Why Turkey’s export rise is hard to sustain (Al-Monitor,March 12, 2019)

As Turkey’s March 31 local elections draw nearer, debates over the ailing economy are flaring up, marked by attempts to use economic data for propaganda, minus any objective and prudent analysis. Turkey’s economic woes last year resulted in a 3% contraction in the fourth quarter, officials announced March 11. Amid the downturn, Turkey’s imports have declined and exports have grown — a trend that both the economy management and some industrialist groups present in exaggerated terms to the public.

In early March, Trade Minister Ruhsar Pekcan made the following comments on the still unofficial foreign trade figures for February: “Despite all problems in global trade, we had the highest February export figure in Turkey’s history. Exports increased 5% in the first two months of the year, while imports decreased 23.1%.” She maintained that the rate of exports covering imports was the most important economic indicator this year and it had reached 87.3% in the first two months, up from about 64% in the same period last year.

The relative increase in exports and the sharp decline in imports is obvious, but what really matters are the dynamics underlying the trend and how sustainable it is.

Turkey’s economy grew only 1.8% in the third quarter of 2018 before shrinking 3% in the fourth one. As a result of the sharp contraction, the importation of items used by the industry — intermediate goods, inputs and investment machinery — has dropped. The decline is a direct reflection of decreasing production and stalling investments. Similarly, the increase in exports is hardly the sign of some industrial boom but has to do with goods produced of now-depleted or stocked raw materials. Hence, the uptick that Pekcan hails is hard to sustain for the time being.

Indeed, the big increase in Turkish exports in recent years has been accompanied by a similar increase in imports. In 2017, exports hit $157 billion, increasing 234% from $47 billion in 2003. Imports, meanwhile, rose 239% to $234 billion from $69 billion in the same period. Consequently, the country’s foreign trade deficit expanded to $77 billion in 2017 from $22 billion in 2003.

In other words, production depends heavily on imports; hence, exports cannot grow without imports. In major export items such as automotive products, food, textiles, apparel, white appliances and iron and steel, the equivalent of up to 60% of export proceeds is spent on imported inputs. Without those imports, production and therefore exportation is not sustainable.

The dependency on imports varies between sectors, but on average it stands at about 60%. This could be observed in the so-called inward processing permission certificates, which denote government incentives to exporters. The “inward processing regime” is the backbone of export activities and, as a policy, has contributed to the exports’ dependency on imports. Under the system, tax exemptions and other perks are granted to industrialists who do processing at home and export their products within a certain period of time. The incentive certificates are published monthly in the official gazette.

Since its introduction in 1996, this incentive system has come to encompass nearly half of Turkey’s exports. Under the system, companies notify the authorities of their export plans, asking for exemption from taxes and fees. In their applications, they specify export commitments and identify what they need to import for that purpose, for which they receive incentives as well.

Though figures vary from year to year, the value of incentivized imports is equivalent to around 60% of the value of exports within the scope of the inward processing regime. In 2010, for instance, the ratio hit 60%, with incentivized import permissions of $33 billion for exports worth $55 billion. In 2017, the ratio was 55%, with the import and export figures standing respectively at $34 billion and $62 billion.

In the 2003-2017 period, dependency on imports reached up to 75% in some categories such as base metal, computers and electronics, while generally standing at some 60% in the automotive sector and around 50% in the food industry.

Several recent examples could give a better idea. According to incentive certificatesissued in July 2018, Ford Otosan, a leading automotive company that is part of the Koc business empire, received incentives for exports worth some $1.5 billion, for which it needed to import goods worth $887 million. This means that for the said batch of exports, the need for imports was some 60%. Similarly, tire maker Birsa declared a need for $42 million imports for an export batch of $76 million, meaning a 55% dependency on imports. Icdas, a major company in the iron and steel industry, needed to import items worth $153 million — probably scrap iron — to export goods worth $199 million, which means a dependency ratio of up to 77%.

The reliance on imports is not limited to intermediate and capital goods, extending to subsectors such as food, textiles and apparel, where Turkey is generally known as a competitive country. The importation of wheat to make flour for export is a typical example. In the apparel sector, even basic items such as cloth and yarn are being imported.

The share of imported inputs particularly grew in the 2003-2013 period, when Turkey enjoyed low foreign exchange prices under the impact of an abundant inflow of foreign funds, stimulated by favorable external and domestic conditions. As a result, the importation of many inputs was seen as more profitable than buying them domestically, which, in turn, brought about the demise of many local suppliers.

Such a reliance on imports in the industry has a damaging impact on competitiveness once foreign exchange prices shoot up, as happened last year, making imports more expensive and thus increasing production costs.

To make the old scheme work, one needs to bring foreign exchange prices down, which, in turn, requires an increase in the inflow of foreign capital. This, however, appears a distant prospect for Turkey in the near future. There are serious signs that the Turkish lira has again entered a downward trend, which means that the headway of exporters is limited to stocks since the uptick in exports can hardly be sustained with foreign inputs purchased on the current exchange rates. The replacement of imported inputs and machinery with local ones, meanwhile, requires a steady long-term effort, including most notably a review of Ankara’s growth paradigm, which has for years encouraged construction while ignoring the industry.