Vigorous consumption gains boost Turkish economic growth in Q1

Turkish economic growth surprised on the upside in the first quarter. Data from the Turkish Statistical Institute (TurkStat) showed that the economy grew by 4.8% year on year (y/y), outpacing both IHS and consensus expectations. Although growth exceeded expectations, it also decelerated relatively sharply from the previous quarter, when a strong contribution of net exports buoyed overall economic performance. On the other hand, growth got off to a much more vigorous start in 2016 than it did last year, when GDP increased by only 2.5% y/y in the first quarter. When differences in calendar days are factored into the data, GDP growth was slightly slower at 4.5% y/y in the first quarter 2016, but still robust. After further, seasonal adjustments to the data, GDP was reported to have increased by 0.8% quarter on quarter (q/q). While still relatively strong, this gain was actually the slowest it had been since the third quarter of 2014. All throughout last year, growth had topped 1% q/q.

Private consumption was the driving force for the economy in the first quarter. At the beginning of the year, fulfilling campaign promises, the government implemented public-sector wage increases and imposed a 30% increase in the minimum wage. This influx of income fuelled private consumption. Additionally, employment growth has remained relatively robust, helping to drive down the unemployment rate, further contributing to a positive consumer sentiment. Consumer sentiment indices have been gaining traction throughout early 2016. The Syrian refugees also contributed to the strong gain of private consumption. With hostilities in Syria dating back now more than five years, refugees are beginning to establish roots in the Turkish economy. In the first quarter, non-resident spending within Turkey grew by more than 6% y/y, buoyed by fresh consumer spending, including on durable consumer goods, by Syrian refugees. Finally, the slow loosening of monetary policy and the prospect of further easing has also stimulated private consumption activity. Alongside private consumption, government consumption grew even more robustly in the first quarter. The government has shifted be much more pro-growth over the past couple of years. While fiscal austerity has not slipped too far yet, there is a shift to allow for more public spending in order to stimulate the economy, as evidenced by a 17.1% y/y surge in government spending on purchasing of goods and services. These strong consumption gains more than overcame the slight decline in gross fixed capital formation. A nearly 5%-y/y reduction in private spending on machinery and equipment dragged down total fixed capital formation. In all, domestic demand grew by more than 6% y/y in the first quarter.

This strong gain at home was offset by a negative contribution of net exports. Building consumption activity fuelled a 7.5% y/y jump in imports of goods and services. While imports were surging ahead, export growth was much more muted, reaching only 2.4% y/y in the first quarter. The lost Russian market and struggling demand in key Middle Eastern markets both inhibited export gains.

On the production side, the industrial and services sectors benefited from the consumption-led growth in the first quarter. In particular, wholesale and retail trade activity expanded rapidly. Additionally, banking and financial services grew strongly in January-March 2016, as did service sectors associated with the public sector – public administration, education. Somewhat surprisingly, the construction sector grew robustly in the first quarter, even as gross fixed capital formation contracted. Manufacturing and, thus, industry grew relatively strongly in the first quarter even though export growth faltered. Sales on the domestic market likely drove gains here.

Although domestic demand is growing robustly and export gains faltering, Turkey's current-account deficit continues to narrow. After narrowing by USD2.7 billion y/y in the first quarter, the current-account deficit fell by another nearly USD900 million in April 2016. While imports of goods and services grew rapidly in real terms in the national accounts, they dropped by 10.8% y/y in nominal US dollar terms in the balance-of-payment data in the first quarter, and another 11.6% y/y in April. The US-dollar-denominated imports are benefiting from significantly lower global commodity prices that lower the price of imports, even as the real measure of imports grew much more rapidly. The overall current-account deficit is narrowing in spite of a deteriorating services surplus. In the first four months of 2016, the services surplus dropped by more than USD1.5 billion y/y, reflective of the sharp drop-off of tourism and transportation exports – a reaction to lost Russian visitors and the surge of violence in Turkey that is scaring away other potential visitors. We anticipate that this worsening will intensify over the second and third quarters, when tourism revenues are more concentrated.

Outlook and implications

IHS does not believe that the surprising first-quarter growth rate will be maintained throughout the remainder of 2016. The government believes otherwise, however, as evidenced by its 4.5% official growth target for 2016. While we do not expect gross fixed capital formation to continue to contract, neither do we believe that it will post a strong recovery over the final quarters of the year. Growing concern with the consolidation of power in the hands of close cronies of President Recep Tayyip Erdogan will give potential investors pause. Additionally, ongoing geopolitical problems and persistent, high-profile extremist attacks within Turkey will also cause trepidation in potential investors. Meanwhile, we anticipate a further deterioration of export growth in the coming quarters. As the tourism season comes and goes in the second and third quarters, the loss of service exports will become more pronounced, weighing down real export gains. On the other hand, real import growth will remain relatively strong. The easing of monetary policy will keep consumption activity high and, as such, import demand. Private and government consumption will remain the main drivers of the economy over the remainder of 2016. In our coming, June forecast revision, IHS forecasts total GDP growth of 3.6% for the year as a whole, indicative of the drop-off of economic expansion that we expect in the final three quarters of the year. Should leading indicators remain positive, we may move this rate up somewhat in the July forecast revision. For now, however, the negative impact of high import growth and weak investment activity will weigh down total GDP more substantially than they did in the first quarter.

With import demand expected to remain high, we are also sticking with our projection that the current-account deficit will once again deteriorate y/y in the latter half of 2016. In our June forecast revision, however, we have tempered the expected worsening based on stronger-than-anticipated gains through the first part of the year. Exports are expected to continue to contract (though not as sharply as they did in the first four months of the year). However, imports – in nominal US dollar terms – are expected to gradually return. A modest increase in global commodity prices, combined with increased demand from home will soon turn around merchandise imports.