The story behind the IMF’s Turkey forecasts

A closer look at the details of Turkey's macroeconomic prospects in the IMF's April 2021 “World Economic Outlook” report lays out an interesting story of its trajectory.

It is important to emphasise that the IMF arrived at its forecasts before Naci Ağbal was unexpectedly dismissed as head of the central bank last month. Ağbal's dismissal and the appointment of Şahap Kavcıoğlu, a direct intervention in monetary policy by President Recep Tayyip Erdoğan, will require the IMF to update its predictions due to the earthquake it has created in financial markets. Renewed uncertainty surrounding monetary policy, the depreciation of the lira, higher inflation and slower growth are direct results that immediately come to mind.

However, IMF forecasts covering the period of 2021 to 2026 provide signals about the possible direction of the Turkish economy.

Starting with economic growth, the IMF expects Turkey's economy to expand by 6 percent this year due to temporary factors following the 2020 COVID-19 pandemic shock. These include the return of delayed domestic demand due to the easing of pandemic curfew measures, strong exports as the EU economy grows above average for similar reasons, and the continuing aftershocks of last year's credit-based stimulation to domestic demand.

Mathematically alone, even with the base-year effect, it is possible for Turkey to post GDP growth of between 4 percent and 5 percent. However, if the Turkish economy is not stimulated by artificial fiscal-monetary measures, as it was in 2019-2020, according to the IMF's forecast, annual growth will not exceed 3.5 percent between 2022 and 2026.

Since making long-term forecasts increases unpredictability, it is normal for the IMF to fix its annual growth prediction at some point. However, it is quite meaningful that the fund has forecast 3.5 percent GDP growth until 2026 instead of a more usual 5 percent, which is the potential growth rate of Turkey.

The IMF clearly thinks Turkey’s growth will remain below potential after 2021. Although the reasons are not clearly stated, it is immediately conceivable that the IMF prediction has its roots in Turkey lagging behind on its economic reform agenda, that economic policies are set by the presidential palace, disregarding other institutions, and therefore the performance of the Turkish economy is fluctuating remaining below potential due to "trial and error" in policy.


It is also noteworthy that the IMF sees the lira continuing to depreciate until 2026, even though the forecasts were made during the relatively stable Ağbal period.

Since 2018, the lira has lost more than half of its value. Therefore, if economic and financial stability were expected, the value of the currency could have remained relatively flat in the years after such a huge devaluation. However, the IMF's average lira-dollar forecast for 2021 is 7.58 per dollar and for 2022 it is 7.94 per dollar. It expects the currency to weaken to 9.38 per dollar by 2026. The reasons for this are that Turkey’s inflation rate is expected to remain high and developing countries’ currencies will inevitably depreciate during a period when the U.S. Federal Reserve is set to tighten monetary policy.

When we talk about inflation, it should be noted that the IMF’s consumer price inflation forecast for the end of 2021 is 12.5 percent, well above the central bank’s estimate of 9.4 percent. The IMF maintains its average inflation prediction for Turkey at 11 percent between 2023 and 2026, indicating that it does not expect an improvement on the monetary policy side. Considering its prediction of weak economic growth over the period, the IMF's view of the Turkish economy becomes clearer.

The fund’s forecasts for savings and investment as a percentage of GDP show that it expects investments to exceed savings during the next five years. This means that Turkey will continue posting current account deficits, which is one of the structural problems of the economy. The IMF expects the current account deficit to narrow from an unsustainable 5.1 percent of GDP last year to 3.4 percent this year and then to around 2 percent, or just below that level, during the forecast period, meaning a relatively moderate shortfall will accompany weak GDP growth.

Behind this dynamic, of course, is the fact that Turkey is no longer a centre of attraction for foreign investment and cannot draw enough financing into the economy due to poor management.

Despite the IMF’s predictions of low economic growth rates, high inflation and declining rates of investment to GDP, which are forecast to fall to 29.4 percent of GDP in 2026 from 31.5 percent in 2020, the fund expects that unemployment will fall to 8.4 percent in five years. This does not seem to be consistent with Turkey’s labour market dynamics. Strong population growth - more than one million people enter the job market each year - and very high youth unemployment, which is hovering around 30 percent, mean unemployment of lower than 10 percent is unfeasible when GDP growth is running at just 3.5 percent.

Looking at the IMF’s forecasts for Turkey’s budget, the figures show that the fund does not expect the government to announce a significant austerity plan.

Over the next five years, its prediction for the ratio of expenditure to GDP remains at just under 35 percent, while the ratio of revenues to GDP is expected to decrease to 28.6 percent from 29.3 percent. As a result, government borrowing is forecast to rise, with the public net debt stock growing to 33.5 percent of GDP this year from 25.7 percent in 2019, and then jumping to 42 percent by the end of 2026.  

This three-dimensional picture of low economic growth, high inflation and rising public debt painted by the IMF could well deteriorate significantly. This is because the policies of the government and its nationalist allies could become increasingly unpredictable and damaging with the approach of presidential and parliamentary elections in 2023. As an economist, predicting a similar “base case scenario” for the Turkish economy during an election period is difficult and perhaps wishful thinking.

However, the weak outlook for the economy described by the IMF tells us that fund officials in Washington do not expect any marked improvement in Turkey’s economic management.

I have consistently argued that the significant deterioration in the Turkish economy, the justice system, health and education is caused by the governing Justice and Development Party’s (AKP) lack of vision after 19 years in power. It is now unable to come up with solutions to the problems it has created in almost every sphere.

Hence, for significant improvement in the economy, there is need for a transformation in Turkey’s governance. Changes in management approaches are inevitable.