Economic perspectives for 2014

During the last two weeks, this column has been occupied by debates over the graft investigation scandal. The political shock caused by this scandal shook many bricks.
The wall is still standing but it is certain that political uncertainty will remain until a new political equilibrium is reached. We will have our first clue about this on March 30, when we observe the change in the electoral support of the incumbent party. However, we will have to wait until the end of the electoral process. Since the third and final elections, the general one, will be held as early as autumn, the economy this year will be overshadowed by political uncertainties. What might the economic perspectives be in this context? Or, to state it in another way, is the Turkish economy still developing along the medium-term economic program (OVP), the economic roadmap of the government? Let's recall what was forecast in the OVP. The growth rate was targeted at 4 percent. Can this growth target be achieved? Since the devil is in the details, let's take a look at them. The main claim in the OVP is that growth in 2014 will be a balanced one, i.e., it will not be led exclusively by domestic demand but net exports will also positively contribute to it. Growth of final domestic demand is forecast to be 3.3 percent, the remaining 0.7 percent to be fulfilled by net exports. Indeed, exports are expected to increase by 8.5 percent in dollar terms while the increase of imports will be limited to 4.2 percent. The second claim of the OVP is that there will be a jump in private investments. They are expected to increase by 5.7 percent while public investments are expected to fall by 3.5 percent, despite the successive elections! Private consumption is expected to increase moderately by 3.2 percent. In addition, the foreign trade deficit will fall slightly from $98 billion to $95.5 billion, resulting in an improvement of $3 billon in the current account deficit (CAD). These changes will bring the ratio of CAD-to-gross domestic product (GDP) down from 7.1 percent to 6.4 percent. Finally, inflation will decline to 5.3 percent from its last forecast of 6.8 percent for 2013. I think the most critical issue will be the evolution of private investments. I claimed in my last few columns that the political uncertainty as well the concerns regarding the rule of law and the EU anchor will adversely affect investments. It is possible to compensate to some extent for the weak investment climate by higher public investment than planned in the 2014 budget. Nevertheless, this changing policy may jeopardize fiscal discipline. A rather relaxed attitude must be expected regarding current public expenditures, all the more so in the electoral context. Let me point out that the minimum wage as well as public employee salaries had been increased in real terms recently. Another critical issue will be the current exchange rate shock. The lira has depreciated by 8 percent in the last two weeks. If its current level is maintained in the coming months, this will have some mixed effects on the economy. An undervalued local currency always affects negatively private investments since the relative price of imported investment goods rises. Here, we have another adverse effect on private investments. That said, the depreciation particularly threatens inflation. The consumer price index (CPI) reached 7.4 at the end of December, well above the last forecast of the central bank. This year, the central bank absolutely has to bring down inflation, at least close to 6 percent. If not, its credibility will be at stake. Deterioration in inflation expectations must be prevented as soon as possible. A further tightening in the monetary policy seems unavoidable. In this case the demand for consumer durables would also weaken more than expected. We can still console ourselves with a narrowing CAD. Indeed, lower investment coupled with an undervalued lira will be very helpful in reaching export and import targets and a good performance with respect to the CAD can thus be expected. Considering these facts, growth of 4 percent this year seems to me to be out of reach. What growth rate might be forecast instead? This is a difficult question to answer. I have already said I do not expect a recession. Nevertheless, 2014 will be a year of balanced growth as planned in the OVP but a year of quite low growth at the same time. I will not be surprised if the GDP increase is limited to 2-3 percent. This would also mean a rather rapid increase in unemployment. So, how about the new political equilibrium?