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Document of
The World Bank
FOR OFFICIAL USE ONLY
Report No. 59629-TR
INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT
PROGRAM DOCUMENT FOR A PROPOSED LOAN
IN THE AMOUNT OF EURO 506.1 MILLION (USD 700 MILLION EQUIVALENT)
TO
THE REPUBLIC OF TURKEY
FOR A
SECOND RESTORING EQUITABLE GROWTH AND EMPLOYMENT PROGRAMMATIC DEVELOPMENT POLICY LOAN
April 7, 2011
Poverty Reduction and Economic Management Turkey Country Management Unit Europe and Central Asia
This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization
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TURKEY - GOVERNMENT FISCAL YEAR January 1 – December 31
CURRENCY EQUIVALENTS Exchange Rate Effective as of February 28, 2011
Currency Unit: Turkish Lira (TL) USD 1.00 = TL 1.5905
WEIGHTS AND MEASURES Metric System
ABBREVIATIONS AND ACRONYMS
AAA Analytical and Advisory Activities AKP Justice and Development Party ALMP Active Labor Market Policy BEEPS Business Environment and Enterprise Performance Survey BK Bag-Kur - Social Security Institution for Self-Employed and Farmers in the Old System BRSA Banking Regulation and Supervision Agency BILGE Computerized Customs Activity System BOTAS Petroleum Pipeline Corporation CAD Current Account Deficit CAS Country Assistance Strategy CBRT Central Bank of the Republic of Turkey CEDPL Competitiveness and Employment Development Policy Loan CEM Country Economic Memorandum CGF Credit Guarantee Fund CIT Corporate Income Tax CITES Convention on International Trade in Endangered Species of Wild Fauna and Flora CMB Capital Markets Board CPI Consumer Price Index CPS Country Partnership Strategy CUR Capacity Utilization Rate DPL Development Policy Loan DRG Diagnosis Related Groups EBRD European Bank of Reconstruction and Development EC European Commission EFIL Export Finance Intermediation Loan EIA Environmental Impact Assessment EIB European Investment Bank EMBI Emerging Markets Bond Index ES Emekli Sandigi - Social Security Institution for Civil Servants in the Old System ESW Economic and Sector Work EU European Union FDI Foreign Direct Investment FOB Free on Board FX Foreign Exchange FSAP Financial Sector Assessment Program GASB Government Accounting Standards Board GDP Gross Domestic Product GDPA General Directorate of Public Accounts GFS Government Finance Statistics GPF Governance Partnership Facility HBS Household Budget Survey HTP Health Transformation Program HTSSRP Health Transformation and Social Security Reform Project IBRD International Bank for Reconstruction and Development ICA Investment Climate Assessment
ICR Implementation Completion Report IDF Institutional Development Fund IEG Independent Evaluation Group IFC International Finance Corporation IFRS International Financial Reporting Standards IMF International Monetary Fund IMR Infant Mortality Rate IP Industrial Production IPR Intellectual Property Rights IPSAS International Public Sector Accounting Standards Board ISE Istanbul Stock Exchange ISKUR Turkish Employment Agency IT Information Technology JPPR Joint Portfolio Performance Review KfW Kreditanstalt für Wiederaufbau Bankengruppe, German Bank for Reconstruction KOSGEB Small and Medium Enterprises Development Organization LDP Letter of Development Policy M&E Monitoring and Evaluation MEKSA Occupational Training and Small Industry Support Foundation of Turkey METU Middle East Technical University MEDULA Medical Messenger MIC Middle Income Country MLT Medium and Long-Term MOF Ministry of Finance MOH Ministry of Health MOLSS Ministry of Labor and Social Security MONE Ministry of National Education MTP Medium Term Program NBER National Bureau of Economic Research NGO Non-governmental Organization NPL Non-Performing Loans O&M Operation and Maintenance OECD Organization for Economic Cooperation and Development OSYM Student Selection and Placement Center PEDPL Programmatic Electricity Sector Development Policy Loan PEFA Public Expenditure and Financial Accountability PER Public Expenditure Review PFM Public Financial Management PFMP Public Financial Management Performance PMR Product Market Regulation PPA Public Procurement Agency PPDPL Programmatic Public Sector Development Policy Loan PPER Programmatic Public Expenditure Review PSIA Poverty and Social Impact Analysis REER Real Effective Exchange Rate REGE-DPL Restoring Equitable Growth and Employment Programmatic Development Policy Loan R&D Research and Development Say2000i Online Public Accounting System SCT Special Consumption Tax SD Standard Deviation SDU Strategy Development Unit SOEs State Owned Enterprises SPA Special Provincial Administration SPO State Planning Organization SSI Social Security Institution SSK Social Security Institution for Workers in the Old System TCA Turkish Court of Accounts TEPAV Economic Policy Research Institute TESK Merchants and Artisans Confederation of Turkey
TIKA Turkish International Cooperation and Development Agency TL Turkish Lira TOBB The Union of Chambers and Commodity Exchanges TOSYOV Small and Medium Industry Owners and Managers Foundation of Turkey TURKSTAT Turkish Statistical Institute UHI Universal Health Insurance UI Unemployment Insurance UK United Kingdom UNCITRAL United Nations Commission on International Standards UNDP United Nations Development Program UNICEF United Nations Children’s Fund VAT Value Added Tax VQA Vocational Qualification Authority Y/Y Year-on-Year YOIKK Committee for the Improvement of the Investment Environment
Vice President: Philippe H. Le Houérou Country Director: Ulrich Zachau Sector Director: Yvonne Tsikata Sector Manager: Satu Kahkonen Task Team Leader: Marina Wes
TURKEY SECOND RESTORING EQUITABLE GROWTH AND EMPLOYMENT PROGRAMMATIC DEVELOPMENT POLICY LOAN (REGE-DPL2)
TABLE OF CONTENTS
I. INTRODUCTION.................................................................................................................. 1
II. COUNTRY CONTEXT......................................................................................................... 4
POLITICAL CONTEXT ......................................................................................................... 4 RECENT ECONOMIC DEVELOPMENTS ........................................................................... 4 MACROECONOMIC OUTLOOK AND DEBT SUSTAINABILITY ................................ 10
III. THE GOVERNMENT PROGRAM .................................................................................. 15
IV. BANK SUPPORT TO THE GOVERNMENT PROGRAM ........................................... 28
LINK TO CPS........................................................................................................................ 28 COLLABORATION WITH THE IMF AND OTHER DEVELOPMENT PARTNERS ..... 29 RELATIONSHIP TO OTHER BANK OPERATIONS ........................................................ 29 LESSONS LEARNED........................................................................................................... 30 ANALYTICAL UNDERPINNINGS .................................................................................... 31
V. THE PROPOSED SECOND RESTORING EQUITABLE GROWTH AND EMPLOYMENT DEVELOPMENT POLICY LOAN (REGE-DPL2) .......................... 32
OPERATION DESCRIPTION .............................................................................................. 32 POLICY AREAS ................................................................................................................... 37
VI. OPERATION IMPLEMENTATION ................................................................................ 41
POVERTY AND SOCIAL IMPACT .................................................................................... 41 ENVIRONMENTAL ASPECTS ........................................................................................... 43 IMPLEMENTATION, MONITORING AND EVALUATION (M&E) ............................... 44 FIDUCIARY ASPECTS ........................................................................................................ 45 DISBURSEMENT AND AUDITING ................................................................................... 47 CONSULTATIONS .............................................................................................................. 47 RISKS AND RISK MITIGATION ....................................................................................... 48
ANNEXES
ANNEX 1: LETTER OF DEVELOPMENT POLICY
ANNEX 2: PROPOSED OPERATION POLICY MATRIX
ANNEX 3: PRELIMINARY RESULTS MONITORING INDICATORS
ANNEX 4: IMF PUBLIC INFORMATION NOTICE (PIN)
ANNEX 5: COUNTRY AT A GLANCE
MAP # IBRD 33501R2
The Second Restoring Equitable Growth and Employment Development Policy Loan was prepared by an International Bank for Reconstruction and Development (IBRD) team consisting of Marina Wes (TTL); Mediha Agar, Kamer Karakurum Özdemir, Muammer Kömürcüoglu, Cihan Yalçin (ECSP2); Carlos Piñerúa, Alper Oguz, Paulo Correa (ECSF1); Cristóbal Ridao-Cano, Levent Yener (ECSH4); Mark Roland Thomas (ECSP1); Seda Aroymak, Zeynep Lalik (ECSO3); Rekha Menon (ECSH1); Pinar Baydar (ECCU6); Joseph Paul Formoso (CTRFC); Margaret Png (LEGEM) and Martha Licetti (CICSA). Peer reviewers are Zafer Mustafaoglu (LCSPE) and Nagavalli Annamal (LEGPS).
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LOAN AND PROGRAM SUMMARY
TURKEY SECOND RESTORING EQUITABLE GROWTH AND EMPLOYMENT PROGRAMMATIC DEVELOPMENT POLICY LOAN (REGE-DPL2)
Borrower Republic of Turkey Implementing Agency Undersecretariat of Treasury
Financing Data
IBRD Loan Terms: Flexible Loan at 6 month EURIBOR for euro plus variable spread, with a 26.5 year maturity and 9 years of grace period with level repayment of principal Amount: EURO 506.1 million (USD 700 million equivalent)
Operation Type Programmatic development policy loan (fourth of a series of four: PPDPL1, PPDPL2, REGE-DPL1 and REGE-DPL2)
Main Policy Areas Public sector management, private sector development, labor markets.
Key Outcome Indicators
• Credit to SMEs as a share in total credit increases from 21 percent in 2009 to around 25 percent by 2011.
• Doing Business Investors’ Protection Index increases from 5.7 in 2008 to at least 6 by 2011.
• The unemployment rate falls from 14 percent in 2009 to below 12 percent by 2011.
• Female labor force participation increases from 24.5 percent in 2008 to around 27 percent by 2011.
• Pre-school enrollment rate of 5-year olds increases from 61 percent in 2009 to 65 percent by 2011.
• Number of beneficiaries of ISKUR vocational training increases from around 30,000 in 2008 to 400,000 by 2011.
• Job placement rate of the unemployed registered with ISKUR increases from 9.3 percent in 2009 to around 10 percent in 2011.
• Clearance rate (resolved cases per incoming cases multiplied by 100) of first instance civil, commercial and administrative law cases increases from 96 percent in 2006 to 98 percent by 2011.
• Gross public debt as a share of GDP declines from 54.1 percent in 2005 to around 42 percent by 2011.
• Universal Health Insurance (UHI) has been extended from 86 percent of the population in 2005 to at least 96 percent in 20111
• The combined health and social security deficit of the Social Security Institution (SSI) peaks in 2009 and declines thereafter, to no more than 4 percent of GDP by 2011.
• Budget transparency and accountability improves, as measured by an increase in the Open Budget Index (OBI) score from 41 in 2006 to around 60 by 2011.2
1 Defined as sum of people covered by contributory health insurance program and green card holders over population (Source: Social Security Institution)
2 The Open Budget Index, produced by the Open Budget Initiative, assigns a score to each country based on the information it makes available to the public throughout the budget process. The score ranges from zero (no information) to 100 (extensive information). The Open Budget Initiative is an expert civil society network and the
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Program Development Objective(s) and Contribution to Country Partnership Strategy (CPS)
The objective of the program supported by the REGE-DPL2 is to support equitable growth and job creation over the medium term, by advancing critical business climate and broader competitiveness reforms, while carrying forward Turkey’s public expenditure reform agenda with a focus on the delivery of inclusive social programs at sustainable cost. The PPDPL/REGE-DPL series supports key reforms in the provision of inclusive social services (health and social security), while making these sustainable by reining in costs. Reforms in the area of equitable growth and employment focus on the business climate and selected improvements to vocational and basic education. The proposed REGE-DPL2 was included in the Country Partnership Strategy (CPS) as updated by the Country Partnership Strategy Progress Report, which was presented to the Executive Board on January 7, 2010. The program supports all three pillars of the CPS: • Business climate reforms (enactment of the new Commercial Code,
enactment of the new Civil Procedures Law, and enactment of the new Code of Obligations) support the first pillar aimed at improving competitiveness and employment;
• The expansion of universal health insurance and the implementation of the pre-school expansion program contribute to the second pillar, equitable human and social development;
• The enactments of the new Turkish Court of Accounts (TCA) law and the new Law on Monitoring and Supervision of State Aids, regulating monitoring and supervision mechanisms for the design and implementation of state aids, as well as the continued implementation of global budgets for Ministry of Health hospitals and spending caps for university and private hospitals, support the third pillar, the efficient provision of high-quality public services.
Risks and Risk Mitigation
There are three main risks to the program’s outcomes: (i) economic and external risks, (ii) implementation risks, and (iii) political risks.
Economic and external risks. The main macroeconomic risk is that a reversal of capital flows could cause a significant growth slowdown, given the high level of the current account deficit. The authorities and the financial markets are watching the direction of the current account deficit carefully, although indicators so far suggest that it is financeable. Turkey’s substantial foreign exchange reserves and flexible exchange rate regime mitigate risks associated with capital reversals.
Continued uncertainty about the state of the global economy creates downside risks to the global demand for Turkish exports (especially from the EU), to output growth and fiscal performance. There is also a risk of increased inflation and overheating, fuelled by capital inflows, continued lending growth as well as external developments, which if not addressed could lead to a growth slowdown. Lower growth could in
only independent, comparative and regular measure of budget transparency and accountability around the world. Of the 94 countries evaluated in 2010, Turkey ranked in the top 30 percent. In 2006, Turkey was in the 58 percentile rank.
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turn create challenges for social policy and fiscal management. A challenge for the authorities is to determine the right policy mix in the face of these vulnerabilities, while favorable near-term growth prospects and healthy balance sheets will likely continue to attract capital inflows. Measures to mitigate risks would include in the short term a combination of fiscal and macro-prudential tightening, more restrictive liquidity conditions and further competitiveness-enhancing structural reforms. In the longer term, higher productivity, higher exports to more diverse markets, higher domestic saving, and greater energy efficiency and diversification of energy sources are the keys to reducing Turkey’s reliance on external finance.
There is some risk associated with recent political developments in the Middle East and North Africa, and a major downside risk arises from a sustained increase in oil prices. It is estimated that a USD10 increase in the price of a barrel of oil is estimated to increase Turkey’s current account deficit by 0.4-0.5 percent of GDP. If oil prices remain at or above the recently elevated levels, Turkey’s strong macroeconomic performance may be hindered, and risks associated with the sustainability of a high current account deficit would increase. The proposed REGE-DPL2 operation helps Turkey mitigate these risks mainly by supporting reforms to improve the business climate, which will help increase the competitiveness of the private sector, thus promoting exports as well as higher inflows of foreign direct investment. Longer term mitigation measures include increasing energy efficiency and diversifying into non-oil energy sources, such as wind and solar energy—an agenda that the Turkish authorities are pursuing as a priority and with Bank support, including under a complementary DPL series focusing on environmentally sustainable development and the energy sector.
Implementation risks. Effective implementation of major public reforms needs strong coordination and monitoring. Public sector reforms tend to be cross-cutting and take time to implement. Moreover, social consensus on the reform program and sufficient institutional capacity are needed for successful implementation. The complexity and social impact of many elements of the reform program, including the labor market reform, requires consensus building among social partners that takes time and inevitably results in compromises. On the private sector agenda, the effective implementation of the newly enacted Commercial Code will require a major upgrade in the capacity of the auditing profession to deal with the enhanced transparency and accountability requirements introduced by the Code. Similarly, the introduction of civil and criminal liability for violations of corporate governance standards is likely to raise additional challenges for Turkey’s judicial system. As in many other countries, the introduction of tighter reporting requirements could bring about requests for delays in the application of these new requirements.
Political risks. Turkey has had a majority government since 2002 under the Justice and Development Party (AKP), facilitating the
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implementation of major reforms. Key risks relate to continuing domestic political differences and the possibility that the outcome of the upcoming general elections scheduled to be held in June 2011 could slow the pace or reduce the effectiveness of economic and social reforms. The EU accession agenda remains an anchor and the process of harmonization with European legislation and regulation continues to be part of the Turkish reform agenda.
Operation ID P123073
1
IBRD PROGRAM DOCUMENT FOR A PROPOSED SECOND RESTORING EQUITABLE GROWTH AND EMPLOYMENT
PROGRAMMATIC DEVELOPMENT POLICY LOAN (REGE-DPL2) TO THE REPUBLIC OF TURKEY
I. INTRODUCTION
1. Turkey has recovered strongly from the effects of the 2008-09 global crises. The Turkish economy contracted by 4.7 percent in 2009 but bounced back to grow by more than 8 percent (est.) in 20103
2. The objective of the program supported by the REGE-DPL2 is to support equitable growth and job creation over the medium term. The first of the program’s two main prongs is a set of critical business climate and broader competitiveness reforms. Turkey’s medium-term growth strategy includes a continued focus on trade and financial integration with the EU and an increasingly diversified set of other partners, with export growth expected to play an important role as competitiveness improves and global economic growth resumes. Sustaining high growth rates in the medium term requires using more of the available labor and using it more productively than before. Success rests on reforms to enhance competitiveness and productive employment by improving the business climate and strengthening education and skills. The proposed REGE-DPL2 supports critical reforms with those objectives, and the Government has resumed pre-crisis business climate reform and competitiveness agenda with vigor. Key among the REGE-DPL 2 supported reforms is the new Commercial Code, which is central to the creation of more, higher-paying jobs through an improved private-sector regulatory framework. Expanded and improved vocational training and pre-school education are key steps on the path to making Turkey’s labor market more competitive and growth more equitable.
. This recovery was underpinned by economic reforms undertaken since 2001: fiscal adjustment, modernized debt management, an independent central bank, inflation targeting, a freely floating currency, and improved banking supervision. Turkey also continues implementing a major long-term structural reform agenda—ranging from public financial management, health systems, and education to large-scale privatization and regulatory, energy, and environmental reforms. The Government’s program proposed to be supported by the Second Restoring Equitable Growth and Employment Development Policy Loan (REGE-DPL2) focuses, in particular, on critical business climate and competitiveness reforms, while carrying forward Turkey’s ongoing fiscal and public financial management reforms. With these reforms, Turkey aims to encourage private-sector led growth, employment, and improved social outcomes. They will also help manage external vulnerabilities to safeguard and extend recent economic gains.
3. The second prong of Government’s program supported by the proposed operation is the advancement of Turkey’s ongoing public expenditure agenda, with a core objective on the delivery of inclusive social programs at sustainable cost. The REGE-DPL2 program includes continuing reforms in the provision of social services (health and social security), while making these sustainable by reining in costs, including through global budgets and expenditure caps in the health sector. Also key to delivering quality public services at value for money is the public financial management agenda. Government’s recent focus on improving the oversight of
3 Data showing that real GDP growth in 2010 was 8.9 were released on March 31, 2011, after the negotiations of this Operation.
2
public spending, including through laws strengthening the reporting of state aids and the Turkish Court of Accounts, is supported by the proposed operation.
4. The proposed REGE-DPL2 is the final loan in a series of four DPLs to Turkey, which has been central to the Bank’s engagement in Turkey during the 2008-11 CPS period. It builds on the reform program defined in the First Restoring Equitable Growth and Employment Development Policy Loan (REGE-DPL), which took forward the ongoing public sector reform agenda supported under the Programmatic Public Sector (PPDPL) series (REGE-DPL and REGE-DPL2 are follow-up operations to this series). REGE-DPL also carried forward critical pending reforms from the Competitiveness and Employment (CEDPL) series, which was closed and evaluated in an Implementation and Completion Results Report in 2010.4
Figure 1: Schematic Relation between the REGE-DPL Series and Other Series
Figure 1 explains schematically how the REGE-DPL series relates to these earlier operations.
5. The results to date of the reform program supported by the programmatic PPDPL/REGE-DPL series towards meeting its objectives have been positive, both in the area of supporting equitable growth and job creation as well as in advancing the public expenditure agenda (see Annex 3). Overall the key measures supported by the PPDPL/REGE-DPL program have included the enactment and implementation of revised social security and universal health insurance legislation, the enactment and implementation of a new Public Financial Management and Control Law, and a broad series of measures aimed at managing the impact of the global crisis.
6. Measures supported by the PPDPL/REGE-DPL series (see Annex 2) have provided support toward the following critical outcomes:
• An improved climate for private sector-led job creation. Financial and employment measures have protected employment during the 2008-09 global crisis, and the
4 Technically, the REGE-DPL2 is defined as the fourth operation of the PPDPL series. See Programmatic Public Sector Development Policy Loan (PPDPL), Report No. 36274-TR, June 5, 2006; Second Programmatic Public Sector Development Policy Loan (PPDPL 2), Report No. 43473-TR, May 17, 2008; and Restoring Equitable Growth and Employment Programmatic Development Policy Loan (REGE-DPL), Report No. 51062-TR, Feb. 24, 2010. See also Competitiveness and Employment Development Policy Loan (CEDPL), Report No. 39826-TR, June 1, 2007; Second Programmatic Competitiveness and Employment DPL (CEDPL 2), Report No. 46436-TR, Nov. 13, 2008. The CEDPL series was closed and evaluated by two Implementation Completion and Results Reports: Report No. ICR1008, April 1, 2009 and Report No. ICR1443, April 29, 2010.
PPDPL 1+2PPDPL 3content
Continued fiscal
consolidation
CEDPL 1+2CEDPL 3content
Equitable growth and
employmentCrisis
Response
2007/08/09 2009/10 2011
REGE1 REGE2Public sector agenda
Private sector agenda
GlobalCrisis
3
unemployment rate has fallen from 14 percent in 2009 to less than 12 percent in 2010, while female labor force participation has increased from 24.5 percent in 2008 to 27.6 percent in 2010. The enactment of a new Commercial Code in 2011 is the cornerstone of Turkey’s recent business climate and competitiveness reform agenda, and will help facilitate higher private investment and employment going forward.
• Fiscal sustainability and government efficiency. Gross public debt levels as a share of GDP have fallen from 54.1 percent in 2005 to an estimated 44.5 percent at the end of 2010, in spite of a sharp increase in 2009 linked to the impact on Turkey of the global financial crisis. A series of laws overhauled public financial management and control, external audit, and state aids; systemic operational reforms introduced modern management methods, such as performance budgeting. Turkey’s Open Budget Index improved from 41 in 2006 to 57 by 2010.5
• Social security and universal health insurance reform. The law no. 5510 provides a legal and institutional basis for providing access to health insurance for all citizens (health insurance coverage increased from 86 percent in 2005 to 94.3 percent in 2010) and introduced adjustments to pension parameters that significantly improved the long term sustainability of the public pension system. The implementation of the 2008 reform has been facilitated by efforts to unify the existing three social security schemes under the Social Security Institution (SSI).
• Investment in skills. Vocational training ramped up significantly since 2008 (from
30,000 beneficiaries in 2008 to around 210,000 in 2010), and significant investments were made to improve the quality and employment impact of vocational training (e.g. vocational standards, quality and performance assessment of training providers) and strengthen the monitoring and evaluation system. The job placement rate of the unemployed registered with ISKUR also increased from 9.3 percent in 2009 to 9.8 percent in 2010. The Government formally targeted universal pre-school education and by in the 32 provinces targeted by the first phase of the program, enrollment of 5-year olds in kindergarten increased from 70 percent in 2009/10 to around 93 percent in 2010/11.
Table 1: Selected Monitoring Indicators and Preliminary Results
2006 2007 2008 2009 2010 Gross public debt as a share of GDP 48.2 42.2 42.9 48.9 44.51 Universal Health Coverage 90.1 93.2 93.2 94.0 94.3 Unemployment rate (%) Credit to small and medium-sized enterprises as a share of total credit
11.0 14.0 21
11.9 23.8
Job placement rate of unemployed workers (%) 9.3 9.8 1 Estimate
5 The Open Budget Index, produced by the Open Budget Initiative, assigns a score to each country based on the information it makes available to the public throughout the budget process. The score ranges from zero (no information) to 100 (extensive information). The Open Budget Initiative is an expert civil society network and the only independent, comparative and regular measure of budget transparency and accountability around the world. Of the 94 countries evaluated in 2010, Turkey ranked in the top 30 percent. In 2006, Turkey was in the 58 percentile rank.
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II. COUNTRY CONTEXT
POLITICAL CONTEXT
7. Turkey’s political situation is stable. Turkey has been governed by the Justice and Development Party (AKP), which has an overall majority in Parliament, since 2002. The most recent general election was in 2007. New general elections are scheduled for June 12, 2011.
8. Turkey is a candidate country for EU membership. The process of harmonization with European legislation and regulation continues to be an anchor for Turkey’s reform agenda. Among 35 Chapters of the EU Acquis Communautaire, 13 Chapters have been opened, and one Chapter on Science and Research has been provisionally closed, since negotiation talks began in 2005.
RECENT ECONOMIC DEVELOPMENTS
9. Turkey’s recent economic management is a story of notable turnaround. After its banking crisis in 2001, when GDP contracted by 5.7 percent, and an expensive recapitalization of its banks, the country embarked on a concerted path of structural reforms. These included improving fiscal and public financial management, strengthening banking supervision, introducing a comprehensive social security reform, and revamping the framework for macroeconomic management, within which an independent central bank is responsible for inflation-targeting and the lira floats freely against other currencies.
10. These reforms yielded results in the years after 2001, and helped the economy to deal with the challenges of the recent global crisis. GDP growth during 2003-07 averaged nearly 7 percent, and poverty fell from 27 percent to 17 percent (using the national poverty line). The financial sector remained profitable and highly capitalized. Primary fiscal surpluses averaged about 4 percent of GDP over 2004-08, and gross public debt plummeted from 73.3 percent of GDP in 2002 to 42.9 percent in 2008. However, the current account deficit grew, peaking at 6.1 percent of GDP in 2006. Healthy export growth (23 percent per year over 2004-08) contributed to limiting external vulnerability.
11. Despite these strengths, Turkey was hit by the 2008 crisis: GDP fell by 4.7 percent in 2009 (Table 2). Several factors help explain this. First, Turkey’s exports are concentrated in highly cyclical sectors, such as automotive vehicles, white goods, and other consumer durables. In addition, before the crisis, more than half of Turkey’s exports went to EU markets, where the declines were among the steepest. Second, low domestic saving6
6 The upcoming World Bank Country Economic Memorandum, in partnership with the State Planning Organization, is on the role of domestic savings in Turkey’s growth.
and high energy imports make Turkey’s private sector a high net importer of foreign capital; the current account deficit averaged 5.2 percent of GDP during 2004-08. Much of this was financed through lending, with the effect that at the onset of the crisis Turkish companies faced high external debt rollover requirements (of the order of USD 100 billion in 2009).
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12. However, Turkey bounced back from the downturn much faster than many other countries in the region. By the fourth quarter of 2009 the economy was growing again. Growth in 2010 is estimated to be in excess of 8 percent7
Table 2: Selected Macroeconomic Indicators (2004-2010)
, the output is back to pre-crisis levels, and unemployment is falling. Capacity utilization has been above the 70 percent level since April 2010, compared to an average rate of 65 percent in 2009. Recent data for February 2011 put capacity utilization at 73 percent. Industrial production growth in the first month of 2011 was 18.9 percent with respect to same month of 2010. This represents a 0.5 percent increase with respect to the already strong December 2010 industrial production.
2004 2005 2006 2007 2008 2009 2010 Est.
Growth (%) 9.4 8.4 6.9 4.7 0.7 -4.7 8.51 Contributions to Growth (percent) Consumption 8.3 5.8 4.1 4.4 0.0 -0.8 5.3 o/w Private 7.7 5.6 3.3 3.8 -0.2 -1.5 5.2 Gross Fixed Capital Formation 5.4 3.9 3.2 0.8 -1.5 -4.5 4.6 o/w Private 5.6 3.1 3.1 0.6 -2.0 -4.4 4.1 Net Exports -2.4 -1.4 -0.3 -1.2 1.9 2.7 -3.3 Exports 2.7 1.9 1.6 1.8 0.7 -1.3 1.1 Imports -5.1 -3.3 -1.9 -3.0 1.2 4.0 -4.3 Change in Inventories -1.9 0.1 -0.1 0.6 0.3 -2.1 1.9 GDP (billion USD) 390.4 481.5 526.4 648.6 742.1 616.8 745.0 Consumption (as % of GDP) 82.9 83.1 82.5 83.8 82.3 85.9 86.6 Investment (as % of GDP) 19.8 20.4 22.4 21.4 22.1 15.3 17.8 Domestic Savings (as % of GDP) 16.0 15.9 16.5 15.5 16.8 13.1 12.6 Unemployment rate (%) 10.8 10.6 10.2 10.3 11.0 14.0 11.9 CPI Inflation (%) (end-of-period) 9.3 7.7 9.7 8.4 10.1 6.5 6.4 General Govt. Rev./GDP, % 31.5 32.9 34.8 33.6 32.9 34.6 35.4 General Govt. Exp./GDP, % 35.6 33.0 33.4 33.8 34.6 39.9 39.1 General Govt. Bal./GDP, % -4.1 -0.1 1.4 -0.2 -1.6 -5.3 -3.7 Public Sector Primary Balance/GDP, % 5.4 4.5 4.8 3.0 1.6 -1.1 -0.2 Gross Public Debt/GDP2 59.5 54.1 48.2 42.2 42.9 48.9 44.5 Gross External Debt/GDP 41.2 35.3 39.5 38.5 37.5 43.6 41.6 Export Growth (f.o.b.) 33.7 16.3 16.4 25.4 23.1 -22.6 11.5 Import Growth (c.i.f.) 40.7 19.7 19.5 21.8 18.8 -30.2 31.6 CAD (billion USD) 14.4 22.3 32.2 38.4 42.0 14.0 48.6 CAD/GDP (%) 3.7 4.6 6.1 5.9 5.7 2.3 6.5 Reserves (billion USD) (including gold) 37.6 50.2 60.7 74.7 72.9 74.8 86.0
Source: Undersecretariat of Treasury, SPO, CBRT, TURKSTAT, Bank Estimates for selected 2010 variables. 1 Data showing that real GDP growth in 2010 was 8.9 were released on March 31, 2011, after the negotiations of this Operation. 2 Gross public debt as defined by the Undersecretariat of Treasury varies from the EU defined general government debt stock definition. The difference arises from the following adjustment items for EU defined debt: (i) recording of zero coupon securities at face value; (ii) inclusion of inflation variation for CPI indexed bonds; (iii) inclusion of coins in circulation issued by Treasury; and, exclusion of the government securities held by different public sector institutions.
7 Data showing that real GDP growth in 2010 was 8.9 were released on March 31, 2011, after the negotiations of this Operation.
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Figure 2 (panels a-f): Macroeconomic Indicators, 2000-10
Figure 2a: Growth and Industrial Production (IP) Figure 2b: Seasonally Adjusted Unemployment (percent)
Source: TURKSTAT
Source: TURKSTAT, Bank Staff Estimates
Figure 2c: Exchange Rates Figure 2d: Istanbul Stock Exchange
Source: CBRT
Source: Reuters
Figure 2e: Nominal Interest Rates Figure 2f: Sovereign Spreads
Source: CBRT
Source: JP Morgan
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10
15
20
25
30
Jun-
00D
ec-0
0Ju
n-01
Dec
-01
Jun-
02D
ec-0
2Ju
n-03
Dec
-03
Jun-
04D
ec-0
4Ju
n-05
Dec
-05
Jun-
06D
ec-0
6Ju
n-07
Dec
-07
Jun-
08D
ec-0
8Ju
n-09
Dec
-09
Jun-
10D
ec-1
0
Unemployment Youth
0.0
0.5
1.0
1.5
2.0
0
50
100
150
200
250
Jan-
00Ju
l-00
Jan-
01Ju
l-01
Jan-
02Ju
l-02
Jan-
03Ju
l-03
Jan-
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l -04
Jan-
05Ju
l-05
Jan-
06Ju
l-06
Jan-
07Ju
l-07
Jan-
08Ju
l-08
Jan-
09Ju
l-09
Jan-
10Ju
l-10
Jan-
11
REER index USD/TL
0
10,000
20,000
30,000
40,000
50,000
60,000
70,000Ja
n-00
Jul-0
0Ja
n-01
Jul-0
1Ja
n-02
Jul-0
2Ja
n-03
Jul-0
3Ja
n-04
Jul-0
4Ja
n-05
Jul-0
5Ja
n-06
Jul-0
6Ja
n-07
Jul-0
7Ja
n-08
Jul-0
8Ja
n-09
Jul-0
9Ja
n-10
Jul-1
0Ja
n-11
ISE 100
01020304050607080
0
50
100
150
200
Jan
-00
Jul-
00Ja
n-0
1Ju
l-01
Jan
-02
Jul-
02Ja
n-0
3Ju
l-03
Jan
-04
Jul-
04Ja
n-0
5Ju
l-05
Jan
-06
Jul-
06Ja
n-0
7Ju
l-07
Jan
-08
Jul-
08Ja
n-0
9Ju
l-09
Jan
-10
Jul-
10Ja
n-1
1
Benchmark Bond Rate, compounded % (LHS)Policy Rate, simple %
0
200
400
600
800
1,000
1,200
1,400
Jan-
00Ju
l-00
Jan-
01Ju
l-01
Jan-
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l-02
Jan-
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l-03
Jan-
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l-04
Jan -
05Ju
l-05
Jan-
06Ju
l-06
Jan-
07Ju
l-07
Jan-
08Ju
l-08
Jan-
09Ju
l-09
Jan-
10Ju
l-10
Jan-
11
EMBI+ Turkey EMBI+
7
13. Turkey’s recovery has been led by domestic consumption and investment demand from the private sector, driven by historically low interest rates. In the first three quarters of 2010 y/y economic growth was nearly 9 percent (Figure 2a). Of this, private consumption and private investment accounted for a sizeable share (about 5 percent each, with net exports making a large negative contribution; see Table 2). A further factor explaining both the severity of the slowdown and the rapid recovery in Turkey was a marked inventory cycle, as producers adopted a wait-and-see approach in 2008 and 2009, running down inventories, before quickly re-accumulating them from late 2009 onwards.
14. Unemployment has fallen back close to pre-crisis levels, but remains high. After peaking at above 16 percent in February 2009, seasonally adjusted unemployment fell steadily from the second quarter of 2009, and stood at 11 percent in December 2010, about one percent above pre-crisis levels (see Figure 2b). This compares favorably with the past tendency of unemployment in Turkey to “ratchet up” during recessions, subsequently failing to decline again. Some of this favorable performance can be attributed to measures taken by the Government to protect employment during the crisis, some to the short duration of the recession in Turkey compared to past recessions. Nonetheless, open unemployment in Turkey remains high in absolute terms, and represents a challenge both to social welfare and to productivity.
15. Poverty rose moderately in 2009. Using Turkey’s national (food and non-food expenditure) poverty line, the poverty headcount ratio reported by the Turkish Statistical Agency rose to 18.1 percent in 2009 from 17.1 percent in 2008. Extreme poverty (defined in Turkey by a USD 2.15 poverty line) remains negligible.
16. Banks remain well capitalized and profitable, while asset quality has improved. The banking sector proved resilient when faced with the effects of the global crisis. Turkey is the only OECD country where no public sector support was provided to the banking sector in the wake of the crisis. The capital adequacy ratio for the system is high at about 19 percent, and all banks are above the recommended 12 percent regulatory minimum. After high profitability in 2009, which was driven by a rapid widening of net interest margins, profitability returned to more normal levels in 2010, with profits still rising by 9.6 percent during the year. The stability of the system’s funding base is supported by a modest reliance on wholesale funding, including syndications and securitizations, as reflected in loan to deposit ratios below 100 percent for the system. There is no consumer lending in foreign exchange. Loan quality has improved with the resurgence in economy activity, with the Non-Performing Loans (NPL) ratio for the banking system as a whole coming down to 3.7 percent at end-2010 (compared with rates around 3.5 percent before the crisis and 5.3 percent as of end-2009).
17. Lending growth has resumed rapidly after contracting during the crisis, but the Turkish financial sector’s role in funding the real sector remains well below its potential. After remaining essentially flat in real terms in 2009, bank credit increased significantly in 2010, growing by 33.94 percent during the year, which in turn contributed to the significant widening of the current account deficit in 2010 (see paragraph 18). As of end-January 2011, year-on-year loan growth registered 36.2 percent. Consumer loans, accounting for just under a third of total loans, and including mortgages, and car and credit card loans, grew at 32.9 percent year-on-year,
8
just below the average for total loan growth.8 The Authorities are watching credit growth rates carefully, and there is a risk that continued high growth could contribute to inflationary pressures and possible overheating of the economy. The financial system nevertheless remains relatively shallow for the size of the economy, with total banking sector credit (about one half of total assets) accounting only for about 43 percent of GDP.9
18. After falling during the recession, the current account deficit (CAD) returned to the fore by 2010. In 2006-08 Turkey financed CADs of the order of 6 percent of GDP (Table 2). This ratio fell to 2.3 percent in 2009, driven by the recession and lower oil prices. However, as these factors reversed in 2010, a significant current account deficit returned: the CAD for 2010 is estimated at 6.5 percent of GDP. This increase was mainly the consequence of rising imports. Imports (f.o.b.) rose by 31.6 percent to USD 173.9 billion in 2010 from USD 132.1 billion in 2009, led by an increase in imports of investment goods. Exports (f.o.b.) remained sluggish, increasing by 13 percent to USD 117.9 billion in 2010 from USD 104.3 billion in 2009. The trade deficit therefore more than doubled to USD 55.9 billion in 2010 from USD 27.8 billion in 2009, and was equivalent to 7.6 percent of GDP. Real exchange rate strengthening throughout 2010 (which has since been partially reversed with a 9.9 percent real weakening of the TL since November 2010) was one factor in the relative performance of exports and imports. The non-energy trade deficit stood at 3 percent in 2010, with rising oil prices contributing considerably to the rising trade deficit.
Also, lending remains mostly short term although maturities are being extended, reflecting a dearth of longer-term funding. More than 90 percent of domestic deposits, which account for more than two thirds of non-equity liabilities, bear a maturity of less than three months.
19. As growth picked up, the general government fiscal deficit declined to 3.6 percent of GDP in 2010. The fiscal deficit had increased sharply from 1.6 percent in 2008 to 5.3 percent of GDP in 2009. Most of this increase was explained by the contraction in GDP and the operation of automatic stabilizers (such as the increase of approximately 1.8 percentage points of GDP in budgetary transfer to the Social Security Institution (SSI); only 1.2 percentage points are estimated to have come from discretionary spending measures.10 The general government deficit was reduced to 3.7 percent in 2010, mostly through improved revenue performance owing to the pick-up in GDP (Table 2)11
8 Recent measures have been introduced by the Authorities to limit mortgages to 75 percent of house value, 50 percent for commercial real estate and to link credit card limits to documented monthly salaries.
. Central government spending actually grew by 9.5 percent in 2010, with total central government spending expected to reach above 26 percent of GDP in 2010. Public sector primary fiscal balance is expected to post a small deficit of 0.2 percent in 2010 before returning to surplus in 2011.
9 The banking sector comprises 49 banks, with the top 6 banks accounting for about two thirds of total assets. The three largest state-owned banks account for one third of the banking system’s assets. The remainder of the financial system accounts for about 11 percent of GDP (mainly mutual funds, insurance companies, leasing companies, and factoring and consumer finance companies). 10 See the discussion in Restoring Equitable Growth and Employment Programmatic Development Policy Loan (REGE-DPL), Report No. 51062-TR, Feb. 24, 2010. 11 General government consists of central government, SSI and local administrations.
9
20. With better fiscal performance, public debt ratios improved. Gross public debt12
21. Inflation targeting performed well, although the task has been complicated by the high volume of portfolio flows to the Turkish economy. End-2010 inflation was 6.4 percent, close to the target of 6.5 percent
increased significantly during the crisis, from 42.9 percent of GDP in 2008 to 48.9 percent of GDP in 2009. Public debt was estimated to be at around 44.5 percent of GDP at end-2010.
13
22. Against the backdrop of low interest rates and quantitative easing in some advanced economies, Turkey (like other emerging markets) has been the destination for a high volume of short-term capital inflows. This has raised private external indebtedness and increased exposure to capital flow reversal risks. In 2010, USD 15.9 billion came into Turkey in the form of short-term credits from foreign banks, and a further USD 16.3 billion entered in the form of portfolio investments in securities (relative to USD 200 million in 2009). As a result, of the 2010 capital inflows (excluding reserve changes of Central Bank and other sectors) of USD 46.6 billion, more than half consisted of short-term inflows, many intermediated through banks supporting credit, demand, and imports. From January 2009 to November 2010, the (CPI-based) real effective exchange rate (REER) strengthened by 16 percent.
, helped by an end-year drop in food prices. While Consumer Price Index (CPI) inflation fell to a four decades low in February 2011, reaching 4.2 percent (year-on-year food inflation was 4.5 percent), year-on-year Producer Price Index (PPI) inflation is running higher, at 10.9 percent in February 2011 (driven by a 29 percent increase in oil product and energy prices and a 36 percent rise in the price of basic metals). Under this framework, the Central bank explicitly stated that given the rapid pace of domestic demand and rising commodity prices, general price setting behavior will be closely monitored and additional measures will be taken to contain inflation expectations, if needed.
14
23. The Central Bank introduced a “policy mix”, which consists of a combination of short term interest rates, reserve requirement ratios and an interest corridor
Such conditions make it harder for the central bank to raise interest rates to curb aggregate demand in the event inflationary expectations exceed the target and create a risk of overheating.
15
12 Gross public debt as defined by the Undersecretariat of Treasury which varies from the EU defined general government debt stock definition. The difference arises from the following adjustment items for EU defined debt: (i) recording of zero coupon securities at face value; (ii) inclusion of inflation variation for CPI indexed bonds; (iii) inclusion of coins in circulation issued by Treasury; and, exclusion of the government securities held by different public sector institutions..
, to reconcile inflation targeting with a more aggressive approach to managing inflows, but more measures may be needed moving forward. Turkey increased its holdings of net international reserves by USD 11.1 billion in 2010. In December 2010, the Central Bank cut the policy interest rate by 50 basis points, while at the same time increasing the wedge between its overnight borrowing and lending rates and increasing reserve requirement ratios significantly, with varying degrees across maturities and broadening the coverage of liabilities subject to reserve requirement. The Central Bank followed this up with a further cut of 25 basis points to the policy rate at its January meeting and further increases to reserve ratios. Cutting the overnight
13 There is +/-2 percent band around the target, if actual inflation falls outside this band, the Central Bank is required to write an open letter to the government. 14 Source: CBRT website. 15 Between borrowing and lending rates.
10
interest rates is designed to discourage portfolio investors from taking short-term “carry trade” positions in lira assets; at the same time increasing reserve requirements is designed to curtail domestic credit creation.
24. Partly in response to these measures, the lira weakened by 11 percent nominally against the dollar between November 2010 and February 2011, while the real effective exchange rate weakened by around 10 percent during the same period. At the same time, Turkey’s (EMBI+) sovereign spread has remained close to record lows of around 200 basis points. Nevertheless, in recent months high credit growth has continued and high oil prices are adding further to inflationary pressures. There is a risk of overheating, which if not addressed could lead to a growth slowdown. Measures to mitigate risks would include a combination of fiscal and macro-prudential tightening, more restrictive liquidity conditions and, in the longer run and supported by the PPDPL/REGE-DPL series, further competitiveness-enhancing structural reforms.
MACROECONOMIC OUTLOOK AND DEBT SUSTAINABILITY
25. In line with the Government’s Medium-Term Program (MTP), growth is forecast at about 4.5 percent in 2011 and around 5 percent over the medium term, and will rely increasingly on exports. Projected growth relies on a combination of slowly recovering exports and private-sector led domestic demand, and is predicated on capital inflows financing a CAD of around 5-6 percent of GDP over the medium term. The CAD is projected to narrow in the outer years owing to stronger export growth (on the back of structural reforms and enhanced competitiveness – see next paragraph - as well as a recovery in global growth) and supported by higher domestic savings. The CAD will likely stay high in the near term however, while financing prospects appear favorable. Despite downside risks (see paragraph 35), and assuming continued political stability, further progress on economic reforms, and net positive capital inflows, these growth rates appear achievable.
26. The growth path projected in the MTP requires continued structural adjustment, consistent with the Government’s reform program, to make the economy more resilient to shocks and to realize its growth potential. New vulnerabilities have emerged as a byproduct of strong growth and large capital inflows. These vulnerabilities are unlikely to abate in the near term, and will need to be managed carefully to avoid boom-bust cycles of the past. The growth projects are also underpinned by the implementation of ongoing reforms (including moving forward decisively with implementation of the new commercial code and the code of obligations), and the initiation of further reforms in the post-election period, especially as they relate to measures that bolster productivity and employment and secure long-term fiscal savings. The regulatory reform is a critical agenda item in this regard, particularly as it relates to the reform of labor market regulations, including severance pay reform and greater employment flexibility. Improvements in the business environment and further privatization, which will gradually improve corporate productivity, as well as profitability, and prudent fiscal management, are expected to help bring about the increase in the domestic savings rate.
27. The MTP envisages further improvements in fiscal balances to bring down the public deficit - and to help manage external imbalances. On the public sector side, Table 3 shows a shift from a 0.2 percent public sector primary deficit in 2010 to a 1.0 percent surplus by
11
2013. In parallel, the general government balance shifts, from a 3.7 percent deficit in 2010 to a 1.2 percent deficit in 2013. General government expenditures as a share of GDP are projected to decline faster than revenues, from the 2010 levels of 39.1 percent, leading to a declining borrowing requirement over the period.
28. The MTP envisages that the fiscal adjustment over 2011-13 will come mainly from expenditure measures. Over the MTP period, central government spending is targetted to fall by 2.8 percent of GDP, while primary spending will decrease by 1.7 percent of GDP. The main sources of this adjustment are cuts in goods and services, and public investments and a decrease in current transfers to the SSI because of the improvements in its balance. However, the budget includes no income from a recently announced comprehensive amnesty on government receivables and only limited income from an ambitious privatization agenda, thereby creating room for additional spending while still meeting the budget target. More generally, it will be important to leave room in the budget for growth-enhancing public investments by controlling current spending.
Table 3: Medium-Term Macroeconomic Projections and Targets Based on MTP1 World Bank Projections 2011 2012 2013 2014 2015 Growth (%) 4.5 5.0 5.5 5.2 5.3 Contributions to Growth (percent) Consumption 4.0 3.8 3.6 3.6 3.5 o/w Private 3.6 3.3 3.3 3.2 3.1 Gross Capital Formation 0.7 1.3 1.4 1.4 1.4 o/w Private 0.4 1.1 1.1 1.2 1.2 Net Exports -0.2 0.2 0.0 0.2 0.3 Exports 1.3 1.5 1.6 1.6 1.7 Imports -1.5 -1.4 -1.5 -1.4 -1.3 CPI Inflation (%) (end-of-period) 6.3 5.0 5.0 5.0 5.0 General Govt. Rev./GDP, % 35.8 35.4 35.0 34.8 34.7 General Govt. Exp./GDP, % 37.9 37.2 36.1 35.6 35.3 General Govt. Bal./GDP, % -2.1 -1.8 -1.1 -0.8 -0.6 Public Sector Primary Balance/GDP, % 0.3 0.7 1.0 1.0 1.0 Gross Public Debt/GDP2 42.6 40.2 37.6 35.2 32.7 Gross External Debt/GDP 43.6 45.6 45.8 44.8 43.1 CAD (billion USD) 53.6 54.7 55.2 54.3 53.7 CAD/GDP (%) 7.1 7.1 6.8 6.3 5.9 Reserves (billion USD) 94.0 98.8 104.6 110.0 115.9 1 2011-13 projections are based on the Government’s October 2010 MTP, incorporating (i) 2010 outcomes, and (ii) a revised oil price forecast of USD 100 for 2011 (versus USD 80 in the MTP). The January Inflation Report of the Central Bank (CBRT) uses a forecast of USD 95 for 2011 and beyond. 2 World Bank staff estimates for total public debt stock (consistent with EU defined general government debt stock reported in MTP) and gross external debt stock. Source: SPO, World Bank Staff Projections
29. The MTP foresees a slight decline in general government revenues as a share of GDP over the 2011-13 period, with the composition of taxes moving in favor of direct taxes. Tax revenues rely heavily on value added and special consumption taxes, with scope for improved collection of income tax. The program also assumes further privatization revenues.
12
Public debt sustainability
30. Public debt sustainability is subject to moderate risk. Debt sustainability analysis suggests that the risks to the sustainability of Turkey’s public debt burden are moderate. These risks have declined significantly since the assessment of debt sustainability at the time of REGE-DPL. Under the baseline macroeconomic scenario in Table 3, gross public debt falls from 44.5 percent of GDP at end-2010 to 32.7 percent of GDP by 2015 (Figure 3). A negative growth shock (one standard deviation or 2.8 percent, applied in 2011 and 2012) causes the public debt ratio to rise by approximately 2 percentage points of GDP, reaching 34.6 percent of GDP by 2015. A real interest rate shock (one standard deviation or about 10 percent) has a larger impact, adding about 4 points to the debt ratio (36.4 percent by 2015). The most severe stress test, a combined shock (half standard deviation shocks to growth and interest rates, a 15 percent weakening, and holding fiscal policy to the 2010 value of the primary balance) causes debt to increase to nearly 46.2 percent of GDP in 2012 before subsiding to 37.0 percent of GDP by 2015. Turkey has a strong track record in public debt management, mitigating some of the macroeconomic risks to debt sustainability.
External debt sustainability and financing sources
31. After declining considerably from 56 percent in 2002 to 35 percent in 2005, gross external debt-to-GDP stood at 43.6 percent at end-2009 (188 percent of exports of goods and services). Estimates indicate that this ratio has declined to below 42 percent in 2010 (201 percent of exports), mainly due to high GDP growth. The share of short-term debt in gross external debt stands at 24.1 percent; the private sector accounts for 63.3 percent of external debt. External debt is projected to increase in the near term, reflecting mainly an expected widening in the CAD.
32. Under a scenario of low growth, weak FDI, and real weakening, external debt could increase significantly, although external debt ratios remain sustainable. Figure 4 illustrates two alternative scenarios with higher external debt outcomes.
Figure 3: Public Debt under Baseline and Stress Tests (percent of GDP)
Source: Treasury and World Bank projections
Figure 4: Simulated External Debt Dynamics
Source: World Bank Analysis
32
34
36
38
40
42
44
46
48
50
2009 2010 2011 2012 2013 2014 2015
Baseline Real Interest ShockCombined Shock Growth Shock
41.6 45.3
49.1 50.8 51.1 50.6
43.645.6 45.8 44.8
43.1
48.6
52.153.7 54.1 53.6
35
40
45
50
55
60
2010 2011 2012 2013 2014 2015
Overheating Baseline Slow reform
13
a. An “overheating” scenario assumes a one percent increase in growth over the base case, with higher CADs partly covered by FDI. Under this scenario, external debt reaches about 51 percent of GDP by 2015.
b. A “slow-reform” scenario is more adverse, with lower GDP growth (one standard deviation lower over 2011-15), smaller CADs, USD 4 billion lower FDI, and a weakened currency in 2011-15. Under this scenario, external debt climbs to about ten percentage points above the baseline in 2014-15.
Table 4: External Financing Projections (USD billion) 2008 2009 2010 2011 2012 2013 2014 2015 Gross financing requirement 82.9 61.2 94.2 90.8 89.0 88.5 83.0 76.0 Current account deficit 42.0 14.0 48.6 53.6 54.7 55.2 54.3 53.7 Eurobond repayments 3.4 1.9 2.6 1.7 2.4 1.5 3.1 3.6 Medium and long-term debt amortization 37.6 45.3 43.0 35.4 31.9 31.8 25.6 18.7 Public sector 5.4 3.9 5.3 6.7 4.5 3.8 3.1 2.0 Private non-bank sector 24.9 33.8 31.0 22.5 20.7 21.3 16.9 12.3 Banks 7.2 7.6 6.7 6.2 6.7 6.8 5.6 4.5 Capital Inflows 81.9 61.3 107.0 99.0 93.8 94.3 88.4 81.9 FDI (net) 17.0 6.9 7.2 11.2 13.3 16.3 19.9 21.9 Portfolio (net) -5.0 0.2 16.3 17.9 19.7 21.6 24.9 28.6 General Government 8.9 4.8 6.6 8.1 5.4 4.5 3.7 2.4
Private Non-Bank Sector (Medium Long Term) 47.7 24.1 23.6 27.0 27.0 27.6 22.0 15.9
Banks (Medium and Long Term) 8.1 6.0 7.3 8.1 10.0 10.2 8.4 6.8 Net Error and Omissions 4.7 5.1 4.0 0.0 0.0 0.0 0.0 0.0 Short-term inflows (net) 0.6 14.3 41.9 26.8 18.5 14.0 9.5 6.3 Change in Reserves 1.1 -0.1 -12.8 -8.2 -4.8 -5.8 -5.4 -5.9 Rollover Ratios (%) Assumptions Central Government 163 124 125 120 120 120 120 120 Corporate (MLT) 191 71 76 120 130 130 130 130 Banks (MLT) 113 78 109 130 150 150 150 150 Source: WB projections
33. In the baseline macroeconomic scenario, external financing is likely to be available to meet the needs of the Turkish economy in 2011-15 (Table 4). Projections assume a moderate rise in capital inflows consistent with a slow global recovery. Turkey should be in a position to attract further FDI given privatization efforts and the potential for mergers and acquisitions: baseline net FDI inflows rise from USD 7.2 billion in 2010 to USD 21.9 billion in 2015. Similarly, net portfolio flows are assumed to be positive, consistent with continued Eurobond issuance and the potential of the domestic capital market to raise financing. Assuming a gradual improvement in rollover ratios of corporations’ medium- and long-term (MLT) debt from 76 percent in 2010 to 130 percent in 2015, which is well below the annual average of 179 percent in the period of 2003-2008, results in a projected further accumulation of international reserves over the period 2011-15.16
16 Starting in June 2009, corporate sector agents without revenues in foreign exchange were allowed to start borrowing in foreign exchange directly from domestic banks. This has increased the proportion of foreign exchange loans extended by domestic banks, but is not accurately captured in the data in Table 4 above, implying that actual rollover ratios of private non-bank sector in 2009 and 2010 are higher than the rollover ratios in Table 4. In the
Lower rollover ratios of the order of 90 percent to 100
14
percent in 2011 and 2012 would not place serious pressures on reserves. Higher oil prices than assumed here (USD 100), for a sustained period, would create additional external financing requirements-a risk that needs to be closely monitored going forward. A USD 10 increase in oil prices would increase the CAD by an estimated 0.4-0.5 percentage points of GDP, and would shave around 0.2-0.3 percentage points of growth.
34. To conclude, Turkey’s overall medium-term economic framework is adequate. Market reactions reflect the credibility of the Government’s measures in response to the global crisis and its forward-looking plans. Growth has returned and social indicators are improving. Improved prospects have also been signaled by upgrades and outlook revisions by all the main credit rating agencies. On November 24, 2010, Fitch lifted Turkey’s rating outlook to positive from stable, citing the country’s economic recovery and improving public finances. Fitch rates Turkey one notch below investment grade, and the revision signals that strong growth recovery plus plans to cut the budget deficit could finally put Turkey within sight of an investment grade rating. Moody’s upgraded Turkey to Ba2 from Ba3 on January 8, 2010 and changed the outlook on Turkey’s Ba2 local and foreign currency government bond ratings from stable to positive on October 5, 2010. JCR also upgraded Turkey to BB from BB- on February 1, 2010. Moreover, on February 19, 2010, Standard and Poor’s upgraded Turkey’s long-term credit rating from BB- to BB, maintaining a positive outlook.
35. However, there are significant macroeconomic risks. The main risk is that a reversal of capital flows could cause a significant growth slowdown, given the high level of the current account deficit. There is some risk associated with recent political developments in the Middle East and North Africa, and a major risk arises from a sustained increase in oil prices. Turkey is a major energy importer, and a USD 10 increase in the price of a barrel of oil is estimated to increase Turkey’s current account deficit by 0.4-0.5 percent of GDP. If oil prices remain at the recently elevated levels or further increase, Turkey’s strong macroeconomic performance may be hindered, as risks associated with the sustainability of a high current account deficit would increase. Although Turkey’s external financing needs are likely to be met in the near future, there is a danger of a rapid accumulation of short-term foreign liabilities, by definition potentially subject to possible reversal. The possibility of such a reversal creates a downside risk to growth with corresponding risk to public finances. The measures taken by the central bank within the constraints of inflation targeting may be insufficient to prevent such a continued accumulation of liabilities in the private sector.
36. There is also a risk of overheating, which if not addressed, could lead to a growth slowdown (although unemployment data suggest that the risk of overheating is not immediate). A challenge for the authorities is to determine the right policy mix in the face of these vulnerabilities, while favorable near-term growth prospects and healthy balance sheets will likely continue to attract capital inflows. Measures to mitigate risks would include a combination of fiscal and macro-prudential tightening, more restrictive liquidity conditions and further competitiveness-enhancing structural reforms. The proposed REGE-DPL2 operation helps Turkey mitigate these risks mainly by supporting reforms to improve the business climate. These reforms are aimed at increasing the competitiveness of the private sector, which would promote
forward projections, an adjustment has been made to incorporate these loans. Projected roll-over ratios are consistent with those forecast by other observers, including the IMF.
15
exports as well as higher inflows of foreign direct investment – a preferred means of financing the current account deficit.
III. THE GOVERNMENT PROGRAM
37. Turkey’s economic policy framework and reform program are described in a number of separate but consistent documents. Turkey’s medium-term economic policy and reform program is articulated in the Ninth Development Plan (2007-13), which was published in the Official Gazette on July 1, 2006. The Turkish government implements the development plans through its annual programs, and the 2011 Annual Program was issued in October 2010 and outlines the Government’s structural reform program for 2011. The government moved to medium-term budgeting in 2006 and the sixth Medium-Term Fiscal Plan (MTFP) and Medium Term Program (MTP) covering the period 2011-13 were issued on October 10, 2010. Turkey also produces annual EU Pre-Accession Economic Programs that detail short- and medium-term policy actions and structural reform priorities related to EU accession.
38. Turkey’s Ninth Development Plan is the foundation of the World Bank’s Country Partnership Strategy and of this loan series. The Ninth Development Plan vision is “a Turkey which grows in stability, shares her income more equitably, is competitive at a global scale, transforms into an information society and has completed the stage of legal harmonization for EU membership”. The Ninth Development Plan comprises of five strategic areas of action, namely: (i) enhancing competitiveness; (ii) fostering employment; (iii) strengthening human development and social solidarity; (iv) ensuring regional development; and (v) increasing quality and efficiency in public services.
39. The policy program supported by the PPDPL/REGE-DPL series has been closely aligned with the strategic objectives of the Government and supports selectively key elements of the competitiveness, employment, human development, and public services axes of the Ninth Development Plan. These program areas were chosen in view of their importance, informed by economic and sector work conducted jointly with the Government and their strong relationship to the CPS objectives. The measures identified in the 2011 Annual Program do not only overlap with the REGE-DPL2 reform agenda, but they strengthen the agenda through additional follow up actions during the remainder of 2011. The 2011 Annual Program states, inter alia, that by the end of 2011, secondary legislation for the implementation of the Commercial Code will be issued; the employment strategy and a subsequent action plan will be prepared. The secondary legislation of the new TCA Law will be in line with the EU practices and international standards will be completed.
Improved climate for business growth, productivity and job creation
40. The Government, after focusing policy efforts on dealing with the effects of the global crisis, has taken up structural reforms with renewed impetus. Recent efforts aim specifically to set the conditions for higher private (including foreign) investment, employment, and enhanced competitiveness. These include promoting the transparency of commercial accounts, increasing the accountability of companies’ management, and setting the ground for enhancing the efficiency and depth of the financial sector.
16
41. The cornerstone of Turkey’s recent business climate and competitiveness reforms is the adoption of a new Commercial Code, which in essence provides a completely new, modern “constitution” for private sector commercial activity and entrepreneurship, grounded in financial transparency and strengthened corporate governance. This is discussed in further detail in Box 1.
Box 1: The Commercial Code, Corporate Governance, and Growth
In law, a commercial code refers to the body of legislation that pertains to commercial transactions. Its wide-ranging scope includes many different areas that affect businesses and individuals who enter into these transactions. Partnerships, corporations, secured transactions, insurance, bankruptcy, and even merchant shipping inter alia, are governed by the commercial code. In replacing an outdated commercial code (from 1956), the authorities recognized the need to align this body of law with the modern reality of commercial transactions. The main approach of the new Code is to introduce more transparent corporate governance principles, with the aim of fostering trust in the financial position of Turkish companies and thus increasing their global competitive strength. The Code’s corporate governance approach is based on four pillars:
• Transparency. The Code: (1) expands Turkish Accounting Standards, which are aligned with International Financial Reporting Standards (IFRS), reporting requirements to all joint-stock companies, not only listed ones; and (2) introduces consolidated reporting requirements for financial and non-financial group companies.
• Accountability. The Code: (1) requires compliance with International Auditing Standards (IAS) and elevates professional standards for auditors; (2) introduces the concept of ‘transaction’ and ‘operational’ audits; (3) regulates legal and criminal liability; and (4) introduces the concept of independent board member and sets minimum standards for professional board members.
• Regulatory Innovation. The Code: (1) introduces simpler incorporation procedures (based on founders’ declarations); (2) introduces the concept and regulates preferred shares; (3) regulates the conversion of companies through mergers, spinoffs and restructuring; (4) regulates share buybacks; (5) allows for a single board member and shareholder, including legal entities; (6) introduces separate provisions for ‘closely held’ corporation and ‘listed’ corporations; (7) separates the role of the Board and management; and (8) regulates electronic commerce.
• Fairness (equity). The Code: (1) requires all companies to set up websites where all material decisions affecting all stakeholders (not only shareholders, but also employees and creditors) will need to be reflected; and (2) introduces procedures for minority shareholders’ to bring lawsuits against management, board members and auditors for misrepresentation of a company’s financial position.
While all these innovations are expected to materially improve the investment climate, there are a few changes that are expected to have a significant impact on investment decisions, even in the short run: a) the new enhanced reporting and disclosure requirements will deal squarely with a major identified constraint to better access to finance by smaller companies (see below); (b) the provision allowing for single shareholder/board member (including legal entities) will promote foreign direct investment by effectively eliminating the need to find “straw man” shareholders, while also allowing smaller single proprietors to grow their company into larger concerns without having to seek additional shareholders; and (c) the provisions governing e-commerce will allow for expansion of commercial activity into a sphere of commercial transactions that remains woefully underserved.
42. The new Code of Obligations enacted in February 2011 is a critical complement to the Commercial Code and essential for its effective implementation. The Code of Obligations governs a key aspect of commercial activity, namely the implementation and enforcement of contractual obligations, while also injecting a heavy dose of fairness and equity into commercial relationships. Some key innovations under the new Code deal with the enhancement of consumer and creditor rights—an essential element in promoting retail commerce and supporting consumer credit, but also reflects an effort to account for modern technology and business practices in contract law. Specifically, the Code regulates the use of general conditions, requiring their full disclosure to, and acknowledgment by, adverse parties,
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and extending their use to agreements with banks, insurance companies, travel, and transport businesses. The law also introduces of the concept of “risk liability” and regulates negligent civil wrongs not arising from contractual obligations. Finally, the Code introduces "electronic signature" as a valid and binding commitment, which should facilitate internet commerce and further expansion of innovative companies.
43. The new Civil Procedures Law, while an important judicial and social reform in itself, is the third and final critical component of the recently enacted troika of fundamental business legislation, complementing the Commercial Code and the Code of Obligations. The Civil Procedures Law aims to reduce court workloads and the corresponding burden on businesses. The law replaces legislation dated 1927. Enterprise surveys consistently point to administrative justice procedures and judicial review as one of the most challenging areas in improving the business climate in Turkey. The new Civil Procedures Law introduces a modern administrative legal framework including: (i) procedures to streamline court cases, (ii) new out-of-court conciliation mechanisms, (iii) a national arbitration system on par with international good practices; and, (iv) new regional civil courts as an intermediate appeals mechanism. Overall, the law aims to facilitate out-of-court settlements and reduce court workloads, something that will be essential in the effective implementation of the enhanced corporate governance principles introduced by the new Commercial Code and the strengthened consumers’ rights brought about the new Code of Obligations.
44. The Government’s agenda to support the corporate governance precepts outlined in the new Commercial Code--and thus promote financial sector deepening, capital investment and growth prospects--includes the adoption of a new Capital Market Law (CML). As a piece of legislation that is subsidiary to the Commercial Code, the Capital Market Board (CMB) is in the process of insuring consistency of the draft CML with the provisions of the new Commercial Code, including the supervisory and regulatory powers granted in it to the CMB, a process that will take until later in the year. Moreover, while the Law is expected to reflect the results of a twinning project with the German financial regulator, on harmonizing regulations with the EU Acquis on capital markets, the CMB foresees that the Law will also need to reflect the results of the ongoing deliberations by standard-setters on possible adjustments to the regulatory and supervisory capital market framework to reflect the shortcomings that emerged during the global crisis.
45. The implementation of the Commercial Code, together with further steps to reduce red tape, will benefit small- and medium-sized enterprises (SMEs). SMEs are the backbone of the economy, playing a vital role for the welfare of the population as the main source of job creation and economic growth.17
17 In Turkey, SMEs account for around 80 percent of employment, almost half of total investments, two-thirds of total retail sales, around 60 percent of total exports, and about one-quarter of bank credit.
Many SMEs face access to finance constraints, are disproportionately burdened by business regulations, and seem to lack the ability to adopt and use the knowledge needed to make them more competitive internationally. These findings emerge from the study Turkey: Investment Climate Assessment (ICA)—From Crisis to Private Sector Led Growth that Turkey and the Bank completed in early 2010. The study examined
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firm-level constraints to growth, based on a survey of 1,200 firms conducted between April 2008 and January 2009.18
• A majority of surveyed firms (especially SMEs) see themselves as held back by problems with access to finance (26 percent of firms cited this as their single most important constraint). In complementary survey work and interviews with financial institutions and business associations, a consensus emerged that the problem of access of to finance was closely linked to a lack of proper financial accounts.
Specifically:
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• Red tape still seems to impose significant costs on businesses, especially SMEs.
The enhanced reporting requirements introduced by the new Commercial Code should therefore help bridge the information gap that limits companies’ access to credit, equity, and venture capital flows, particularly into existing and new innovative companies, particularly SMEs.
20 The survey found that the top management in enterprises spends a strikingly high amount of time (27 percent) dealing with red tape. Some of this “time tax” relates to frequent changes in rules and a discretionary, unpredictable implementation of rules, be it for taxes, for licenses, for procurement, or other transactions.21
46. The Government’s reform agenda includes a number of planned additional investment climate reforms for the future: (i) intellectual property rights (IPR) reform, including the Turkish Patent Authority Law, and the Patent Law Treaties, to align the IPR regulatory framework with the EU Acquis; (ii) execution and bankruptcy legislations, including regulatory changes to restore the balance between preserving company value and protecting lenders’ rights.
In order to address the regulatory burden issue, the Government is currently preparing a regulatory reform strategy with the goal of simplifying business regulations, including improved horizontal and vertical coordination among levels of government, and enhanced consultation with the private sector (Box 2).
18 From Crisis to Private Sector Led Growth, Washington DC: World Bank (May 2010). 19 Other factors included lack of collateral (in itself a subsidiary problem to lack of proper accounts) and a lack of capacity to prepare appropriate bankable business plans. KOSGEB’s new support and credit interest rate programs may help to fulfill the needs of SMEs to present sound investment and business plans. 20 For instance, the progress that has been made in the granting of operating licenses to manufacturing firms - from 66 days in 2005 to 62 days in 2008 – is still not sufficient to match comparator countries, including Bulgaria (21 days) and Romania (24 days). When including the service sector, the total number of days to obtain licenses drops to 36. 21 This is much more than in comparator countries such as Brazil (19 percent), Hungary (13 percent), Poland (13 percent), Bulgaria (11 percent), Czech Republic (10 percent), Romania and Chile (both 9 percent).
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Box 2: The “Time Tax” and a New Regulatory Reform Strategy
The 2010 Investment Climate Assessment (ICA) showed that the Turkish Government has taken significant steps in establishing institutions and mechanisms for regulatory reform; enacting legal reforms conducive to simplification of the legal framework; and introducing, through pilot projects, a number of regulatory tools to improve the quality of regulations. In this process, achieving EU harmonization has been a key driver of reform and Turkey has broadly embraced the EU Better Regulation Agenda in a number of areas. Nevertheless, as evidenced by the still significant amount of time spent by company management in dealing with regulations (‘time tax’), challenges remain. The ICA analysis notes that efforts to reduce the regulatory burden experienced by the business sector in Turkey would in principle need to focus on: • Implementing a clear, coherent and comprehensive strategy for regulatory reform; this would be country-wide
and include all the facets of the regulatory system, and supported at the highest political level. • Increasing coordination among different institutions and of different initiatives with similar regulatory
objectives. • Linking regulatory reform to clear and measurable economic targets and objectives in the medium and long
term. • Building capacity across the administration. Efforts in different directions to train officials in the use of modern
regulatory tools testify to the need to dedicate resources to this goal. • Enhancing consultation efforts with private sector stakeholders.
The lead agency in regulatory reform, the Prime Ministry, and the Bank have engaged on a new technical assistance program on regulatory reform to address the points above. The program focuses on three main areas: • Preparation of a national strategy for regulatory reform. This document is intended to concentrate all
efforts already underway in a single, coherent, targeted-oriented strategy that will cover four main areas of action: 1) improvement of legal process and introduction of forward planning at central level; 2) improvement of Regulatory Impact Analysis (RIA) and capacity building in ministries to use this tool; 3) guiding and facilitating of administrative simplification attempts of public institutions; 4) better management of the stock of regulation in Turkey.
• Improvement of the existing legal database of all laws and secondary regulations. The comprehensive database already in place can be further improved, in particular by adding technical capacities, ensuring legal security for all information and connecting it to the work to streamline regulation, identify burdens and expanding it to other regulatory instruments, like licenses, permits and authorizations.
• Implementation of a pilot project on administrative simplification. The main goal of this project is to develop capacities in the Prime Ministry to introduce administrative simplification measures, based on a measurement of administrative costs through the use of the Standard Cost Model (SCM), consultation with affected businesses and coordination with ministries and municipalities responsible for licenses.
Creating more and better jobs
47. The Turkish labor market is characterized by low activity rates as well as high unemployment and job informality. Despite six years of sustained growth after the 2001 crisis, the employment rate never rose above 46 percent, about 20 percentage points below the EU average. The employment rate of working age (15-64) women (26 percent in 2010) is the lowest among OECD and Europe and Central Asia countries. Unemployment has decreased significantly since its peak in Q1 2009 and reached pre-crisis levels by November 2010 (11 percent), but has not consistently come down below 10 percent. The youth unemployment rate remains about twice the overall unemployment rate. Finally, about 44 percent of those employed were working in the informal sector in 2009.22
22 2009 Labor Force Survey.
Overall job informality has decreased somewhat between 2001 and 2009.
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48. Labor market outcomes in Turkey are the result of structural factors and policies, including (but not limited to) labor market policies. Indeed, the effectiveness of any policy effort to reduce unemployment will be constrained by labor supply pressures from urbanization, flows from agriculture and new entrants (see Box 3). As the structural shifts fade away and women become more educated, more women will join the labor force, generating additional pressures. There are two important sets of policies that can help enhance productive employment in the long run: (1) improving the skills for work (through the education and life-long learning systems, including second chance programs) and (2) improving the climate for firms to grow, innovate and create jobs. The Government program in these two areas is described in separate sections. Progress has been most notable in the business climate area, with the approval of the Commercial Code and other relevant legislation, as well as efforts to identify and reduce the burden of regulations on businesses. In skills, the improvement in PISA scores between 2006 and 2009 (see next section) may already reflect the positive impact of the new curriculum for primary education, and the ongoing expansion of early childhood education will significantly improve skills in the future.
Box 3: Structural Features of the Turkish Labor Market and Their Implications for Employment and Growth
A number of structural factors underlie high unemployment and informality. First, the structural transformation of the economy from agriculture into non-agriculture sectors and the migration from rural to urban areas are still ongoing. These transformations are supplying the non-agricultural sector (particularly the informal sector) with large numbers of (mostly) low skill male workers, while forcing many (mostly) low skill women (who used to work in agriculture as unpaid family labor) out of the labor force. Second, sheer numbers of young people are entering working age population each year (about 800,000), a population that is expected to growth until 2020 (demographic window). Third, the non-agriculture sector has not been sufficient to absorb the growing labor force: non-agricultural GDP grew by an average 7.7 percent annually between 2003 and 2007, while non agricultural employment only grew by 2.7 percent (an annual average of around 500,000 new jobs were created). Fourth, the labor demanded in the non agriculture sector is, however, increasingly more skilled. Limited job opportunities (particularly for low skill workers) combined with a rapidly increasing non-agriculture labor force (particularly youth and low skill workers coming from agriculture) generate high unemployment and fuel job informality in the non-agricultural sector. The low levels of education and skills characterizing large segments of working age population lead to low participation rates, particularly among women. Sustaining high growth rates and converging faster to more advanced economies would require using more labor, use it longer, and make it more productive. Growth potential is currently is impinged by large numbers of unused labor and low productivity of labor. As the demographic window closes, and more women are employed, labor will become a less important determinant of growth and productivity growth will become the sole driver of economic growth. Increasing productivity requires improving the skills of the workforce (and getting these skills productively employed) and boosting firm growth and innovation. 49. Reforms to make labor markets more flexible can, however, make a significant contribution to job creation in the short and medium term. Turkey has traditionally had high non-wage labor costs by international standards. The employment protection legislation in Turkey is one of the most restrictive in the OECD and is focused on protecting jobs rather than workers. Restrictions on or disincentives to flexible contracting (e.g. fixed-term contracts, part-time work and temporary employment agencies) as well as very generous (but often not paid)
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severance obligations are the main factors behind this institutional rigidity.23 Additionally, support to workers through unemployment insurance (UI) and Active Labor Market Program (ALMPs) has been very limited.24
50. Employment and labor market reforms have been a top priority for the Government since 2008. The Government’s labor reform agenda is framed in the 9th Development Plan and covers three main policy areas: reducing non-wage labor costs, raising skills, and making the labor market more flexible while improving worker protection. The 2008 labor package focused on the first two pillars by reducing employers’ social security contributions (across-the-board 5 percentage points reduction) and expanding the coverage of Active Labor Market Programs (ALMP) (by increasing funding from the Unemployment Insurance Fund and extending the beneficiary base to all registered unemployed). Government efforts in 2009 focused on responding to the negative effects of the global crisis on the labor market, leaving temporarily aside further labor market reforms. The two largest programs were short term wage subsidies and vocational training, which also provided stipends to trainees.
Generating more and better jobs requires reforms to make labor markets more dynamic while protecting workers, by reducing non-wage labor costs, restrictions on flexible contracting, and severance obligations (but ensuring workers are actually paid) and enhancing protection through UI and ALMPs.
51. A comprehensive employment strategy has been drafted, presented to the Council of Ministers and will be discussed with social partners in the coming months. The employment strategy shifts the protection from jobs to workers and includes measures to improve labor market flexibility and worker protection. The strategy has specific targets related to the quantity and quality of employment up to 2023 and is built around four pillars: (1) linking education and employment (including ALMPs); (2) labor market flexibility (including flexible contracting and severance pay reform); (3) support to women, youth and disadvantaged groups; and (4) strengthening the relationship between employment and social protection (including unemployment insurance). The 2011 Annual Program includes the preparation of the action plan by December 2011.
52. In the meantime, significant efforts to expand and improve ALMP are already underway. The Government continues increasing the coverage of ALMPs (the number of beneficiaries is expected to be around 400,000 in 2011, from just over 17,000 in 2006) and improve their quality and effectiveness. The national vocational qualification system, which links curricula and qualifications in vocational fields with occupational needs, continues to be developed: cooperation protocols have been signed for 571 occupational standards and 340 occupational standards have been prepared so far; 171 national occupational standards were published in the Official Gazette; testing and certification of competencies have started. Training providers will now be selected on the basis specific quality and performance criteria, not just
23 Workers qualify after one year of service, with payment of one month wages per year of service for qualifying separations (including separations for economic reasons, just cause discharge cases, and retirements), with no ceiling on number of years (but a ceiling on amount paid per year). 24 Despite the expansion of ALMPs in 2009, they only covered about 14 percent of registered unemployed in 2009. Coverage of unemployment insurance increased from 5.3 percent in October 2008 to 8.2 percent in March 2009 (the period in which unemployment increased the most), but it is still low for international standards. The combination of large numbers of unregistered workers, strict qualification rules and low benefits limit the effectiveness of unemployment insurance as an instrument to protect workers during economic downturns and beyond.
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cost. Through a partnership between ISKUR, MONE and the Unions of Chambers and Commodity Exchanges of Turkey (TOBB) a new project, “Specialized Vocational Course Centers Project” (UMEM), has been launched, which will provide quality vocational training to about 200,000 people per year in vocational and technical high schools and internships at TOBB businesses. A rigorous impact evaluation of ISKUR vocational training programs is underway: the baseline survey has been completed and evaluation results are expected in early 2012. Efforts are being initiated to activate social assistance recipients by linking benefit receipt to participation in ALMPs.
53. Some changes related to flexible contracting and the extension of the targeted subsidies to new hires are included in the new Omnibus Law (no. 6111) which was issued in the Official Gazette on February 25, 2011. The Omnibus Law extends the scope of the incentives regulated in 2008. For example, the Law extends the incentives to new hiring of women and youth (introduced with the 2008 package) until 2015 and reduces social security contributions for self-employed women. It also enables part-time workers to pay their unpaid social security contributions retroactively, and to be eligible for unemployment insurance. The law also reduces the disincentives for green card holders to look for jobs in the formal sector. While these changes are noteworthy, the important broader reforms included in the new Employment Strategy, which will be key to significantly improving labor market flexibility and worker protection, remain pending.
54. As the Government moves further along in its dialogue with social partners, it may consider a number of options to improve labor market flexibility and worker protection. Shifting the focus from protecting jobs to protecting workers requires reforming severance pay (to reduce payments, but also to make it more efficient and ensure workers are actually paid) and unemployment insurance (to make it the main instrument for protecting workers when they lose their jobs). Provisional Article 6 of the 2003 Labor Code (Law No. 4857) already provides for the creation of a severance payment fund, which can help achieve the goals stated above. At the same time, the details of the design and implementation of this planned reform will be crucial for its success. An increase in the coverage (by relaxing eligibility criteria) and benefits (with a gradual reduction in the rate over time so provide an incentive to find employment) of the current PAYGO unemployment insurance system would also achieve the second goal. The Government may also consider giving more emphasis to employment services (job placement, counseling, job search assistance), as international evidence shows they are more cost-effective than other ALMP and most effective screening device for identify individuals who require additional ALMPs. The cost of inaction far outweighs the difficulties of reaching an agreement on severance pay and flexible contracting reforms: keeping the existing rigidities would continue to contribute to limited job creation and high informality.
Improving education and skills
55. Increasing the quality of education while reducing inequalities are the main challenges of Turkey’s education system. Turkey has almost universal primary school enrollment (net enrollment of 98.4 percent in 2010/11) and has significantly improved secondary school enrollment (69.3 percent net enrollment rate in 2010/11), although enrollment varies by region and by gender within certain regions. However, enrollment rates in preschool and tertiary education (around 27 percent) remain low by international standards and vary by region and by
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gender within certain regions. Turkey has made significant progress in learning achievement, as measured by PISA scores, between 2006 and 2009 (Figure 5). Despite these gains, however, a high proportion of 15-year-olds in Turkey continue to perform below the most basic proficiency level in reading, math and science (24 percent, 42 percent and 30 percent, respectively), with significant differences by region, socioeconomic status and school type.
56. Improving skills for work requires a comprehensive reform package. The education debate in Turkey has turned to the issue of education quality: how to increase the number of young children who enter school ready to learn, improve the quality of learning outcomes, and link the education system with the demands of the labor market. Curriculum reforms in primary, and secondary and vocational education are advancing and, in the case of the new primary education curriculum, already producing noticeable results in terms of improved PISA scores. At the same time, substantial further change is still needed in financing, teacher training and human resource policies. An expansion of life-long learning opportunities will also be important, including second chance programs for working age individuals without the basic skills to be productively employed.
57. Investing in early childhood education is crucial for improving skills and reducing inequalities. Preschool enrollment is low in Turkey given the country’s income level and highly inequitable, with fewer opportunities for children from disadvantaged backgrounds. Development of the child during the early years (cognitive and non-cognitive skills as well as physical growth and well being) lays the foundation for future learning, work and life. Expanding and improving early childhood education would ensure all children, particularly those from disadvantaged backgrounds, enter school ready to learn, increasing subsequent education and labor market outcomes and providing equal footing to succeed in life. According to Bank simulations, one year of pre-school education would increase family incomes by 8 percent and reduce the percentage of poor families by 10 percent.25 In addition, expanded access to preschool would alleviate one of the main constraints to female labor force participation, which in turn would spur growth and reduce poverty.26
58. The Ministry of National Education (MONE) is working to increase preschool enrollment and achieve universal preschool education for 5 year-olds by 2014. In September 2009 MONE started an ambitious program to achieve two targets by the start of the school year 2014/15: (a) universal enrollment for kindergarten (students aged 60-72 months old); and (b) 50 percent participation for the pre-school years (students aged 36-60 months old). For the school
25 World Bank, 2009, Turkey: Expanding Opportunities for the Next Generation; and World Bank, 2011, Improving the Quality and Equity of Basic Education in Turkey: Challenges and Options. 26 World Bank, 2009, Female Labor Force Participation in Turkey: Trends, Determinants, and Policy Framework.
Figure 5: PISA Math Proficiency Levels of 15 Year Olds (percentage of students)
Source: PISA Results, 2009
0.0
5.0
10.0
15.0
20.0
25.0
30.0
Below Level 1
Level 1 Level 2 Level 3 Level 4 Level 5 Level 6
Turkey 2006 OECD Average 2006 Turkey 2009 OECD Average 2009
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year 2009/10, the program focused on 32 provinces with the highest gross enrollment rates—those with above 50 percent participation for kindergarten, because universal coverage could be attained more quickly than in other provinces as they did not need any new facilities. In these provinces enrollment of 5-year olds in kindergarten increased from 70 percent in 2009/10 to 93 percent in 2010/11. The program was successfully expanded to 25 new provinces at the beginning of the year 2010/11.
Ensuring long-term fiscal sustainability of the health and social security systems
59. The 2008 social security and universal health insurance reform has improved the social protection system and its long term fiscal sustainability. It provided a legal and institutional basis for providing access to health insurance for all citizens, and introduced significant adjustments to pension parameters (such as a gradual increase of the retirement age and contribution period and reduction of the accrual rate)27
60. The important administrative reform to unify the existing three social security schemes under the Social Security Institution (SSI) is at an advanced stage. One of the key goals of the social protection reform initiated in 2006 was to tackle the previous fragmentation of the social security system. Unifying social security regimes by merging the previously existing institutions had to go hand-in-hand with a wide-reaching and complicated administrative reform.
to increase long term sustainability of the public pension system. The reform law was enacted in 2006 (supported by PPDPL1), but the Constitutional Court then cancelled many provisions of this law shortly before it took effect. Necessary modifications were made in May 2008, and most provisions of the law took effect by October 1, 2008 (supported by PPDPL2). A significant part of the secondary legislation required for the enforcement of this law (No. 5510) has since been issued.
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27 The 2008 pension legislation will, inter alia, increase the retirement age in Turkey to 65, for both men and women, although the transition will be slow and the retirement age of 65 will not be fully reached until 2070. The reform also reduced the benefit accrual rate, which has been traditionally high in Turkey, closer to internationally fiscally sustainable norms of 1.5 percent of benefit per year of contribution. The reform also gradually revises the averaging period for wages used in pension calculation to lifetime career average wages; and the revaluation of past earnings has been reduced. Post-retirement, the law moves the indexation of pensions from wage-growth linked to inflation linked.
SSK (Social Security Institution for Workers in the Old System), Bag-Kur (Social Security Institution for Self Employed in the old system, BK) and Emekli Sandigi (Social security Institution for the Civil Servants in the old system, ES) were legally merged within SSI in 2006. Progress has been made since then to effectively unify SSK, BK and ES under SSI both in terms of personnel and IT systems. All staff now works under the same institutional structure, with unified human resource management. Significant efforts have been made since 2008 to integrate separate databases and the conversion of remaining manual records into electronic form. The 2008 Social Security Decision Support System Project created an interface between the databases of three social security institutions, allowing reports to be produced across these databases based on unique citizen identification numbers. The recently initiated Social Security Integration Project is designing a new system to fully integrate data systems and applications, including the creation of a single database. SSI has also implemented a number of operational
28 See for further details: Second Programmatic Public Sector Development Policy Loan (PPDPL 2), Report No. 43473-TR, May 17, 2008
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improvements during 2010 in areas such as document and archive management, electronic data transfer from other institutions, and on-line data entry.
Table 5: Social Security Institution Balance, 2006-2010 (Percent of GDP) 2006 2007 2008 2009 2010 Budgetary Transfers 3.0 3.9 3.7 5.5 5.0
Health and pension deficit of the SSI1 2.9 3.2 3.6 4.4 3.9
Deficit Financing 2.9 3.2 3.4 3.3 2.5
State Contribution (monthly deficit financing based on previous month’s deficit)2 0.0 0.0 0.2 1.1 1.4
Other subsidy or social assistance related deficit 0.6 0.9 0.8 1.3 1.2
memo item: Public sector health expenditures 4.0 4.1 4.5 4.8 4.6
1 2006, 2007,2008, 2009, and 2010 data excludes revenue collection from amnesty – TL 3.7 billion, TL 1.5 billion, TL 6.7 billion, TL 1.7 billion and TL 0.1 billion, respectively. 2 Since the state contribution was introduced with Law No. 5510 on October 1, 2008, data include three months of state contribution in 2008. Source: SPO, Undersecretariat of Treasury Statistics, SSI and World Bank Analysis
61. Despite these reforms, health and pension expenditures, may still pose a challenge to public finances (Table 5). The combined health and social security deficit increased steadily between 2006 and 2009, although until the global economic crisis SSI expenditures and revenues had grown roughly in line with the number of beneficiaries and active contributors. In 2009, there was a sharp deterioration with nominal expenditures tracking inflation and thus rising as a share of GDP while nominal revenues remained flat (with the nominal increase from inflation approximately offset by the real effects of the GDP contraction). Although the 2008 reform improved the long term fiscal sustainability of pensions, significant deficits are still expected to persist in the near future. Total public health expenditures (SSI expenditures plus central government health expenditures) as a percentage of GDP have increased by 21 percent since the introduction of the Health Transformation Program (HTP) in 2003. These trends are explained by a number of factors: increased health expenditures (partly related to the increased coverage); a limited impact of the 2008 pension reform in the short to medium term (due in part to the slow phasing in of parametric changes); a significant increase in pension beneficiaries prior to the 2008 reform; a TL 60 increase in the minimum pension in 2010; and the lasting impact of the crisis on the social security deficit (through reduced contributions).
62. Progress towards universal health insurance is one of the many achievements of HTP since 2003. Turkey has achieved near universal health insurance coverage, improving equity in access to health care nationwide, an agenda that has been supported by both the PPDPL and REGE-DPL operations. Increased access to and utilization of health services have been possible thanks to the expansion of the Green Card Program and the introduction of family medicine in 2004. Patient satisfaction has also increased substantially (from 69 percent in 2004 to 86 percent in 2008 among family medicine provinces). These gains in access and quality of services have translated into significant improvements in health outcomes: maternal mortality fell from 29 deaths per 100,000 live births in 2005 to 19.4 deaths in 2008 (already meeting the MDG goal on maternal mortality), and infant mortality decreased from 25 deaths per 1,000 live births in 2005 to 17.0 in 2008. Life expectancy at birth in 2008 at 73.6 years stood at 92.8 percent of the OECD average, compared with 71 percent in 1960.
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63. Continued increases in coverage along with Turkey’s demographic, epidemiological and nutrition transitions will put considerable pressure on health costs. Public health expenditures have grown from 3.8 percent of GDP in 2003 to an estimated 4.6 percent of GDP in 2010. The further expansion of the system and the planned equalization of benefit packages will drive up costs, while the potential efficiency gains of family medicine will take some time to be realized. There are also several external factors that will affect future demand for health services and thus health expenditures in the medium to long term. While still relatively young, the Turkish population will age faster than many of its OECD counterparts. Disease patterns are changing and non-communicable diseases are increasingly becoming the predominant causes of death and disease. Demographic and epidemiological changes as well as increased demand for new technologies will exert significant pressures on health costs. These external and internal cost pressures need to be counterbalanced by efficiency-enhancing reforms now to ensure the long term fiscal sustainability of the public health system.
64. Measures to date to contain health expenditures have had mixed results. The 2006 introduction of “bundled” pricing for outpatient visits by SSI to control excessive itemized billing in an open fee-for-service environment did not adequately control volume, thus having little impact on health expenditures. In 2007, a fixed global budget for all Ministry of Health (MOH) hospitals was implemented and to date this has been successful in containing further spending growth in these hospitals. The claims management system too was unified and now all hospitals report through SSI’s Medical Messenger (MEDULA) system which can verify claims and reduces fraud, thus increasing efficiency. Reduction in pharmaceutical prices has resulted in a decline in pharmaceutical spending as a percentage of SSI health expenditures, although at 42 percent in 2010 these still remains high compared with other Middle Income Countries (MIC), mainly due to the high volume of prescriptions, with the consumption of antibiotics being a particular problem. In July 2008, extra-billing by private hospitals was capped at a maximum of 70 percent above the price charged by SSI. A co-payment of TL 15 was also introduced for outpatient visits to private health facilities, while the commensurate amounts for university and MOH facilities was set much lower (at TL 8), and the prices of certain high volume procedures such as cataracts and cesarean sections were reduced.
65. New measures to control health costs have been important in controlling health spending. Since October 2009, increased co-payments for outpatient visits apply and this has resulted in TL 1.2 billion in savings in 2010. Rates are TL 8 for university and MOH hospitals and TL 15 for private hospitals. A TL 2 co-payment for all primary health care was also introduced in 2009 but the co-payment for family medicine was cancelled by the State Council (Danistay) in May 2010. To reduce over prescription, a TL 3 discount applies at university, MOH and private hospitals if no medicine is prescribed. Supplementary billing caps too remain in place. In 2010, the Government successfully imposed spending limits for university and private hospitals – and these have been extended in the 2011 budget. While pharmaceutical spending declined between 2009 and 2010, maintaining the spending limit for pharmaceuticals has not been particularly successful: drug expenditures in 2010 (TL 15.2 billion) were above the global budget (TL 14.6 billion), but SSI introduced an additional 9.5 percent discount on drug prices to meet the global budget for 2010.
66. Going forward, key measures to improve health care finances include strengthening of health expenditure management and measures to enhance the efficiency of health
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spending. Expansion of family medicine without further refinement of the capitation system to emphasize cost-effectiveness would create fiscal concerns. Efficiency gains in the health system can be achieved through appropriate provider payment systems and the application of controls to the benefits package. By June 2011, all MOH hospitals are expected to be paid using Diagnosis Related Groups (DRGs) within the global budget for MOH hospitals. Introducing DRGs has several benefits: (i) it increases transparency by enabling comparison of costs, efficiency and quality across hospitals; (ii) it pays providers fairly for their services; and (iii) it discourages unnecessary care thus ensuring provision of efficient and appropriate care. The next step is for SSI to extend DRGs to university and private hospitals while maintaining spending caps. More can also be done to improve efficiency in the pharmaceutical sector, in addition to introducing spending caps. Options include limiting reimbursement to the most commonly used generics, creating conditions for more price competition in the generic market, and developing a more structured mechanism for introduction of new drugs.
Enhanced Public Financial Management (PFM)
67. The Government has established a successful track record of Public Financial Management (PFM) reform in Turkey. Reforms are ongoing in line with the Government’s timetable. Medium- term macro and fiscal frameworks have been prepared and implemented since 2006, and they provide budget ceilings for the central government institutions. Significant progress has also been made in integrating strategic management into public sector management. Central government institutions and local administrations with populations above 50,000 have completed strategic plans. Likewise, an increasing number of public institutions are completing performance programs.
68. Downstream budget areas such as internal control and audit remain critical areas for further reform and reform implementation. The Government completed a Public Financial Management Performance (PFMP) benchmarking study (jointly with the Bank) in March 2010, using the Public Expenditure and Financial Accountability (PEFA) framework.29
69. Implementation of the new Turkish Court of Accounts (TCA) Law enacted in December 2010 will be central to effective PFM and control. The new law redefines the audit scope, the types of audit mandated, and the organizational structure of the TCA. The law has expanded the audit mandate of TCA to cover the entire public sector and introduces financial and performance audits in line with international standards (beyond the compliance audit currently undertaken). The annual audit program will be selective and based on risk, size, and other criteria. Finally, the law foresees major changes in the Court’s organizational structure,
Reforms such as upgrading the legal and institutional framework, the introduction of medium-term planning and budgeting, new budget definitions and classification, the elimination of off-budget activities, are reflected in strong ratings. Areas of improvement in downstream budget issues, such as internal control and audit systems, a complementary external audit function, and commitment monitoring, are now challenges.
29 PEFA is a partnership between the World Bank, the EC, the UK Department for International Development, the Swiss State Secretariat for Economic Affairs, the French Ministry of Foreign Affairs, the Royal Norwegian Ministry of Foreign Affairs, and the IMF. PEFA aims to support integrated and harmonized approaches to assessment and reform in the field of public expenditure, procurement and financial accountability. Additional information on the PEFA methodology is available in www.pefa.org.
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to help implement the new PFM framework, including the merger of the State Audit Board (responsible for the audit of state owned enterprises) and the establishment of two new vice-presidencies, one specifically responsible for audit function.
70. The Law on Monitoring and Supervision of State Aids enacted in October 2010 introduced a new legal and institutional framework for state support to both public and the private sector. The new Law aims to ensure the compatibility of state aids with the related provisions of the agreements and decisions between Turkey and the European Union by laying the framework, guidelines and principles. Enactment of the law is a key step to the opening of the Competition Chapter of the EU Acquis. Apart from ensuring the compatibility of state aids to EU rules, since the Law provides for the collection of implementation results from the aid granting institutions for the purpose of making necessary notifications to EU and other relevant authorities, it will also bring about the measurability of total cost to public by requiring the quantization of all aids granted in varying forms including tax measures. Consequently, its implementation is expected to improve fiscal transparency and the effectiveness of public expenditures, while clarifying and leveling the playing field for the private sector by regulating the framework rules and conditions on state supports to eliminate the distortion of competition.. The new Law also provides for monitoring and transparent disclosure of state aids programs and their impact and effectiveness.
IV. BANK SUPPORT TO THE GOVERNMENT PROGRAM
LINK TO CPS
71. The proposed REGE-DPL2 forms part of the World Bank Country Partnership Strategy (CPS) for FY2008-11, which was endorsed by the Executive Board on February 28, 2008. Through the CPS, the Bank Group is a partner with Turkey in realizing the country’s development vision—fast and sustained growth with equity—through full integration with Turkey’s development strategy. Accordingly, the CPS is shaped directly by Turkey’s Ninth Development Plan and by the Government’s program: it aims to contribute to three of the Plan’s development pillars: (i) improved competitiveness and employment, (ii) equitable human and social development, and (iii) efficient provision of high-quality public services.
72. A CPS Progress Report, endorsed by the Executive Board on January 7, 2010, summarizes adjustments to the CPS agreed between Turkey and the World Bank Group to reflect global developments and evolving country priorities. The Progress Report envisaged that the resulting program for the remainder of the CPS period would focus on areas crucial for renewed growth: stimulating private sector, especially small and medium enterprise (SME), business and job creation; sustainable energy and infrastructure; and human capital and social protection of the most vulnerable groups.30
30 IBRD and IFC will accelerate financing to the private sector, especially SMEs. The updated CPS program also envisages enhanced Bank AAA and financing for human and social development, including social and poverty monitoring, jobs, and vocational training. Finally, as Turkey has set out to strengthen its contribution to local and global environmental sustainability, the Government and the Bank plan to broaden the electricity DPL program to include energy efficiency, climate change, and environmental sustainability.
The agreed adaptation of the CPS program includes the REGE-DPL and proposed REGE-DPL2, in support of a program that combines the continuation of Turkey’s fiscal and public-sector reform agenda (supported by the earlier PPDPL
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1 and PPDPL 2 operations) with the private sector development agenda (supported by the earlier CEDPL and CEDPL 2 operations).
73. The proposed REGE-DPL2 amount of USD 700 million equivalent is consistent with the CPS and the increase in IBRD financing agreed in the CPS Progress Report. In light of the impact of the financial crisis, the Turkish authorities and the Bank agreed to raise the total amount of new IBRD commitments during the FY08-11 CPS period to up to USD 8.1 billion, including USD 4.4 billion in DPL financing.
COLLABORATION WITH THE IMF AND OTHER DEVELOPMENT PARTNERS
74. The Bank and the IMF are coordinating and working together closely on Turkey. The IMF’s most recent Stand-By Arrangement for Turkey was completed successfully in May 2008. IMF Staff completed its most recent post-program monitoring mission in December 2010. Topics on which the Bank and Fund staffs have collaborated include the assessment of developments in the health and social security systems, energy pricing, and local administration finance. Bank staff regularly provides the Fund team with analyses of the business and investment climate, labor market and employment developments, social security, health, and education systems and policies, poverty simulations, and energy sector developments and policies. IMF staff regularly share macroeconomic projections and the detailed fiscal assessments of Fund staff have informed the Bank’s own views of the MTP.31
75. The European Commission and the World Bank recently launched a new initiative seeking to increase opportunities for synergies in working with the Turkish authorities. The scope of the collaboration includes the European Bank of Reconstruction and Development (EBRD) and European Investment Bank (EIB). Possible areas for collaboration include food safety, energy sector reforms, and public administrative reform. Bank staff also holds regular consultations with staff from EIB, which has an active portfolio in Turkey including areas of common interest such as energy and agriculture, and EBRD, which has recently opened an office in Istanbul.
76. The World Bank also maintains close dialogue and collaboration with UNICEF and UNDP in Turkey. Recent surveys into the impact of the economic slowdown in Turkey at the household level were conducted jointly with UNICEF (as well as with TEPAV). The Bank is also working together with the German Development Bank, Kreditanstalt für Wiederaufbau Bankengruppe (KfW) and UNDP in providing technical assistance to industry and financial intermediaries for energy efficiency investments. The Undersecretariat of Treasury plays an active role in donor coordination.
RELATIONSHIP TO OTHER BANK OPERATIONS
77. The proposed operation is a follow-on operation to the REGE-DPL, and in common with that operation, (1) continues the reform program supported by the programmatic Public Sector DPL series; and (2) incorporates and builds on key reforms from the completed programmatic Competitiveness and Employment DPL series. The Program
31 Bank-Fund collaboration is outlined in a joint letter to files dated August 24, 2010.
30
Document for REGE-DPL describes in detail how the REGE-DPL series relate to the past PPDPL and CEDPL series.
78. REGE-DPL2 complements related investment lending. In health and social protection, the Health and Social Security Adaptable Program Loans support investments in the family health system and technical and administrative improvements in SSI, important components of Turkey’s model for financially sustainable, universal access to healthcare and social security. In private-sector development, the policy measures supported by the proposed program complement the Bank’s lending to SMEs and exporters through its credit line facilities.32
79. The proposed program is complemented by a programmatic series of DPLs focusing on environmentally sustainable development and the energy sector. The first loan in this series was approved by the Board on June 11, 2009; the second (ESES-DPL2) was approved by the Board on June 15, 2010.
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LESSONS LEARNED
A third loan in this series is under preparation.
80. The proposed design draws on several World Bank evaluations. The proposed program supported by the DPL series reflects lessons from the recent 1993-2004 Country Assistance Evaluation for Turkey,34 the Country Assistance Strategy (CAS) FY04-FY07 Completion Report,35 as well as the recent review of World Bank conditionality.36
81. The CAS Completion Report recommended that the Bank Group’s future assistance program should envisage greater support for private sector development. The current and planned future operation are at the heart of the Bank’s strategy for Turkey in that respect, including a comprehensive package of reforms targeting an improved competitiveness environment for firms. It also supports labor market reforms intended to increase labor force participation rates for women and youth which, according to the Poverty and Social Impact Assessment carried out for CEDPL 2, would particularly benefit poorer households. The Completion Report also singles out the importance of combining high quality analytical work with policy-based lending. The proposed operation rests on a large volume of high-quality analysis, carried out by bank staff in partnership with government organizations, as well as by other institutions (see Analytical Underpinnings below).
Conclusions of these reports include the importance of full ownership by government as well as full integration into a government reform program.
82. The design of the proposed program reflects the experience in Turkey that medium-term structural and institutional reforms are best supported through a programmatic series of two or more operations. Indicative triggers for the future operation reflect the government’s own reform priorities as discussed in the Development Plan, the MTP, and in 32 Third and Fourth Export Finance Intermediation Loans (EFIL); Access to Finance for SMEs. 33 Programmatic Electricity Sector Development Policy Loan (PEDPL), Report No. 46050-TR, May 18, 2009. Second Environmental Sustainability and Energy Sector Development Policy Loan (ESES DPL2), Report No. 54497-TR, May 14, 2010. 34 The World Bank in Turkey, 1993-2004: An Independent Evaluation Group (IEG) Country Assistance Evaluation, Report No. 36584, June 9, 2006. 35 Country Assistance Strategy Report for The Republic of Turkey, Report No. 33995-TU, November 8, 2005. 36 Conditionality in Development Policy Lending, Report No. 41581, November 15, 2007
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many cases legislation either before parliament or under preparation by the relevant ministries. The authorities have consistently expressed their preference for programmatic lending encompassing the broad array of reform areas they are pursuing. Finally, an important feature of such lending is the appropriate flexibility in defining indicative triggers for the next operation. While the authorities have a well-defined set of planned actions and planned timing, the actual feasibility of each reform step in a given period depends on many factors outside their control. Past experience, in particular with the CEDPL series, points to a trade-off between ambition and realism in follow-up triggers; the ambition of the PPDPL/REGE-DPL series thus reflects strong government ownership and agreement with the authorities about the importance of the reforms. Furthermore, the experience with the PPDPL series (which built on the earlier three-loan Programmatic Financial and Public Sector Adjustment Loan series spanning 2001-04) suggests that prolonged engagement, maintaining commitment to key reform areas over time, delivers results.
83. A further lesson from programmatic lending to Turkey is the importance of continuity in program design, mirroring the government’s rolling MTP. The Bank supports the government’s own rolling program and thus mirrors the continuity of this plan in DPL programs. Most Analytical and Advisory Activities (AAA) and financing follow this programmatic approach. Consistently pursuing pending reforms over many years has proven critical in several key areas, such as social security reform, disaster management, and energy.
ANALYTICAL UNDERPINNINGS
84. In its 2008 Country Economic Memorandum (CEM),37
85. The PFM agenda supported by the proposed operation is rooted in ongoing programmatic ESW (Programmatic Public Expenditure Review and Financial Management Study). In collaboration with the steering committee of the PPER, a World Bank team recently completed (March 2010) the PFMP benchmarking exercise, based on the PEFA methodology. The benchmarking found a high level of performance in central, “upstream” PFM functions with room to enhance impact in decentralized and “downstream” functions, for example including line agency audit and control functions. Under the PPER, a transport sector expenditure review is being undertaken jointly with the government.
the World Bank, in partnership with the Undersecretariat of Treasury completed a wide-ranging assessment of the challenges to sustaining Turkey’s high rates of growth since 2002. Key areas emphasized in that study were structural fiscal reforms, PFM, investment climate reforms, and employment regulations. The study reaches conclusions that are consonant with other international studies of the Turkish economy, notably the annual progress report of the EC and the 2008 country survey carried out by the OECD. In an upcoming 2011 Country Economic Memorandum the World Bank is analyzing factors that could help improve Turkey’s low savings rate.
86. Ongoing work with the authorities and several studies of the business environment inform the policies supported by the proposed operation. Recommendations for improvements in the investment climate are grounded in the recent ICA (2010),38
37 Turkey Country Economic Memorandum, Sustaining High Growth: Selected Issues, Report No. 39194-TR, April 10, 2008.
“Doing
38 Turkey: Investment Climate Assessment, Report No. 54123-TR, 2010.
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Business” surveys,39 and BEEPS. A recent study of innovation policy in Turkey underpins parts of the investment climate analysis. A financial sector assessment was completed in September 2007 and its successor was fielded in March 2011.40
87. A broad range of major analytic work has informed the policy dialogue on employment and skills—including a comprehensive labor market study in 2006,
41 a study of labor taxes in 2008-09,42 programmatic studies of informal employment,43 female labor force participation,44 and youth unemployment.45 A study is underway, to be completed by June 2011, looking at labor market through the crisis and recovery. Two recent studies look at the quality and inequalities of basic education and early childhood education.46 A study will be completed by June 2011 looking at options to expand and improve early childhood education. Health sector policy recommendations are based on a comprehensive sector study with the OECD47
V. THE PROPOSED SECOND RESTORING EQUITABLE GROWTH AND EMPLOYMENT DEVELOPMENT POLICY LOAN (REGE-DPL2)
and subsequent work.
OPERATION DESCRIPTION
88. The objective of the program supported by the REGE-DPL2 is to support equitable growth and job creation by advancing critical business climate and broader competitiveness reforms, while carrying forward Turkey’s public expenditure reform agenda with a focus on the delivery of inclusive social programs at sustainable cost. The operation is based on Turkey’s program embodied in the Ninth Development Plan and the MTP, the CPS, the 2009 CPS Progress Report, and extensive analytical work.
89. REGE-DPL2 is the last of four development policy lending operations executed sequentially. It builds on the reform program defined in the First Restoring Equitable Growth and Employment DPL (REGE-DPL), which took forward the ongoing public sector reform agenda supported under the Programmatic Public Sector (PPDPL) series (REGE-DPL and REGE-DPL2 are follow-up operations to this series). REGE-DPL also carried forward critical pending reforms from the Competitiveness and Employment (CEDPL) series, which was closed and evaluated in an Implementation and Completion Report in 2010.48
39 Doing Business 2011: Making a Difference for Entrepreneurs, World Bank, IFC and Palgrave MacMillan (2010).
40 Turkey Financial Sector Assessment Program (FSAP), Report No. 41137, September 1, 2007. 41 Turkey Labor Market Study, Report No. 33254-TR, April 14, 2006. 42 Estimating the Impact of Labor Taxes on Employment and the Balances of the Social Security Funds in Turkey, Report No. 44056-TR, April 2009. 43 Turkey Country Economic Memorandum, Informality: Causes, Consequences, Policies, Report No. 48523-TR, June 29, 2009. 44 Female Labor Force Participation in Turkey: Trends, Determinants, and Policy Framework, Report No. 48508-TR, November 2009. 45 Investing in Turkey’s Next Generation: The School-to-Work Transition and Turkey’s Development, Report No. 44048-TR, June 2008. 46 Turkey: Equality of Opportunities and Early Childhood Development, Report No. 48627-TR, February 2010. 47 OECD: Reviews of Health Systems, Turkey, OECD and IBRD/World Bank, 2008. 48 Technically, the REGE-DPL2 is defined as the fourth operation of the PPDPL series. See Programmatic Public Sector Development Policy Loan (PPDPL), Report No. 36274-TR, June 5, 2006; Second Programmatic Public
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90. Like REGE-DPL, which focused primarily on crisis response, the proposed REGE-DPL2 contains two pillars: “Equitable Growth and Employment” and “Fiscal Management”. With the transition from crisis management to renewed growth, the implementation of the pre-crisis business climate reform agenda has resumed, which will enhance competitiveness and facilitate job generation. The equitable growth and employment pillar supports reforms in the business climate and selected improvements to education and training. The fiscal management pillar supports key reforms in the provision of inclusive social services with a specific focus in REGE-DPL2 on reining in health costs. REGE-DPL2 takes forward reforms in PFM by supporting the enactment of the Turkish Court of Accounts and the state aids legislation, both aimed at improving transparency and accountability.
91. The main objective of the PPDPL/REGE-DPL supported Program remains unchanged. The Authorities are committed to the full implementation of the overall reform program as set out to the Board of Directors on February 24, 2010. The program matrix has been adapted to reflect country circumstances and recent developments as well as evolving priorities as follows—with three prior actions added, three dropped, and two modified (see also Table 6):
a. The enactment of the Law on Monitoring and Supervision of State Aids is being added as a prior action. Its enactment further advances the public expenditure and financial management reform agenda by regulating monitoring and supervision mechanisms for the design and implementation of state aids, while also clarifying and leveling the playing field for both public and private sector firms. The enactment of this law was discussed at the time of PPDPL2 as a trigger for PPDPL3, but was not included in REGE-DPL because it focused on addressing the impact of the global economic crisis. The new Law aims to ensure the compatibility of state aids with the related provisions of the agreements and decisions between Turkey and EU by laying the framework, guidelines and principles. Enactment of the Law is a key step to the opening of the Competition Chapter of the EU Acquis. Apart from ensuring the compatibility of state aids to EU rules, since the Law provides for collection of implementation results from the aid granting institutions for the purpose of making necessary notifications to EU and other relevant authorities, it will also bring about the measurability of total cost to public by requiring the quantization of all aids granted in varying forms including tax measures. Consequently, its implementation is expected to improve fiscal transparency and the effectiveness of public expenditures, while clarifying and leveling the playing field for the private sector by regulating the framework rules and conditions on state supports to eliminate the distortion of competition. The new Law also provides for monitoring and transparent disclosure of state aids programs and their impact and effectiveness.
b. The enactment of the new Code of Obligations is added as a new prior action. The new Code of Obligations is an essential complementary step in the effective
Sector Development Policy Loan (PPDPL 2), Report No. 43473-TR, May 17, 2008; and Restoring Equitable Growth and Employment Programmatic Development Policy Loan (REGE-DPL), Report No. 51062-TR, Feb. 24, 2010. See also Competitiveness and Employment Development Policy Loan (CEDPL), Report No. 39826-TR, June 1, 2007; Second Programmatic Competitiveness and Employment DPL (CEDPL 2), Report No. 46436-TR, Nov. 13, 2008. The CEDPL series was closed and evaluated by an Implementation Completion and Results Report in 2010, Report No. ICR1443, April 29, 2010.
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implementation of the Commercial Code, and covers a key aspect of commercial activity, namely the implementation and enforcement of private contractual obligations.
c. The enactment of the Civil Procedures Law is also added as a new prior action. The new law provides another leg supporting the proper implementation of the Commercial Code. The 2010 ICA report states that administrative justice and judicial review remain one of the most challenging areas of the business climate. This law, replacing legislation dated from 1927, aims to reduce court workloads and the corresponding burden on business. The enactment of this law been was envisaged in PPDPL2 to be a trigger for PPDPL3, but was eventually not included in REGE-DPL because it focused on addressing the impact of the global economic crisis.
d. REGE-DPL included a REGE-DPL2 trigger on the implementation of a fiscal rule, which has been dropped. A fiscal rule had been viewed as a possible way to shore up investor confidence in longer-term economic management. A draft rule prepared in 2010, and submitted to Parliament, targeted a long-term overall budget deficit ratio of 1 percent of GDP and intended to bring down gradually the gross public debt-to-GDP ratio to below 30 percent. Subsequently, however, the Government declared that the Fiscal Rule Law will not be pursued and that the medium-term program will remain the key anchor of fiscal policy. The fiscal targets in the MTP for 2011-13 converge towards a medium-term 1 percent target, in line with what the fiscal deficit adjustment formula in the draft rule would have implied. To date, even without adoption the fiscal rule by law, investors and financial markets have reacted positively to the Government’s Medium-Term Program and 2011 Budget, as is also reflected in the earlier mentioned rating and outlook upgrades by rating agencies (see paragraph 33).
e. In the area of labor market reform, although policy reform is advancing, the initial REGE-DPL2 trigger “Reform measures taken to increase labor market flexibility and worker protection” has been dropped. A comprehensive employment strategy has been drafted, presented to the Council of Ministers and will be discussed with social partners in the coming months. However, because of the sensitivity of the reforms under consideration, these discussions will still take time (with the election in June 2011 and the set up of the new Government, the employment strategy is not expected to be approved before the end of 2011). As envisaged, the strategy shifts the protection from jobs to workers, and includes measures to improve labor market flexibility and worker protection. The Government’s 2011 Annual Program includes the preparation of the Action Plan for the Strategy, which gives an indication on the strong commitment of the Government in pursuing the labor market reform. While the labor market flexibility parts of the employment strategy are being discussed among key stakeholders, other parts related to ALMPs have been partially moved forward in the context of the recently enacted Omnibus Law. While the measures in the Omnibus Law are noteworthy, the important broader reforms included in the new Employment Strategy, which will be key to significantly improving labor market flexibility and worker protection as was envisaged in REGE-DPL, remain pending. The cost of inaction far outweighs the difficulties of reaching an agreement on severance pay and flexible contracting reforms: keeping the existing rigidities would continue to contribute to limited job creation and high informality.
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f. REGE-DPL included a REGE-DPL2 trigger on the enactment of a new Capital Market Law, which has been dropped. The Government’s agenda to support the corporate governance precepts outlined in the new Commercial Code—and thus promote capital investment and growth prospects—includes the adoption of a new Capital Market Law. The Capital Markets Board (CMB) is planning to send a new Capital Market Law, that is expected to help promote the transparent and orderly growth of capital markets, to the Prime Ministry later this year, based on the principles of corporate governance outlined in the new Commercial Code, which was only recently enacted49
g. The REGE-DPL2 trigger in the area of improving the quality and employment impact of vocational training has been partially amended. The launch of a rigorous evaluation of the effectiveness of ISKUR programs in the context of the expansion of training services has been implemented as envisaged: the baseline survey has been completed and evaluation results are expected in early 2012. Moreover, training providers will now be selected on the basis of specific quality and performance criteria, not just cost, a measure which will also be supported under REGE-DPL2. The overall performance-based management information (PMIS) is under development.
, The drafting of the Law is also taking on board key recommendations emerging from the current post-crisis discussion on enhanced global supervisory and regulatory standards. The law will reflect the results of a twinning project with the German financial regulator, on harmonizing regulations with the EU Acquis on capital markets.
h. The prior action relating to pre-school education has been strengthened as the expansion of pre-school education to new provinces has been faster than anticipated. Pilot implementation of preschool education expanded to 25 (rather than 13) additional provinces and progress reports have been completed by all 32 pilot provinces.
49 The Commercial Code will enter into force on July 1, 2012 whereas some provisions of the Code will take effect as of January 1, 2013.
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Table 6: Summary of Developments on Proposed Triggers since REGE-DPL REGE-DPL2 Trigger at the Time of REGE-DPL Approval (March 2010)
REGE-DPL2 Prior Action (February 2011)
Explanation/ Status
PILLAR 1: Equitable Growth and Employment Establishment of a performance-based management system for ISKUR programs and launch of an evaluation of the effectiveness of ISKUR programs in the context of the expansion of training services
Introduction of a system for evaluating providers of training on the basis of quality and has launched an evaluation of the effectiveness of ISKUR (Turkish Employment Agency) programs in the context of the expansion of training services.
Amended and completed. The overall performance-based management information (PMIS) is under development, but a new quality-based system for evaluating and selecting training providers (part of PMIS) has been introduced. Impact evaluation study has been launched and baseline data collected.
Enactment of the new Commercial Code
Enactment of the new Commercial Code broadly aligned with the provisions of the EU Acquis on commercial matters.
Completed.
Reform measures taken to increase labor market flexibility and worker protection
Prior action dropped. Turkey enacted some measures to encourage flexible contracting and employment of youth and women in the Omnibus law enacted in February 2011. However, the broader and deeper reforms envisaged at the time of REGE-DPL remain pending.
Enactment of the new Capital Market Law
Prior action dropped. The CMB is planning to send a new Capital Market Law that is expected to help promote the transparent and orderly growth of capital markets to the Prime Ministry later this year based on the principles of corporate governance outlined in the new Commercial Code.
Enactment of the new Code of Obligations governing the implementation and enforcement of private sector contractual obligations.
A new prior action added. Completed. Part of broad program of CEDPL/REGE-series, although not originally a trigger for REGE-DPL2.
Enactment of the new Civil Procedure Code aiming to reduce court workloads and the corresponding burden on business.
A new prior action added. Completed. Originally discussed in the context of PPDPL3, although not an original trigger for REGE-DPL2.
Pilot implementation of preschool education expanded to 13 additional provinces and progress reports completed by all 32 pilot provinces
Expansion of preschool education to an additional 25 provinces and completion of progress reports on preschool education in the 32 pilot provinces.
Completed. Expansion to new provinces has been faster than originally anticipated.
PILLAR 2: Fiscal Management Implementation of the Law reforming the administrative dimensions of social security, including the merging of data and IT systems of three social security systems
Continued implementation of the Social Security Institutional Law, inter alia, by integrating data and information technology systems of the previous three social security systems through the full operationalization of a database interface.
Completed.
Implementation of global Continued implementation of global Completed. No substantive change.
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REGE-DPL2 Trigger at the Time of REGE-DPL Approval (March 2010)
REGE-DPL2 Prior Action (February 2011)
Explanation/ Status
budgets for university and private hospitals
budgets for the Ministry of Health hospitals, and spending limits in university and private hospitals through the 2011 budget.
Enactment of legislation of an effective fiscal rule consistent with the concurrent Medium Term Plan
Prior action dropped. Fiscal rule legislation considered by Parliament but not enacted. The sixth Medium-Term Fiscal Plan (MTFP) and Medium Term Program (MTP) now anchor fiscal targets, with a 1 percent deficit target by 2013.
Enactment of the TCA Law Enactment of the Turkish Court of Accounts Law supporting the accountability framework set out in the Public Financial Management and Control Law and redefining the audit scope, the types of audits mandated and the organizational structure of the Turkish Court of Accounts.
Completed.
Enactment of the Law on Monitoring and Supervision of State Aids regulating monitoring and supervision mechanisms for the design and implementation of state aid.
A new prior action added. Completed. Originally discussed in the context of PPDPL3, although not an original trigger for REGE-DPL2.
92. The program supported by the proposed REGE-DPL2 is expected to have positive fiscal impact. The cost of measures supported by the REGE-DPL2 is small and outweighed by the (less easily quantifiable) fiscal benefits of restraining spending in the health and social security systems alone. Two prior actions have potential fiscal costs. The World Bank estimates that the expansion of the coverage of ISKUR vocational training programs are estimated to have cost about TL 300 million in 2010 (covered by the unemployment insurance fund). The expansion of pre-school education is estimated to have cost TL 240 million in 2010. The total cost of these two measures is therefore about 0.05 percent of GDP. By comparison, the fiscal adjustment associated with central government health spending is significantly larger. The introduction of co-payments alone has generated about 0.10 percent of GDP in savings in 2010. The health sector spending caps, which are generally set at previous year’s spending levels and being met, also seem to have some impact.
POLICY AREAS
PILLAR 1: Equitable Growth and Employment
93. REGE-DPL took forward the agenda supported by the CEDPL series with a focus on measures in response to the global crisis, while REGE-DPL2 is focusing on the longer term business climate and education reforms. This component of the program supports implementation of the business climate and employment generation, including selected improvements to vocational and basic education. With the transition from crisis management to renewed growth, progress under this part of the program has resumed, and includes the
38
enactment in early 2011 of the new Commercial Code, the Code of Obligations, and the Civil Procedures Law. Since many of the key reforms under this pillar of the program are being supported by REGE-DPL2, it is too early to measure results linked to some of these key measures.
1.A Private Sector Led Growth and Job Creation
94. The ultimate objective of this component of the program is to enhance competitiveness and job creation. The unemployment rate has already fallen to around 11 percent, after peaking at around 16 percent in February 2009, and down from a 2005 base level of 10.6 percent. Credit to SMEs as a share in total credit rose from 21 percent in 2009 to 23.8 percent in 2010. The impact of the preschool expansion will be measurable through preschool enrollment rates in the pilot provinces, which have already jumped from 71 percent to around 93 percent in the first 32 provinces targeted. Vocational training has reached around 210,000 trainees by end 2010. In addition, the expansion of ISKUR services and improvements to its monitoring and performance management system has already translated into increased rates and numbers of trainees placed in lasting employment.
95. The specific measures are:
Improving climate for business growth and job creation
• A law for the establishment of Regional Courts of Appeal has been enacted (PPDPL2) • On-line connections among courts have been established (PPDPL2) • Amendment to customs law to streamline customs procedures (REGE-DPL) • Enactment of the new Civil Procedure Code aimed to reduce court workloads and the
corresponding burden on business (REGE-DPL2) • Enactment of the new Commercial Code, broadly aligned with the provisions of the
Acquis on commercial matters (REGE-DPL2) • Enactment of the new Code of Obligation governing the implementation and enforcement
of private sector contractual obligations. (REGE-DPL2)
Improve the quality and employment impact of vocational training
• Accelerated expansion of the coverage of ISKUR vocational training (and trainee stipends), reaching 150,000 people in 2009. (REGE-DPL)
• Introduction of a system for evaluating providers of training on the basis of quality and has launched an evaluation of the effectiveness of ISKUR (Turkish Employment Agency) programs in the context of the expansion of training services. (REGE-DPL2)
Improving education and skills
• Hiring of 15,000 new preschool teachers for the 2009-10 school year and issuance of MONE Circular launching universal preschool education for children 5 years of age in 32 provinces (REGE-DPL)
• Expansion of preschool education to an additional 25 provinces and completion of progress reports on preschool education in the 32 pilot provinces. (REGE-DPL2)
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1.B Employment and Social Protection during the Crisis
96. Prior actions for the REGE-DPL in this area focused on banking stability, employment, and SME access to finance. Result indicators for this pillar are related to the take-up of each of these measures during the crisis, as well as the phasing out of the measures post-crisis. The blind broker facility “insured” more than USD one billion of inter-bank FX transactions at the height of demand in November 2008 and was last used in June 2010. The CGF increased credit intermediation to SMEs and TL 216 million was guaranteed under the scheme including January-October 2010, albeit less than initially envisaged.
97. Specific prior actions under REGE-DPL were:
• Implementation of the CBRT blind broker function50
• Increase in short-time employment compensation (by 50 percent) and its extension (from 3 to 6 months, and then to 12 months) effective until end 2010 to reduce layoffs (part of the employment support packages)
• Amendment of the Public Finance and Debt Management Law to provide authority to expand the CGF by TL 1 billion
PILLAR 2: Fiscal Management 2-A: Maintaining Inclusive Social Programs at Sustainable Cost 98. Key objectives of this part of the program are to establish universal health insurance coverage and to protect the long-run fiscal sustainability of the health and social security system. (i) The establishment of universal health insurance coverage was supported by PPDPL1. (ii) The pension reform was implemented through secondary legislation and regulation. (iii) Administrative reforms to unify the existing three social security schemes under the Social Security Institution (SSI) are moving forward. (iv) Cost containment in the health sector through global budgets for MOH hospitals, spending limits for private hospitals and pharmaceutical cost controls were supported under REGE-DPL. The continued implementation of these measures throughout the system is supported by REGE-DPL2.
99. The impact of these reforms so far has been significant and measurable. Implementation of the social security and universal health insurance reform law started in 2008. It provided a legal and institutional basis for providing access to health insurance for all citizens. Universal health coverage has increased significantly, reaching more than 94 percent of the population at the end of 2010 (up from 86 percent in the baseline year). It also introduced adjustments to pension parameters that significantly improved the long term sustainability of the public pension system. The combined health and social security deficit, which peaked in 2009 due to the crisis, was held in check and declined thereafter (to about 4 percent of GDP in 2010). The efforts to unify the three social security schemes under the Social Security Institution (SSI),
50 Blind brokerage implies the Central Bank making a market anonymously between banks who wish to demand and supply foreign exchange on the interbank market, i.e., guaranteeing to purchase from sellers and to sell to purchasers at the market rate, in effect insuring foreign exchange default risk.
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including the integration of staff and IT systems, have facilitated the implementation of the 2008 reform and resulted in significant efficiency gains and improved social security management. The introduction of the global budgets and spending caps in the health sector seems to be having some effect, with caps generally being met (and being set at levels equivalent to the previous year’s spending). Continued implementation of the social security and UHI law, and further cost-saving measures in health will help to contain the combined health and social security deficit and total health expenditures as a share of GDP.
100. The specific measures are:
Universal Health Insurance Coverage • Establishment of a UHI system which will provide access to health insurance for all
citizens. (PPDPL1) Ensuring long-term sustainability of the health and social security system
• Revised social security and universal health insurance legislation including a parametric reform of the pension system (PPDPL1) and on-track implementation of the law (REGE-DPL)
• Enactment of a law aimed at reforming the administrative dimensions of social security (PPDPL1) and on-track implementation of the law (PPDPL2, REGE-DPL2)
• An expenditure tracking system for pharmaceuticals has been established and is operational (PPDPL2)
• Implementation of global budgets for MOH hospitals, the introduction of spending limits for university and private hospitals, and publication of an SSI budget circular stating pharmaceutical expenditure controls (REGE-DPL)
• Continued implementation of global budgets for the Ministry of Health hospitals, and spending limits in university and private hospitals through the 2011 budget. (REGE-DPL2)
2-B: Enhanced Public Financial Management (PFM) 101. Following the financial and economic crisis of 2001, Turkey has been pursuing a broad program of public expenditure and financial management reforms to strengthen overall fiscal discipline and to improve fiscal transparency. These reforms are expected to promote improved public service delivery, value for money, and ultimately public welfare across government institutions.
102. Turkey has established a solid track record of PFM reform. Gross public debt levels have fallen from 54.1 percent of GDP in 2005 to an estimated 44.5 percent at the end of 2010. The PPDPL/REGE-DPL series has supported the institutionalization of medium-term fiscal planning and budgeting, starting with the introduction of the rolling medium-term plans in 2006. Since then, there has been further improvement in linking medium-term plans and policies with annual programs and budgets, and all ministries now have strategic plans and performance programs. There have also been significant improvements in the Open Budget Index, which increased from 41 in 2006 to 57 in 2010, suggesting that budget analysis is increasingly being used as a tool to improve governance. For the purposes of measuring impact of reform in the public financial management area, measurement of the quality of PFM outcomes will also be
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pursued through the Bank’s ongoing partnership with the authorities through the PFMP benchmarking.
103. The specific measures are:
• The Public Financial Management and Control Law has been satisfactorily implemented (PPDPL1) and all secondary legislation required for the Law has become effective (PPDPL2)
• A central government budget law consistent with the MTFP has been enacted and is being implemented (PPDPL1)
• Local administration laws have been enacted and a satisfactory draft law on Special Provincial Administrations and Municipal Revenues has been prepared (PPDPL1)
• Strategy development units responsible for strategic planning, budgeting, accounting and internal control functions have become operational in all general government institutions (PPDPL2)
• 2006 financial statements of central government institutions and local administrations have been prepared on an accrual basis (PPDPL2)
• Revision of the Guidelines for performance based budgeting and preparation by at least 50 institutions of their performance budget (REGE-DPL)
• Enactment of the TCA law, which supports the accountability framework defined by Turkey’s 2006 Public Financial Management and Control Law and redefines the audit scope, the types of audits mandated and the organizational structure of the TCA. (REGE-DPL2)
• Enactment of the Law on Monitoring and Supervision of State Aids, which regulates monitoring and supervision mechanisms for the design and implementation of state aids and promotes fair competition (REGE-DPL2)
VI. OPERATION IMPLEMENTATION
POVERTY AND SOCIAL IMPACT
104. Households were affected by the crisis through the labor markets, but unemployment decreased quickly with recovery, reaching pre-crisis (high) levels by the end of 2010. Unemployment peaked at 16.1 percent in February 2009. The increase in unemployment mainly came from new entrants into the labor force rather than job losses. In urban Turkey, most of the decrease in labor incomes came from reduced earnings. The impact through the labor market translated into a modest increase in the poverty rate of about one percentage point (from 17.1 percent to 18.1 percent). Unemployment started to come down in May 2010, as employment picked up in all sectors (including manufacturing, which had been hit hard by the crisis) and demographic groups, declining to close to pre-crisis levels by December 2010 (11.4 percent).
105. The program of reforms supported under REGE-DPL2 is expected to reduce poverty and inequality in Turkey over the long run. The program supports private-sector led growth and productive employment generation through reforms to (i) improve the climate for businesses, particularly SMEs (more than 90 percent of firms), to grow through improved access
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to finance and reduced burden of regulations (also facilitated by a prudent management of public finances), (iii) increase access of the unemployed to productive employment through ALMP; and (iv) improve skills for work and reduce inequalities by providing a solid foundation in the early years. Also, the universalization of health insurance provides equal access to health services and financial protection for the poor, improving the health status of poor. The introduction of caps on hospital expenditures may decrease the quality of health services unless these caps are based on adequate pricing of health inputs. Finally, public financial management reforms increase transparency and accountability of public institutions (including local administrations), thus improving the provision of public services, which the poor tend to consume disproportionally. The rest of the section highlights some of these impacts.
106. Spending caps help contain health costs but can affect services negatively if set too low and not accompanied by appropriate provider payment incentives and demand-side controls. Negative effects include reduced quantity and quality of services, reduced access, substitution of services not subject to caps and patients opting for private providers where they do not pay the full charge out-of pocket as uncovered services. Expenditure caps are positive and necessary steps to ensure the fiscal sustainability of Turkey’s universal health insurance system. However, caps need to be based on objective factors, including efficient pricing of health inputs, a realistically affordable package of covered benefits, and monitoring of access, quality, and total (not just public) cost impacts in order to avoid their potential negative effects. While more analysis is needed on how these caps are set and enforced, anecdotal evidence suggests that they are not always objectively and transparently determined. However, by June 2011 all MOH hospitals will be paid using Diagnosis Related Groups (DRGs), a tool for grouping health services in a way that allows paying providers efficiently for their services, within the global budget for MOH hospitals. Next steps to be considered include: extension of DRGs to university and private hospitals, reinstatement of a functioning referral system with penalties, establishment of clear criteria for setting and enforcing the caps; and continuing the implementation of efficiency- and quality-enhancing policies, such as family medicine, inpatient and outpatient DRGs, and the Performance Bonus System—all accompanied by continuous monitoring of costs, quality, and access.
107. The incentives (in the form of reduced employer social security contributions) for hiring young and women introduced in 2008 and recently extended will have its full impact now. The incentives were introduced in 2008 and continued in 2009, but due to low labor demand during the crisis few people benefited from it (53,000 in 2009) 51
108. The continued expansion and improvement of vocational training under ISKUR will facilitate access of disadvantaged groups to productive employment. ALMP, including vocational training programs, are not panacea for resolving large-scale unemployment, but well
. With the economy now growing rapidly, the net number of jobs expected to be created by these incentives is estimated by the Bank to be between 163,000 and 235,000. This new employment will help reducing poverty as the poverty risk for women and young people is higher than for the rest of population. A modest increase in female labor force participation of 5 percentage points could decrease the poverty rate by 15 percent. It is, however, important to keep this measure time-bound and to continue assessing its benefits against costs.
51 World Bank estimate.
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designed programs can help facilitate access to productive employment, particularly among disadvantaged groups. Vocational training programs expanded significantly in 2009 but the focus was more on providing protection (the program carries a stipend) rather than employability. In 2010 and 2011 the program has expanded even further but the emphasis is now shifted towards increasing the quality and employment impact of vocational training through, for example, the quality and performance assessment of training providers. ISKUR and the World Bank are conducting a large-scale rigorous impact evaluation of vocational training programs that will inform future improvements in this program to increase employment and poverty impact.
109. The expansion of preschool education is expected to have a large impact in helping reduce poverty. The Government program aims to achieve universal preschool education for 5 year-olds by 2014, starting with 32 provinces in 2009 (where enrollment increased from 71 percent in 2008/09 to around 93 percent in 2010/11) and 25 more provinces in 2010. Expanding early childhood education would ensure all children, particularly those from disadvantaged backgrounds, enter school ready to learn, increasing subsequent education and labor market outcomes and providing equal footing to succeed in life. According to Bank simulations, one year of pre-school education would increase family incomes by 8 percent and reduce the percentage of poor families by 10 percent.52 Expanded access to preschool would also alleviate one of the main constraints to female labor force participation, which in turn would spur growth and reduce poverty.53
110. The Green Card Program provided protection to the poor through the recent crisis. The Green Card program, which provides health insurance for the poor, expanded its coverage from 2.5 million people in 2003 to 9.3 million in 2008. The program has one of the best coverage and targeting performances among poverty programs in Europe and Central Asia: 48 percent of households in the poorest quintile of the population are covered, and 71 percent of all Green Card beneficiaries are in the poorest quintile of the population.
ENVIRONMENTAL ASPECTS
111. The reforms supported by the proposed operation are not likely to cause significant effects on the country’s environment or natural resources. The PFM reforms supported by this operation are expected to enhance budget transparency, accountability, financial management, and ultimately service delivery. This overall emphasis on improving governance should improve environmental spending along with other categories.
112. Turkey has a fairly well developed body of environmental legislation and institutions. In addition Turkey is advancing the harmonization of the national legislation with the EU Environmental Acquis and aims to harmonize its legislation fully within the next few years. Turkey’s environmental legislation makes no distinction in the standards applied between public and private sector activities and compliance requirements.
113. Turkey’s environmental priorities and commitments are specified in official documents. These include Turkey’s National Report on Sustainable Development (2002) 52 World Bank, 2009, Turkey: Expanding Opportunities for the Next Generation; and World Bank, 2011, Improving the Quality and Equity of Basic Education in Turkey: Challenges and Options. 53 World Bank, 2009, Female Labor Force Participation in Turkey: Trends, Determinants, and Policy Framework.
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prepared for the Johannesburg Summit, the environmental chapter of Turkey’s National Program for the Adoption of the Acquis (2001), and the National Environmental Action Plan (1998). Turkey became a signatory to the Kyoto Protocol in February 2009. A number of sector strategies complement these national reports, such as the Nutrient Reduction Action Plan (2002) which focuses on efforts to reduce agricultural waste runoff to the Black Sea; the National Forest Program (2004); and the National Strategy and Plan of Action on Biodiversity (2001) which outlines Turkey’s commitments as a signatory to the Convention on Biodiversity. Protected Area Management Plans have been prepared in a participatory manner for four sites with strong local consultation on land use and zoning of the protected areas.54
114. The Bank and other institutions are partnering with Turkey in its efforts to improve environmental management. A programmatic operation is under discussion with the authorities, supporting the integration of sustainable development principles in sector policies/programs and the enhancement of energy security, following on the First Programmatic Energy DPL approved in June 2009. Reforms under this proposed operation’s environment component aim to improve the policy and regulatory framework for protecting and improving urban environment services and to strengthen environmental management. The EU is also helping build capacity for environmental regulation and management and for revising legal instruments for nature conservation. The Turkey-EU Environment Screening process was completed in June 2007.
IMPLEMENTATION, MONITORING AND EVALUATION (M&E)
115. The Undersecretariat of Treasury will be responsible for coordinating actions among other concerned ministries and agencies. A number of other agencies are involved in the implementation of the public sector reform program being supported by the REGE-DPL2 program including MONE, SPO, MOF, Ministry of Justice, MOH, MOLSS, ISKUR, TCA and SSI, BRSA, CBRT, CMB, and KOSGEB.
116. As part of the REGE-DPL2 preparation process, the Bank has delivered technical assistance on M&E to representatives of nine Turkish government agencies and parliament. The SPO and Undersecretariat of Treasury have emphasized the importance of the results agenda, and more specifically are focusing on increasing M&E capacity in key line agencies. A significant part of the Bank’s dialogue with the authorities has been geared towards strengthening M&E capacity through three separate vehicles: a PPER, the Joint Portfolio Performance Review (JPPR), and an Institutional Development Fund (IDF) grant. Under the Public Expenditure Review (PER) program, a two weeks hands-on training, Designing and Implementing Sustainable Results-based M&E Systems in the Public Sector in Turkey, was organized jointly with SPO in June, 2009. In addition, an IDF grant completed in 2010 provided support to SPO and pilot agencies to develop an M&E framework designed to assess the results of the National Development Plan.
117. MOLSS and SSI continue development of an M&E process of the social security reforms to ensure adequate feedback from beneficiaries to policy-makers. This qualitative feedback mechanism will complement the ongoing quantitative poverty monitoring which is
54 Sultansazligi, Igneada, Camili and Koprulu Canyon.
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undertaken annually (and continuously) since 2002 by TURKSTAT. The monitoring systems for SSI are supported under the HTSSRP.
118. Bank staff will monitor the results of the program and possible adjustments, if any, during its implementation, while considering the latest country developments, stakeholder support, and feasible options for realizing the intended development goals. The review will be largely based on the monitoring indicators (benchmarks) and the goals of the program (see Annex 3). At the same time, the overall status of the Government’s program will be monitored to determine whether country conditions and the specific conditions of the proposed operation have been met.
FIDUCIARY ASPECTS
119. PFM in Turkey has strengthened considerably and was recently benchmarked under the PFMP exercise. After 2001, modernization of Turkey’s system of public financial accountability in line with international standards was an urgent PFM priority. Enactment of the PFMC Law in 2003 marked a defining moment in this process. The Law defines new principals, rules and structures for Turkish PFM systems including budget formulation and execution, financial and internal control systems, and internal and external audit structures. Each year, budgets and indicative proposals for the following two years are prepared according to the functional, economic and institutional classifications defined under the PFMC Law. The Government Finance Statistics (GFS) analytical budget classification and the accrual based accounting systems have been expanded to all general government institutions, including local administrations. The MOF is thus able to consolidate the budget realization for all general government institutions. Periodic financial statements are prepared regularly and on time. GDPA prepares aggregated financial reports for the central government, which are published as a monthly bulletin. The PFMC Law has transferred the authority to incur expenditures and provide other approvals for expenditures above predetermined thresholds (internal control over budget expenditures) to the SDUs established within each public administration. The most important positive feature of the PFMC Law is that it combines duties and responsibilities in a single spending authority that incurs expenditures and is kept accountable. The PFMC Law has also introduced a modern internal audit framework, an important step given increased devolution of spending authority to line agencies.
120. Accounting. An automated online accounting system has been implemented. The MOF developed in-house an automated online public accounting system (KMYS) has been up and running since 2002. The system captures receipts and payments from more than 1,500 sites of the MOF’s GDPA across Turkey as they are made and can produce financial statements and covers all general budgetary institutions except the Office of the President and the accounting office for State Debt within the Undersecretariat of Treasury. Turkey has consciously switched from cash-based to an accrual basis of accounting. A uniform chart of accounts that is harmonized with budget classification has been implemented. The GDPA has issued a new framework for the accrual-based chart of accounts, harmonized with the economic classification of the newly adopted GFS budget classification system. Article 49 of the PFMC Law mandates that accounting be harmonized with international standards, and that those standards be issued by a Government Accounting Standards Board (GASB), which has been operating since June 2006.
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The GASB is under the MOF, comprised of representatives from the TCA, SPO, MOF, Undersecretariat of Treasury, and other agencies.
121. Procurement. Turkey has moved decisively to upgrade its public procurement legislation and practices in line with international standards. The current Public Procurement Law was enacted in 2002. The Law is based on the United Nations Commission on International Standards (UNCITRAL) Model and moves Turkey in the direction of compliance with EU standards. The independent Public Procurement Agency (PPA) established by law to oversee public procurement and ensure enforcement of the new procurement standards is fully operational. The Government is working on new procurement legislation for SOEs in the public utilities sectors consistent with the relevant EU directive in order to improve operational efficiency of the SOEs. Benchmarking of Turkey’s public procurement system against an internationally recognized baseline of best practice in procurement was carried out jointly by the World Bank and the Turkish PPA in February 2006 and updated in October 2007. The benchmarking included analysis of four main pillars: legislative and regulatory framework (Pillar I); institutional framework and institutional capacity (Pillar II); procurement operations and market practices (Pillar III); and the integrity of procurement systems (Pillar IV). It showed that the country achieved greatest progress in the legislative and regulatory framework (Pillar I), and in the integrity of the national public procurement system (Pillar IV). Further improvements in public procurement are important in: (a) lowering of the threshold for publication of contract award decisions; (b) eliminating restrictions in the form of thresholds for participation by international bidders; and (c) simplifying dispute resolution system. Finally, selection of consulting services procedures would benefit from use of quality-and-cost based selection system, particularly for the assignments that require high competence and relevant experience.
122. Auditing. Effective financial accountability requires extensive modernization of Turkey’s public audit system. The objectives are twofold: (a) clarify institutional responsibilities, promote improvements in audit quality in line with international standards and support the shift from ex-ante controls to ex-post monitoring in harmony with the efforts to improve operational performance; and (b) expand the scope of TCA audits to cover the entire general government including local administrations, autonomous agencies, social security institutions, remaining extra-budgetary funds and revolving funds, with the overall objective of transforming the TCA into an effective state audit institution. These objectives were facilitated by the enactment of the PFMC Law and will be further pursued through the TCA Law that was enacted in December 2010. The new law requires regularity and performance audits and significantly broadens the audit space of the TCA to include all institutions using public funds irrespective of the public share in their capital. The TCA is committed to undertake internal reforms to align its institutional structure with international standards for state audit institutions, to upgrade its audit capabilities, and to reach consensus with other government audit bodies on the implementation of the new law.
123. FX Control Environment. The IMF had conducted a safeguards assessment of the CBRT in April 2002 and determined that, while number of measures was taken to strengthen the CBRT, such as the conduct of a quality external audit and the preparation of financial statements according to International Financial Reporting Standards (IFRS), there remained a number of vulnerabilities that needed to be addressed. The assessment recommended reorganization of the internal audit function, expansion of the role of the audit committee, publication of IFRS
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financial statements, and reconciliation of program monetary data with the audited financial statements, including an audit of the treasury component. Since then CBRT has taken a number measures including reconciliation of monetary data with audited financial statements and its audit by the independent auditor, publication of annual audited financial statements and the independent auditors report, reorganization of internal audit function, including the adoption of a new charter and the appointment of the head of the internal audit department. The audit reports by independent auditors on the financial statements of the CBRT for the last three years (2009, 2008, and 2007) provided a clean audit opinion. Past audits and generally positive assessment by the IMF indicate that there are no strong reasons for asking additional safeguards such as audit of deposit account.
DISBURSEMENT AND AUDITING
124. Disbursement and Implementation Arrangements. The proposed loan will follow the Bank’s disbursement procedures for DPLs. The untied finances will be disbursed against satisfactory implementation of the program and not tied to any specific purchases and no procurement requirements will be needed. Upon approval of the loan and notification by the Bank of Loan effectiveness, the government will submit a withdrawal application. At the request of the Undersecretary of Treasury, the IBRD will deposit the proceeds of the loan with the CBRT into a designated deposit account which will form part of the official Foreign Exchange reserves of the country. The government will utilize the proceeds of the loan in foreign currency for either foreign debt servicing or for crediting the local currency equivalent into the treasury single account for financing budgeted expenses. Prior to that, the borrower will pay a front-end fee amounting to 0.25 percent of the loan amount from its own resources. If, after deposit in this CBRT account, the proceeds of the loan are used for ineligible purposes (for example, for financing items imported from non-member countries or goods or services on the IBRD standard negative list), the IBRD will require the borrower to refund the amount directly to the IBRD, and the IBRD will cancel an equivalent undisbursed amount of the loan.
125. Accounts, Auditing and Closing Date. The administration of this loan will be the responsibility of the Undersecretariat of Treasury. The government will maintain accounts and records, or ensure that such items are maintained, showing that loan disbursements were in accordance with provision of the Loan Agreement. Given the IMF`s positive assessment of the CBRT, an audit of the deposit account for the proceeds of the loan is not considered necessary. The Undersecretariat of Treasury will provide the Bank within 30 days a confirmation letter stating that the DPL funds have been received and deposited in the designated account assigned by the Borrower that forms part of the Borrower`s budget management system. The closing date of the loan will be December 31, 2011.
CONSULTATIONS
126. The Government’s reform program underpinning the REGE-DPL2 has benefitted from consultations with relevant stakeholders (in line with OP.8.60) Turkey has its own participatory processes underpinning policy formulation. Government policy in employment, fiscal adjustment, social security, investment climate reforms, and other areas is informed by regular consultation with stakeholders in varied forums. Groups involved in this process include unions, employer organizations, chambers of commerce and industry, civil society organizations,
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academics, and private sector representatives. The legislative process in Turkey requires ensuring participation of all public stakeholders during the preparation of any draft legislation. In the case of comprehensive reforms, such as the employment strategy, the government undertakes a series of consultations with all relevant stakeholders. Involvement of academia and relevant public institutions are sometimes secured (like in the case of the employment strategy) through establishing a steering committee for preparation of draft legislative changes. In the case of the employment strategy, after reaching consensus at the steering committee, the Government shared the draft with the Council of Ministers. Additionally, a formal consultations process is ongoing with the trade unions.
RISKS AND RISK MITIGATION
127. There are three main risks to the program’s outcomes: (i) economic and external risks, (ii) implementation risks, and (iii) political risks.
128. Economic and external risks. The main macroeconomic risk is that a reversal of capital flows could cause a significant growth slowdown, given the high level of the current account deficit. The authorities and the financial markets are watching the direction of the current account deficit carefully, although indicators so far suggest that it is financeable. Turkey’s substantial foreign exchange reserves and flexible exchange rate regime mitigate risks associated with capital reversals.
129. Continued uncertainty about the state of the global economy creates downside risks to the global demand for Turkish exports (especially from the EU), to output growth and fiscal performance. There is also a risk of increased inflation and overheating, fuelled by capital inflows, continued lending growth as well as external developments, which if not addressed could lead to a growth slowdown. Lower growth could in turn create challenges for social policy and fiscal management. A challenge for the authorities is to determine the right policy mix in the face of these vulnerabilities, while favorable near-term growth prospects and healthy balance sheets will likely continue to attract capital inflows. Measures to mitigate risks would include in the short term a combination of fiscal and macro-prudential tightening, more restrictive liquidity conditions and further competitiveness-enhancing structural reforms. In the longer term, higher productivity, higher exports to more diverse markets, higher domestic saving, and greater energy efficiency and diversification are the keys to reducing Turkey’s reliance on external finance.
130. There is some risk associated with recent political developments in the Middle East and North Africa, and a major downside risk arises from a sustained increase in oil prices. It is estimated that a USD10 increase in the price of a barrel of oil is estimated to increase Turkey’s current account deficit by 0.4-0.5 percent of GDP. If oil prices remain at or above the recently elevated levels, Turkey’s strong macroeconomic performance may be hindered, and risks associated with the sustainability of a high current account deficit would increase. The proposed REGE-DPL2 operation helps Turkey mitigate these risks mainly by supporting reforms to improve the business climate, which will help increase the competitiveness of the private sector, thus promoting exports as well as higher inflows of foreign direct investment. Longer term mitigation measures include increasing energy efficiency and diversifying into non-oil energy sources, such as wind and solar energy—an agenda that the Turkish authorities are pursuing as a
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priority and with Bank support, including under a complementary DPL series focusing on environmentally sustainable development and the energy sector.
131. Implementation risks. Effective implementation of major public reforms needs strong coordination and monitoring. Public sector reforms, by the nature of the issues they address, tend to be cross-cutting and take time to implement. Moreover, social consensus on the reform program and sufficient institutional capacity are needed for successful implementation. The complexity and social impact of many elements of the reform program, including the reform of the social security system, requires consensus building among social partners that takes time and inevitably results in compromises. Containment of health spending is a particularly sensitive issue also because there is often a fine line between providing health services to society and to the poor, and containing unnecessary spending or reducing inefficiencies in spending. Although the authorities are well aware of such risks, there is a need to remain vigilant in monitoring such expenditures and in introducing tougher administrative measures if the need arises.
132. On the private sector agenda, the effective implementation of the Commercial Code will require a major upgrade in the capacity of the auditing profession to deal with the enhanced transparency and accountability requirements introduced by the Code. Similarly, the introduction of civil and criminal liability for violations of corporate governance standards is likely to put additional pressure on the judicial system. Like in many other countries, the introduction of tighter reporting requirements could bring about requests for delays in the application of these new requirements. At all times, efforts will need to be made that the requirements apply universally to all enterprises rather than selectively, to avoid creating multiple standards of reporting.
133. Political risks. Turkey has had a majority government since 2002 under the Justice and Development Party (AKP), facilitating the implementation of major reforms. Key risks relate to continuing domestic political differences and the possibility that the outcome of the upcoming general elections scheduled to be held in June 2011 could slow the pace or reduce the effectiveness of economic and social reforms. The EU accession agenda remains an anchor and the process of harmonization with European legislation and regulation continues to be part of the Turkish reform agenda.
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ANNEX 1: LETTER OF DEVELOPMENT POLICY
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52
53
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ANNEX 2: PROPOSED OPERATION POLICY MATRIX55
Objectives
PPDPL1 Prior Actions
PPDPL2 Prior Actions
REGE-DPL Prior Actions
REGE-DPL2 Prior Actions
Results Indicators
PILLAR 1: EQUITABLE GROWTH AND EMPLOYMENT
PRIVATE SECTOR LED GROWTH AND JOB CREATION Improving the climate for business growth and job creation by reducing red tape, backlogs in court cases and increasing access to finance Creating more and better jobs
A law for the establishment of Regional Courts of Appeal has been enacted
Amendment of the Customs Law to streamline customs procedures
Enactment of the new Commercial Code broadly aligned with the provisions of the EU Acquis on commercial matters. Enactment of the new Code of Obligations governing the implementation and enforcement of private sector contractual obligations. Enactment of the new Civil Procedure Code aiming to reduce court workloads and the
Credit to SMEs as a share in total credit increase to around 25% (from 21% in 2009) Doing Business Investors’ Protection Index increases from 5.7 in 2008 to around 6 by 2011. Unemployment rate falls to less than 12% in 2011, down from 14% in 2009. Female labor force participation increases from 24.5% in 2008 to around 27% by 2011. Clearance rate (resolved cases per incoming cases multiplied by 100)
55 As with all Development Policy Operations, an appropriate macroeconomic framework as determined by the World Bank staff and Executive Board is a prerequisite for disbursement and is therefore not included as a prior action.
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Objectives PPDPL1 Prior Actions
PPDPL2 Prior Actions
REGE-DPL Prior Actions
REGE-DPL2 Prior Actions
Results Indicators
On-line connections among courts have been established
corresponding burden on business.
of first instance civil, commercial and administrative law cases increases from 96 in 2006 to 98 by 2011.
Improve the quality and employment impact of vocational training
Accelerated expansion of the coverage of ISKUR vocational training (and trainee stipends), reaching 150,000 people in 2009.
Introduction of a system for evaluating providers of training on the basis of quality and has launched an evaluation of the effectiveness of ISKUR (Turkish Employment Agency) programs in the context of the expansion of training services.
ISKUR vocational training programs reaching a total of 400,000 people by 2011, up from around 30,000 in 2008. Job placement rate of the unemployed registered with ISKUR increases from 9% in 2009 to around 10% in 2011.
Improving education and skills
Hiring of 15,000 new preschool teachers for the 2009-10 school year and issuance of MONE Circular launching universal preschool education for children 5 years of age in 32 provinces
Expansion of preschool education to an additional 25 provinces and completion of progress reports on preschool education in the 32 pilot provinces.
Pre-school enrollment rate of 5-year olds increases to 65% by 2011, from 61% in 2009/10.
EMPLOYMENT AND SOCIAL PROTECTION DURING THE CRISIS
Establishment of the Central Bank (CBRT) blind broker function Increase in short-time employment
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Objectives PPDPL1 Prior Actions
PPDPL2 Prior Actions
REGE-DPL Prior Actions
REGE-DPL2 Prior Actions
Results Indicators
Reducing uncertainty and maintaining banking stability Protecting employment and household welfare during the global financial crisis.
compensation (by 50 percent) and its extension (from 3 to 6 months, and then to 12 months) effective until end 2010 to reduce layoffs (part of the employment support packages) Amendment of the Public Finance and Debt Management Law to provide authority to expand guarantees to the Credit Guarantee Fund by TL 1 billion
PILLAR 2: FISCAL MANAGEMENT
INCLUSIVE SOCIAL PROGRAMS AT SUSTAINABLE COST Extending universal health coverage while ensuring long-term sustainability of the health and social security system.
Revised social security and universal health insurance legislation including a parametric reform of the pension system The establishment of a Universal Health Insurance system which will provide access to health insurance for all citizens Enactment of a law aimed at reforming the administrative dimensions
Implementation of the Law reforming the administrative dimensions of social security by unifying the existing three social security schemes is on track An expenditure tracking system for pharmaceuticals has been established and is operational
Implementation of the Social Security and Universal Health Insurance Law, as enacted in June 2006 and amended in May 2008, including enactment of secondary legislation and the merger of staff from the three prior systems (as stipulated by the Social Security Institution Law) Implementation of global budgets for MOH hospitals, the introduction of spending limits for
Continued implementation of the Social Security Institutional Law, inter alia, by integrating data and information technology systems of the previous three social security systems through the full operationalization of a database interface. Continued implementation of global budgets for the Ministry of Health
Universal Health Insurance has been extended from 86% of the population in 2005 to at least 96% in 2011. Combined health and social security deficit of the Social Security Institution peaks in 2009 and declines thereafter, to no more than 4% of GDP by 2011.
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Objectives PPDPL1 Prior Actions
PPDPL2 Prior Actions
REGE-DPL Prior Actions
REGE-DPL2 Prior Actions
Results Indicators
of social security by unifying the existing three social security schemes has been enacted.
university and private hospitals, and publication of an SSI budget circular stating pharmaceutical expenditure controls
hospitals, and spending limits in university and private hospitals through the 2011 budget.
ENHANCED PUBLIC FINANCIAL MANAGEMENT Improving budget coverage, accounting, and reporting Improving operational efficiency in line agencies. Extending coverage, quality and scope of external audit
The Public Financial Management and Control Law has been implemented in key areas including comprehensive budget coverage, abolishment of central ex-ante controls, and accountability A central government budget law consistent with the medium-term framework has been enacted and is being implemented Local administration laws have been enacted and a draft law on Special Provincial Administration and Municipality Revenues has been prepared
All secondary legislation required for the Public Financial Management and Control Law has been published and has become effective Strategy development units responsible for strategic planning, budgeting, accounting and internal control functions have become operational in all general government institutions 2006 financial statements of central government institutions and local administrations have been prepared on an accrual basis
Revision of the Guidelines for performance based budgeting and preparation by at least 50 institutions of their performance budget
Enactment of the Turkish Court of Accounts Law supporting the accountability framework set out in the Public Financial Management and Control Law and redefining the audit scope, the types of audits mandated and the organizational structure of the Turkish Court of Accounts. Enactment of the Law on Monitoring and Supervision of State Aids regulating monitoring and supervision mechanisms for the design and implementation of state aid.
Gross public debt as a share of GDP declines from 54.1% in 2005 to around 42% by 2011. Improvement in the Open Budget Index score to around 60 by 2011.
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ANNEX 3: PRELIMINARY RESULTS MONITORING INDICATORS
Indicators Baseline Expected Outcomes
2006
(PPDPL1) 2008
(PPDPL2) 2010
(REGE-DPL) End-2011
(REGE-DPL2) Pillar 1: Equitable Growth and Employment
Credit to small and medium-sized enterprises (as a share of total credit) (%)
21 (2009)
23.8 Around 25
Strength of investor protection index 5.7 (2009) 5.7 6 Unemployment rate (%, annual average) 14.0 (2009) 11.9 Below 12 Female labor force participation rate (%) 24.5 (2008) 27.6 Around 27 Pre-school enrollment rate of 5 year olds (%) 61 (2009) 611 65 Number of beneficiaries of ISKUR vocational training 30,000 (2008) 150,000 400,000 Job placement rate of unemployed registered with ISKUR (%) 9.3 (2009) 9.8 Around 10 Clearance rate (resolved cases per incoming cases multiplied by 100) of first instance civil, commercial and administrative law cases
96 (2006) 96 98 98
Pillar 2 : Fiscal Management Gross public debt to GDP (%) 54.1 (2005) 48.2 42.9 44.5 (est.) Around 42 Improved budget transparency and accountability: Open Budget Index Score2
41 (2006) 41 43 57 Around 60
Universal Health Insurance coverage (%) 86 (2005) 90.1 93.2 94.3 96 Combined health and social security deficit of the social security institutions (%)
4.4 (2009-Peak)
3.9 No more than 4% of GDP by 2011.
Notes: 1: It refers to beginning of school year 2009-10, which is when the preschool expansion program for 5 year olds started, and the first time these figures were published. 2: The Open Budget Index, produced by the Open Budget Initiative, assigns a score to each country based on the information it makes available to the public throughout the budget process. The score ranges from zero (no information) to 100 (extensive information).
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ANNEX 4: IMF PUBLIC INFORMATION NOTICE (PIN)
IMF Executive Board Concludes Second Post-Program Monitoring Discussions with Turkey Public Information Notice (PIN) No. 11/24 February 16, 2011 Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case. The Staff Report may be made available at a later stage if the authorities consent.
On February 11, 2011, the Executive Board of the International Monetary Fund (IMF) concluded the Second Post-Program Monitoring Discussions with Turkey.1
Background The Turkish economy’s strong post-crisis recovery continued throughout 2010, supported by high levels of capital inflows. Growth is projected to have exceeded 8 percent in 2010, placing output above its pre-crisis level, with credit-financed domestic demand the main driver. Helped by a drop in volatile food prices, headline inflation came in just below the 2010 target, while temporary factors compressed core inflation. Push and pull factors are behind Turkey’s intensified capital inflows. Wide interest rate differentials, Turkey’s relatively healthy public- and private-sector balance sheets, strong near-term growth prospects, increased political certainty, and the prospect of a possible upgrade to investment status have all supported inflows. Yet availability of abundant low-cost foreign savings has also highlighted Turkey’s vulnerabilities. The rapid bounce-back in the current account deficit (to 6¼ percent of GDP in 2010) reveals the high import content of domestic and external demand and growth’s dependence on capital inflows, which are symptomatic of weak external competitiveness. Predominantly short-term capital inflows—mostly intermediated by the banking sector—have increased exposure to capital flow reversal and associated repricing risks. To varying degrees, policies implemented in recent months have sought to mitigate these macroeconomic and macroprudential risks. The Central Bank of Turkey (CBT) slowed the pace of liquidity growth, mostly by reducing its foreign exchange purchases and raising reserve requirements. More unconventionally, it also sharply widened its interest rate corridor and lowered its policy lending rate. Some financial sector prudential standards were tightened,
1 Post-Program Monitoring provides for more frequent consultations between the Fund and members whose arrangement has expired but that continue to have Fund credit outstanding, with a particular focus on policies that have a bearing on external viability. There is a presumption that members whose credit outstanding exceeds 200 percent of quota would engage in Post-Program Monitoring.
61
including setting ceilings on real estate loan-to-value ratios. The primary balance of the nonfinancial public sector exceeded the budget target in 2010 on buoyant—but partially transient—tax revenue derived from the import boom. Excluding such revenue, the underlying fiscal balance declined, adding to demand pressures. Further demand pressures are expected in 2011. On the expectation of continuing capital inflows, domestic demand is projected to remain strong and the current account deficit elevated. GDP is forecast to expand by a robust 4½ percent in 2011. Strong import growth amid subdued exports and higher energy prices are projected to widen the current account deficit to 7 percent of GDP. Following a lull early in the year from dissipating base effects, inflation is expected to rise to 6½ percent by end-year on increasing demand and cost pressures. Executive Board Assessment Executive Directors welcomed the strong recovery of the Turkish economy during 2010, with output exceeding its pre-crisis level and unemployment moderating significantly. They noted, however, the sharply widening current account deficit, which is linked to weak competitiveness in the context of abundant low-cost external financing. Directors concurred that Turkey’s main challenge is determining the right policy mix in the face of vulnerabilities arising from excessive domestic demand and volatile short-term capital flows. They recognized that Turkey’s favorable near-term growth prospects and healthy balance sheets would likely continue to attract capital inflows, but also cautioned against the risk of a sudden capital flow reversal. They noted that these vulnerabilities could be effectively addressed through a combination of fiscal and macroprudential tightening, more restrictive liquidity conditions, and competitiveness-enhancing structural reforms. Directors considered the authorities’ planned fiscal policy in 2011. While some Directors viewed the policy stance as broadly appropriate, many called for fiscal tightening to restrain domestic demand and rein-in the current account deficit. Directors agreed that monetary policy should continue to focus on price stability, essential for durably strengthening competitiveness. They encouraged the authorities to continue with direct measures to contain liquidity expansion, including limiting exchange rate interventions and increasing reserve requirements. Directors welcomed the early signs of success of the Central Bank’s strategy to allow increased volatility of short-term market interest rates. They noted that recent decreases in policy rates entail some risks and urged the authorities to stand ready to raise the policy rate in the event current measures are insufficient to contain inflationary pressures. Directors welcomed the authorities’ increased focus on systemic financial-sector risk and a moderate tightening of macroprudential measures. A number of Directors, however, called for further actions in these areas. Directors also welcomed the upcoming Financial Sector Assessment Program update. Directors encouraged progress on structural reforms to enhance competitiveness and resilience to capital inflows. They welcomed the improvement in accounting standards and strengthening of shareholder rights under the recently approved Commercial Code. Directors welcomed the authorities’ continued commitment to their Post-Program Monitoring with the Fund.
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Turkey: Selected Economic Indicators, 2006−11
(Percent) 2006 2007 2008 2009 2010 2011
Proj.
Real sector
Real GDP growth rate 6.9 4.7 0.7 -4.7 8.2 4.5
Private consumption growth rate 4.6 5.5 -0.3 -2.2 7.3 6.1
Private gross fixed investment growth rate
15.0 2.6 -9.0 -22.3 29.4 6.6
Contributions to GDP growth
Private domestic demand 6.3 5.0 -1.8 -8.1 12.1 5.2
Public spending 0.9 0.8 0.6 0.7 0.1 0.5
Net exports -0.3 -1.2 1.9 2.7 -4.0 -1.2
GDP deflator growth rate 9.3 6.2 12.0 5.2 8.1 6.4
Nominal GDP growth rate 16.9 11.2 12.7 0.2 17.0 11.2
CPI inflation (12-month; end-of period) 9.7 8.4 10.1 6.5 6.4 6.5
PPI inflation (12-month; end-of-period) 11.6 5.9 8.1 5.9 8.9 6.7
Unemployment rate 10.3 10.3 11.0 14.1 … …
Average nominal treasury bill interest rate
18.1 18.1 19.3 11.4 ... ...
Average ex-ante real interest rate 8.6 6.9 12.2 2.6 ... ...
(Percent of GDP)
Nonfinancial public sector 1/
Primary balance 4.6 3.2 1.6 -1.0 0.1 0.3
Net interest payments 5.1 4.9 4.4 4.6 3.1 2.5
Overall balance -0.5 -1.8 -2.8 -5.6 -3.0 -2.1
Debt of the public sector
General government gross debt (EU definition)
46.1 39.4 39.5 45.5 41.7 40.1
Net debt 2/ 40.0 34.4 34.5 39.4 36.3 34.9
External sector
Current account balance -6.1 -5.9 -5.7 -2.3 -6.3 -7.0
Nonfuel current account balance -1.3 -1.5 -0.2 1.9 -1.8 -2.4
Gross financing requirement 21.0 18.7 18.8 17.0 17.3 20.8
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Foreign direct investment (net) 3.6 3.1 2.2 1.1 0.8 1.4
Gross external debt 3/ 39.3 38.4 38.0 43.7 40.1 42.7
Net external debt 21.0 21.0 21.7 25.2 24.7 27.7
Monetary aggregates
Nominal growth of M2 broad money (percent)
24.7 15.7 26.7 13.0 … …
GDP (billions of U.S. dollars) 4/ 529.2 649.1 730.3 614.5 … …
GDP (billions of Turkish lira) 758.4 843.2 950.5 952.6 1,114.7 1,239.8
Per capita GDP (2009): $8,711 (WEO)
Quota (2010): SDR 1,191.3 million (1,837 million U.S. dollars)
Sources: Turkish authorities; and IMF staff estimates and projections. 1/ For 2010, numbers reflect central government outturn and projections for state economic enterprises and local government. 2011 fiscal projections assume the authorities adhere to the Medium-Term Program primary balance targets. 2/ Nonfinancial public sector net debt. 3/ The external debt ratio is calculated by dividing external debt numbers in U.S. dollars based on official Treasury figures by GDP in U.S. dollars calculated by staff using the average exchange rate (consolidated from daily data published by the CBT). 4/ GDP in U.S. dollars is derived using the average exchange rate (consolidated from daily data published by the CBT).
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ANNEX 5: COUNTRY AT A GLANCE
65
66
TuzTuzGölüGölü
HoyranHoyranGölüGölü
BaysehirBaysehirGölüGölü
AksehirAksehirGölüGölü
Çoruh
Murat
Kura
Firat
Sakarya
Devrez
Kizil
Cekerek
Kizil
Seyh
an
Göksu Ceyh
an
Kelkit
Kuzey Anadolu Daglari
Toros Daglari KaramanKaraman
KonyaKonya
AksarayAksaray
NigdeNigde
NevsehirNevsehir KayseriKayseri
MalatyaMalatya
AdiyamanAdiyaman
ElazigElazig
TunceliTunceli
ErzincanErzincan
BingölBingölMusMus
BitlisBitlis
DiyarbakirDiyarbakir BatmanBatman SiirtSiirt
SirnakSirnakMardinMardin
HakkariHakkari
VanVan
AgriAgriIgdirIgdir
ErzurumErzurum
KarsKars
ArtvinArtvin
RizeRize
GümüshaneGümüshaneBayburtBayburt
GiresunGiresun
TokatTokat
SivasSivas
AmasyaAmasya
KastamonouKastamonou
ÇankiriÇankiri
KarabükKarabük
BoluBoluSakaryaSakarya(Adapazari)(Adapazari)
KocaeliKocaeli(Izmit)(Izmit)
BilecikBilecik
EskisehirEskisehir
KütahyaKütahya
BursaBursa
YalovaYalova
IstanbulIstanbulTekirdagTekirdag
EdirneEdirneKirklareliKirklareli
ÇanakkaleÇanakkale
BalikesirBalikesir
ManisaManisaIzmirIzmir UsakUsak
AydinAydin
DenizliDenizliBurdurBurdur
IspartaIsparta
AfyonAfyon
AntalyaAntalya
MuglaMugla
KirikkaleKirikkale
ÇorumÇorum
YozgatYozgat
KirsehirKirsehir
AdanaAdana
OsmaniyeOsmaniye
KahramanKahraman Maras Maras
GaziantepGaziantep
KilisKilis
SanliurfaSanliurfa
ArdahanArdahan
ANKARAANKARA
Aras
DüzceDüzce
SYRIAN ARABSYRIAN ARABREPUBLICREPUBLIC
IRAQIRAQ
ARMENIAARMENIA
GEORGIAGEORGIA
BULGARIABULGARIARUSSIAN FEDERATIONRUSSIAN FEDERATION
AZER-AZER-BAIJANBAIJAN
AZER.AZER.
To To BatumiBatumi
To To KirovakanKirovakan
ToToMakuMaku
ToToSalmasSalmas
ToToOroumiehOroumieh
ToToDahukDahuk
To DamirTo DamirKabuKabu
ToToAl HasakahAl Hasakah
ToToAleppoAleppo
ToToBurgasBurgasToTo
KurdzhaliKurdzhali
Karaman
Konya
Aksaray
Nigde
Nevsehir Kayseri
Malatya
Adiyaman
Elazig
Tunceli
Erzincan
BingölMus
Bitlis
Diyarbakir Batman Siirt
SirnakMardin
Hakkari
Van
AgriIgdir
Erzurum
Kars
Artvin
RizeTrabzon
GümüshaneBayburt
Giresun
Ordu
Tokat
Sivas
Amasya
Samsun
Sinop
Kastamonou
Çankiri
Karabük
BartinZonguldak
Bolu
Düzce
Sakarya(Adapazari)
Kocaeli(Izmit)
Bilecik
Eskisehir
Kütahya
Bursa
Yalova
IstanbulTekirdag
EdirneKirklareli
Çanakkale
Balikesir
ManisaIzmir Usak
Aydin
DenizliBurdur
Isparta
Afyon
Antalya
Mugla
Kirikkale
Çorum
Yozgat
Kirsehir
Icel(Mersin)
Adana
Hatay (Antakya)
Osmaniye
Kahraman Maras
Gaziantep
Kilis
Sanliurfa
Ardahan
ANKARA
SYRIAN ARABREPUBLIC
IRAQ
ISLAMICREP. OFIRAN
ARMENIA
GEORGIA
BULGARIARUSSIAN FEDERATION
AZER-BAIJAN
AZER.
GRE
ECE
GREECE
TuzGölü
HoyranGölü
BaysehirGölü
AksehirGölü
Lake Van
Çoruh
Murat
Kura
Aras
Firat
Tigris
Euphrates
Sakarya
Devrez
Kizil
Cekerek
Kizil
Seyh
an
Göksu Ceyh
an
Kelkit
B lack Sea
Medi terranean Sea
Sea ofMarmara
Gulf ofAntalya
Istanbul Strait(Bosphorus)
ÇanakkaleStrait
(Dardanelles)
To Batumi
To Kirovakan
ToMaku
ToSalmas
ToOroumieh
ToDahuk
To DamirKabu
ToAl Hasakah
ToAleppo
To Ladhiqiyah
ToBurgasTo
Kurdzhali
ToKomatini
Kuzey Anadolu Daglari
Toros Daglari
Agri Dagi(5166 m)
26°E 28°E 30°E 32°E 34°E 36°E 38°E
42°E 44°E30°E28°E 32°E 34°E
36°N
38°N
40°N
42°N
40°N
42°N
TURKEY
This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other informationshown on this map do not imply, on the part of The World BankGroup, any judgment on the legal status of any territory, or anyendorsement or acceptance of such boundaries.
0 50 150100
0 50 100 150 Miles
200 Kilometers
IBRD 33501R2
JULY 2008
TURKEYPROVINCE CAPITALS*
NATIONAL CAPITAL
RIVERS
MAIN ROADS
RAILROADS
PROVINCE BOUNDARIES*
INTERNATIONAL BOUNDARIES
*Province names are the same as their capitals.
