Capital Flows, Macroeconomic Management, and the Financial System: Turkey, 1989-97

58 Pages Posted: 20 Apr 2016

See all articles by Oya Celasun

Oya Celasun

International Monetary Fund (IMF) - Research Department

Cevdet Denizer

Center for Economics and Econometrics; World Bank

Dong He

International Monetary Fund (IMF) - Monetary and Exchange Affairs Department

Date Written: July 1999

Abstract

Between 1989-97, large private capital flows to Turkey contributed to economic growth. Yet chronic and high fiscal deficits - coupled with an inconsistent financial sector regulatory framework - left the banking system and the economy vulnerable to capital flow reversals and external shocks.

Recent developments in a number of emerging economies have heightened interest in the relationship between macroeconomic management and financial regulation, in an environment of open capital accounts and large-scale movements of private capital.

Celasun, Denizer, and He analyze the Turkish experience with capital flows in a macroeconomy characterized by chronically high inflation and fiscal deficits. They study the relationship between capital flows, macroeconomic management, and vulnerability in the financial system.

Their analysis highlights the importance of fiscal policy in an era of large capital flows. Fiscal imbalances contributed both to real exchange rate appreciation and high real interest rates in Turkey.

The high interest rates the government must pay on domestic debt have become one of the key issues of Turkey's macroeconomic management. Only by reducing its interest expenses can fiscal deficits be reduced and greater stability be achieved.

The Turkish banking system, in becoming increasingly integrated with international financial markets, has become vulnerable to shifts in market confidence. Banks borrowed abroad in response to macroeconomic imbalances to benefit from high interest rates on domestic loans and government paper. In the process, the banks have exposed themselves to interest rate risk, to foreign-exchange risk, and to large credit risks. To reduce the Turkish economy's vulnerability to external shocks, financial regulation must be strengthened simultaneously with the achievement of macroeconomic stability.

This paper - a product of the Poverty Reduction and Economic Management Sector Unit, Europe and Central Asia Region - is part of a larger effort in the region to examine the relationship between capital flows and economic management. The authors may be contacted at celasun@econ.umd.edu, cdenizer@ifc.org, or dhe@imf.org.

Suggested Citation

Celasun, Oya and Denizer, Cevdet and He, Dong, Capital Flows, Macroeconomic Management, and the Financial System: Turkey, 1989-97 (July 1999). World Bank Policy Research Working Paper No. 2141. Available at SSRN: https://ssrn.com/abstract=614998

Oya Celasun (Contact Author)

International Monetary Fund (IMF) - Research Department ( email )

700 19th Street NW
Washington, DC 20431
United States

Cevdet Denizer

Center for Economics and Econometrics ( email )

United States
+902123596505 (Phone)
+902122872453 (Fax)

HOME PAGE: http://www.cee.boun.edu.tr

World Bank ( email )

1818 H Street, N.W.
Washington, DC 20433
United States

Dong He

International Monetary Fund (IMF) - Monetary and Exchange Affairs Department ( email )

700 19th Street NW
Washington, DC 20431
United States
(202) 623-4062 (Phone)
(202) 589-4062 (Fax)

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