Turkey: Wake Up to Rising Economic Risks

Ankara is focused on upcoming elections and fighting the PKK. It hasn't been attentive enough to the economic risks piling up for Turkey

By Wolfango Piccoli

Despite its large parliamentary majority and past pragmatism, the government led by Turkey's Justice & Development (AKP) party has remained essentially idle as the country faces the dual challenges of a slowing domestic economy and a global credit crunch. A risky sense of overconfidence and lack of focus on economic issues seems to prevail among policymakers.

Only a few months ago, investors were looking forward to a period of political stability after the AKP survived a legal challenge that could have led to the party being shut down for alleged "anti-secular" activities. After Turkey's constitutional court narrowly ruled in the AKP's favor at the end of July, investors hoped the government would begin to concentrate on the economy and restart stalled reforms. Sadly, it has failed to deliver on both fronts.

The political agenda is now dominated by nationwide local elections scheduled for Mar. 29, as well as corruption allegations and the fight against the Kurdish separatist group, PKK. The political scene is once again polarized, and AKP rivals—in particular the main opposition CHP party—have raised corruption claims that are tarnishing the party's image. More such allegations are likely to be aired before the critical local elections.

Calls by business leaders for the government to focus on the economy and on the possible impact of global financial turmoil have so far gone largely unheeded. The government has argued that Turkey will overcome the turbulence with minimum damage and that the situation might even turn into an opportunity. While this optimistic view may be partially justified, a soft-landing scenario is far from certain in an environment where a stop in capital flows may happen abruptly (BusinessWeek.com, 10/10/08).

Some Protection

The Turkish banking sector appears relatively shielded from global liquidity problems. This is mainly thanks to reforms introduced after a 2001 banking crisis, including the creation of a bank regulatory and supervision agency and strengthened requirements for risk management, internal control, and auditing. Regulators say the banking system at the end of July had a healthy capital adequacy ratio of about 17% overall, while the loans-to-deposit ratio was 86.8%.

However, there are still risks to watch for. Foreign exchange liabilities of Turkish corporations to local banks had reached $39.42 billion as of March 2008. Local banks' gross debt to banks abroad stood at about $45 billion at the end of the first quarter. Credit-card default risk is another worry. Individual consumer credit-card debt is $26.9 billion, and the default rate is around 6.3%.