BACKGROUND: The most striking name in the new government that President Recep Tayyip Erdoğan announced after his reelection was Mehmet Şimşek, the Minister of Treasury and Finance, who served as finance minister between 2009 and 2015, before the introduction of the presidential system. Meanwhile, Şahap Kavcıoğlu, who made successive reductions in the interest rate at Erdoğan's request, was dismissed from the Central Bank and replaced by Hafize Gaye Erkan, an investment banker.
The Justice and Development Party (AKP) governments before 2018 followed “orthodox” monetary and fiscal policies, that is, they adhered strictly to neo-liberal tenets. Fiscal discipline ensured that budget deficits were limited. A tight monetary policy was followed to prevent inflation, which had fallen to single-digit levels, from rising again. Government intervention in the financial markets was kept at a minimum and the privatization of public assets was pursued. In several sectors, especially in that of energy, regulations were relaxed. Meanwhile, AKP governments favored capital at the expense of labor, frequently postponing or prohibiting strikes.
In these respects, the economic policies of the AKP adhered to the main lines of the IMF program implemented after the economic crisis in Turkey in 2001. The presidential election of 2018 – the first that was held after the adoption 2017 of the presidential system – became a turning point, with Erdoğan holding out the prospect of a low interest policy before the election. In Turkey's first presidential government, Mehmet Şimşek was replaced with Erdoğan’s son-in-law, Berat Albayrak, presaging that nothing in the economy would be the same as before.
Resisting Erdoğan’s pressure to lower the policy rate, then Central Bank Governor Murat Çetinkaya was dismissed in July 2019, and was replaced by Murat Uysal, who was willing to work in coordination with the political power. During the Uysal period, the policy rate of the Central Bank was reduced from 24 percent to 8.25 percent in less than a year. Government intervention was expanded to include the private banks, and the level of business loan rates was determined centrally.
The low interest policy had a debilitating effect on financial stability. Three exchange rate shocks in a row followed. The first exchange rate shock occurred just one month after the presidential election in June 2018, with the US dollar, which was TRY 4.79 before the elections, jumping to over TRY 7. The US dollar reached the threshold of TRY 20 before the presidential and parliamentary elections in May 2023. Since 2018, recurrent exchange rate shocks have followed suit. A sharp depreciation, defined as "shock", took place in the value of the Turkish Lira in the months of July-August 2020 and November-December 2021. And in the third exchange rate shock after the May 2023 elections, the Turkish Lira depreciated by another 30 percent against the U.S. dollar.
The sharp depreciation of the Turkish lira led to an explosion of inflation. Consumer inflation, which had fallen to single digits before 2018, hit 80 percent in 2022. Producer price inflation rose above 130 percent the same year, but the actual inflation was probably well above what was officially reported. High inflation has driven millions into poverty. In particular, the real income of the middle class has collapsed.
IMPLICATIONS: Mehmet Şimşek's return to the helm of the Turkish economy gave rise to the expectation of a return to the economic policies of the pre-presidential system. Indeed, Şimşek raised expectations when he stated that "Turkey has no other option but to return to a rational ground." The Istanbul Stock Exchange reacted positively, with sharp increases in the values of many stocks. It is no surprise that the market celebrate Şimşek's reinstatement in a fiesta mood since he represents fiscal discipline, the reduction of the budget deficit, the tightening of monetary policy, the reduction of government interventions in various sectors, the loosening of regulations and state support to business against labor. However, these expectations are exaggerated.
Erdoğan has shown that he will not leave monetary policy entirely to Şimşek and Gaye Erkan, the new head of the Central Bank, and is unlikely to completely abandon his insistence on low interest rates. Indeed, the first interest rate decisions that have been taken by Gaye Erkan indicate that there will not be a sharp reversal of monetary policies. While the markets, especially the international investment institutions, were expecting a sharp increase in the policy rate, the Central Bank made a very limited increase from 8.5 percent to 15 percent in June and to 17.5 percent in July. In August, the Central Bank increased the policy rate to 25 percent with a slightly higher increase. Economists expect inflation to reach 70 percent next spring. Clearly, the policy rate of 25 percent is bound to be insufficient against an expected inflation of 70 percent. The fact that the rate hikes were well below the market's expectations caused the U.S. dollar to rise to new highs against the TRY. Currently, the US dollar stands at TRY 27, and economists expect that the depreciation of the TRY will continue in the coming months.
Meanwhile, Şimşek has taken steps in fiscal policy in line with what was expected of him: several taxes have been raised to come to terms with the budget deficit, which was expected to expand to 4 percent in 2023 and is expected to exceed 6 percent by the end of the year. The subsidies on natural gas, fuel and electricity prices, as well as the devastating February earthquakes account for the escalation of the budget deficit in 2023. The rate of the value added tax was increased from 18 percent to 20 percent on several consumer products. Due to the high rate of increase in the special consumption tax on fuel the price of gasoline increased by almost 30 percent in a short time. Meanwhile, the motor vehicle tax on automobiles has been doubled for 2023. The corporate tax was increased as well, from 23 percent to 25 percent.
CONCLUSIONS: Hailed by markets as the “savior” of the Turkish economy, Şimşek has in fact launched policies whose price will be borne by large segments of the public. The tax hikes, although narrowing the budget deficit, will further fuel inflation, increasing poverty. In this respect, the new fiscal policy resurrects the paradigm that guided the IMF program in 2001. Before the elections, the government, which wanted to limit the impact of the sharp depreciation in the Turkish Lira on the public, prevented sharp increases in natural gas, fuel and electricity prices with support provided from the budget. Şimşek is now transferring much of the burden from the state to the population with tax hikes. Many observers refer to this policy as an "IMF program without the IMF". Indeed, if Turkey had agreed to a new program with the IMF, the policies to be implemented would not have been much different.
Şimşek had an alternative to tax increases that contribute to deepening the poverty of low income groups: to tax high-income groups, especially those who have benefited from the economic policies of government and whose wealth has increased substantially as a result. The balance sheets reported to the Istanbul Stock Exchange reveal that there have been increases of 400-500 percent, and in some cases, up to 1000 percent in the turnover and profits of many companies in 2022 due to the explosion in inflation. Instead of taking steps towards taxing super-profits, Şimşek chose to put the burden on the broad public. Another source for the budget would have been to tax asset prices, which have inflated in recent years due to inflation. Real estate prices have increased several times between 2021 and 2022, with an explosion of the wealth of property owners.
Yet not even contemplating a wealth tax, Mehmet Şimşek abides by neoliberal orthodoxy, preferring to apply the fiscal policy prescriptions included in the IMF programs. This is no surprise, as this is in line with the economic policy for which he was responsible during his earlier term. However, staying true to the spirit of the IMF program that went into effect in 2001 is a recipe for political troubles ahead for the Erdoğan regime. Şimşek's "orthodox" neoliberal policies – while satisfying the expectations of financial markets – fan discontent among the broad masses of the population. Erdoğan was reelected not on the promise of tax hikes, but with budget expenditures and subsidies, that is, on the account of what Mehmet Şimşek's predecessor Nureddin Nebati termed "heterodox economic policies".
With municipal elections due in March 2024, Erdoğan may well conclude that “heterodox” economic policies will have to be resurrected. In any case, regaining great city municipalities such as Istanbul and Ankara will prove difficult for the AKP as long as Mehmet Şimşek enjoys a free hand to implement IMF inspired fiscal policies that increase poverty, exacerbating the misery of the broad mass of the population.
Barış Soydan is a Turkish journalist specializing on economic questions