If the current economic structure of Turkey were similar to that before the 2001 crisis, the economy would have shaken so badly.

The probe initiated recently in Turkey has shaken the entire country. All we wish is that the operation will be carried on lawfully and the people responsible will be detected. This natural wish as a citizen aside, the questions that matters for the purpose of this commentary is how this shocking probe would affect the prospects for the Turkish economy.

First, let’s go back to the 2001 crisis which was signaled in the late 2000 and finally erupted in February 2001. The crisis was a severe trauma for Turkey. What were the triggering factors? I will quote from my book “Financial Crises and Turkey” (Doğan Kitap, pp 92-93, 2013, 4^th edition - in Turkish):

“Despite the efforts paid with the 2000 economic program, Turkey was struggling with major economic challenges. Besides, the banking sector was ailing. The only way to solve the problems was to implement a comprehensive economic program that will yield results gradually. But Turkey failed to heal the banking sector, which was by far the weakest link of the economy. As a result, the problems of the sector became insolvable. And please add on top of these the “unassertive” heterodox economic program in play, and the reluctance to intervene in wages and prices despite the cap put on the exchange rate.

With this background, the following took place starting in the summer of 2000: the stand-by agreement signed with the IMF stipulated six structural reform measures: social security, agriculture, tax law and management, fiscal management and transparency, privatization and capital markets, and banking sector reforms. The problems concerning the last three in particular threatened Turkey throughout the year 2000. As I said before, the banking sector restructuring was somehow not initiated despite the fact that the sector was crying for help.

By the late December 1999, right before the initiation of the 2000-2002 program, 5 failed banks were transferred to the Savings Deposit Insurance Fund (TMSF). Yet, there still were troubled banks within the system. Sometime later, after the governing board of the Banking Regulation and Supervision Agency’s governing board was established, two more banks were transferred to the TMSF as of 27 October 2000.  Before that in September, a probe called “tornado” was carried out and the owners and managers of the five of seven banks were taken into custody. The news came as a bombshell and was covered widely in the printed and visual media. The bankers under custody were labeled as “scammers.” “What is going on? Is the banking sector untrustworthy in its entirety?” everyone chanted.

All of the above developments promoted the perception that the banking sector was struggling with deep-rooted problems. Private banks, which financed themselves exclusively with overnight repurchase agreements, and public banks which struggled with the huge burden of duty losses came up against the wall. Due to the confidence crisis, banks in surplus refrained from lending to banks which had gigantic fund requirements. As a result came a market rate hike...”

Yes, right before the 2001 crisis, the macroeconomic fundamentals of Turkey were deeply damaged despite the efforts to heal the economy. But the exact timing of the crisis, that is, the reason why the crisis started in November 2000 and erupted in February 2001, is about the time when the triggering factors came into play. Please note that I am not drawing any analogy between the certain bank mentioned in the context of the current probe and the operations carried out in 2000. It is not this coincidence but the triggering factors that is of importance here. If the current economic structure of Turkey were similar to that before the 2001 crisis, the economy would have shaken so badly. Since the conditions are different today, the consequence will not be that severe. But...

Yes, here comes the “but”: the FED’s feared decisions are just around the corner now. Net capital flows towards Turkey have declined remarkably since May, when the possibility of tapering was first voiced. The concern is that this downturn might continue when the decisions will finally be announced. Turkey has been quoted as one of the five countries that will be hit the hardest by FED decisions, given its high current account deficit and hence high foreign borrowing requirement.

In this context I claimed earlier that I expect slightly slower growth, higher inflation, and higher unemployment rate in 2014 compared to 2013. If the recent developments gain pace, I have to omit the word “slightly” of my forecasts. In such an event, growth will decline and inflation, exchange and unemployment rates will hike considerably. The exact magnitude of these movements depends on the upcoming developments...

This commentary was published in Radikal daily on 19.11.2013