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IKV Meeting, Istanbul: February 24, 2012 EZ’s ‘Identity’ Crisis and Its Impact on the Turkish Economy Murat Üçer.

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Presentation on theme: "IKV Meeting, Istanbul: February 24, 2012 EZ’s ‘Identity’ Crisis and Its Impact on the Turkish Economy Murat Üçer."— Presentation transcript:

1 IKV Meeting, Istanbul: February 24, 2012 EZ’s ‘Identity’ Crisis and Its Impact on the Turkish Economy Murat Üçer

2 Slide # 2 Main Points  With LTRO and Greek PSI, EZ got some more breathing space.  But real adjustment issues are daunting.  Turkey is tightly wired to the EU/EZ.  It should make contingency plans taking into account the fact that deepening of EZ problems would not hit Turkey through external demand (trade/growth) alone, but also through availability of external financing.  We saw this happen last year.

3 Slide # 3 EZ Adjustment Economics 101  Financing does not solve problems, it buys time…  At a real level, EZ has simultaneously:  a public debt sustainability problem. So it’s premature to call the end of the Greek problem and further contagion.  an external imbalances problem. So competitiveness gaps between north and south have to be mended  Neither of these is easy to resolve…  An extra complication: Monetary financing the ECB is doing these days comes with no ‘conditionality’ to EZ as a whole, which may remove incentives to formulate a tighter fiscal framework (Fiscal Union?) in the long run.

4 Slide # 4 The Debt Sustainability Problem: Figures Source: IMF, Fiscal Monitor

5 Slide # 5 The Debt Sustainability Problem: Basic Math Change in Debt/GDP [∆(D/Y)] < 0 ∆ in Debt = Primary Deficit + Interest Payments ∆ in GDP = Growth + Inflation So ∆ in Debt < ∆ in GDP after a little math we get: (Interest Rate–Growth) x D/Y < Primary Balance For this equation to work Greece has to:  Reduce D/Y to some negligible level  Reduce r, increase g and move pb>0 permanently… Even after a painful PSI, we are nowhere there yet…

6 Slide # 6 The External Imbalances Problem: Figures Source: WEO, our calculations Source: Krugman blog, NYT

7 Slide # 7 The External Imbalances Problem: Basic Math Remember Y = C+I+G+X-M? Y = Domestic Demand (A or C+I+G) + Foreign Demand (X–M) When A > Y  Current Account Deficit  Financing/Change in Net External Position When this is no longer feasible, the country has to: 1) Cut A through tighter policies notably fiscal adjustment (G↓) (‘internal devaluation’); and/or 2) Depreciate the currency to reduce wages in foreign currency terms and hence, switch the composition of demand (‘rebalance’) from A to NX (‘external devaluation’)

8 Slide # 8 External Imbalances Problem: Basic Math Recall that for a country to gain ‘competitiveness’, the following has to hold: ΔP*/P* ≥ ΔW/W - Δ[Y/L]/[Y/L] - ΔE/E whereP* = Foreign price of the commodity W = Nominal wage in local currency Y/L = Productivity (output per labor) E = Local currency price of a unit of foreign currency Since ΔE/E = 0; we need wage deflation and productivity increase…. Both take time and are politically very, very difficult...

9 Slide # 9 Competitiveness Problem: Figures Source: Unit labour costs in selected EU nations

10 Slide # 10 Turkey and the EU/EZ  We have very strong links  In trade and tourism  Despite the recent diversification, some 45% of Turkish exports still go to EU  In finance  Some 80% of our MLT debt is to European Banks  Some 80% of FDI has come from EU  More broadly, negative confidence and bank implosion effects -- if EZ problems deepen -- would be very significant because for growth, we need others’ savings.

11 Slide # 11 Some export diversification, but still…

12 Slide # 12 Likewise with FDI…

13 Slide # 13 Bank deleveraging has started in Q3 Source: BIS; BIS banks assets and liabilities vis-à-vis Turkish residents.

14 Slide # 14 Turkey’s growing CAD is a challenge…

15 Slide # 15 Growth and inflows are highly correlated

16 Slide # 16 What Should We Do?  I don’t know…  But at least:  Be prepared, avoid complacency, do not assume that problems are gone…  Conduct a detailed scenario analysis and formulate a Plan B…  Try to diversify (exports, FDI, etc.) as much as possible through public-private partnerships…  Save (fiscally) for the rainy days…

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