Recep Tayyip Erdoğan/Facebook

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Turkey’s Fiscal Policy is Threatened by Elite Informal Networks

Following the victory of the Justice and Development Party (AKP) in Turkey’s parliamentary elections on 1st November, President Recep Tayyip Erdoğan re-stabilized his position within the Turkish political economy. The President has overseen the facilitation of an extensive network of crony patronage during his 12-year tenure as Turkey’s Prime Minister, and lately as head of the executive. The consolidation of these informal networks of control is undermining the institutional integrity of the state, and will probably impede Turkish economic development in 2016.

The US Federal Reserve raised interest rates on December 16, 2015 for the first time in nine years. Contrary to the hopes of international investors and the practitioners of conventional economic theory, the Turkish Central Bank (TCB) chose not to respond to the hike in rates. Interest rates in Turkey remained stationary after the TCB’s final meeting of the year on December 22nd – weakening the Turkish lira to 2.94 against the US dollar before stabilizing at 2.9 on December 29th.

The TCB governor, Erdem Başçı, indicated in October that he expected Turkish interest rates to respond proactively to any developments by the Fed. The subsequent intransigence from the TCB has renewed speculation over the independence of the Central Bank and other Turkish financial institutions to exercise economic and financial policy without political interference.

The decision-making autonomy of the TCB has been a long term subject of speculation for investors in the Turkish economy. The President is the key figure at the center of this uncertainty.

Erdoğan has been a prominent opponent of higher interest rates in Turkey; in February 2015 he suggested that calls to increase rates would be tantamount to treason.

As President – and the dominant personality within the AKP – Erdoğan was instrumental in orchestrating the party’s triumph in a parliamentary re-election in November 2015 in which the AKP regained a majority of the seats that it had lost in June.

Erdoğan was elected president in August 2014 and since then he has exerted his considerable political capital by increasing the powers and oversight of the executive. The presidential office is already imbued with substantial authority and responsibility but has traditionally been an apolitical appointment. Erdoğan has been adamant about his desire to change this, much to the alleged chagrin of his personally-appointed successor as Prime Minister, Ahmet Davutoğlu. The AKP’s restored parliamentary majority has effectively validated public approval of Erdoğan and his position at the forefront of Turkish political life.

Networks of Informality are the immediate future of Turkish Decision-making

The President has been manipulating his informal networks of influence since early September. Elections to the AKP’s Central Decision and Administration Committee (MKYK) – the policy making unit of the party – indicated that Erdoğan had no intention of allowing anyone but his personally vetted affiliates to account for future policy. A new cabinet was announced on 24th November; the appointment and exclusion of certain individuals is indicative of the power struggles that will determine the stability of the Turkish market in the coming months.

Perhaps the most prominent casualty of Erdoğan’s power-maximization project has been former Deputy Prime Minister Ali Babacan. Babacan is generally regarded as the architect of the key economic policies that have transformed Turkey’s economy under the AKP. Babacan had left politics in June as part of the AKP’s self-imposed three term limit on its deputies; his re-inclusion on electoral lists for the November elections was an extremely positive sign for investors in Turkey’s foreign equities market and encouraged hopes that policy making would focus on reducing inflation and tackle credit risks.

Babacan has been a stalwart defendant of TCB independence under the tenure of his former classmate, Erdem Başçı, and it was hoped that, together with then-Finance Minister Mehmet Şimşek, Turkey’s increasingly tarnished economic management team would regain international credibility.

This will not be the case, however. Babacan and Şimşek have both been marginalized in Davutoğlu’s cabinet. Şimşek has been appointed Deputy Prime Minister, a formal promotion that will in reality remove him from direct oversight of the economy. Babacan was not offered a place on the cabinet and both men have been excluded from the MKYK despite having the endorsement of the Prime Minister. Başçı’s tenure at the TCB ends in April 2016 and it is unclear who will replace him.

Despite this uncertainty, what is becoming clear is that allies of the President have secured influential positions. The Ministry of Economy is now headed by Mustafa Elitaş and the Ministry of Finance by Naci Ağbal. The two men are long-standing members of Erdoğan’s political patronage networks and have openly endorsed the idea of constitutional amendments in favor of an executive presidency. Ağbal in particular has been accused of orchestrating the apparently arbitrary tax audits on companies with affiliations to political opponents of the President.

The clearest indication that Erdoğan is looking to enhance and consolidate his interests in the institutions of the state was the appointment of his son-in-law, Berat Albayrak, as Minister of Energy and Natural Resources. Energy security and diversification is going to be a major economic priority for the AKP in 2016 as the diplomatic and trade relationship with Russia deteriorates in the face of the continuing confrontation over Syria.

In the interim period between the inconclusive June election and the AKP’s victory in November, Albayrak was allegedly, along with two of Erdoğan’s closest advisors, setting official Treasury policy. Photos of the three accompanying the President to meetings with World Bank officials appear to support these rumors. The inclusion of controversial journalist, Yiğit Bulut, in this clandestine group should pose a significant concern to investors; as recently as 16th December Bulut opined that reduced interest rates in response to a hike in Fed rates would be the best policy for Turkey.

These networks are fundamentally important when assessing risk in the Turkish economy because President Erdoğan has become a key measure of stability within the market. When Erdoğan and his client network were implicated in a series of corruption investigations and allegations at the end of 2013, the value of the lira dropped to 2.39 against the dollar. His success in achieving an AKP victory in November provoked a surge in confidence among investors.

Despite this brief respite for the beleaguered economy there was a 5% drop in total asset value over November, with foreign investors as a whole selling $1.14 billion of Istanbul Stock Exchange (BİST) stock in the same month.

The Turkish economy is not strong; in July 2015 the total debts of public banks and private sector companies stood at $170.8 billion, with banks alone estimated to hold $90 billion in short term debts. Almost 54% of this debt is in US dollars, and interest rate rises by the Fed will disproportionately affect payments. Without the confidence of foreign investors the likelihood of securing the necessary financing credit is low and will remain so until there is the promise of rational decision-making behind economic policy.

Turkey has a difficult year ahead. Investor confidence is already low due to a number of factors. Political stability is far from assured due to a dedicated opposition to Erdoğan in parliament and an ongoing conflict between the Turkish state and its Kurdish minority. War in Syria and Iraq continues to disrupt trade and refugees and the Islamic State have proven to be a genuine security threat over the course of 2015. As diplomatic tension with Russia is manifested in further trade sanctions, it is vital that potential risks be identified and mitigated.

Understanding Turkish policy-making requires an insight into the informal and personalized networks that the President has manipulated to maintain his authority at the cabinet level. Erdoğan has made certain that his partisans within the AKP’s elected deputies have secured the most strategic posts within the cabinet, and this is likely to be the means by which influence is exercised moving forward.