RESEARCH Business Economy

TURKEY
‘Inflationary inertia’ key to Turkey’s chronioc economic problems

Mark Reutter, Business Editor
(217) 333-0568; mreutter@uiuc.edu

12/1/2001

CHAMPAIGN, Ill. —For 20 years Turkey has suffered from chronic inflation. There have been repeated financial crises, devaluations of the Turkish lira and a near meltdown of the banking sector last winter that was averted only by $7 billion in emergency loans from the International Monetary Fund.

Yet unlike many other troubled economies, Turkey’s currency is not persistently overvalued, and the country has made economic progress between its major accelerations of inflation, as recently as in 1998 and 1999.

So what accounts for Turkey being "one of the few countries in history to have a high sustained inflation short of hyperinflation for more than two decades?" ask Selahattin Dibooglu and Aykut Kibritcioglu, visiting scholars at the University of Illinois.

"It is common for politicians and bureaucrats to blame oil prices and other external factors, such as the Persian Gulf crisis and earthquakes, for inflation," the economists write in a working paper. But economic modeling by Kibritcioglu, who teaches at Ankara University, suggests that even sharp increases in oil prices have had a limited effect on overall inflation.

A more critical problem is the role of "inflationary inertia" in the Turkish economy. Inflation continues because it has been around for so long that the public accepts its inevitability. This means that employers and employees alike take inflation of 50 to 100 percent a year into account and have built-in increases for rents, sales, wages and other prices.

The result is that even when Turkey overcomes a spike in oil prices or another external shock, "inflation has no tendency to go down in the long run," according to the researchers.

While the Turkish government has not chronically mismanaged the economy, neither has it consistently pushed through economic reforms – most importantly anti-corruption measures – or reined in public spending.

Heavy expenditures on roads and dams have appeased a restive public in the short run, but have failed to arrest the cancer of inflation. "When faced with a choice between responding to the immediate needs of their constituents and reforms necessary for sustainable long-run growth, governments in Turkey have opted for the first," Dibooglu and Kibritcioglu noted.

All of this highlights the importance of structural reforms and the placement of credible financial mechanisms that restrain discretionary government policies, the economists concluded.

Turkey has an incentive to move forward because it is trying to meet the European Union’s criteria to become an EU member. In addition to human rights violations, the nation’s economic problems stand in the way of joining the EU.

Their working paper is titled "Inflation, Output and Stabilization in a High Inflation Economy: Turkey, 1980-2001." Dibooglu also teaches at Southern Illinois University.