Will Turkey vote scare off investors?

Turkey's economic development played an important role in the debate over controversial plans to change the constitution. Sunday's referendum win will usher in the introduction of a presidential system. But what will that mean for the economy?

President Recep Tayyip Erdogan owes his success largely to the strong growth of the Turkish economy in the past decade, but recent economic news has been less positive.

Turkish GDP rose by 2.9 percent last year, far short of the six percent in 2015. The reason given for this was a slump in the tourism industry due to the attempted coup in the summer of 2016, and several terror attacks blamed on militant Kurds and Islamists. The tourism sector is an important source of income for Turkey and contributes around five percent to the Turkish GDP. Last year, revenues in this sector fell by almost 30 percent.

Revised calculations

Analysts had expected even lower growth in view of the political upheaval and economic problems. But private consumption, which has been promoted significantly by the government since the failed coup, has proved to be an economic stimulus. Private consumption rose sharply in the fourth quarter, by 5.7 percent.

In addition, the Turkish statistical office has revised its calculations, making the latest growth figures appear more favorable.

Still, investment remained weak last year and exports declined.

In 2017, economic growth is expected to be similar. However, the forecasts of the Turkish government and international organizations are inconsistent. While the European Commission, the International Monetary Fund (IMF) and the World Bank expect an increase of between 2.5-3 percent, government representatives expect GDP to grow by 4-4.5 percent.

Inflation at record levels

Inflation has risen to its highest level for more than eight years. Consumer prices rose by 11.29 percent in March compared with that in the previous month. This was the highest level since October 2008.

Since the attempted coup d'état last summer, the Turkish government has been trying to support the increasingly sluggish economy with numerous new laws.

"The investment promotion for strategically important projects has been expanded generously," said Necip C. Bagoglu, an expert on the Turkish economy at the foreign trade agency Germany Trade and Invest. "A new state fund will help finance large infrastructure projects, while another law will help companies with debts."

Private consumption has also been boosted by means of public interest subsidies and improved payment terms. In particular, home ownership is increasingly supported by the state, which is also reflected in the development of the construction industry. In 2016, the sector grew at an above-average rate of over seven percent.

Direct investments

Economic growth of just under three percent is not sufficient to reduce unemployment - currently 11 percent - and reach the ambitious development targets set for 2023. As before, the Turkish government is aiming for an economic output of $2 trillion and an export volume of $500 billion by 2023. For this, the Turkish economy would have to grow between seven and eight percent annually - an unrealistic scenario in view of the persisting structural weakness in the manufacturing sector and the high dependence on imports to meet the technological demands of industry, particularly the energy sector. 

Foreign direct investment fell by 31 percent last year to around $12 billion. In order to finance economic growth, Turkey is heavily dependent on capital imports. However, more direct investment requires political stability and a reliable legal framework. There is a tremendous need for reform of the legal system and public administration. The rule of law is partly endangered by erratic, incomprehensible decisions by the authorities. Confidence in the judiciary has also been shattered.

Lira devalued sharply

Turkey's relationship with the European Union has been extremely tense over the past several months. The country's southern neighbors are afflicted by turmoil. Turkey's southeast doesn't look much better, where security forces are battling Kurdish separatists.

The terror attacks of the past months have increased the security risk across the country. Added to this is the predicted fallout from Sunday's constitutional referendum, which is likely to make foreign investors, as well as domestic consumers, hesitant.

Above all, the sharp devaluation of the Turkish lira is likely to have a negative impact on the economy. A weak national currency makes imports more expensive and leads to losses in purchasing power among domestic consumers. At the same time, it increases the liabilities of local companies that have borrowed loans in foreign currencies. At the end of November 2016, the Turkish central bank raised the key interest rate for the first time since 2014. But this was not enough - in January the central bank once again raised its benchmark interest rate by 0.75 percentage points to 9.25 percent. This monetary policy measure will also have a negative impact on the country's economy.