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Does economic policy space really tighten?
What should come to our minds when we hear that economic policy space tightens? I guess two things can come: First, there is no action to take in the current economic process. There is no option other than bowing to the inevitable. Second, there are actions to take; but the opportunity to take those is either nonexistent or highly limited; i.e. there exist no room and no means. Let us view the economic policy space in the coming period with this lens. Does the space really tighten?
In our consideration, there are actions to take in the coming period; but the opportunity to take those actions is quite limited. Those wondering why can take a look at the public budget. Oh, I am sorry; the situation is quite bitter for those who would chose to take a look at the public budget. 2009 budget is made up since September 2009. And the 2010 budget is not yet estimated. There are two main sources of information which proves that the economic policy space in the second sense is tightening. First is the budget realizations and the second is the Treasury's public borrowing figures.
Budget realizations are addressed in detail in TEPAV Fiscal Monitoring Reports. Considering budget realizations, the first point is: economic recession has affected the public budget very severely. This is a structural feature of Turkey's public budget. As informal economy is quite big and the tax administration is not organized with the aim of "collecting taxes", substantial part of tax revenues is constituted of indirect taxes. And indirect taxes are highly responsive to the growth performance of the current year. This is exactly why the economic slowdown hit tax revenue capacity. This is the first point. Second is, as unemployment rises, deficit of the social security system grows automatically. While the number of those paying premiums decreases, that of receiving retirement pay does not. As a result, social security gap widens.
These two points take us to a third one: Up to this point, deterioration in public finance is not related with the economic policy decisions of the government. Contraction in the economy automatically increases budget deficit. Until now, there is no fiscal expansion process based on government's will. And this is the third point.
Disruption of the social security system is related not only with economic slowdown and the rise in unemployment. Uncontrolled rise in health expenditures signalizes a significant mistake: government started to realize the unnoticed effects of the Health Reform launched without thinking it through in the midst of the economic recession. Any positive aspect of the health reform is currently a secondary issue; incompetently implemented health reform is now among the factors that tightens economic policy space. It is a sort of "chickens have come home to roost case 1". Problems of the health system are just the beginning followed by irrational expenditures by municipalities and senseless policy mistakes that draw public enterprises in energy sector to bankruptcy. When you add these, you get "chickens have come home to roost case 2 and case 3". Fourth point is; earlier policy decisions of the government today tighten the policy space of the government.
And the fifth point: tightening of the policy space is not limited with the budget. Soon, we will see that a process where the public sector will have to borrow more than it repays is to begin. This is not good. This means that in each government borrowing security (GBS) auction, fundamental source of public borrowing is the demand of those who already holds reimbursed GBS's. Public sector's borrowing more than it repays means that new demand to hold GBS's must be found in each auction. Where will this demand come from? Nowadays, it will become important to attract those who invest in different tools to GBS's. Turkey is in a period where GBS maturities can shorten and interest rates can be increased. And this leads us to the fifth point: another factor that contracts economic policy space is the squeeze we are to witness.
At this point the conclusion is: In the coming period, the opportunity to take the required actions is quite limited. Let us correct it: Turkey's ability to take the possible actions is limited. Then, what can be done? Bundle of opportunities can be expanded. There are two ways to do this: Opportunity to take the actions can be created through funds from private resources or international institutions. Given the size of the problem and the characteristics of the actions to be taken, it seems impossible to succeed through funds from private markets. So, we are left with international institutions.
For the short term, if the IMF is absent; economic policy space tightens rapidly. That is it.
This commentary was published in Referans daily on 08.09.2009