We are standing in front of La Scala restaurant in Milan, engulfed in heat and a sense of failure, waiting for the limousines which will take us to the airport. Our little group includes bankers from Garanti Securities and Merrill Lynch and three of the four king-pins of Turkey’s financial bureaucracy: treasury under-secretary Selcuk Demiralp, central bank governor Gazi Ercel and Istanbul Stock Exchange chairman Osman Birsen. The fourth, Privatization Administration chairman Ugur Bayar, will join us in London, which is our next port of call.
We are on a three-day road show covering Frankfurt, Milan and London – in that order – to convince investors that Turkey has got serious about putting its house in order.
Turkey has an atrocious record for economic discipline. Britain’s inflation at 0.5% a year, the lowest in Europe, is something the Turkish economy can manage in three days or at most a week. “You think you have inflation? We have inflation,” is the proud boast of the Turk.
So the task facing Demiralp&Co is not an easy one. But our sense of failure is not about that, but something more basic. We had seen prospective investors tuck into their lunch while the trio made a good case for Turkey’s economic U-turn.
The agony comes from having failed, even in this famous north Italian city, to satisfy our personal gastronomic ambitions – to eat a first class Italian meal. Yesterday in Frankfurt we stayed long enough to brief a roomful of German investors around a dining table on the virtues of the Turkish economic programme – the food was definitely mitteleuropa. As we left for Italy we began to salivate at the prospect of some good Italian food. Alitalia’s business class didn’t deliver the goods. Nor did dinner at Milan’s Four Seasons Hotel, or lunch at the restaurant La Scala, which was disappointing mid-atlantic cuisine. We might have done better in Frankfurt’s West-End, with its raft of Italian eating houses.
But stock exchange chairman Birsen is philosophical. “I like Milan,” he says, gazing at the statue of Leonardo da Vinci which stands in the middle of the square. It’s a question of investing the time in research. “We should come back.” “We will,” says treasury boss Demiralp. “As long as they have cash and we have words to say.” “Next time we should stay at least eight days,” says Birsen. That should be time enough to find the best saltimbocca alla Milanese in town. Birsen looks fierce, but on a trip like this he turns out to be a man of wit, with a ready laugh.
“You’re right,” says Demiralp. “This story has to be told slowly and really well – over some nice Italian food.” “If you tell it just once,” agrees Birsen, “they may not quite grasp the detail.” Birsen can afford to laugh.
He’s by far the best paid of these officials, and he sits in Istanbul, away from the bureaucrats and politicians in Ankara.
Holding the purse-strings
Treasury boss Demiralp, who has to face the politicians every day, is deeply envious. “This guy is relaxed,” he says of Birsen, who has burst into another fit of laughter. “I am unrelaxed.” Central bank governor Ercel is somewhere between the two.
He obviously loves his job, and, unlike Demiralp who holds the purse-strings, doesn’t have to say no to politicians quite as much.
Ercel will be more than happy to do another five-year term when his contract expires next year. Demiralp would probably have been happier to be fired five years ago. Many of his predecessors were, or they resigned because they found the job impossible – Mustafa Egilmez, Murat Kudat, to name just two. These three have known each other for decades. Ercel and Birsen went to the same university and all three started off at the ministry of finance. Their stints in Washington representing Turkey overlapped or followed each another.
Bayar, the privatization chief, is a different animal: he is the scion of a wealthy political family who gave up a fat private sector salary to work for the government. He is polished and dapper. He studied abroad and speaks faultless English. Many people believe that if he plays his cards right he could enter politics high up the ladder.
It is probably the dedication and enthusiasm of these men that engages their audience, more than the story they have to tell. During the past few years they have many times had to coax increasing amounts of money from investors to soften the impact of the latest financial crisis that has hit their country.
This time, however, the four senior financial officials have a different task. Their goal is not to raise money but to explain Turkey’s sweeping economic reform programme to somewhat sceptical investors. “Haven’t we seen this film before?” some of them ask.
The road-show is organized by Garanti Securities, one of Turkey’s leading investment banks, and Merrill Lynch. Although they are sharing the bill and appear to be co-managing events, each has a slightly different agenda.
Merrill wants to do “a bit of bonding” – in the words of one investment banker – with the treasury’s Demiralp and to show its clients it has the highest contacts in Turkey. Garanti Securities, which co-hosts a breakfast for Demiralp and Ercel with the National Bank of Greece, wants to show the bureaucrats that its expertise and strength goes beyond the boundaries of Turkey.
The Turkish delegation tries to convince investors that solid achievements, not just promises, underlie the three-year disinflation and structural reform programme now in its sixth month. After 20 years of chronic high inflation, high interest rates, and increasing budget deficits they realize they have a difficult challenge to convince investors that Turkey has changed its tune.
“This time we must demonstrate by actions, not words, that we are serious about reforming our economy,” says Ercel. He says he’s fed up with the number of noughts he has to write every time he signs a cheque. (Ercel has already made plans to discard some zeros from the Turkish lira in January 2002 – the date that euro notes and coins are introduced in the eurozone.).”I am ashamed of putting my signature under so many zeros,” he says. “We want Turkey to become a first-class country in the world.” Ercel continues: “Over the last decade the Turkish economy was characterized by high real growth, but this growth was overshadowed to a large degree by our inability to correct the well-known imbalances of high inflation and high interest rates.”
Demiralp adds: “The aim of this programme is to create a solid base for high sustainable growth. In order to do this we must bring down inflation, implement key structural reforms, and improve fiscal balances. If we do all these things, interest rates will naturally trend downward. We are very serious about our goal of bringing inflation and interest rates to single digits at the end of this three-year programme.” It was Ercel and Demiralp who convinced the new coalition allies that there was no alternative.
“How did you do it?” asks an American banker who knows how fickle Turkish governments are. “We told them what would happen if they didn’t do it,” says Demiralp with a twinkle in his eye. Ercel adds: “It was time to do the right thing. In Turkey the right thing is only done when all other alternatives are exhausted. All other alternatives had been exhausted.” The key to the programme is the strong three-party coalition government that came to power after the general elections in April 1999. The commitment of the new government to economic reform allowed the senior officials to begin working with the IMF to design a unique three-year programme for Turkey.
“One of the unique features of our programme is that it is aimed at preventing a crisis rather than attempting to solve a crisis that has already begun,” Demiralp told investors in Frankfurt. “After all, Turkey had weathered crises like Asia and Russia with very limited external assistance. We believed the fundamental realities of our economy were much stronger than perceptions, but to reduce the risk of a real crisis in the future we needed to deal with macro-economic imbalances now.”
Once the outlines of a programme were agreed, the Turkish parliament worked overtime during the summer of 1999 to pass a number of key pieces of legislation required for a letter of intent with the IMF.
These included: reform of the bankrupt social security systems, including a sharp increase in the retirement age; constitutional reform approving international arbitration, thereby clearing the way for faster privatization; reform of the banking sector, including a new supervisory board with sweeping powers.
The inflation goal was set at 20% for 2000 – an ambitious target when the average inflation for the past several years had exceeded 60%.
In a major break with the past the government agreed to base civil servant pay increases on anticipated inflation rather than on historical inflation. While these major pieces of legislation were being debated in parliament the country suffered the tragic earthquake on August 17 in which approximately 20,000 people died. Despite this tragedy in the heart of Turkey’s major industrial zone the legislature continued its work and passed the social security legislation within days of the earthquake.
In December the central bank announced a radical new policy to pre-announce the depreciation rate for the Turkish lira, again in line with the target inflation rate. Also in December the government demonstrated its determination to improve the banking system by taking over five private sector banks deemed to be in weak financial condition – one of which belonged to a brother of Turkey’s then president Suleyman Demirel. At last all the pre-conditions for the IMF letter of intent had been met and the agreement pledging $4 billion over three years was signed in December 1999. And finally, to cap a storming year, Turkey was admitted as a full candidate for the European Union.
The disinflation and stabilization programme officially began in January 2000 and has already achieved significant progress.
Inflation has fallen sharply. Even if the official 2000 target of 20% is out of reach (by about 10%), anything close to that number will be a major triumph.
Interest rates have also fallen sharply.
During 1999 the average rate On short term domestic government debt was more than 100% in Turkish lira terms. The rates are now under 40%.
As a result of tight expenditure control, improved tax receipts and privatization revenues the primary budget surplus has surged to more than $7 billion during the first five months of 2000 compared with a deficit of almost $1 billion during the same period last year. Privatization proceeds amount to more than $5 billion during the first five months of 2000, more than the amount collected during the previous 15 years combined. Central bank reserves have remained strong at $24 billion and the currency depreciation rate has remained on target.
“As a result of improving domestic balances we have been able to improve our debt profile by replacing high-priced short term domestic debt with longer-maturity external debt,” Demiralp says. For the first time in the history of the republic the treasury was able to issue 30-year paper.
Folically challenged
“This year the policy is to redeem more domestic debt than is issued. The real impact of the debt improvements will be seen in 2001 when we anticipate saving about $20 billion in interest payments.” The Privatization Administration also has the ambitious goal of more than $7 billion in proceeds during 2000, and has already reached $5 billion.
Privatization boss Bayar spent eight frustrated years before he was able to see results: “I had a full head of hair when I started,” tells a group of investor’s at London’s Savoy Hotel pointing at his prematurely bald head. “I saw the bad and the ugly. Now I am enjoying the good.” With the strong support of the government, and the passage last summer of the constitutional amendment allowing international arbitration, privatization made rapid progress.
“Already this year we have sold majority control of Petrol Ofisi (the largest petroleum retailer), had a secondary offering of more than $1 billion for Tupras (the largest refiner), and sold the third GSM licence for $2.5 billion,” says Bayar. “These were in addition to several smaller transactions.”
Also in our programme this year are Turk Telekom, Turkish Airlines and Petkim (petrochemicals),” says Bayar. Demiralp adds that over the three years of the programme the government anticipates $18 billion in privatization receipts.
The pace of reform continued during the spring of this year. The government once again demonstrated its support for the programme by agreeing on the extremely sensitive issue of curbing agricultural support prices. Like the civil servant salary increases the agricultural price supports were based on anticipated inflation rather price history.
Despite the anticipated sharp protests from farmers the government agreed to price hikes well within the limits of the programme. The central bank also announced a gradual removal of the universal deposit insurance programme which had been introduced in 1994 to restore depositors’ confidence after the financial crisis early that year.
Funding needs
The total financial support for the government programme amounts to about $10 billion with the major portions coming from the IMF and the World Bank. “The amount required to help this programme succeed is relatively small compared with other economic adjustment programmes we have seen in other countries and regions,” says Ercel. “But money is not the main issue with the Turkish programme; we don’t have a major crisis in our banking system a or current account that requires massive financial assistance. We need some financial assistance for the fiscal adjustments and structural reforms that will produce the sustainable growth and stable currency that will prevent crises in the future.” The international markets have also shown strong support for this programme.
“So far this year we have achieved about 80% of our planned $6 billion in the external debt markets,” says Demiralp. “We may well increase our target amount.” A major beneficiary of the improving economic scene has been the Istanbul Stock Exchange. Chairman Birsen reminds investors that Istanbul recovered from a weak 1998 to be the best performing market last year with a gain of more than 200% in real terms. So far this year investors have demonstrated their belief in the economic programme by shifting from fixed income – whose yields have declined from the stratospheric to the merely attractive – to equities. Average daily volume on the ISE for the first four months of the year soared to more than $1 billion compared with about $350 million the previous year. The IPO calendar is full with some 20 transactions so far. One of the highlights this year will be Turkcell, Turkey’s largest mobile telephone operator.
Market observers anticipate IPO proceeds of $1.8 billion to $2 billion.
The renewed appetite for equity investments was demonstrated dramatically with the successful secondary offering for Tupras, the country’s biggest refiner. Garanti Securities designed a new structure featuring significant discounts to Turkish citizens and even greater discounts for Tupras employees. The marketing programme designed by the Garanti team featured extensive advertising by all the 21 consortium members and a roadshow to all four of the Tupras refineries to explain the transaction to Tupras employees. Garanti personnel set up temporary operations in the refineries to handle the employee transactions.
The result of this campaign was unprecedented domestic demand for Tupras shares. Almost 400,000 accounts were opened for Tupras shares, and domestic investors pre-paid approximately $1.3 billion for the offering. “By any account, this was a major success for the Privatization Administration and for our market. I think this will set the tone for future offerings,” says Birsen, who is the only one among the group to travel in an armoured car with bodyguards. “There a lot of nuts who think that all the money made from transactions is kept in the stock exchange,” he says.
It isn’t easy convincing investors who have seen previous attempts at economic reform left on the drawing board. But at the end of the meetings in London, Frankfurt, Milan, no-one chuckles when Ercel says: “Our goal, quite simply, is to achieve the economic criteria for joining the European Union at the end of this three-year programme.” Investors are beginning to accept the idea that this time may, in fact, be different.
