What will happen with growth?

The two most important indicators in the economy are growth and inflation. The volatility on the financial markets in May and June were immediately reflected in the inflation figures. It is now clear that the inflation target of 5 percent of 2006 will not be realized. Inflation may even reach double figures.

The extent to which the above-mentioned volatility will affect growth is still not completely clear. If one believes that the rise in inflation and interest rates will definitely reduce domestic demand and investment then an economic slowdown can be expected in the second half of the year. But because the economy closed the first half of the year with a high growth rate, it looks as though it may still be possible to achieve the year-end growth target of 5 percent.

In fact, we only have the data related to national income for the first quarter of the year. These figures show that the economy grew by 6.4 percent over the first three months. The data related to the second quarter will be announced in September. But both the data we already have and our own observations suggest that the economy grew rapidly during this period. This is why we believe that the economy grew strongly through the first half of the year.

Growth in the second quarter

We can get an idea of the rate of growth during the second quarter by looking at some basic indicators related to the state of the economy.

The most significant indication of strong growth during the second quarter comes from the data for production. As you can see in the accompanying table, industrial output was very high in both April and May. The fact that the rate of capacity utilization in industry was higher than in the same period last year suggests that industrial production will also be high in June. It looks as though the increase in industrial production in the second quarter will be over 7 percent, compared with 3.4 percent in the first quarter of the year. Given that industry has a share of nearly 30 percent in the economy, this increase in industrial production will have a major impact on overall growth.

The indicators for domestic demand show that the volatility on the financial markets had a negative impact. But these indicators also show that domestic demand did not come to a complete halt. Automobile sales rose, even if it was by half the rate of the first quarter. The data for April and May suggest that the situation is the same when it comes to sales of white goods. Even if the indicators suggest a minor slowdown, they also suggest that trade continued to growth during the second quarter.

Export drive

The indicators for foreign trade suggest that exports will make a greater contribution to growth in the second quarter of the year. Because in the first quarter of the year exports rose by 7.1 percent, while in the first month of the second quarter the increase was 9.1 percent. When we look at the export data from the Turkish Exporters’ Assembly (TİM), which serve as preliminary figures, we see that exports will rise even further when June is included. Because the TİM data for June indicate that exports grew by 28.4 percent. But the figures for another indicator related to foreign demand, that for tourism revenue, suggest that the situation here was not so bright during in the second quarter.

The indicators related to investment trends suggest that investments will make a smaller contribution to growth during the second quarter. Imports of investment goods slowed in May and the increase in investments with an incentive certificate began to lose momentum.

Taking all of these indicators together we can say that the rate of growth for the second quarter of the year will be close to that of the first quarter. The beginning of a decline in domestic demand as a result of the volatility on the financial markets will have a negative impact on growth in the second quarter. But the increase in foreign demand and the fact that industry has not reacted immediately to the contraction in domestic demand will compensate for this decline.

Growth arithmetic

If growth for the first half of the year is more than 6 percent, a growth rate of 4 percent in the second half of the year will be sufficient to achieve the year-end target of 5 percent. These calculations show that, provided the economy does not experience a severe recession in the second half of the year, it will be possible to achieve the growth target for 2006.

It currently looks as though there is only a very small chance of the economy undergoing a severe recession during the second half of the year. We expect a slowdown in domestic demand but we think that by turning to exports companies can use foreign demand to compensate for some of the decline in domestic demand. We forecast that, as a result, production will not fall as much as the decline in domestic demand.

Of course, in order for our forecast to be realized, there must be no more volatility on the financial markets, which currently look calm. At the moment the economy is trying to digest the increases in interest rates and the exchange rate as a result of the recent volatility and it looks as though it will succeed. But if there is another increase in interest rates and the exchange rate then the economy’s digestive capacity could be exceeded.

Long-term growth record

Achieving the growth target for 2006 is important in terms of Turkey breaking its record for long-term rapid growth. Over the last four years the Turkish economy has consistently posted a growth rate of more than 5 percent and equaled the record for long-term rapid growth set in 1950-53. If the growth rate for 2006 is 5 percent or higher then the economy will have recorded five years in succession of rapid growth and the record will be broken.

The breaking of the record for rapid growth is not just important from a statistical viewpoint. Continued rapid economic growth is a prerequisite if Turkey’s social problems are not to become even more severe.

The Budget Has Balanced

The volatility on the financial markets over the last two months has alarmed many people restless but one also needs to accept that the economy has not been as badly affected as it was by similar developments in 2001. Because the Turkish economy is now much healthier than it was five years ago. Underlying this new-found is that the fact that the budget has been balanced.

From this perspective, the fact that the budget posted a surplus in May and June, when there was volatility on the financial markets, was like a message from the government to the markets. The surpluses in these two months meant that the budget closed the first half of the year positively.

According to data from the Ministry of Finance, in the first half of the year budgetary expenditure stood at YTL 81.6 billion. Revenue during the same period was YTL 84 billion. As a result, the budget closed the first six months of the year with a surplus of YTL 2.4 billion.

When we look at the details of the budget data we see that the decisive factor was, as it had been in previous years, a decline in interest payments. The increase in non-interest expenditure was higher than the growth in revenue, but the fall in interest payments restricted the growth in total expenditures.

But the rise in interest rates following the recent volatility on the financial markets means that it looks as if the support that interest payments have been providing to the budget is now at an end. Because new loans will have a higher interest rate and interest payments will eventually begin to rise again.

But because the first half of the year went so well we think that it will still easily be possible to realize the budget targets for 2006. Because the margin for the target for the year-end budget deficit is very broad. According to the targets set last autumn, the budget is expected to record a deficit of YTL 14 billion in 2006.