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Monday, June 08, 2009

Are There Really Green Shoots In Turkey?

First off, I would just like to say sorry to any readers this blog may still have. I have been occupied these last months following the crisis elsewhere. Now I have finally found the time to take a look at Turkey again. This post is a work in evolution, so please bear with me. It is more like working notes which I will be constantly adding to over the next 24 hours.

But before I go any further, let me put something completely up front. I have a stake in Turkey. Not a financial stake, but an intellectual one. Turkey is an important test case. Does Demography Matter to economics, or doesn't it? If it does, then what happens in Turkey will be important, since Turkey's demographics are quite distinct from those to be found in other parts of Eastern Europe. As I say in this post (written less than a month after the sub prime crisis broke out in the United States at the start of August 2007):

It may be surprising in the light of what I have just said if I now go on to suggest that it is precisely the fact that Turkey may not be so badly ensnared in the trouble which is brewing (I mean no one, but no one, will escape completely scott free) as some other emerging economies (and I am talking here about some key members of the EU10 accession countries, and for reasons explained in this post)which may well be of interest.

What do I mean by not so badly snared? Well, in the first place Turkey is still in a "will-she won't-she" situation as far as whether or not she will need to once more seek protection from the IMF and apply for a loan. In the second place, when the recovery comes I would expect to see Turkey rebound far more rapidly, and sustainably, than more of the EU12 group of European Union "Accession" countries. So this is a clear test, and I think it is important that people should try to see it that way.

In fact the Turkish Central Bank recently presented some charts which seem to back my initial intuitions here. The first (left hand side) shows the general JPMorgan EMBI+ bond index, as compared with the Turkey specific EMBI+. While the second compares the Turkish Lira (TRY) with a weighted currency index for Central and Eastern Europe Index: Czech Republic, Croatia, Hungary, Lithuania, Poland, Romania, Slovakia and Ukraine. In both cases, Turkish performance is well above that of an "average pupil". (Please click on image for better viewing).

April Output Falls but May Purchasing PMI In Positive Territory

Now the first thing to notice is how Turkey has been directly affected by the global crisis, and some of the best evidence for this is to be found in the fall in industrial output. According to the latest data from the Turkish Statistical Office industrial production dropped 18.5% year-on-year in April, after a 20.9% fall in March. Economists expected a decline of 18%. Manufacturing was down an annual 20.6%, while mining and utilities output were down 5.4% and 5.3% respectively. In fact the biggest drop was in capital goods production, which fell 41.8%. There was however, one bright spot. Month-on-month, industrial output climbed 1.4% in April. Do we have a green sprout here?

Certainly Turkey's latest manufacturing PMI might give us some cause for hope, since the index rose to 51 in May from 44 in April, according to the Markit Economics survey. Only a whisk above the 50 dividing line, but enough to put Turkey - along with India and China - in that very illustrious group of economies where the industrial sector is now expanding.

Some confirmation for the PMI comes from the monthly capacity utilisation survey (see chart). According to the May results, the rate of capacity utilisation (70.4%) was down by 12 points as compared to May 2008, but increased by 3,6 point compared to April. Capacity utilisation hit bottom in January/February at 63.8%.

Export Slump

Part of the problem which has affected the Turkish economy, like many others, has been the slump in world trade, and the consequent decline in exports. Turkish exports fell in April by 33.3% (to 7 576 million USD) when compared with April 2008 while imports decreased by a massive 43.4% (to 10 119 million USD on the year). At the same time, as can be seen from the second chart below, the level of exports has now been more or less stable since the end of last year.

Given the size of the export drop the goods trade deficit has been decreasing on an interannual basis, and was down by 61% in April from April 2008, falling from 6 525 million USD to 2 543 million USD, although it has rebounded somewhat from the February low point.

Lira On The Rebound

Turkey’s currency weakened to 1.5432 to the dollar at 5:13 p.m. in Istanbul last Friday (on the back of Latvia worries), down from 1.5332 a week earlier. Nonetheless it has still now gained 19 percent since early March, following the sharp devaluation between September and November 2008. (Please click on image below for better viewing).

Inflation Stubbornly High

Turkey's Consumer Price Index was up by an annual 5.24% in May, and by 0,64% over April.

The Producer Price Index fell in May, however, and was down by 0.05% on April, and by 2.46% on May 2008.

Interest Rates Come Down

Despite continuing inflation the central bank has now cut its benchmark interest rate by 7.5 percentage points in the past seven months - largely because of continuing weakness in the economy - and it is now at a record low of 9.25 percent. Despite the fact that industrial output fell by an average of 22 percent in the first three months of the year, central bank Governor Durmus Yilmaz said at the start of this month that he expected the decline to “stabilize” in the second quarter.

Consumer Confidence

The Consumer Confidence Index, which was 74.77 in March, increased by 8% to hit 80.75 in April. Despite the small recent increase the index is still at historically very low levels.

GDP Contracts

In the fourth quarter of 2008 gross domestic product was down by 6.2% compared to the same quarter of previous year.

Domestic demand was down sharply as both private consumption and contracted strongly. Private consumption was down 4.6% year on year, and machinery and equipment 25.3%.

(Please click on image below for better viewing)

Exports fell 8.2% over Q4 2007, while imports fell 23%. As a result the impact from the trade balance was positive for GDP (see below). On the other hand industrial output, construction activity and services all fell.

As can be seen from the next chart, the car stimulus programme has been pretty important in the industrial output recovery, especially since capital goods output is still down in the doldrums.

Labour Force Survey

Turkey's working age population increased by 860,000 in February over a year earlier, a fact which underlines the fact that Turkey's population is still growing rapidly. In fact it was up by 820,000 and reached 70.236 million, while the working age population reached 51.360 million.

Unemployment has been rising steadily, and is now up from a low of 8.9% in May 2008, hitting 16.1% in February. A total of 3.8 million people were officially classified as unemployed in February.

The number of those employed decreased by 85 thousand in Fenruary compared to the same period of the previous year and reached 19.779 million. Agricultural employment increased by 206,000 and non-agricultural employment was down by 291,000.

Turkish assets also fell last week on broader concerns about valuations in emerging markets and after U.S. economic data disappointed investors seeking signs of a recovery in the world's biggest economy. Bonds and the lira also weakened after May inflation was higher than expected and following Thursday's announcement of an incentive package to lure investment and boost employment that may strain the budget and force the government to issue debt.

The main share index rose 1.4 percent to 34,750.19 last week. It has now gained almost 28 percent this year. The MSCI emerging equities index was up 0.69 percent. Emerging markets were shaken by a failed Latvian government debt sale and fears that it will be forced to devaluate its currency. The MSCI core index for Turkey has now fallen 4.98% so far this month, but is still up 38.18% over the last three months.

The bond market seemed to be focused on the lack of progress on the IMF front. Prime Minister Tayyip Erdogan on Thursday said talks with the International Monetary Fund were continuing and unveiled new incentives, including slashing corporate taxes and covering non-wage labour costs, to fight record unemployment and stimulate economic activity. Newspapers said the package could cost 60 billion lira.

The measures come despite concerns that increased spending will harm Turkish debt dynamics and push inflation higher, especially since the government has yet to agree on a loan accord with the IMF a year after its last pact expired. Prime Minister Tayyip Erdogan said on Thursday his government would reject any move from the IMF that it saw as political meddling. Turkey and the international lender have been negotiating a new loan accord for more than a year.

The government announced on Thursday new incentives to fight record unemployment and boost the impoverished southeastern regions, including corporate tax rate cuts and hand-outs to large investments. The government did not announce how it would finance the package it announced yesterday and this is disturbing the market. Turkey raised its official budget deficit target fivefold for this year to 48.3 billion lira.

The IMF expects Turkey's economy to shrink 5.1 percent this year, after growing 5.9 percent on average in 2002-2008. Turkish Economy Minister Ali Babacan said last Monday the economy may shrink by more than a previously expected 3.6 percent this year as the world economy slows, but will return to "significant growth" in 2010.

Turkey's economy, which expanded by an average of more than 7 percent between 2002 and 2007, may have contracted by as much as 10 percent in the first quarter of this year, as the global recession sapped foreign demand for Turkish goods and led to record unemployment.

Turkey suspended special consumption taxes for three months on cars, white goods, electronics and large houses on March 15. Automotive companies have repeatedly urged the government to extend the breaks to encourage domestic consumption after their exports plunged in the global recession.

Turkey's year-long negotiations with the international lender have failed to produce an agreement, and Prime Minister Tayyip Erdogan has said Turkey would not concede on certain points, like spending, and can do without the funding if necessary.

Babacan said that the government's budget would produce a deficit before interest payments for the first time in years, amid rising government spending and declining tax revenue. Investors and economists say an IMF deal, which could be worth as much as $45 billion, would help the government and private-sector roll over debt payments coming due later this year after international credit markets dried up.

Industrial production, which has fallen for nine consecutive months, picked up last month, Babacan also said. Government data on Monday showed output fell 18.5 percent in April, more than expected.

The current account deficit will fall to less than $10 billion this year from $41.42 billion in 2008, Babacan also said, as the slowing domestic economy saps demand.

Turkey has been locked in fruitless negotiations with the IMF since its last loan deal expired last year's May, with both sides at odds over levels of government spending.

Turkey's economy shrank 6.2 percent in 2008's last quarter, and economists expect a double-digit contraction in the first quarter. Quarterly GDP data will be announced on June 30.

Unemployment has risen to a record high of 16.1 percent.

Erdogan, who said those aspects of the package related to labour would cost just under 1 billion Turkish lira ($648.1 million), said this week he believes the economy will return to positive growth as early as this summer, but the IMF is more pessimistic and expects GDP to decline 5.1 percent this year. Unlike many Western countries Turkey did not resort to sweeping stimulus packages early this year as it hoped the Turkish private sector's dynamism and the relative absence of household debt would help it emerge from the crisis earlier.

Calls from European and American analysts for Turkey to sign a deal with the International Monetary Fund are strengthened by similar advise from Yoshihiko Tamura, a Japanese analyst at the Japan Credit Agency. Turkey needs foreign funding to close its widening budget gap, he says. Yoshihiko Tamura, an analyst for Turkey at the Japan Credit Agency, or JCR, said an agreement with the International Monetary Fund, or IMF, is "a must" for the economy.

Speaking to the Anatolia news agency, Tamura said Turkey should sign a standby deal with the IMF that would solidify global confidence in the economy. In order to come out of the crisis period with minimal damage and realize sustainable economic growth, Turkey should also continue on the path to European Union membership by passing reforms, the analyst said. Noting that the economic situation is "sluggish" in Turkey, Tamura added, "It is not a negative approach to change Turkey’s current credit note in the current crisis."

"Thanks to its strong finance sector, Turkey is able to survive the first effects of the crisis," he said. As negative conditions in the economy cause foreign and domestic demand to decline along with investments, Turkey will contract considerably, Tamura said, adding, "Turkey can see a return to growth next year."

Under current conditions, Turkey should find foreign sourcing to close its foreign-financing deficit, the analyst said. However, foreign financing sources have diminished due to the crisis. As oil prices start to rise again and exports see considerable contraction, the budget deficit will become a problem again, Tamura said. Crude oil futures for July delivery traded at $68.44 a barrel on the New York Mercantile Exchange on Friday.

"Signing the IMF deal is the best thing to do as Turkey is in need of increasing foreign financing sources," Tamura said. "A standby would not only support the country’s finances, but also increase international confidence."

Turkey could get through the global economic recession without an International Monetary Fund program, but it is a "risk," the head of emerging Europe sovereigns at Fitch Ratings said Wednesday.

Speaking at Fitch's emerging Europe conference, Edward Parker said given the circumstances, it would be "prudent" for Turkey to secure IMF funding.

Fitch currently rates Turkey BB- with a stable outlook.

Turkey has been in stop-and-go negotiations with the IMF all year. But while the global slowdown has taken a heavy toll on Turkey's domestic economy, it has also led to a sharp cut in imports that has dramatically cut Turkeys' current account deficit and hence reduced its reliance on external funds.

Turkish bonds fell for a fifth day Friday, posting the biggest weekly loss since October, on concerns that Prime Minister Recep Tayyip Erdoğan’s stimulus plan would fuel borrowing and push the country further away from an agreement with the IMF. The drop in Turkish Lira-denominated debt raised the average yield 16 basis points to 12.91 percent Friday evening in Istanbul, extending the increase to 4.2 percent this week, the most since Oct. 24, an index of securities tracked by ABN Amro Holding showed.

Turkey's economy will likely shrink by 4.6-5 percent this year, government sources said on Tuesday, citing an expected cut in the official forecast for its contraction from the current 3.6 percent. Turkey's economy posted growth rates averaging 5.9 percent in 2002-2008 but the global crisis has sapped demand for its key textiles, automotive and electronics products this year.

The International Monetary Fund, which has been in talks with Ankara on a major loan deal, expects Turkey's economy to shrink 5.1 percent in 2009. "This year's contraction is seen in a range of 4.6-5 percent according to existing data but if oil prices rise, this will of course have an impact," said one senior government source.

Another source confirmed the government was likely to revise the forecast to -4.6-5.0 percent and said the figure would be higher if oil prices continued to rise. Turkey is a net oil importer. Turkey's economy contracted 6.2 percent in the final quarter of 2008, showing its worst performance since 2001's domestic financial crisis.
Analysts expect Turkish GDP to fall in double digits of percent year-on-year in the first quarter. The Turkish Statistics Institute will announce first quarter GDP data on June 30.

Deputy prime minister in charge of the economy Ali Babacan said this week that the economy may shrink by more than a previously expected 3.6 percent this year as the world economy slows, but would return to "significant growth" in 2010.

Economists welcomed the range of 4.6-5 percent as a more realistic GDP estimate, but said the government should also revise 2009 budget forecasts.
The official budget deficit estimate for 2009 is 48.3 billion lira ($31.2 billion).
"Revising the growth estimate is not enough. (Lower growth) means an even higher budget deficit. That means a larger budget deficit should be expected," AK Investment chief economist Hakan Aklar said. Turkey's budget deficit soared 268 percent year-on-year in the first four months of the year, endangering end-year targets. A rising budget deficit means higher borrowing from the domestic credit market and rising risk premiums for Turkish debt.

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