Turkey’s Economy: Review of 2020 and Main Challenges in 2021

EPC | 26 Jan 2021

The Turkish economy was hit by a major crisis in March 2018 and was only able to get out of it relatively at the end of 2019 after painful financial measures were taken through raising the bank interest rate and narrowing access of foreign investors and speculators to the Turkish lira, and thanks to the global financial situation that led to increased search for investment opportunities, which drove some of those investments towards Turkey. No sooner had the Turkish economy slightly recovered than it suffered a more severe blow in 2020 as a result of the recession due to the coronavirus crisis.

This paper assesses the course of the Turkish economy in 2020, and tries to explore its most prominent challenges in 2021.

Coronavirus and the Turkish economy

At the beginning of 2020, the coronavirus pandemic hit the financially and commercially weak Turkish economy, especially with the decline of the European economy, the largest partner of the Turkish economy. Declining oil prices in that year did not succeed in filling the foreign trade deficit as a result of the decline in tourism in Turkey as well. With the intensification of the pandemic in the summer of 2020, the exit of investments and the flight of dollar depositors increased, which led to a rapid and significant decline in the price of the Turkish lira against the dollar, and the Turkish economy entered the second quarter of 2020 in a significant contraction.

The Turkish government tried to address this matter. However, the financial situation of the declining reserves of the Turkish Central Bank (TCMB) and the increase in the government budget deficit did not allow the government to offer strong support packages to traders and investors. The government simply reduced interest rates for limited periods through government banks only, and tried to push growth by expanding loans and rescheduling the debt of major corporations. While this policy was relatively successful, it burdened investors and traders with deferred debts.

On the other hand, it was noted that a large number of merchants preferred to use those soft loans at reduced prices to buy dollars and speculate with them. Due to the repercussions of the 2018 crisis, the decline in tourism and the demand for the dollar, and the decline in exports, the TCMB sought to stabilise the price of the lira by selling its foreign monetary reserves by the back door through government banks. However, this temporary solution was little successful, and the TCMB became in a position where it was incapable of continuing with this temporary solution. The TCMB’s hard currency reserves reached minus 50 billion dollars, and this policy caused inflation to increase dramatically.

The decline of the TCMB’s reserves and the failure of temporary palliative solutions ultimately led to a change of the official in charge of financial policies, namely Minister of Finance Berat Albayrak, the son-in-law of President Erdogan, in November 2020. A new TCMB Governor was appointed and new, different and more informed policies were adopted in line with the laws of the free market. The new administration adopted relative transparency, and returned to raising the interest rate, which reached 17 percent at the end of 2020. The new administration pledged to give priority to reducing the rate of inflation, stopped the policies of soft loans, and pledged not to impose any exceptional decisions that would prevent access to the dollar or withhold the money of citizens or companies in order to encourage the financial community.

By the end of 2020, the Turkish economy became in a weak and fragile position, and the percentage of bad and non-performing loans at banks reached nearly 4.15 percent, according to official figures. However, the figures of independent economic institutions indicate that the real rate is 8 percent. In addition, the Turkish Treasury's indebtedness increased to 1.9 trillion liras (nearly 250 billion dollars), of which 58 percent are debts in hard currency. The local interest rate became 17 percent at the end of 2020, and the dollar rate became 7.4 liras to the dollar. Turkey's foreign debts amounted to 420 billion dollars, and both Washington and the European Union (EU) imposed sanctions on Turkey at the end of 2020, so that 2021 in Turkey began with a difficult economic situation. While the steps of rectification have been started, the road to rectification and getting out of the bottleneck will be long and arduous.

The following figure shows the change in the price of the Turkish lira against the dollar and the euro since 2011 until now. It shows that the lira has gradually and increasingly lost its value in recent years, which led to reliance by local investors on the dollar, the flight of many Turkish deposits in local banks by being converted into dollar and gold, and the withdrawal of this money and keeping it outside banks in anticipation of any shocking protectionist government decisions. The most important loss for Turkey in recent years has been the confidence of foreign investors in the transparency and changing financial policies. However, Ankara is betting that raising its interest rate against a global interest rate close to zero, and its pledge not to refuse paying foreign debts or place bank accounts in hard currency under guardianship will prompt many investors to risk returning to Turkey with the aim of obtaining a quick profit.

External debt and foreign exchange reserves

Since 2001, Turkey has adopted a rapid growth model based on borrowing from abroad. With the application of this model, Turkey's external debt in 2018 reached 267 billion dollars. Current figures indicate a decline in external debt to 420 billion dollars. However, there is also internal debt of 37 billion dollars. Therefore, despite the government's heading towards new privatisation projects and the sale of establishments and real estate to foreigners, the deficit in the provision of hard currency persists.

Turkish financial institutions and companies seek to roll over their foreign debts into larger debts payable in a shorter time. The debt rollover ratio for Turkish financial institutions and banks has reached 95 percent of their owed debts, while it has reached 65 percent for companies. Because of Turkey's economic situation, its institutions are forced to pay an interest rate that is 6 points higher than the rate approved by the US Federal Reserve. That percentage has decreased after the recent changes in the Ministry of Finance and the painful steps that began to be taken to 4 percent. Turkey's foreign debt in 2021 is nearly 181 billion dollars, 51 billion dollars of which are debts due to commercial imports from abroad. Since 2017, Turkish institutions have not been able to sell bonds for more than 10 years due to the decline in confidence in the Turkish economy, while the terms of the Turkish Wealth Fund (TWF) and Turkish municipalities have decreased to only 5 years.

According to current official figures, the TCMB reserves of the dollar amount to 43 billion dollars, and of gold to 40 billion dollars. However, with the deduction of the present dues of the TCMB, this figure drops to only 13 billion dollars. In addition, two financial swap agreements in the amount of 15 billion dollars were concluded with Qatar and China, and similar swap agreements in the amount of 48 billion dollars were concluded with Turkish local banks. These are all short-term agreements that are due – if not renewed – within four months. Accordingly, the real reserve of the TCMB declined to minus 50 billion dollars, meaning that the TCMB in fact does not have reserve funds but is actually in debt. Therefore, in the event of any foreign political crisis or a large mass exodus of foreign investors, the TCMB shall not be able to provide the necessary foreign exchange.

Internal debts

The internal debts of the Turkish government amount to nearly 1.9 trillion Turkish liras (nearly 250 billion dollars). These debts constitute approximately 36 percent of Turkey's national product, which is not considered a high percentage compared to developing countries. However, the rest of the developing countries have easy access to external debt at lower interest rates. Besides, 58 percent of Turkey's internal debts are now in dollar and not Turkish lira. Most of those dollar debts are attributable – according to the Turkish opposition – to financial corruption, given that the most important debtors are major construction companies whose owners are businessmen close to President Erdogan, in exchange for service projects to build bridges and roads.

According to the Turkish Treasury Ministry data, during 2021, the government should work on rolling over internal debts worth 415 billion Turkish liras (55 billion dollars) and 10 billion dollars of its external debt. However, the budget items for 2021 seem extremely ambitious and illogical, depending on raising taxes and increasing internal debts. With the deterioration of the local trade situation, this leaves the government with no way out but to increase the internal debt once again. Only two actors accept buying the Turkish Treasury’s debt bonds domestically, namely the Pension Fund and local commercial banks. Due to the pandemic, the government used the reserves of the Pension Fund, which decreased by 25 percent. Therefore, the Turkish Pension Fund will not be able to buy more Treasury bonds in 2021, so that the Turkish government would only be able to borrow from local commercial banks. However, local banks also suffer from the difficulty of paying and collecting their debts due from citizens and institutions. Therefore, unless those Turkish banks obtain a source of debt and external financing, they too would find it extremely difficult to purchase Treasury debt bonds in 2021.

During previous years, the Turkish government had relied on additional one-time sources of income, such as adopting fees for military service and issuing amnesty for real estate violations in exchange for financial fines. While those sources helped the government pay off its internal debts to some extent in the past, in 2021, the government would no longer have any of those options. Indeed, the government may resort to privatisation once again, especially in military industrialisation projects as well as large-scale construction and real estate projects (such as the Istanbul Canal), although foreign investors do not have the appetite to get involved in Turkish privatisation projects due to the lack of transparency and the decline in the price of the lira. Currently, Qatar and China are the only actors who have shown interest in those privatisation projects.

Bad debts and the effects of the coronavirus pandemic

The volume of bad and unpaid debts at local Turkish banks has amounted to nearly 19.3 billion dollars, or nearly 4.15 percent of the total debts used and provided locally. However, this figure is not real according to independent financial follow-up institutions, especially considering the size of the large debts that were granted at reduced interest rates by the three state banks, and the volume of debt rollover and rescheduling at higher interest rates for local commercial enterprises that will have difficulty in realising profits to pay off their debts during 2021 due to the high inflation and the continuing effects of the coronavirus pandemic. This percentage of bad debts in private Turkish banks has reached 5.4 percent, while it has reached 6.28 percent at foreign banks operating in Turkey. The Banking Regulation and Supervision Agency (BDDK) decided to postpone the declaration of bankruptcy for Turkish banks and commercial institutions until June 2021, meaning that the BDDK allowed commercial enterprises to default on their debts owed to banks until June 2021, which would affect the liquidity of those banks. Accordingly, the size of bad debts in Turkish banks is estimated or guessed at between 8 percent and 12 percent, equivalent to between 37 and 52 billion dollars.

On the other hand, Turkish banks announced the allocation of a reserve of 25 billion dollars in order to remedy the non-payment of those debts. Therefore, this amount may protect those banks from declaring bankruptcy in the event of non-payment of bad and doubtful debts. However, in the event that the TCMB is forced during 2021 to raise the interest rate from 17 percent to 20 percent and above, this would lead to a series of bankruptcies in Turkish companies that would not be able with this figure to roll over or reschedule their debts. Accordingly, the TCMB is forced to adjust the interest rate at less than 20 percent. This will be the most important test for the new administrations of the Ministry of Finance and the TCMB, which have pledged not to reduce the interest rate as long as the inflation rate remains high, given that it is currently at 14 percent and is expected to rise further during the winter months due to the increased use of heating fuel and gas imported in dollars from abroad.

Foreign policy and sanctions

The Turkish government has increased its political and military interventions in many neighbouring regions, from Iraq and Syria to Libya, Somalia and Azerbaijan, and is seeking to increase its military expansion in Africa and to use military force in the eastern Mediterranean in order to defend its interests. While Turkey has succeeded through this in imposing its influence and blocking many regional projects that exclude it, this foreign policy made Turkey clash with its most important allies, namely the US and the EU, which imposed sanctions on Turkey in December 2020.

While those sanctions have been on a narrow scale so far, have not significantly affected Turkey economically, and have not prevented investors from entering the Turkish market, Turkey must solve those problems, especially with the new US administration, during the next six months. Otherwise, the US sanctions, which are currently limited to the establishments of the Turkish military industries, may expand in the best-case scenario to include all military industrialisation establishments and the Ministry of Defence, and in the worst-case scenario, they may turn into financial sanctions such as those imposed on Iran, denying Turkey access to foreign exchange transfers.

The EU is also threatening to impose stronger sanctions during its summit in March 2021, after coordination and understanding with the administration of the new US President Joe Biden. In March 2021 also, a US court in New York will begin to review the case of Turkey’s assistance to Iran in circumventing US sanctions (the Turkish Halkbank case), which is an extremely serious issue, in addition to the issue of the Russian S-400 missiles that Washington requires Turkey to remove from its territory and not simply refrain from activating them. Furthermore, Washington has the most important voice in the World Bank (WB) and the International Monetary Fund (IMF), the two institutions that Turkey may resort to in 2021 in order to obtain external foreign financing to pay off debts, not to mention the dispute between the Turkish government and major Internet and social media companies, such as Twitter and Facebook, which refuse to open an office in Turkey in order not to submit to political pressure on their content. The Turkish government has threatened to ban the sites of those companies in Turkey in June 2021 if they do not open representation offices in Turkey, which may put Turkey in a new crisis considering the esteem and influence of those companies for Turkey's image internationally.

Until now, Turkey has relied on the fact that the imposition by the EU of painful financial or economic sanctions on Turkey may affect the European banks that supplied Turkey with its current debts. However, this would not give Turkey sufficient guarantees, especially given the 2018 crisis with the US and Germany due to the arrest of the US pastor Brunson and the German journalist Yucel who had to be released by the Turkish government after the two countries threatened to pressure international investment institutions to withdraw their investments from Turkey, which led to a crisis in the Turkish lira. Therefore, Germany and the US are the two countries most capable of striking the Turkish economy through secret political or economic decisions by giving signals to international investment institutions to withdraw their money suddenly and collectively from Turkey. As explained previously, Turkey’s monetary reserve position does not allow it to address those scenarios.

Global markets and the global economy

During 2021, Turkey will face the challenge of obtaining more external debt or financing sources that would accept Turkish debt rollover or rescheduling. Turkey has four main actors, namely the US, the EU, China and Japan, whose central banks have large cash funds at nearly zero interest rates. Therefore, if Turkey takes the correct economic steps and is able to restore the confidence of foreign investors, it can attract foreign investment again, which would be tempted by the high Turkish interest rates and stability in the Turkish lira.

This would require Turkey to keep the interest rate high and reduce government spending, which would be reflected in the Turkish economy in terms of low growth figures and an increase in unemployment rates. The most important challenge for Turkey remains in the speed of the global recovery from the coronavirus pandemic, given that the entry of the global economy into a new crisis would weaken Turkey's opportunity to obtain foreign financing. It would also deprive Turkey of the opportunity to increase its exports and attract tourists again, which would have a strong negative impact on Turkey.

The status of investments in Turkey

Turkey has been following an open economy policy since 1990. It relies on external debt and foreign investment for growth due to the weak domestic savings and the lack of a source of wealth such as oil or gas. Therefore, Turkey depends on "fast investors" and "hot money" that enter the Turkish market to benefit from the high interest rate and exit in a short time. During the period of Berat Albayrak's management of the economy, Turkey entered into a crisis with foreign investors due to Albayrak's constant and volatile change of investment laws, and the denial of foreign investors of access to the Turkish lira and swaps. During 2020, in more than one meeting with foreign investment institutions, Albayrak failed to persuade them to return to Turkey. Turkey will need time to regain the confidence of foreign investment institutions, but is currently striving in order to be a factor of attraction for them due to the increase in the interest rate and the stability of the Turkish lira, and a pledge not to return at all to Albayrak's policies that have hurt foreign investors.

On the other hand, with regard to long-term investments and privatisation, the political situation in Turkey does not help foreign countries to take any risks in Turkey, especially with the issuance by President Erdogan of a law granting him the powers to seize and nationalise any company or personal property whom he accuses of supporting terrorism even without a court ruling, which threatens any foreign investment. Accordingly, President Erdogan is betting on Qatar and China and some foreign businessmen who have good relations with him in order to push them to invest in Turkey with promises of great profits and his personal protection for their investments, which does not seem enough for Turkey.

So far, the lira – despite its relative stability over the past two months – continues to be under threat. Due to the coronavirus pandemic and the economic crisis, the prices of many companies and real estate have declined and become on sale. However, given Turkey's unstable situation, investment in those companies and real estate remains a risk, given that Turkey’s exposure to a new economic shock may cause further decline in the prices of those companies and real estate in relation to the dollar. Accordingly, it is advisable to wait until June 2021 in order to assess the situation before entering into any investment to buy companies or real estate in Turkey, and to link this to the speedy exit of Turkey and the EU from the repercussions and effects of the coronavirus pandemic, and the fulfilment by the current Minister of Finance and TCMB Governor of their promises and their continuation to implement the current new economic plan without backing off.

Domestic politics and the social situation

The Justice and Development (AKP) government is expected to continue its repressive policies against the opposition and freedom of opinion and expression during 2021 in order to stay in power. Despite President Erdogan's statements confirming that no elections will take place in Turkey until the scheduled date in June 2023, the deterioration in the economic situation and the steady growth in the votes of the opposition, especially the Future (Gelecek) and the Democracy and Enterprise (DEVA) parties which split from the ruling party, may push President Erdogan to hold early elections in the second or third quarter of 2021, after amending the election law in his favour. This possibility would increase if Erdogan fails to open a new page with Europe and the US because he may need to send a message to those two parties that he will remain in power for the next five years, and that they must deal with him and accept his policies because there is no possibility of political change in Turkey. The election results are of course not decided, but the declining status of democracy and transparency in Turkey may push Erdogan to hold non-transparent elections and impose their results by force.

Furthermore, as a result of the aforementioned economic policies, and because the Turkish government is compelled to take painful economic and financial decisions at both the popular and social levels, the social situation in Turkey is expected to explode at the end of 2021 or the beginning of 2022 due to the increase in unemployment and inflation, which will be another pressure factor on President Erdogan to hold early elections before this takes place.

Because of Turkey's dependence on an open economy, and the lack of its own financial resources, the stability and growth of the economy that depends mainly on foreign funding requires that President Erdogan fulfill two basic conditions in his domestic and foreign policies in order to bring the Turkish economy to safety, namely:

First, at the foreign policy level: identifying with the US policy in the region and improving relations with the US administration, in addition to improving relations with the rich regional countries (Saudi Arabia, the UAE and Iraq), given that experience has shown that betting on China and Qatar is not sufficient to support the Turkish economy.

Second, at the level of internal politics: expanding freedoms, democracy, transparency and judicial independence in order to attract independent and European foreign investments.

The first option seems easier and closer to President Erdogan, as the expansion of freedoms, transparency and judicial independence threaten his stay in power and his re-election even if the economy improves. Therefore, there are serious intentions by Erdogan to change his foreign policies, especially with Saudi Arabia and the US in order to obtain the necessary financial support to float the economy and save Turkey from a new economic crisis. However, this matter depends on the extent to which the administration of the elected US President Biden wants to improve relations with Ankara, apart from demanding that it improve the situation of freedoms and justice at home, and the extent of Saudi Arabia's intention to achieve reconciliation with and investment in Turkey.

At the domestic level, President Erdogan has to find new commercial investments to finance the Turkish businessmen loyal to him, who have become difficult to finance through local projects in view of the decline in the capability of the Turkish Treasury to finance those projects. Erdogan relies on those businessmen to finance his internal political, media, and social projects, and the loss by those businessmen of their profits may lead to a decline in Erdogan's popularity as well as the possibility that the businessmen would turn against him.


  • With the end of 2020, the Turkish economy has become in a fragile situation, as the Turkish government's debt increased to nearly 250 billion dollars, which accounts for 36 percent of Turkey's national product. The local interest rate has become 17 percent, and the dollar rate 7.4 liras. Turkey’s foreign debts have reached 420 billion dollars and its domestic debts 37 billion dollars, while Turkey’s external debts in 2021 would amount to nearly 181 billion dollars. The real reserve of the TCMB decreased to minus 50 billion dollars, and the percentage of the banks’ bad and non-performing loans has reached 8 percent, according to independent institutions.
  • The year 2021 began with the imposition of "limited and partial" sanctions by Washington and the EU on Turkey, and unless Ankara resolves its problems with both Washington and Brussels, those sanctions may turn into financial sanctions that would deprive Turkey of access to foreign-exchange remittances.
  • Given the popularly and socially painful economic and financial decisions that have to be taken by the Turkish government, the social situation in Turkey is expected to explode at the end of 2021 or the beginning of 2022 due to the increase in unemployment and inflation, which may constitute a pressure factor on President Erdogan to hold early elections.
  • Removing the Turkish economy from recession requires improving relations with the US administration and with the rich countries in the region (Saudi Arabia and the UAE), and expanding freedoms, democracy, transparency and judicial independence in order to attract independent and European foreign investments.

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