The political economy of AK Party rule in Turkey: From a regulatory to a developmental state?

• Author: Yagci, Mustafa
• Position: ARTICLE - Essay

ABSTRACT The macroeconomic and financial stability orientation of AK Party governments, with their emphasis on fiscal discipline and the regulatory function of the state in the financial system, has allowed the Turkish economy to firmly withstand several internal and external shocks. Nevertheless, low economic growth, as well as high inflation, interest, and unemployment rates, and an unsustainable current account deficit continue to be the main challenges ahead. In the face of these challenges, AK Party started to follow a developmentalist discourse. Turkey's transition to the status of a developmental state requires a comprehensive industrial, technological strategy so that different policy areas are in coordination with one another. For this purpose, public organizations need to improve their organizational capabilities and their communications with the real sector.

Introduction

The Turkish economy started to integrate into the international economic and financial system in the early 1980s. Following the full capital account liberalization and currency convertibility decision in 1989, several premature and rapid financial liberalization decisions were reflected in a Turkish economy dependent on foreign capital flows, with unsustainable budget deficits, and very high public sector borrowing requirements. Combined with extraordinarily high inflation and interest rates, lack of proper regulation in the financial sector, and instability in the political system, the 1990s and early 2000s were characterized by economic and financial crises in Turkey. Assuming office in late 2002, the AK Party governments have prioritized macroeconomic and financial stability with fiscal discipline by assuming a largely regulatory function in the financial system, especially the banking sector. Nevertheless, regulatory practices in the financial system do not rule out deregulatory practices in different respects. (1) While the IMF program, after the twin economic and financial crises in 2000 and 2001, built the foundations of the transformation of the Turkish economy, it would be an exaggeration to argue that the AK Party simply followed the IMF program after 2002. Successive AK Party governments have transformed the Turkish economy so that Turkey is not a crisis-prone country anymore, despite significant internal and external shocks to the economy. On the other hand, several challenges remain to achieve higher income levels for Turkish citizens, and to accomplish sustainable economic and social development in Turkey.

This paper provides a political economy examination of the AK Party governments, with a focus on the macroeconomic policy framework between 2002 and late 2016. It outlines how the priorities of the AK Party governments have changed from those of a regulatory to a more developmental state during this period. The paper is organized as follows: the first section outlines key developments in the emergence of a regulatory state with fiscal discipline in Turkey. The second section underlines the main challenges ahead for the Turkish economy, and the third section discusses whether Turkey is on the verge of becoming a developmental state. The fourth section concludes with a discussion.

The Emergence of a Regulatory State with Fiscal Discipline

The twin crises of 2000 and 2001 constitute a critical juncture for the transformation of the Turkish economy. In order to avoid future bank failures and achieve sustainable public finances and single digit inflation rates, the IMF program after the twin crises prioritized the regulatory function of the state in the financial sector. With this program, Turkey's Banking Regulation and Supervision Agency (BRSA) became a functional and effective entity, the Central Bank of the Republic of Turkey (CBRT) gained legal independence so that the central bank could not finance budget deficits, and price stability became the primary objective of the central bank. Thus, Turkey's legal framework ensured that BRSA is responsible for banking regulation and supervision, CBRT is solely responsible for monetary policy, and the Turkish Treasury is responsible for debt management and sovereign borrowing.

During the early years of AK Party rule, lowering inflation to single digits, achieving sustainable public debt, and maintaining a regulatory function in the finance sector were the main objectives. With the goal of achieving fiscal discipline, the AK Party engaged in fiscal consolidation policies, and there was a considerable increase in privatization. For instance, while Turkey completed the 4.6 billion USD equivalent of privatization between 1985 and 1997, privatization implementations reached 8.2 billion USD in 2005 and 8.1 billion USD in 2006. (2) Moreover, in 2006 the AK party initiated a social security reform in order to meet three objectives: establishing a single social security system combining divergent practices in social security rights, equalizing health coverage for every citizen with a general health insurance system, and forming an overarching social assistance system which coordinates means-tested social assistance for all citizens. (3) With these reforms, the average pension contribution period increased from 7000 to 9000 days, and the minimum official retirement age increased for both males and females. Thus, social security reform was a critical step toward achieving sustainable levels of public debt.

With the help of fiscal consolidation, reforms in the public sector, privatization activities, and declining inflation and interest rates, the AK Party maintained fiscal discipline throughout its tenure. Therefore, public sector borrowing requirements (PSBR), interest expenditures by the central government, and public sector debt stock declined significantly (Graph 1). In establishing fiscal discipline, the leading role of the Turkish Treasury and its coordination with CBRT and other regulatory agencies should be underlined. (4)

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With the help of the fiscal space provided by fiscal discipline, AK Party governments could undertake historical mega projects and use public resources for public services. Comparing the Turkish case with other country groups illustrates the low rates of government debt achieved in Turkey since 2002 (Graph 2). It is critical to underline that Turkey maintained fiscal discipline even after the global financial crisis (GFC) when other countries significantly increased their debt levels. Turkey is expected to maintain low government debt levels until 2021.

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In addition to these developments in fiscal policy, Turkey started to improve its trading ties with neighboring countries during AK Party rule, and the term "trading state" began to be used to explain active Turkish foreign policy. (5) By improving trading ties with other countries, the share of Turkey's exports to the European Union decreased from 56.3 percent in 2006 to 48 percent in 2016; for Near and Middle Eastern countries, the share of Turkish exports increased from 13.2 percent in 2006 to 22 percent in 2016; and for North Africa and other African countries, Turkey's share of exports increased from 5.3 percent in 2006 to 8 percent in 2016. (6) Furthermore, Turkey has signed free trade agreements with approximately 20 countries since 2003. (7)

In addition to fiscal discipline and active trading activities, other important steps in the early years of AK Party governance include the removal of six zeros from the Turkish lira in 2005, and the lowering of inflation to single digits. These steps were critical in improving the credibility of the Turkish lira in international markets. Other important developments during AK Party rule were to end the IMF program in 2008, and to pay back all debt owed to the IMF by 2013. While the AK Party signed a three-year stand-by agreement with the IMF in 2005, in 2008 this program was not renewed, and by 2013 Turkey had repaid all its debt to the IMF. In total, Turkey has paid off the equivalent of a 23.5 billion dollar debt to the IMF since 2002. (8) Previous research illustrates that the IMF programs and policy conditionality attached to these programs weaken state capacity and policy autonomy significantly. (9) Thus, ending the IMF program in Turkey was an important development in terms of enabling Turkey to improve its state capacity and policy autonomy without external interference.

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Fiscal discipline, improving the credibility of the Turkish lira, and the emergence of independent and functional regulatory agencies in the financial system have led scholars to assert that Turkey is becoming a regulatory state under AK Party rule. (10) Thanks to the strong macroeconomic foundations of the Turkish economy and the regulatory state, there was no bank failure or crisis in Turkey emanating from the GFC. In addition, the Turkish economy was characterized by high economic growth rates until the negative effects of the GFC began to be experienced throughout the world beginning from late 2008. Correspondingly, under AK Party governments, the Turkish economy suffered an economic slowdown only due to the negative influence of the GFC in 2009. (11) Furthermore, the Turkish economy overcame several internal and external shocks without major economic problems in the aftermath of the GFC. (12)

Despite these achievements, AK Party officials have started to pursue a more developmentalist discourse in the last few years. This is due to the several challenges that lie ahead for the Turkish economy, such as lower-than-expected economic growth, and high unemployment, inflation and interest rates. (13) The next section outlines these challenges.

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