“If there is genuine intent to lower inflation, the economic slowdown in the post-election period will be markedly more severe. The cost is undoubtedly steep, but any grievances should not be directed at the policies implemented to mitigate this cost but at the earlier policies that necessitated its payment.”
The March 31 local elections in Türkiye marked the most severe defeat for the incumbent AKP in its 20-year reign. This voter backlash was a belated response to a decade of policy missteps that severely disrupted economic stability, especially after September 2021.
In the run-up to the general elections in May 2023, the government opened the floodgates, indulging in “borrowings from the future” to mask the fallout from unsustainable policies with equally short-sighted measures. In urban centers, the sting of high inflation and soaring living costs was more acutely felt, rendering the aforementioned smokescreen ineffective. Consequently, the ruling coalition failed to secure a majority. Conversely, rural areas and low-income groups, cushioned by social assistance, low-cost borrowing, and minimum wage hikes, felt the economic strain less and continued to support the ruling coalition, relegating their financial woes to the background, and allowing AKP coalition to secure another term.
What has changed in 10 months?
The May 2023 elections, however, signaled a watershed moment for these untenable policies. The stubborn adherence to low-interest rates to offset inflationary pressures pushed the country to the brink of a severe balance of payments crisis, necessitating an inevitable shift to the orthodox policies that should have been adopted from the outset. This volte-face underscored the looming deadline to repay our borrowed future.
From June 2023 to March 2024, in the lead-up to the local elections, we observed the end of the party. The era of easy money, fueled by a low-interest environment, was over, and the financial taps were being progressively tightened.
Will Economic Policies Shift Post-Election?
Had the election results favored the AKP, I wouldn’t have anticipated any policy changes, as such an outcome would have been interpreted as public endorsement of the current strategies. However, following a significant electoral defeat, the AKP faces two choices:
1) Blame the local election setback on Mehmet Şimşek and his team, halting the initiated policies midway. In their place, a more lenient team could be introduced to prop up the economy, maintaining interest rates “just high enough to avert a crisis” but sidelining inflation reduction.
2) Accept the electoral loss maturely and give full backing to Mehmet Şimşek’s team, expecting the tough medicine to remedy the economy by the 2028 general elections.
I believe the first option would spell disaster for the economy, and thus, I see a higher likelihood of continuing with option (1). Especially considering the political cost of the harsh remedy has already been paid with the local election defeat, the government will likely want to complete the job and leverage the four-year election-free period, aiming to reap the benefits of today’s efforts before the 2028 general elections.
IMF Option
Post-election, President Erdoğan signaled the government’s agreement with this stance, asserting a firm commitment to battling inflation and promising tangible results in the latter half of the year.
Should the implemented program remain unaltered, or better yet, if a comprehensive plan to curb inflation is adopted post-election, boosted with structural reforms, it would necessitate an IMF-like stabilization program. Without such a program, inflation cannot be tamed. However, if an IMF-style plan is on the cards, involving the IMF to facilitate fund inflows and using those funds to more equitably distribute the cost of the bitter prescription would be logical. Erdoğan’s call to analyze and rectify their errors during his balcony speech can be understood in this light. Despite his well-known opposition to the IMF, it’s important to remember that he also shifted his firm stance on low interest rates right after the May 2023 elections.
The costs are just beginning
As an economist pained by the fallout from the unorthodox and accommodative policy moves, I welcome the signals that there will be no return to the damaging strategies of the past. However, my optimism does not extend to the unforeseen costs we must now bear in Turkey or the harsh reality that the next four years will be spent clawing back to the equilibrium we had six years ago.
We are merely at the outset of bearing these costs. The toll of reducing headline inflation from 67 percent to the year-end target of 36 percent will be steep. The household inflation expectation survey we initiated by Koç University in collaboration with Konda reveals that both the current perceived inflation and the year-end inflation expectations significantly exceed official figures. It should also be noted that, even though the Central Bank has hiked the policy interest rate from 8.5 percent to 50 percent in ten months, the real policy interest rate remains negative. As the Central Bank intensifies its efforts to tighten credit supply, it’s crucial that it doesn’t stand alone in combating inflation. Fiscal policy must be fully mobilized, not only to enhance budget discipline through more efficient spending but also to tackle the challenging task of tax reform. This reform should aim to eradicate tax evasion and ensure a fairer distribution of the tax burden.
If there is genuine intent to lower inflation, the economic slowdown in the post-election period will be markedly more severe. The cost is undoubtedly steep, but any grievances should not be directed at the policies implemented to mitigate this cost but at the earlier policies that necessitated its payment.
