In 2013 Turkey’s current-account deficit widened from 6.2 per cent to 7.9 per cent of GDP. Since 2007 the deficit averaged 6.2 per cent against 2.6 per cent for the other ‘Fragile Five’ economies – South Africa, India, Indonesia and Brazil. We expect Turkey’s deficit to narrow to 6.3 per cent in 2014 on the back of slowing import growth and a more competitive currency, but even if it then falls to around 5 per cent of GDP, this is still a sizeable figure.
A current-account deficit is not necessarily a bad thing. Emerging markets with young populations, low savings and low debt stocks can benefit greatly if they borrow externally to fund investments that could not be financed otherwise. If that borrowing is invested wisely, the capital stock grows, the economy becomes more productive and, over the long term, the current-account deficit will shrink. Indeed, as the country increases its competitiveness, it might even run a balanced current account or a surplus.
Demographics played a huge role in Turkey’s earlier strong productivity gains
That’s a ‘good’ current-account deficit. However, it is difficult to pin down how much of Turkey’s borrowing has fed productivity-boosting investments and how much has been channelled into rapid consumption growth or asset bubbles – a ‘bad’ deficit.
Turkey had impressive labour productivity growth in the 1990s but since the global financial crisis it has been one of the worst performers in the Central and Eastern Europe, Middle East and Africa region, with productivity falling. Despite the fall, Turkey’s nominal wage growth has significantly outpaced productivity growth every year.
But since 2007, the country has run sizeable current-account deficits. So why has productivity growth slowed in Turkey? And where has its external borrowing gone, if not into productivity-boosting investments?
Demographics played a huge role in Turkey’s earlier strong productivity gains. The country was urbanising rapidly as rural workers moved to bustling city centres and swapped low-productivity agricultural jobs for higher-productivity employment in manufacturing or services. But the pace of urbanisation has slowed recently and, with 77 per cent of the population now living in urban centres, it can slow only further.
Turkey’s property market is not yet showing signs of a fully fledged bubble, but the country has been importing fewer investment goods that could add to its capital stock and boost its productivity. Imports of investment goods have fallen from 19 per cent of all imports in 1996-2006 to 15 per cent since 2007 and the domestic value-added of exports has not been rising.
This suggests Turkey has been running more of a ‘bad’ current-account deficit, especially since the financial crisis. This makes supply side reforms essential.
This research was first published on 18 February 2014.