The Turkish economy, after averaging close to 9 percent real gross domestic product (GDP) growth during 2010-2011, in the aftermath of the global crisis, has been slowing down since mid-2011. In 2012's first quarter, real GDP grew by 3.2 percent, in contrast to 11.9 percent in the first quarter of 2011. The slowdown is helping to reduce 2011's worsening external and internal imbalances, especially the widening current account deficit (CAD), at 9.9 percent of GDP, and the accelerating consumer price inflation, at 10.5 percent.
But the Turkish economy, contending with a wobbly world economy -- which is confronting potential contagion from the continuing eurozone crisis -- is facing serious challenges in reaching a balanced and sustainable high-growth path to achieve steadily improving living standards in the years ahead.
Against this background, the Organization for Economic Cooperation and Development (OECD) last week published its latest biennial survey of the Turkish economic situation and policies. The survey, besides reviewing the economic situation and policies, identifies the main economic challenges facing the country and analyzes the policy options to meet them, focusing on the structural and macroeconomic reforms with potential to improve the economy's long-term performance. The 107-page survey begins with a short “executive summary,” followed by the brief “key policy recommendations,” which are elaborated in the longer “assessment and recommendations” section. Much of the rest of the survey is devoted to two chapters: Chapter 1, “Tackling external and domestic macroeconomic imbalances,” and Chapter 2, “Structural reforms to boost long-term growth.” These chapters form the basis of the “assessment and recommendations” section.
The survey, which praises Turkey's declining poverty and income inequality (although beginning from high levels by OECD averages) over the past decade, identifies the major challenges facing the Turkish economy as: improving external competitiveness; reducing inflation; raising labor participation and employment rates; boosting labor and total factor productivities; curbing the size of the informal sector and increasing the domestic saving rate. Meeting these challenges is critical to managing the economy's Achilles' heel, the chronic CAD.
Besides highlighting the fiscal, monetary and financial policies essential to short and medium-term macroeconomic stabilization, the survey details the structural reforms in the education, labor and product markets required to maintain the momentum toward convergence with the advanced OECD countries. It estimates, based on the OECD's new, stylized, cross-country long-term growth model, that the recommended labor and education reforms, exploiting the demographic dividend, would raise Turkey's average potential real GDP growth rate during 2012-2039 from the baseline 4.4 percent to 5.7 percent, raising the potential output by 25 percent by 2030.
The survey, which projects the real GDP growth rates at 3.3 percent and 4.6 percent and the CADs at 8.9 percent and 8.4 percent of GDP for 2012 and 2013, stresses the close link between Turkey's real GDP growth and domestic saving rates and CADs. Given the low and falling national saving rate relative to the national investment rate, the economy's growth depends critically on borrowed foreign savings through capital inflows. The saving rate fell from an average of 23.5 percent of gross national income in the 1990s to an average of 17 percent during 2000-2008 and to 12.7 percent in 2010, the lowest rate since 1980, driven by a sharp drop in private saving (see the World Bank's “Turkey Country Economic Memorandum on Sustaining High Growth: the Role of Domestic Savings,” March 2012). The investment rate, which has fluctuated annually since 1980, was 21.9 percent of GDP in 2011, below the average for high-saving and fast-growing Asian countries such as China, with current account surpluses. Turkey's CAD was around 1 percent of GDP during much of the 1980s and 1990s. It has increased, reflecting the widening domestic saving-investment gap, since the early 2000s, driven by rising trade deficits. It reached 11 percent of GDP in 2011's first quarter, an unprecedented level. The survey analyzes the widening of the CAD, underlining the economy's vulnerability to large CADs, especially when they are increasingly financed by unstable short-term foreign capital inflows.
The survey, to find out how excessive Turkey's CAD is, establishes benchmarks following two alternative approaches. The first one, the external sustainability approach, using balance of payments identities, stabilizes either the net external asset position or gross external debt as percentages of GDP, based on assumptions about real GDP growth and inflation. Assuming real GDP growth of between 5 percent and 7 percent, the sustainable CAD benchmarks are between 5.5 percent and 6.4 percent of GDP to stabilize the net external position, and between 4.9 percent and 5.6 percent to stabilize the gross external debt. The latter, the macroeconomic balance approach, relates the current account in the medium term to fundamental determinants of saving and investment. Based on assumptions about medium-term values for saving and investment determinants, the estimated current account benchmarks vary between 3 percent and 4 percent of GDP.
Here is the bottom line: Unless Turkey substantially raises its domestic saving rate, it will be vulnerable to external shocks -- as foreign capital inflows stop suddenly -- while running CADs above the benchmarks estimated by the survey, and will be unable to achieve sustained high growth.