Monday, September 28, 2009

Weekly Hurriyet Column: Great expectations, greater disappointments

With the hustle and bustle of the IMF/WB Annnual Meetings, it took me for days to finally post this week's column. Below is the unedited version; you can read the final version at the Daily News website. There is the usual cheesy reference, this time from literature, although it has been adapted to the silver screen numerous times.

As for the column, I am skipping the usual discussion, as I had already discussed most of the issues before the column got published, thanks to illuminating comments from Mary Stokes. But now that I think about it, I look like a fool stating that the modest expenditure cuts of 2011 do not look realistic in an election year: Maybe, 2011 is not the election year, 2010 is!!!

After a delay of roughly three months, the government disclosed the medium-term economic program (MTEP) nearly two weeks ago.

Having been late to the game, even my own rather lax standards, due to the Eid publishing break last week, I will only briefly summarize the main tenets of the program before trying to offer some value added.

The MTEP in brief…

There is mutual agreement that the strong point of the program is the realistic projections. While I find the 2010 unemployment and inflation forecasts a bit too optimistic for my taste, the rest are in line with the economic scenario I have been sketching since early in the year. In fact, the government managed to take my number of the devil projections a step further by forecasting the deficit at 6.6 percent of GDP.

But as many analysts have already noted, the fiscal side of the program does not lie on firm foundations. For one thing, almost all of the mediocre fiscal adjustment next year, which incidentally falls short of securing debt sustainability, is coming from robust revenue growth stemming mainly from the expected economic recovery. Moreover, even the modest expenditure cuts of 2011 do not look realistic in an election year.

…And the fiscal rule

In fact, the only thing that has kept sound economists even mildly optimistic is the mention of the implementation a fiscal rule sometime in 2011. Although the details are still sketchy, it seems that the government has in mind a cyclically-adjusted fiscal rule, as Turkish daily Referans went ahead and published a formula based on debt sustainability.

Such a rule that adjusts the fiscal position for the economic cycle could make sense for Germany, to which Economics tsar Babacan alluded during the unveiling of the MTEP, but I doubt it’d be the appropriate rule for Turkey, especially if it overlooks the composition of the budget. In other words, numerical policy rules do not make sense for a country with a poor fiscal track record like Turkey if they are not accompanied by procedural rules such as a cap on non-interest expenditures.

Even if the government manages to come up with the right rule for Turkey, implementation will be a huge challenge. Unless the rule is hammered into the constitution, there will always be the risk that it will share the destiny of the ill-fated borrowing limits in the fiscal control law, being cropped or even nullified with subsequent laws.

The biggest danger of the fiscal rule lies in the false hope that it will be the answer to ensuring fiscal credibility. One useful analogy is with inflation targeting: After lots of trials and errors, it is now well-understood that inflation targeting per se or even attaining the inflation targets does not make a central bank credible, with the Central Bank of Turkey being a case in point.

In fact, one general misconception about fiscal rules is the assumption that they automatically deliver fiscal credibility. Without an independent and authoritative budget monitor or fiscal council, it wouldn’t be a big surprise if the Turkish fiscal rule, even after being ironclad in the constitution, would not gain much ground.

In any case, fiscal policy experts have repeatedly been pointing at lack of full transparency and shenanigans in public accounts, which do not bode well for the implementation of a fiscal rule. So, at the end of the day, maybe fiscal policy independency for Turkey should not go beyond being an academic curiosity, especially after the PM has disclosed his distaste for central bank independency in admirable frankness.

Or, if the government is just providing opium to the masses with hopes of an IMF deal and a fiscal rule, it should also be ready for the withdrawal to come.

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