, African and trans-Caucasian markets. Most of these are amongst the energy and commodity-rich countries with rising consumer tendencies and aggregate demand factors, in general.
The second point in this reconciliation stems from the observation that the correlation of business cycles will be specific to the shocks driving the cycles. In 2001 and 2002, the sharp decline in growth in the foreign countries soon after the US economy slowed reflected the global nature of the bursting of the technology bubble and its worldwide transmission through equity markets and manufacturing.
In the current slowdown, however, the implosion of the housing sector is playing the most prominent role in dragging down the US gross domestic product (GDP) growth. As construction utilizes local inputs and results in an output that is not traded internationally, its spillovers abroad are more limited. Also, a portion of the decline in domestic demand in the US has been absorbed by foreign economies as the US imports have fallen and exports have risen. Regarding Turkey, we must also add that Turkey’s trade dependence on the US markets in many leading sectors is quite limited.
The third and final point is related to Turkey’s structural transformation. One change in particular is the strengthening of the policy environment. With improved economic and financial policies, Turkey has become more flexible and less subject to internal and external shocks, which scare investors and disrupt asset markets.
In this regard, we must note that the inflation rate has come down dramatically since 2002, in part as a result of better monetary and fiscal policy and productivity surges, assisted in many cases by a more flexible exchange rate regime that allowed particularly the monetary authority to focus more intensively on price stability.
In addition, structural progress has been made on the fiscal side. Fiscal balances have improved significantly, and Turkey was running budget surpluses as of the third quarter of 2008. Improvements in the policy environment have helped reinforce perceptions that Turkish assets, on average, are less risky than in the past and are less likely to be sold off in the event of financial disruptions and generalized retreats from risk, such as we have seen since August 2007.
Despite all these factors, however, we should note that unlike industrial countries in which the mortgage crisis was largely transmitted as a funding liquidity shock, the transmission of the US liquidity shock to Turkey will occur largely through the resulting market liquidity shock as investors race to place their assets in the most liquid government securities. Turkey, therefore, will not be spared from the increased volatility experienced by advanced financial markets and, in that sense, “decoupling” is not yet absolute even for Turkey.
