Economic Research Forum (ERF)

Turkey’s reversal of fortune

Recent changes in Turkey’s economic, social and political environment have not only failed to generate the potential for sustainable growth, but they have also made the country prone to both economic and social crises. This column outlines what lies behind the reversal of fortune – and what needs to be done to get back on a sustainable development track.

In a nutshell

The underlying reason why the Turkish economy has been unable to take off despite much praised economic reforms is bad economic management.

Getting back onto a path of sustainable development requires re-establishing the secular democratic system with a strong emphasis on social cohesion via scientific education, arts and equal access to resources.

As implied by Kemal Ataturk’s famous 1927 speech to the youth of Turkey, the change will happen when the people take control of their future by realising their own potential to do it.

Since the establishment of the Turkish Republic in 1923, the country’s socio-economic course has been one of progress and reversal. Affected directly or indirectly by the numerous global economic, financial and political crises since then – including the Great Depression, a world war, persistent geopolitical struggles in the surrounding regions and the Great Recession – the phases of Turkish economic development have been tightly interconnected with the nexus of domestic and international political affairs.

Notable socio-economic progress was achieved in the early years of the Turkish Republic. There was improvement in the overall level of educational attainment, due to the emphasis on arts and sciences in the newly established village schools. There were also improvements in agricultural production potential, as well as in infrastructure and industry, all of which formed the basis for average annual growth rates of more than 5% in the 1960s and 1970s.

But growth has been highly volatile since the mid-1970s, and the country has failed to catch up with incomes in OECD countries. Indeed, Turkey seems to have become a member of the ‘middle-income club’ in recent decades. Its economic performance contrasts with several countries that got hit hardest by the crises of the twentieth century, including Germany and the ‘Asian tigers’, which have rebounded successfully and become some of the most robust economies in the world.

The mismanaged economies of many developing countries, including Turkey’s, ended up with highly indebted governments following the period of financial liberalisation in the 1980s and the 1990. The severe costs of systemic global crises led governments around the world to design and adopt economic institutions such as central bank independence, currency boards and inflation targeting for currency stabilisation.

In Turkey, comprehensive macroeconomic reforms followed a domestic banking crisis in 2001, resulting from the accumulated macroeconomic problems of chronic high inflation and poor fiscal management over decades. The reforms included the adoption of central bank independence, prudent bank regulation and supervision, and procurement laws. Assisted by the favourable circumstances arising from large financial inflows during the period of global quantitative easing, high Turkish growth rates before the Great Recession gave the perception that these reforms had been successful.

Much has been and will be said about Turkey’s economic, political and social events since 2002, and the reversal of its fortunes. In a nutshell, the underlying reason why the Turkish economy has been unable to take off despite single-party government and much praised economic reforms is, once again, bad economic management.

The government of the newly formed Justice and Development Party (AKP) established itself in a period of very favourable domestic and global circumstances. But it started to deviate from the reformed institutional framework after the programme supported by the International Monetary Fund ended in 2006.

As openly expressed before and after the AKP came to power, the political objective has been to restructure the foundations of the Turkish Republic by replacing secular parliamentary democracy with a state mechanism with Islamic features. Having completed the reform process successfully by 2006, the AKP intensified its efforts to consolidate its political power based on three pillars: education, economics and state institutions.

In the case of education, the AKP governments provided religious schools with disproportionately large public funds; newly graduated teachers of the classic system faced large-scale appointment problems; many village schools were shut down, leaving pupils in rural areas with the only option of attending the expanding Islamic boarding school system in distant locations; and the school curriculum was changed to emphasise recent political achievements, to downplay the republican history and to eliminate courses like philosophy.

Loyalty to the AKP has been promoted via Islamic values training and a rapidly increasing number of mosques and Islamic clerks. There have also been extensive efforts by the densely organised party network to promote people who are inexperienced but loyal to the AKP in the government machinery, as well as in the other influential or key positions, including those in the many newly built universities. Loyal supporters have also been created via various social programmes and in-kind transfers to households.

Favouritism in the economic arena has manifested itself mainly in frequent changes to the procurement law, which has enabled large funds to flow to construction firms that are loyal to the AKP. While household indebtedness has increased (from about 5% of disposable income in 2002 to 24% in 2017) as a result of consumption-promoting policies and developing financial intermediation, a new rich class has emerged in the construction sector in unprecedented measures. Public-private partnership projects that transferred large public funds to only a few firms contributed largely to this outcome.

The lack of sufficient support for the agricultural sector and for employment opportunities in expanding urban construction activities has resulted in a socially undesirable degree of immigration and urbanisation (reaching 75% in 2018).

All these processes define a textbook example of ‘immiserising growth’: while disproportionate resource allocation to construction activities initially generated fast employment and high returns, it has come to a natural end as it is unable to generate a sustainable increase in production potential, value-added and domestic demand.

Meanwhile, the constitution was changed in 2017, replacing the parliamentary democratic system of the Turkish Republic with a system of presidential government. This change was made despite many controversies within legal circles about the necessity for such a change, while the AKP explained the need as a way ‘to eliminate the hurdles in the parliamentary decision-making and to expedite economic reforms’. The AKP won the referendum on constitutional change by a mere 50.98%.

As a result, the government’s control over the bureaucratic machinery has become wide-ranging and the quality of key economic institutions has deteriorated: the central bank’s independence has become highly questionable; inflation targets have not been achieved; and the discretionary uses of large public funds and large errors and omissions in the current account have all led to severe credibility problems. The loss of fiscal transparency and accountability has become a major problem not only for macroeconomic stability and sustainability but also for social and political outcomes.

The 16 years of AKP rule in Turkey is perceived to have been a great success by about half the population. The other half remains dissatisfied and continues to oppose the transformations in the regime and in education and the economic structure.

But media power puts severe constraints on voices that are unhappy about stagnant and falling real incomes, and the polarising, immiserising and unsustainable social, economic and political choices of the government. Nevertheless, the presidential elections of 2018 were won again by the AKP amid debates about the fairness of the conditions under which the elections were held.

From an aggregate point of view, economic growth under the AKP has been unsustainable not only from economic perspective but also from the perspective of its social implications. Parts of society that showed loyalty to the new regime have become richer at rates inexplicable by the GDP growth rates, while the wellbeing of the large part of the population has declined severely.

From an economic development perspective, the fundamental problem of this era of ‘crony capitalism’ is that structural polices have led to ever-decreasing human and social capital via reduced educational quality and increased political and economic polarisation.

These developments, which constrained the country’s growth capacity, were further aggravated with the depletion of existing physical capital, as the state-owned enterprises that provided secure employment opportunities and substantial public resources were sold, mostly to international firms.

Public resources were directed to rent-generating economic activities rather than long-term employment generating investments. Spending like oil-sheiks without the oil, Turkey’s new economic leadership ended up taking control of the sovereign wealth fund, which turned into a black box.

The government is reluctant to admit that the economic slowdown driven by the recent currency crisis is the result of 16 years of single-party misadministration. Yet the recently proposed economic programme appears grossly inadequate to cope with unemployment at more than 10% and an annual inflation rate of more than 20%. This is especially true given the newly empowered rent-seeking groups and the unaccountable institutional framework built for maintaining them.

To conclude, recent changes in the economic, social and political environment in Turkey have not only failed to generate the potential for sustainable growth, but they have also made the country prone to both economic and social crises. Reversing this misfortune and getting back on a sustainable development track requires re-establishing the secular democratic system with a strong emphasis on social cohesion via scientific education, arts and equal access to resources.

Achieving this, in turn, necessitates self-empowerment of the Turkish public, as a change of heart is not a possibility for the current regime. As implied by Kemal Ataturk’s famous 1927 speech to the youth of Turkey, change will happen when the people take control of their future by realising their own potential to do it.

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