Who would have thought the old school tie could play a vital role in the slaying of Turkey’s worst enemy, inflation? The Mulkiye, the venerable School of Political Science, was established by the Ottomans in the 19th century to train administrators for the service of the sultan. Some more recent graduates are now the backbone of a team which could finally guide the Turkish republic out of its economic mess.
Almost all of Turkey’s governors, ambassadors and finance ministry officials are Mulkiye graduates. Together they constitute one of the most formidable establishment cliques in the country, the Mulkiye juntasi.
The Mulkiye is enjoying probably its strongest influence ever over the conduct of economic policy. Prime minister Mesut Yilmaz is a graduate, as are finance minister Zekeriya Temizel, central bank governor Gazi Ercel and secretary general of the Turkish treasury Mahfi Egilmez.
The Mulkiye logo is a grazing cow, symbolizing the budding bureaucrat’s insatiable hunger for knowledge. Until the mid-1970s the Mulkiye Cow Festival was a major event in the Turkish capital. It lasted a week during which students got drunk and let off steam before their final exams. They would elect a Cow King and a Cow Queen, one for studiousness the other for looks. On the last day any students sober enough to walk followed a real cow through the streets and sang the Mulkiye march: “We need no other love/ Our hearts beat with your love/ Motherland stop your tears/ We are coming to help you.”
Political violence in the late 1970s put paid to the festival. But the Mulkiye is still turning out fresh-faced bureaucrats to work for their country, mostly for a pathetic salary.
A lot is riding on the contribution of one, Mahfi Egilmez, secretary general of the treasury. He sacrificed a fat private-sector income to rejoin the treasury for TL218 million ($1,200) a month. With annual inflation running at 90% his pay-cheque shrinks by a steady 7.5 % a month.
But this is precisely what brought him back to the treasury: the second-worst inflation rate in the world caused by a fiscal mess which could easily be the world’s worst, and a chance to do something about it.
“The work I’m doing here is not something one does for money,” he says in his vast office on the second floor of the treasury’s modern concrete and glass high-rise in Ankara. “If you value money above all else the civil service is obviously not the place to aim for. I became a civil servant because for me money was never a top priority. I was in the private sector briefly. I couldn’t get used to it.”
Although he’s reluctant to say it, Egilmez is clearly back to help complete the economic transition which Turgut Ozal, the great reformer, started in the 1980s but couldn’t finish. Egilmez was a senior treasury official when Ozal started steering Turkey away from its state-directed and severely protected system towards a market-oriented enterprise economy. He was one of the major players, particularly in the transition of the Turkish lira to convertibility.
Towards the end of the 1980s the reform movement lost momentum. Ozal yielded to populist policies to bolster sagging electoral support. The public sector borrowing requirement grew and inflation started to soar. But Ozal continued to lose ground. His last victory in parliament was having himself elected president. Sick, tired, and broken he watched impotent as the Turkish economy began to sink. Suleyman Demirel, who succeeded Ozal as prime minister, opened the floodgates of populism. And they were opened wider by his successor Tansu Ciller, the country’s first woman prime minister.
In February this year, when Ciller’s coalition with the Islamic fundamentalist Necmettin Erbakan threatened to reverse Turkey’s western-oriented defence and foreign policies, the generals delivered an ultimatum. The Erbakan-Ciller coalition resigned and Yilmaz, a former Ozal protégé, was asked to form a government, with the tacit understanding that he would carry out the generals’ agenda: to stem the spread of Islamic fundamentalism and to stabilize the economy.
In July, after his three-party coalition won its vote of confidence, Yilmaz (whose name means “fearless”) called Egilmez (“the unbending”).
“I had no desire to return to this job,” recalls Egilmez. “I had done something very similar between 1989 and 1991.” But, after 22 years in government service he wasn’t enjoying life in the private sector. “I was thinking about other things. To leave behind something for my children to be proud of. Also, there was such enormous pressure on me. To say no would have been like refusing to fight when the country was under invasion.”
He was finally won over by Gunes Taner, the cigar-smoking, voluble minister of state, who oversees the treasury and the central bank. Taner, another veteran of the Ozal years, promised Egilmez that the state would be restructured and that the treasury would play a major role.
Egilmez, now 47, is a well-known figure from the reform years of 1980 and later spent five years in Washington as treasury representative working closely with the World Bank and the IMF. He subsequently wrote a book about Turkey’s relations with these institutions. In 1995 he quit and came home to stand as a parliamentary candidate for Yilmaz’s Motherland Party (Anap). But, failing to be elected, he started to work for Gama, an Ankara-based construction company.
Egilmez is seen at home and abroad as a man of integrity. His choice can be seen as a signal to the markets that the government means business. On his first day in office Egilmez broadcast a signal of his own: “Let no one think that I will act as an Anap man. I am here to do a job. If they put political pressure on me I will quit.”
A lonely battle
Before Egilmez returned, central bank governor Gazi Ercel was fighting a lonely and largely ineffectual campaign to win over the politicians to a medium-term economic stabilization programme.
Like Egilmez, after the Mulkiye Ercel spent more than 20 years at the ministry of finance and the treasury. He went to Washington for the treasury and quit to become the general manager of Tutunbank, a small private-sector bank. When the call came – in his case from Ciller – he dropped everything to return to Ankara.
Ercel welcomed the appointment of an ally in July. He and Egilmez started working together on a stabilization programme and lobbying the politicians.
“For the last two or three years Turkey has been seen as a country on the brink of crisis,” says Ercel. “We struck the bottom. If we start taking action now the economy will take off. For a strong economy we need continuous rehabilitation. The first priority is to bring down inflation, to which everything is indexed.”
At the end of July Ercel and Egilmez signed a protocol agreeing that the treasury and the central bank would work together to create monetary and fiscal discipline. The protocol was not legally binding and is in fact an irrelevance, since both organizations have a statutory obligation to cooperate. But it served as a warning to the government that if it decided to give in to populism it would find the treasury and the central bank united against it.
“It was a case of bureaucrats – who get on better among themselves than ministers do – ganging up against the government,” says an American banker.
The bureaucrats’ best ally in the government is finance minister Temizel, a former finance ministry official. For several years he was the ministry’s tax officer in Istanbul and gained a reputation for toughness and integrity (Temizel means clean hands). He stood successfully as a social democrat in the 1995 election.
Ozal’s biggest failure has been his inability to reduce the role of the public sector in the economy and to remove the politicians’ hands from the public purse. Politicians have virtually unrestrained freedom to indulge in reckless spending and, through government contracts and state banks, sustain a menacing network of corruption and nepotism. The corruption is protected by Mafia-type gangs in the police force and is the main obstacle to reform. But it is becoming clear even to the politicians that state funds can no longer sustain such a culture of corruption. The emergence of the fundamentalist Refah (Welfare) Party as Turkey’s biggest is a clear signal that a fairer distribution of wealth must become a priority. A large proportion of Refah supporters are not religious people but discontented voters from all shades of the political spectrum.
The IMF believes a comprehensive stabilization programme is needed to reduce the risk of renewed crisis and to set the stage for sustained rapid growth, according to a confidential document submitted to the members of the IMF’s executive board in July. High inflation, the growing short-term external borrowing, the large open foreign exchange position of the banks, the widening Eurobond spreads, and the public-sector external debt service obligations which fall due next year, underscore the economy’s continued fragility. The IMF believes that these problems cannot be solved using half-hearted measures.
Given the history of failed attempts to curb inflation gradually because of poor coordination and the inability to follow through on fiscal and structural reforms, a bold anti-inflation programme is the IMF’s preferred alternative. It would require a significant up-front increase in the fiscal primary surplus and a strong package of structural reforms (also implemented at the outset) complemented by a reorientation of monetary policies to fight inflation, including the possible use of an exchange-rate anchor. A successful programme of this type would trigger improved access to foreign financing and a speedy fall in the debt burden.
Return to foreign markets
Whether the government can borrow from international markets to finance the budget deficit is crucial to the success of the programme. The financing of the deficit is expected to require $2.6 billion net treasury borrowing. Turkey has been a net repayer of foreign debt since the 1994 crisis, which seriously eroded its credibility. Reversing this trend requires a dramatic change of the way Turkey’s creditworthiness is viewed.
A new standby agreement with the IMF could be a turning point. IMF officials came to Ankara in October for routine consultations but their discussions have embraced the possibility of a standby facility. Egilmez argues that as long as Turkey sticks to its programme it will be able to raise the money it requires with or without IMF endorsement. He agrees, however, that a standby agreement would allow Turkey to borrow at longer maturities sooner. Otherwise, it might take five or six months for the market to pass its own verdict on the economic policies of the Yilmaz government.
The IMF’s proposed structural programme endorses tax reform, accelerated privatization, reining in of the social security system and credible anti-inflationary fiscal and monetary policies. Egilmez and Erçel fully agree with this programme and see no alternative to biting the bullet.
Egilmez goes further and says that nothing less than eliminating politics from the economy will work.
“There is a reform which no-one even speaks about but which to me is of the utmost importance,” he says. “It must be made immediately. We must reduce to the minimum or preferably eliminate completely the politicians’ interference in the economy. If politicians continue to set the purchase price of hazelnuts or the tobacco price or think they can increase or decrease interest rates we will never save ourselves from this swamp. I am not dreaming. This is what reality demands. This is a must.”
It is not yet clear whether Yilmaz will go all the way. But the first signs indicate that round one in this contest has gone to Egilmez and his colleagues. The prime minister has agreed to restrict government borrowing to TL4,000 trillion in the 1998 financial year and introduce legislation to ensure that this sum cannot be exceeded by more than 15%. Previously governments were free to borrow as much as they liked and almost always did.
Traditionally, Turkish budgets were a general statement of intent rather than a set of immutable income and revenue figures. In the course of the year they can be added to by so-called supplementary budgets which radically alter expenditure figures set at the beginning of the year. In this respect, the 15% ceiling on borrowing is a revolutionary development but its short-term effect on the domestic debt situation will be minimal. However, it may help investor confidence.
“This is not a great fiscal achievement,” says John Bernson, chief executive of Yasarbank in Istanbul. “It’s a middle-ground fiscal solution, not a radical one. It will stop but not reverse the upward trend in domestic debt growth. The PSBR is still close to 10% of GNP. However, it shows that the government is serious about the budget when, historically, governments were not serious about budgets. There’s a chance it might work.”
The budget also aims to bring GNP growth down to 3% in 1998, or half of the average of the previous three years, and reduce inflation to 50% from the current 90%. It is supposed to be the first stage of a three-year programme under which inflation would be reduced to 20% in 1999 and 2% in 2000.
The markets reacted positively to the Yilmaz budget. The Istanbul Stock Exchange , whose manic-depressive moods make it one of the most volatile of emerging market exchanges, was elated. It broke record after record. Overseas, demand for fixed-income Turkish paper surged. The treasury increased a Deutschmark bond issue then under syndication from Dm750 million to Dm1.5 billion.
“There’s unbelievable demand for fixed income,” says Ata Koseoglu of Bear Stearns in New York. The basis of the optimism is the view that the government will be able to get through 1998 without an election. If it can, the chances of pushing through its programme will increase. For the first time bringing inflation under control seems feasible. An upgrade of the sovereign credit rating is on the cards.
But there are some doubters who feel they’ve seen it all before. “I have my doubts,” says Erol Sabanci, vice-chairman of Akbank, one of the largest private-sector banks. “It’s all very well to set targets, and the targets we have heard are all very good and charming. But what vehicles will they use to attain them? This we don’t know. And they also say that they will reach these targets without hurting anyone. This is also charming. But how will they reach their targets without hurting anyone? I myself believe that if you hurt no one you achieve nothing.”
Moribund coalition
Sabanci believes the government’s principal weakness is that it is a three-party coalition that has a short life expectancy. “I find it difficult to believe that this government can hold on to power for three years,” he says. “We need a strong and determined government with enough years in it. Weak governments can hardly take brave and strong decisions.”
An American banker in Istanbul questions the market’s present optimism. “They can’t go on with business as usual because it will mean a TL6,500 trillion budget deficit which we know is unsustainable. It’s plausible that they could be thinking of a stabilization programme. But what I’ve heard so far didn’t sound like a programme. It sounded like some intentions. If it’s the beginning of a programme then it’s a moderate programme, not a radical one.”
The elements of a radical reform programme, according to the banker, would include the overhaul of the social security system, accelerated privatization, new taxes and the pegging of the currency. This latter would entail the restructuring of the domestic debt and changing the interest rate to a dollar-based interest rate with a fixed spread over Libor. Few people believe Yilmaz has the strength to push through reforms. Since the late 1980s there have been so many broken pledges and half-hearted austerity programmes that no-one is prepared to take budgetary targets as more than just aspirations or, at best, as steps in the right direction. The last standby agreement with the IMF was rudely shelved in 1995 when the government decided to call an early election.
Yilmaz has repeatedly stated that the reforms would be made whatever the electoral cost. He reportedly told his cabinet colleagues: “If we do nothing inflation will be 120% next year and we’ll definitely lose the elections, whenever they’re held. If we bring inflation down to 50% we may still lose the elections but we’ll have achieved something.”
Taner, one of the two ministers in charge of the economy, puts it more strongly: “I will kill inflation or it will kill me.” Isin Celebi, the other minister in charge of the economy, vowed he would quit if inflation did not come down next year.
Yilmaz has been vacillating between holding elections next year and in 2000 when the present parliament ends. It’s not entirely up to him. His three-party minority coalition depends on the goodwill of the left-wing Republican People’s Party (RPP). While the RPP’s preferred date for an election is vague it is known to be against waiting until 2000. There is also the army. The generals were instrumental in putting Yilmaz into power and may not be too happy if the volatile RPP leader Deniz Baykal decides to pull the coalition down.
A World Bank official comments: “This government’s political mandate is stronger than its economic mandate.” Atilla Karaosmanoglu, the chief adviser of the Istanbul Industry Chamber, agrees with the IMF view that the dragon’s tail cannot be cut off in slices. A gradual approach to reform never works, he says, because adjustment fatigue sets in and powerful interest groups find ways of throwing off any burden that is placed on them. He also cautions that with every passing day the social cost of adjustment increases. “The government needs to be more draconian,” he says. But he also thinks that there is no political or social consensus concerning the need to eliminate inflation.
Egilmez is undaunted by the weight of scepticism. “The prime minister doesn’t give me the impression of a man who wants to spend the last few pennies in the treasury and call a new election,” he says. “This gives me hope. Previously I was careful. Now I am hopeful.” Next year is “of vital importance”, he says. “If we miss this opportunity we will enter the next millennium in chaos.”
