The customs union between Turkey and the EU : How did it affect Turkey? [1 ed.] 9783836612296, 9783836662291

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Susanne Voigt

The customs union between Turkey and the EU

Copyright © 2008. Diplomica Verlag. All rights reserved.

How did it affect Turkey?

Diplom.de

Susanne Voigt The customs union between Turkey and the EU How did it affect Turkey? ISBN: 978-3-8366-1229-6 Druck Diplomica® Verlag GmbH, Hamburg, 2008

Copyright © 2008. Diplomica Verlag. All rights reserved.

Dieses Werk ist urheberrechtlich geschützt. Die dadurch begründeten Rechte, insbesondere die der Übersetzung, des Nachdrucks, des Vortrags, der Entnahme von Abbildungen und Tabellen, der Funksendung, der Mikroverfilmung oder der Vervielfältigung auf anderen Wegen und der Speicherung in Datenverarbeitungsanlagen, bleiben, auch bei nur auszugsweiser Verwertung, vorbehalten. Eine Vervielfältigung dieses Werkes oder von Teilen dieses Werkes ist auch im Einzelfall nur in den Grenzen der gesetzlichen Bestimmungen des Urheberrechtsgesetzes der Bundesrepublik Deutschland in der jeweils geltenden Fassung zulässig. Sie ist grundsätzlich vergütungspflichtig. Zuwiderhandlungen unterliegen den Strafbestimmungen des Urheberrechtes. Die Wiedergabe von Gebrauchsnamen, Handelsnamen, Warenbezeichnungen usw. in diesem Werk berechtigt auch ohne besondere Kennzeichnung nicht zu der Annahme, dass solche Namen im Sinne der Warenzeichen- und Markenschutz-Gesetzgebung als frei zu betrachten wären und daher von jedermann benutzt werden dürften. Die Informationen in diesem Werk wurden mit Sorgfalt erarbeitet. Dennoch können Fehler nicht vollständig ausgeschlossen werden und der Verlag, die Autoren oder Übersetzer übernehmen keine juristische Verantwortung oder irgendeine Haftung für evtl. verbliebene fehlerhafte Angaben und deren Folgen. © Diplomica Verlag GmbH http://www.diplomica.de, Hamburg 2008 Printed in Germany

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Table of contents List of abbreviations .......................................................................................................... iii List of figures ......................................................................................................................v Appendices Index............................................................................................................. vii 1. Introduction ................................................................................................................... 1 2. Historical overview about the relations between Turkey and the EU ................................ 2 2.1 General overview................................................................................................................ 2 2.2 From the association agreement until today – The history of the CU ....................................... 3 2.3 From protectionism to more trade liberalisation ..................................................................... 6 2.4 The abolition of barriers to trade............................................................................................ 8 2.4.1 Tariff barriers ............................................................................................................................8 2.4.2 Non-tariff barriers .....................................................................................................................9

3. The customs union as a form of trade integration – ................................................ 13 implications for Turkey and the EU ............................................................................. 13 3.1 General analysis ...................................................................................................... 13 3.2 The static effects of the customs union................................................................... 18 3.3 Dynamic effects........................................................................................................ 25 3.3.1 The specialization effect...........................................................................................................25 3.3.1.1 Inter-industry trade...........................................................................................................25 3.3.1.1.1 Theoretical background - Neoclassic........................................................................25 3.3.1.1.2 Turkey’s comparative advantage..............................................................................27 3.3.1.2 Intra-industry trade...........................................................................................................32 3.3.2 Economies of scale...................................................................................................................35 3.3.3 Competitiveness .......................................................................................................................38 3.3.4 Technological transfer .............................................................................................................40 3.3.5 Direct foreign investment.........................................................................................................44 3.3.5.1 Theoretic implementation.................................................................................................44 3.3.5.2 Direct foreign investment inflows by countries ................................................................46 3.3.5.3 Direct foreign investment volume.....................................................................................47 3.3.5.4 Direct foreign investment by sectors ................................................................................48 3.3.5.5 Prospects ..........................................................................................................................50

3.4 Exchange rates – Excursus: free floating or pegging to the Euro................................. 52 3.4.1 Gains and losses from pegging to the euro ..............................................................................52 3.4.2 Recommendation......................................................................................................................55

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4. Conclusions ........................................................................................................................ 59

Bibliography .................................................................................................................... 63 Internet Sources............................................................................................................... 68 Appendices ..................................................................................................................... 72

iii

List of abbreviations CET

common external tariff

CU

customs union; in this paper the CU between the EU and Turkey is being referred to

DFI

direct foreign investment

ECB

European Central Bank

EEC

European Economic Community

ERM 2

revised exchange rate mechanism

et al.

Latin: et alii, meaning "and others"

EU

European Union

EU-25

European Union with 25 members (05-01-2004 –12-31-2006)

GATT

General Agreement on Tariffs and Trade

GDP

Gross Domestic Product

GLI

Grubel-Lloyd index

H-O theory

Heckscher-Ohlin theory

Ibid.

Latin: ibidem, "the same place", source that was cited in the preceding

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footnote i.e.

Latin: id est, meaning "that is; in other words"

IPR

intellectual property rights

M&A

mergers and acquisitions

R&D

Research and Development

SITC

Standard International Trade Classification

SITC Rev. 3

Standard International Trade Classification, revision 3

SMEs

small and medium sized enterprises

TL

Turkish lira (until 12-31-2004)

TRIPs

agreement on trade-related aspects of intellectual property rights

VRA

Voluntary Restraint Agreement

YTL

Turkish new lira – Yeni Türk Lirası (from 01-01-2005)

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List of figures Figure 1: Milestones in the Turkey –EU relations ........................................................... 3 Figure 2: Removal of non-tariff barriers ........................................................................ 12 Figure 3: Development of foreign trade in Turkey 1963-2005 ...................................... 14 Figure 4: Main economic indicators of Turkey, GDP by sectors, 1999-2005................ 15 Figure 5: GDP at current prices in $, 1980-2006 ........................................................... 16 Figure 6: EU 27 share of Turkish trade .......................................................................... 17 Figure 7: Customs Union: static effects for Turkey ....................................................... 20 Figure 8: Customs Union: static effects for the EU........................................................ 23 Figure 9: Revealed comparative advantage 1996-2007, factor intensity ....................... 30 Figure 10: Development of the share of intra-industry trade ......................................... 34 Figure 11: R&D personnel, 1990-2004 .......................................................................... 43 Figure 12: Percentage of innovative firms in Turkey, 1995 – 2000; 2002 - 2004 ......... 44 Figure 13: DFI inflows from special regions.................................................................. 46 Figure 14: Foreign direct investment in Turkey, 1996-2006 ......................................... 48 Figure 15: Inflation in the euro area 2002-2006............................................................. 54

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Figure 16: GG-LL schedule............................................................................................ 56

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Appendices Index Appendix A:

Ankara Agreement, chosen articles..............................................................72

Appendix B:

Additional Protocol, chosen articles.............................................................73

Appendix C:

Decision No 1/95 of the EC-Turkey Association Council of 22 December 1995 on implementing the final phase of the Customs Union, chosen articles...................................................................................75

Appendix D:

Treaty establishing the European Community, chosen articles....................77

Appendix E:

Turkey´s foreign trade by years, 1963-2005 ................................................79

Appendix F:

Turkey-EU trade...........................................................................................80

Appendix G:

SITC Classification in factors of production................................................81

Appendix H:

RCA 1996 – 2007.........................................................................................82

Appendix I:

Revealed comparative advantage 1996-2007, SITC main groups ...............85

Appendix J:

RCA by factor intensity................................................................................86

Appendix K:

Grubel-Lloyd Index 1999-2006....................................................................87

Appendix L:

World competitiveness Yearbook - Overall Ranking and competitiveness factors ................................................................................90

Appendix M: R&D personnel, 1990-2004 .........................................................................91 Appendix N:

Share of education expenditures in % of GDP, a comparison of Turkey, OECD and other countries in 2002.................................................91

Appendix O:

Share of education expenditures in % of GDP in 2002, graphic..................92

Appendix P:

Percentage of innovative enterprises in industry by economic activity .......93

Appendix Q:

Direct Foreign Investment in Turkey, main investing countries in 2005,

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percentage.....................................................................................................94 Appendix R:

DFI inflows by country ................................................................................95

Appendix S:

DFI inflows by country, graphic ..................................................................96

Appendix T:

DFI inflow by country 2002-2006 cumulative.............................................97

Appendix U:

Sectoral breakdown of investment incentive certificates given for a fixed investment 2000-2006 .........................................................................98

Appendix V:

Sectoral breakdown of investment incentive certificates for fixed investment in 2000, 2006, graphics..............................................................99

Appendix W: International Direct Investment Inflow by Sector ......................................100 Appendix X:

International Direct Investment Inflow in manufacturing..........................101

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1. Introduction This working paper shall investigate the trade integration between Turkey and the EU. The plan of this book is as follows. At first the historical background of the development concerning the trade relations between the two parties is conveyed. This includes the period from first association to implementing a customs union (CU) between Turkey and the European Union (EU) and to deeper integration abolishing barriers of trade until today. Subsequently an evaluation of the influence of the customs union follows in chapter 3 which constitutes the main part of the paper. Hereby the analysis is divided into the short-term static and long-term dynamic effects of the CU with the EU that Turkey entered on 1st January 1996. To analyze the static effects this paper adopts Viner’s traditional approach, by comparing the trade creation effects with the trade diversion effects resulting from the removal of trade restrictions for Turkey and the EU as a whole. Thus, the predominant economical theory applied in this paper is the neoclassical customs union theory. This theory was chosen because it still is the predominant and widely recognized theory in analyzing trade data providing a variety of tools. Within the neoclassical theory Ricardo as well as Heckscher-Ohlin play an important role as a tool of analysis. In the relevant passages in the text the most important theoretical principles will be explained with the help of the Turkish example. At the limits of the neoclassical theories the new trade theory is supposed to help out especially where the assumptions of the neoclassical theory limit further analysis. It is the purpose of this paper to analyze the question how the trade liberalization in form of the CU between Turkey and the EU influences the development of Turkish welfare, specialization in different sectors, economies of scale, competitiveness, technological transfer and direct foreign investment. In some parts of the paper the analysis also refers to some effects for the EU, but main emphasis shall clearly be laid upon the Copyright © 2008. Diplomica Verlag. All rights reserved.

effects on the Turkish economy. For the analysis foreign trade data is used which was compiled by the Turkish Undersecretariat of the Prime Ministry for Foreign Trade, the Prime Ministry Undersecretariat of Treasury, the Turkish Statistical Institute and Eurostat. Finding the adequate data created difficulties because of different time spans available and data from different sources being not comparable. This is why the time spans observed are sometimes not optimal. Therefore the analysis concentrates on the devel-

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opment within the last years, because not many studies were written in the 21st century or using data from this period. Thus, where long time spans were not available, the findings from old studies are compared with the new findings based on data from the last years. Especially within chapter 3.3 dealing with the dynamic effects this approach is reasonable since it shows the long term effects of the CU. The last subitem within chapter 3 allows a glance at the possibility of further integration taking monetary integration as an example. Last but not least chapter 4 will summarize the findings of the previous sections which will lead to a final estimation of the effects of the CU on Turkey and the EU.

2. Historical overview about the relations between Turkey and the EU The EU and Turkey constitute the Community's longest ongoing association. It is also the EU's first substantial functioning CU with a third state.1 The following parts will give an

overview about the development of relations between Turkey and the EU.

2.1 General overview Turkey applied for membership to the EU for the first time in 1959 and in 1987 it started another try. It was only in 1999 that Turkey was granted the status of a candidate country by the European Council.2 Based on the recommendation of the EU Commission the EU heads of state decided upon the start of accession negotiations with Turkey on December 17th, 2004. This decision by the European Council to open negotiations with Turkey on October 3rd in 2005 was conditional on the enlargement of the CU to include Cyprus.3 To start with, the following graphic gives an overview about the most important

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dates in the development of EU- Turkey relations.

1

See Peers (1996), p. 1. See Quaisser/ Reppegather (2004), p. 32. 3 See Danzinger et al. (2005), p. 5. 2

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Figure 1: Milestones in the Turkey –EU relations Source: own creation, grey boxes have special importance for the creation of the CU.

2.2 From the association agreement until today – The history of the CU This section reviews in particular the background of the CU. Relations between Turkey and the EU are observed focusing on trade. Turkey’s relations with the EU can be described as an ongoing integration process. In the context of international economic relations the term integration stands for the affiliation between national economies to an economic area or the inclusion of national

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economies into an existing economic area. Economic integration is achieved by the mutual reduction of barriers to trade of the involved countries.4 With the Ankara Agreement of September 12th, 1963 which came into effect on January 1st in 1964 Turkey was associated with the EC. Turkey’s intention was to be

4

See Adali (2003), p. 1.

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closer connected with the west and to find new markets for their industrial and agricultural goods.5 Art. 2 of the Ankara agreement states: “The aim of this Agreement is to promote the continuous and balanced strengthening of trade and economic relations between the Parties, while taking full account of the need to ensure an accelerated development of the Turkish economy and to improve the level of employment and the living conditions of the Turkish people.”6

In order to attain these objectives the association agreement included the aim to establish a CU between Turkey and the EU. Purpose of the CU is to secure the free movement of goods between the EU and Turkey. Turkey and the EU were required to eliminate all customs duties on imports and exports, and charges having equivalent effect between Member States. Turkey had to adopt the Common Customs Tariff of the Community in its trade with third countries.7 Article 10 of the CU treaty between Turkey and the EC shows accordance of the content of the ECT (e.g. articles 28, 29).8 The agreement requires the elimination of all quantitative restrictions on imports and exports and measures having an equivalent effect.9 In accordance with the Additional Protocol, in 1971, which set out details of implementation of the CU, the EC abolished all the customs duties and quantitative restrictions on industrial products from Turkey with the exception of certain sensitive products. Turkey was granted a transitional period based on two separate lists with different time spans, the 12 years list and the 22 years list with products classified according to their need of protection.10 Within that time tariffs, quotas and charges of equivalent effect were to be removed. The Ankara Agreement provided for three phases for the integration of Turkey: the preparatory stage, the transitional stage and the final stage.11 During the preparatory stage from 1964 until 1973 the European Economic Community (EEC) would give some direct financial aid to Turkey and establish preferential trade conditions with Turkey. During the transitional stage all tariffs and trade barriers were to be abolished while at the final stage, if sufficient progress was observed, the possibil-

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ity of Turkey becoming a full member of the EU had to be reviewed.12 5

See Sönmez (1994), p. 24. Ankara Agreement (1963), Art. 2. See Appendix A. 7 See ibid. (1963), Art. 10. 8 See Bulut (2002), pp. 5f. 9 See Zentrum für Türkeistudien (publisher) (1999), p. 47. 10 See Akkonyunlu-Wigley/ Mihci (2006), p. 6. 11 See Ankara Agreement (1963), Art. 2. See Appendix A. 12 See Adam/ Moutos (2005), p. 5. 6

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Turkey couldn’t follow the schedule for tariff reduction due to some severe economic problems in the late 70´s. In the 90´s Turkey made big effort to complete the CU on time and in the end it went into effect with just one year delay.13 With the entry into the final phases of the CU on December 31st, 1995, industrial goods and agricultural goods were added to the free movement of goods between the EU and Turkey.14 In addition, Voluntary Restraint Agreements (VRA) concerning trade in textiles were abolished.15 The CU brought radical economic framework changes through the adaptation of various economic laws and regulations implemented in the European Union, such as an antitrust policy, subsidies to the enterprises, competition and industrial policy laws.16 Furthermore Turkey is obliged to adopt the EC's secondary competition and state aid legislation including the EC's competition block exemptions and the case law developed by EC authorities as well as the principles of the secondary legislation.17 There

were provisions for the approximation of laws and legislation, with respect to the elimination of technical barriers to trade, and the administration of border procedures including rules of origin. Turkey was also required to adopt the Community’s commercial policy towards third countries, including the multitude of preference agreements the EU has concluded implementing various sectoral provisions such as measures covering textiles and apparel and ensuring compatibility with international agreements for the protection of intellectual property rights.18 The 1995 agreement allows a number of exemptions and exclusions in the commercial relations of the two parties. The first and obvious area is agriculture.19 Agricultural products are not directly affected by the CU. The liberalisation of trade in this sector is realised by tariff preferences which have been extended several times since 1963.20 Besides that one should mention the trade defence measures. Under the agreement both parties can initiate, investigate and impose anti-dumping and countervailing

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duties in cases where trade practices do not conform to the correct functioning of the 13

See Zentrum für Türkeistudien (publisher) (1999), p. 47. See Quaisser/ Reppegather (2004), p. 32. 15 See Danzinger et al. (2005), p. 5. 16 See Yilmaz (2005), p. 75. 17 See Peers (1996), p. 23. 18 See Ülgen/ Zahariadis (2004), p. 1. 19 See ibid. (2004), p. 2. 20 See Quaisser/ Reppegather (2004), p. 32. For detailed information about the agricultural sector in Turkey and its trade relations with the EU view e.g. Grethe (2003). 14

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CU. Finally there exist safeguards.21 If serious disturbances occur in a sector of either of the two parties, then that party may take necessary protective measures.22 It is interesting to notice that by Turkey’s integration into the CU it has given up its national sovereignty concerning foreign trade policy without gaining any form of active participation in the decision making process in Brussels.23

2.3 From protectionism to more trade liberalisation The following section reviews Turkey’s development from protectionist policy making to trade liberalization strategies. It can be said that the protectionist and interventionist economic policy predominated from the 1930s until the end of the 1970s. A lot of economic fields were under state control.24 Accordingly, policies were mainly designed to protect the domestic industry from foreign competition. Particularly the infant industries were protected using a varying mix of trade restrictions such as tariffs, tariff-like taxes and surcharges, import bans, quotas and foreign exchange controls.25 During this period fiscal deficits were financed by monetary expansion. State economic enterprises were created in sectors like steel production and mining. The state took control over the quantity and price of credit to influence the sectoral composition of investment within the private sector. Moreover fixed exchange rates and exchange controls were maintained which resulted in an overvalued domestic currency.26 The import substitution policy supported the import of capital goods, technology and intermediate goods. The domestic production had to be ensured by imports and the resulting industrial domestic production should not be exposed to foreign competition. This policy hindered the success of Turkish products abroad, opening up new markets and the diversification of the Turkish exports. Public and private companies were protected significantly from foreign competition which led to an import increase. IndustriCopyright © 2008. Diplomica Verlag. All rights reserved.

alization of the country was given priority, and for that imports were needed.27

21

See Additional Protocoll Art. 5 and 60. See Appendix B. See Ülgen/ Zahariadis (2004), p. 2. 23 See Yilmaz (2003), p. 4. 24 See Kalberer (2002), p. 12. 25 See Akkoyunlu-Wigley/ Mihci (2004), p. 5. 26 See Utkulu/ Özdemir (2003), pp. 8ff. 27 See Findikci (1997), p. 211. 22

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Dervis et al. (1981) and Chenery et al. (1986) suggest that import substitution policies have had remarkable contribution to the growth rate of Gross Domestic Product (GDP) especially during the 1960s. In that sense, they support the view that early importsubstitution in Turkey especially in the 1960s may exploit natural advantages and be highly efficient, but sooner or later these advantages were exhausted. It is suggested that Turkey had reached this stage in the 1970s.28 A turning point in Turkish economic policy came in January, 1980. The Demirel government was removed by a military regime. The EC froze all relations to Turkey with the justification that Turkey’s government was not democratic.29 Nevertheless the Turkish government announced an economic reform program. The economic structure of the country changed from an inward-looking import-substitutionalist industrialisation strategy to an outward-oriented growth strategy marked by export promotion. 30 Consequently liberalization increased after 1980 which can be seen when looking at Turkey's impressive export performance.31 This could be reached by the influence of a substantial real depreciation of the Turkish lira, the introduction of new export promotion schemes and the improvement of existing ones, and a significant reduction in domestic demand and the resulting shift of production from domestic to foreign markets.32 The first step in trade liberalization came with the elimination of quantitative restrictions on imports culminating in a major policy reforms initiative in January 1984. Trade liberalization continued in subsequent steps through a series of reductions in import tariff rates in 1986, 1988 and 1990.33 Nevertheless the Turkish government was inventive concerning the compensation of cuts in tariff rates with retaining a high level of protection at the same time as for example the introduction of fund levies shows.34 Until today the strategy of export orientation is the recommended strategy for developing nations. Free trade, based on the neoclassical theory of factor proportions, has been Copyright © 2008. Diplomica Verlag. All rights reserved.

said to be the best way to avoid misallocation of resources.35 28

See Utkulu/ Özdemir (2003), p. 11. See Sönmez (1994), p. 27. 30 See Yazganarikan (2003), p. 7. 31 View figure 3. 32 See Utkulu/ Özdemir (2003), p. 13. 33 See Akkonyunlu-Wigley/ Mihci (2006), p. 2445. 34 See Zentrum für Türkeistudien (publisher) (1999), p. 23. 35 See Lohrmann (2000), p. 27. 29

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2.4 The abolition of barriers to trade The removal of barriers to trade in general is connected with gains for the economy. It leads to a transfer of factors of production to the more productive areas, to more efficiency, to economies of scale, increased competition, enhanced transfer of technology and knowledge and to advantages for the customers due to improved variety and lower prices.

2.4.1 Tariff barriers The application of the common external tariff (CET) for most products involves a substantial reduction of tariffs against imports from third countries. Turkey’s weighted average rates of protection through customs duties including the Mass Housing Fund Levy on industrial imports from the EU and EFTA countries dropped from approximately 10% to 0. For products imported from the third countries, these rates declined from approximately 16% to 4.2% in 2004.36 With the implementation of the Uruguay Round reductions, Turkey’s average rates for third countries will be lowered to 3.5%.37 This means Turkey is by now a relatively open economy in non-agricultural sectors. Since the third countries tariff is relatively low compared with the situation before the entry to the CU the trade diversion costs38 are not that high in Turkey’s case and result in additional gains from trade.39 Although the CU has been existing only since 1996 the EU had abolished import tariffs on Turkish industrial goods already in 1971. Turkey on the other hand completely removed its tariffs and quantitative restrictions on EU-imports only after the establishment of the CU in 1996 and at the same time adopted the CET.40 From 2001 also the sensitive manufactures from third countries are subject to the CET. Before that time Turkey could keep special protective tariffs for imports from third countries in areas of sensitive goods like shoes or motor vehicles.41 Copyright © 2008. Diplomica Verlag. All rights reserved.

Additionally, Turkish exporters are supposed to obtain improved access to the markets of those countries with preferential trade agreements with the EU, since the 36

See Akkonyunlu-Wigley/ Mihci (2006), p. 6. See Adam/ Moutos (2005), p. 7. 38 The issue of trade diversion is regarded more deeply in chapter 3.2. 39 See Harrison et al. (1997), p. 862. 40 See Adali (2003), p. 45. 41 See ibid. (2003), p. 28. 37

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tariffs of these countries will be reduced against Turkish exports. The improved access for Turkish exports to third markets should equal the improved access that Turkey will offer third country imports.42 The application of the CET towards third countries obviously led to a reduction of the import duties which resulted in lower revenue for the public purse. Öymen (2001) estimated the loss for Turkey due to lower import taxes to be around 2.5 billion dollars.43

2.4.2 Non-tariff barriers The Commission’s White Paper on the Single Market operates with three types of non tariff barriers: physical, technical and fiscal. A typical physical barrier is a customs control at ports and frontier crossings required because of international differences in indirect taxation, veterinary regulations, road transport licensing etc. They impose administrative costs on governments and firms as well as causing extra transport costs and at times warehousing costs at a border crossing. Technical barriers to trade include product regulations and standards, discriminatory public purchasing, restrictions on foreign employment, ownership and business activity, restrictions on trade in services and restrictions on the mobility of capital. Technical regulations are legally binding, which distinguishes them from standards, which have been voluntarily agreed upon. Anyhow, the latter are also barriers to trade since they are often the basis of court rulings on matters of insurance, product liability and public purchasing. Fiscal barriers to the free mobility of commodities result from the fact that individual member countries have different rates of value added tax and excise duties. Physical, technical and fiscal trade barriers impose direct costs on producers, exporters and importers, and indirectly they lead to a failure to exploit comparative advantage, scale economies and the benefits of competition.44 Copyright © 2008. Diplomica Verlag. All rights reserved.

Although the CU calls for the removal of non-tariff barriers some are still persisting or even have been re-introduced. The EU developed within its integration process special measures to protect their sectors in need efficiently. A new protectionism developed including for example subventions to domestic companies, national norm 42

See Harrison et al. (1997), pp. 865f. See Öymen (2001), p. 134. 44 See Hansen/ Nielsen (1997), pp. 28ff. 43

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systems and voluntary restraint agreements (VRAs).45 In the area of technical barriers to trade, Turkish exports produced under European specifications continue to be restricted because of the EU’s lack of recognition of certain Turkish certification procedures.46 Practically it makes the CET towards third countries irrelevant.47 Article 60 of the association agreement48 allows for safeguards for the own industry. In virtue of this article the EU wanted to restrict the import of Turkish textiles to the European market. Turkey strongly objected and as a consequence the EU agreed on VRAs with private companies.49 VRAs also have a negative effect on consumers. As a result prices of the goods in question rise and the customers have less choice in the EU. The gains from the higher prices benefit the companies who sign such agreements while the consumers’ surplus in the importing country declines. Importers from the EU can protect their market from abroad and the exporters from Turkey can secure their market share with a relatively high price in the EU.50 A VRA is always more costly to the EU than a tariff that limits imports by the same amount. The difference is that what would have been the tariff revenue become rents earned by Turkish companies under the VRA, so that it clearly produces a loss for the EU.51 Actually these voluntary quotas are in clear contradiction to articles 7 and 9 of the additional protocol52 and the GATT (General Agreement on Tariffs and Trade) rules.53 Safeguards can be imposed when 'serious disturbances occur' in a sector of the EC or the Turkish economy, or where the 'external financial stability' of a party is prejudiced. Where 'discrepancies' between EC and Turkish legislation or 'differences in implementation cause or threaten to cause impairment of the free movement of goods or deflection of trade' and a party believes that immediate action is necessary, it may take the ´necessary protective measures´.54 They must be proportionate and are subject to consultations before and after adoption with a view to avoiding them or ending them as

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soon as possible. When one party invokes a safeguard, the other may take a proportion45

See Findikci (1997), pp. 105f. See Ülgen/ Zahariadis (2004), p. 4. 47 See Findikci (1997), pp. 105f. 48 See Appendix B. 49 See Öymen (2001), p. 131. 50 See Findikci (1997), pp. 126f. 51 See Krugman/ Obstfeld (2006), p. 192. 52 See Appendix B. 53 See Findikci (1997), p. 125. 54 See Peers (1996), pp. 25f., Additional Protocol Art. 60. 46

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ate balancing measure, subject to consultations with the Council of Association.55 In 1976, Turkey invoked the safeguard clause to delay any further opening of its market. For its own part, the Community imposed safeguards on Turkish textile and clothing exports in 1977, followed by voluntary restraint agreements that continued until Decision 1/9556 of the

EC-Turkey Association Council of on implementing the final phase of the Customs Union entered into force.57 These restrictions had protectionist effects on the Turkish economy since this sector has a special importance for the whole economic development of the country.58 Contingent protection continues to represent a serious barrier in bilateral market access like the continuation of EU antidumping and anti-subsidy tools which have led to considerable welfare losses for Turkey.59 Preventing an increase in Turkish textile and clothing exports to the EU is in marked contrast to the European agreements where trade defence measures are eliminated.60 It is interesting to note that especially those Turkish industrial products are a matter of anti-dumping and anti-subvention measures which are competitive. It is an important evidence for the EU-protectionism and the foreclosure of its markets towards Turkish export goods.61 The removal of a non-tariff barrier is a real cost reduction. Therefore it is more likely to lead to a welfare gain than an equivalent reduction in tariffs.62 This is made clear in figure 2. P stands for Turkey, the partner country of the EU with its export supply curve Xp. If R is a tariff that is reduced to zero the formation of the CU costs Turkey a loss of tariff revenue corresponding to the area a + d. There is no equivalent loss when R is a non-tariff barrier. The variable profit per unit of export rises as the cost reduction of R exceeds the price fall of P0 to P1. The gain in export producer’s surplus corresponds to the areas d and e which represent respectively gains from pre-existing and new ex-

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ports.63

55

See Peers (1996), pp. 24f. Some important paragraphs from this decision can be found in Appendix C. 57 See Peers (1996), p. 5. 58 See Findikci (1997), p. 125. 59 See Zentrum für Türkeistudien (publisher) (1999), p. 75. 60 See Adam/ Moutos (2005), p. 8. 61 See Findikci (1997), p. 373. 62 See Hansen/ Nielsen (1997), p. 31. 63 See ibid. (1997), p. 31. 56

12

Figure 2: Removal of non-tariff barriers Source: Adam/Moutos (2005), p.8.

Especially in the area of technical barriers to trade there are still some deficits in the abolition progress in Turkey. Namely the Turkish system of standardisation and conformity assessment is quite non-transparent, there needs to be greater effort in strengthening Turkey’s technical capacity and infrastructure to meet the requirements of testing and certification processes. Reputation building of Turkish institutes and organizations should continue in order to promote the recognition of equivalency.64

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The European Commission states in its progress report on Turkey 2006 that: “EC-Turkey trade has continued to expand in the context of the CU, reaching € 75 billion in 2005. In all occasions, the EU urged Turkey to remove all restrictions on the free movement of goods, including restrictions on means of transport regarding to Cyprus. Other unfulfilled commitments by the Turkish side persist, relating to technical barriers to trade, import licences, state aids, enforcement of intellectual property rights, and other discriminatory provisions. The partial reduction of mandatory standards is however a positive step. The EU hopes that negotiations to extend the CU to the area of public procurement and services can resume soon. Trade negotiations were completed in September on processed agricultural products. These aimed to improve market access and to adjust CU provisions to the EU's 2004 enlargement. No progress can be reported concerning Turkey's long-standing ban on imports of live bovine animals, beef and other animal products.”65

64 65

See Ülgen/ Zahariadis (2004), p. 17. Commission of the European Communities (2006), p. 5.

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As it can be concluded from the aspects mentioned before the full realisation of the CU’s integration potential is still restricted by a number of policy barriers that remain.66

3. The customs union as a form of trade integration – Implications for Turkey and the EU The term economic integration can be described in two different forms. Integration can be regarded as a process which implies the dynamic aspect, or it can be interpreted as a state which is the static aspect. As a process integration considers the pathway, which establishes a special structure of the international economy. It is marked by a development from a low intensity of integration to a higher intensity. The main aim of this process is to enhance welfare of the involved economies.67 The analysis of the static effects, however, doesn’t include the time factor. It basically regards the situation before and after the integration. Economic interdependencies are not considered.68 Two regions are integrated when they add up to a whole and when there are close links between them. The next part deals with these two aspects of integration. Furthermore an excursus of further integration regarding exchange rates follows. The aspects chosen are of special importance although certainly a lot of other influences exist. All aspects somehow influence each other and depend on each other so that references to other chapters can be found all over the section.

3.1 General analysis Regarding the development of foreign trade in Turkey the following graphic displays Turkey exports and imports as well as the trade balance from the beginning of Turkish EU association until 2005. The figure illustrates the change of strategies and the liberalization process of Turkey. It can be seen that there was an increase after joining the CU in 1996, especially in the amount of goods that Turkey imported from the EU. Also Copyright © 2008. Diplomica Verlag. All rights reserved.

imports from third countries increased after the final stage of the CU went into force. While exports increased consistently during the years the import curve shows quite a volatile development especially from 1993 onwards. Important to note is also the trade balance deficit which arose because of the imports exceeding the exports which is dis66

See Ülgen/ Zahariadis (2004), p. 5. See Adali (2003), p. 1. 68 See ibid. (2003), p. 13. 67

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played by the yellow line. The current account deficit increased significantly especially after the creation of the CU in 1996.

Figure 3: Development of foreign trade in Turkey 1963-2005 Source: own creation, data from Turkstat (2006), http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=621, view Appendix E.

Since Turkey’s traditional customs tariff was higher than the EU´s common customs tariff, the import of goods from third countries also became more beneficial.69 When on the one hand the import boom led to a trade balance deficit, on the other hand the increased consumption of foreign goods supported the sensitivity of Turkish consumers in terms of standards, quality and consumer rights.70 A considerable rise in Turkey's industrial exports to the EU was not expected because already since 1971, there have been no tariffs on the Turkish exports. In addition, the abolition of export incentives, state aids or bringing their level down to the EU standards, affected Turkey's exports negatively.71 Copyright © 2008. Diplomica Verlag. All rights reserved.

In the 1990s Turkey’s open economy was more vulnerable to external developments being highly sensitive to external shocks. For this reason the annual growth rate from 1996 to 2001 was lower than in 1990 – 1995. After 2001 the economy recovered

69

See ibid. (2003), p. 52. See Adali (2003), p. 55. 71 See Utkulu/ Seymen (2004), p. 6. 70

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due to structural adjustment and an economic reform program and reached 18.3% in 2006.72 In the next table it can be seen that the importance of the agricultural sector is declining while the industrial sector was quite stable between 1999 and 2004 and had a boost in 2005. Services are the biggest sector having the highest share of GDP which is due to the great tourism sector in Turkey. Besides that the service sector attracts most direct foreign investment especially in the banking and finance sector.73 The Turkish new Lira introduced in 2005 brought stability in exchange rates throughout the year. However, it did not ban the development of Turkish exports but increased the imports revealing higher foreign trade deficit. Nevertheless, this deficit was compensated with the support of the developments in other sectors like tourism.74

Figure 4: Main economic indicators of Turkey, GDP by sectors, 1999-2005 Source: Undersecretariat of The Prime Ministry for Foreign Trade (without year), p. 39 http://www.igeme.org.tr/eng/turkey/outlook.pdf

The GDP per capita is one of the major indicators of a country’s development level. It is a significant factor in the integration process.75 It serves as an indicator for the economic development and describes the extent of the value of all productive output. The growth in GDP therefore can be influenced by an increase of domestic demand for domestic goods but also by the foreign demand for domestic goods. The high variations

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in the growth rates show on the one hand that Turkey is susceptible to negative shocks but on the other hand that it can surmount these shocks relatively fast.76 This is demonstrated by figure 6. What can be recognised are the demand shocks attributable to finan72

See Undersecretariat of Treasury (2007), view Internet Sources. See Adali (2003), p. 75. 74 Undersecretariat of The Prime Ministry for Foreign Trade (without year), p. 38. 75 See Yazganarikan (2003), pp. 7f. 76 See Adali (2003), p. 46. 73

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cial crisis in the years 1994 and 2001, mainly due to the big gap in the balance of payments and the overvalued Turkish lira. Also the huge earthquake with epicentre in Ismit in 1999 influenced the GDP as the graphic shows.

Figure 5: GDP at current prices in $, 1980-2006 Source: Central Bank of the Republic of Turkey (2007), http://evds.tcmb.gov.tr/yeni/cbt-uk.html

A surprising effect of the CU has been the diversion of Turkey’s trade from EU countries towards non-EU countries. One would expect that the share of the EU in Turkish trade volume would increase due to the closer integration. Just before the CU, the share of the EU in total Turkish exports was 51.2%, while the share of imports from the EU in total Turkish imports was 47.2%. Thus, almost 50% of total foreign trade of Turkey has

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been realized with the EU countries in 1995.77 This share increased directly after entering the CU. In 1996 the EU share in imports amounted to 55.7% and share in exports was 54.1%, overall share being 55.2%. The EU-share reached its peak in 1999 (56.4%) and decreased from that time onwards. The EU share of trade with Turkey is falling

77

See Malkoc (2002), p. 18.

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during the time of the CU to 47.7% in 200678 which means that Turkey increased its trade with third countries. One reason might be the better access to third countries´ markets because of preferential trade agreements that also Turkey had to implement. Moreover, the adoption of the CET led to a much lower protection level of Turkey granting cheaper imports from third countries. Figure 6 shows the absolute trade volumes in Turkey-EU trade. As Turkey’s trade volume grows, also the volume of the Turkey-EU trade increased significantly, proving that the EU is still Turkey’s most important trading partner. 250 000 000

trade volume in 000$

200 000 000

150 000 000

100 000 000

50 000 000

0 1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

year

EU volume in Turkish trade

Turkish trade volume

Figure 6: EU 27 share of Turkish trade Source: Turkstat (2007): http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=626, http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=627

Turkey’s most important trading partners in terms of exports are Germany, the UK, the Copyright © 2008. Diplomica Verlag. All rights reserved.

USA and Italy. Turkey is importing the most from Russia, Germany, China and Italy.79 Even before the CU, the EU countries have always been the main exporting markets for the Turkish products. The reason for this is that most Turkish industrial goods could be exported to the EU with zero tariffs already from 1971. Also geographically, the EU

78 79

See Appendix F. See Turkstat (2007), view Internet Sources.

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countries are the closest developed markets to Turkey. This closeness also creates a cost advantage in transportation for Turkish exporters. And finally the Turkish population living in the EU has been always a natural buyer for Turkish products exported to the EU countries.80 Regarded from the EU point of view Turkey was on rank 46 of the EU´s supplier countries in 1980. In 1990 it was already on rank 17. Also Turkey is an important partner regarding EU exports. In the beginning of the 80s Turkey ranked 25th and 10 years later already 9th.81 In the relations to third countries it can be seen that Russia could increase its trade with Turkey and it became one of the most important trading partners after the EU and the USA. Russia’s trade with Turkey was positively influenced by the adoption of the CET by Turkey and the dissolution of the Soviet Union in 1991.82 The increase in bilateral trade relations has not been at the expense of trade with the rest of the world. For Turkey the intense bilateral trade with the EU has been accompanied by stronger trade growth overall. This combination leads to important welfare gains for Turkey.83

3.2 The static effects of the customs union The term customs union is legally defined in Art. 23 ECT.84 It is declared to be the foundation of the community which spans the whole exchange of goods. The integration model of a CU adopts essential elements of a free trade area. It can also be described as a free trade area with a common customs tariff.85 The neoclassic CU theory is based on a number of assumptions which on the one hand make the theoretical foundations easier to explain but on the other hand simplify the reality. The assumptions being very restrictive economic recommendations have to be considered very carefully.86 The basic assumptions are: perfect competition, homogeneous goods, and constant returns to scale, no market entry barriers, no development of new products and no technological Copyright © 2008. Diplomica Verlag. All rights reserved.

change.87 80

See Malkoc (2002), p. 18. See Adali (2003), p. 32. 82 See ibid. (2003), p. 77. 83 See Ülgen/ Zahariadis (2004), p. 4. 84 See Appendix D. 85 See Adali (2003), p. 7. 86 For a detailed describtion of the assumptions see e.g. Lohrmann (1997), pp. 25f. 87 See Ohr/ Theurl (publisher) (2001), p. 6. 81

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Jovanovic states that a static model considers the impact of the formation of a CU on trade flows and consumption in the united countries. In order to analyse these static effects most of the researchers’ traditional framework is trade creation and trade diversion.88 A CU has to be regarded as a double-edged sword. Viner (1950) disproved the assumption of classic foreign trade theory that every reduction of barriers to trade leads to increases in welfare. He stressed that it is not equivalent to a move to free trade since it amounts to free trade between the members and protection against the outside world. This combination of free trade and protectionism results in trade creation and trade diversion.89 On the positive side, trade creation allows higher-cost domestic production to be replaced by lower cost production from a partner country in the union.90 This improves the allocation of global resources and represents a step in the direction of free trade.91 On the contrary, trade diversion describes the situation when tariff barriers with respect to the rest of the world remain high due to discriminatory trade policies against non-member countries. There is a danger that the resulting additional trade between partners would replace lower-cost imports from the rest of the world.92 As this worsens the global allocation of resources, it represents a step towards protectionism.93 The relative weight of these two effects determines the overall impact of the CU.94 The integration process between Turkey and the EU includes partners with very different levels of development. The Heckscher-Ohlin model95 predicts that similarly developed countries trade with countries of other levels by specializing in different sectors. In the case of homogenous goods the different level of development between Turkey and the EU bears a high potential for trade diversion because of the distortion of

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prices among third countries and EU countries on the Turkish market.96 To achieve

88

See Karakaya/ Özgen (2002), p. 2. See El-Agraa (2004), p. 99. 90 See Ülgen/ Zahariadis (2004), pp. 3f. 91 See El-Agraa (2004), p. 118. 92 See Ülgen/ Zahariadis (2004), pp. 3f. 93 See El-Agraa (2004), p. 118. 94 See Ülgen/ Zahariadis (2004), pp. 3f. 95 More details and analysis of this issue follows in chapter 3.3.1.1. 96 See Zentrum für Türkeistudien (publisher) (1999), pp. 54f. 89

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welfare gain the tariff level must be low enough to allow third countries to retain their share of the market.97 Lohrmann (1999) found that in fact the trade diversion effects of the Turkey EU customs union are stronger than the trade creation effects for many sectors in Turkey. She expects that as a consequence inefficient sectors will gain and consumers and some efficient branches will have to pay with higher consumer prices and higher production input costs. This implies the risk for Turkey to fail to develop the efficient and competitive sectors in the world market which it might have achieved under free trade. Trade diversion in favour of the EU leads to a cost increase for Turkish producers especially for intermediate products such as textile yarns and fabrics. This impairs the competitiveness of Turkish clothing exporters in the European market.98

Figure 7: Customs Union: static effects for Turkey Copyright © 2008. Diplomica Verlag. All rights reserved.

Source: own creation, following Zentrum für Türkeistudien (publisher) (1999), pp. 26ff.

This graphic demonstrates the situation of Turkey in a partial equilibrium diagram for one typical export good of Turkey. St and Dt are the supply and demand schedules of Turkey while Pw is the perfectly elastic world supply curve. As already mentioned in 97 98

See Hansen/ Nielsen (1997), p. 26. See Zentrum für Türkeistudien (publisher) (1999), p. 56.

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chapter 2.3, before the 1980s Turkey followed a policy of import substitution which can be considered as autarky. In that situation Turkey levied a tariff Tt – Pw. Turkey consumes 0N and no imports occur. After the 1980s Turkey changed its policy and started to liberalize its trade. In the graph this situation is marked by a lowering of the customs tariff to Tt´- Pw. Domestic price therefore is Tt´, which gives domestic production of 0M. The imports from the world are MP. Turkey pays the red area for the imports while the domestic consumer pays the red, pink and yellow area with the difference (pink and yellow) being the tariff revenue which accrues to the Turkish government. This government revenue can be viewed as a transfer from the consumers to the government with the implication that, when the government spends it, the marginal valuation of that expenditure should be exactly equal to its valuation by the private consumers so that no distortions occur.99 When entering the CU with the EU in 1996, the lower community tariff CET – Pw is introduced. Consumption in Turkey increases to 0Q, the imports are LQ and are now supplied by the EU. The CU is in a Vinerian sense trade diverting for all imports now come from the higher cost producers in the EU, but at the same time it is also trade creating, for domestic production has been replaced by cheaper imports and there is also an increase in imports because Turkish domestic consumption has risen. The imports cost the light blue area to import from the EU while they originally cost the light blue area plus the light green area to produce domestically. There is therefore a saving of the light green area. Product variety will increase, Turkish consumers will benefit from a broader choice of goods, and welfare will be enhanced by the resulting consumer surplus corresponding to the grey, yellow and green areas due to the fall in the price combined with the rise of consumption. Part of this (the light green area) is a fall in producers´ surplus due to the decline in domestic production and another part (yellow) is a portion of the Copyright © 2008. Diplomica Verlag. All rights reserved.

tariff revenue now transferred back to the consumer who pays lower prices. Tariff revenue corresponding to the yellow and pink areas is lost. All tariff revenues from the CET besides the administration allowance flow to the EU budget. Areas grey and yellow represent only a domestic redistribution to consumers from producers and the public purse, respectively. The positive welfare effects for Turkey are therefore a saving in 99

El Agraa (2004), p. 100.

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production costs corresponding to the light green area, and an increase in consumption corresponding to the dark green area. The light and dark green areas display the trade creating effects of the CU. The initial imports of MP cost the country the red area, but these imports now come from the EU costing the pink and red area. Therefore these imports lead to a loss in government revenue equivalent to the pink area. The welfare loss corresponding to the pink area is the extra cost of imports as cheap supplies from the rest of the world were replaced by more expensive supplies from the EU. This loss is the trade diverting effect of the union. The net welfare gain, consequently, is illustrated by area light green plus area dark green minus area pink. Whether this sum is positive is a matter of empirical investigation for each CU. It should be mentioned that for reasons of simplicity in figures 7 and 8 the case of a small country is considered. Since the EU customs union is not really small it can have an effect on the world supply curve which means that a reduction in the EU demand for imports will bring about a reduction of the world price of that considered good. A reduction of the supply of EU exports would then push up the world price of that good.100 The following graphic describes the EU situation. Se and De display the supply and demand curves of the EU. World supply Sw is perfectly elastic. In the EU the common external tariff is applied leading to a price for imports from third countries of CET. If the EU was totally liberalized the pareto-optimal demand P would be realised. Because of Turkey’s accession to the CU the aggregated supply function is shifted to the right by the supply surplus of Turkey leading to the new supply function in case of autarky of Se+t. When trading with third countries imports are allowed which means

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that the supply curve proceeds horizontal from point Z.

100

See Södersten/ Reed (1994), p. 215.

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Figure 8: Customs Union: static effects for the EU Source: own creation

Before Turkey’s accession to the CU the EU´s demand was realised at W, domestic production was V, EU imports correspond to the distance W-V. For those imports an amount corresponding to the red area was paid and tax revenue is displayed by the pink and yellow areas. Keeping the same tariff after Turkey’s accession would result in an overproduction of YZ. That is why it can be expected that the tariff will be lowered to CET´ where the demand of R is realised. This means that the EU prices decrease, the Copyright © 2008. Diplomica Verlag. All rights reserved.

EU production drops to U, Turkish production will be X-U and EU imports will be lowered to zero. This affects the welfare of the EU. Consumer surplus increases by the grey, green and yellow areas. On the other hand the producers’ surplus is lowered by the grey area. Tax revenue of the EU decreases by the yellow area; a positive welfare effect of the green areas remains which signifies that Turkey’s accession to the CU is welfare enhancing for the EU. The fall in price brings about an increase in demand which is

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satisfied by the Turkish production X-U. Due to the Turkish production (V-U) being cheaper than EU production the left green area constitutes a positive welfare effect. The amount X-W is the increase in demand due to the slump in prices which is an additional positive welfare effect displayed by the right green area. Still one has to consider that EU imports from the world market (W-V) were replaced by more expensive production from Turkey. This is the trade diverting effect of the CU. Expenses increase from the red area to the red and pink area which leads to a welfare loss of the pink area. If the accession of a new member to the CU is beneficial for the EU depends on the size of the green areas in comparison with the pink area i.e. if trade creation (green) is bigger than trade diversion (pink). Trade creation and welfare will be higher the more elastic the domestic import demand and the domestic import supply react on the price reduction, then demand and supply curves proceed more flat and the 2 triangles from figure 7 and 8 (light and dark green) are bigger. The higher the reduction of tariffs i.e. the bigger the price cut the bigger will be the two green triangles. That means that the CET is supposed to be much lower than the previously valid Turkish tariff. That this is the case here was shown already in chapter 2.4.1. Also Harrison et al. (1997) concluded that the CU would result in significant gains for Turkey, between 1% and 1.5% of Turkish GDP, mainly due to the fact that trade diversion for Turkey would be rather small since the CET was much lower than the previous tariff rate applied by Turkey.101 The smaller the price difference between the rest of the world and the EU the smaller also the pink area in figures 7 and 8 which accounts for trade diversion.102 The bigger the production costs differences between Turkey and the EU the bigger is trade creation.103 The neoclassical CU theory does not answer the question how the possible increase in welfare will be allocated within the whole integrated area. Regional disparities Copyright © 2008. Diplomica Verlag. All rights reserved.

are not included in the customs union theory and the concentration on the static effects doesn’t allow an analysis of the dynamic effects of free trade104 which is the reason why this aspect is regarded separately in the next chapter.

101

For more detailed information about this study see Harrison et al. (1997). See Lohrmann (1997), p. 28. 103 See Adali (2003), pp. 16f. 104 See Lohrmann (1997), p. 41. 102

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3.3 Dynamic effects Dynamic effects relate to the numerous means by which the CU may influence the rate of growth of GNP of the participating nations.105 The integration influences certain growth factors of an economy like effects on the market size, market structure and technical change. Dynamic effects on integration concentrate on long-lasting impacts and changes in resource allocation.106

3.3.1 The specialization effect After the implementation of the integration area the domestic production adjusts to the new price and enforces the production of the goods with comparative cost advantage towards the partner countries. On the other hand it can also become problematic when the country specializes on a good where it has only cost advantages towards the integration partner. To create positive specialization effects the resources have to be added to the branch that has the highest cost advantage also compared to third countries.107 This chapter considers Turkey’s specialization and its change in specialization under the CU with regard to inter- and intra-industrial trade.

3.3.1.1 Inter-industry trade Inter-industry trade refers to international exchange of widely dissimilar goods, like the export of automobiles in return for clothing. Such trade takes place on account of differences in countries and reflects comparative advantage.108

3.3.1.1.1 Theoretical background - Neoclassic In this section Turkey’s specialization on inter-industry trade will be explained at first stating the theoretical basics followed by their application on some important branches within Turkey’s trade pattern. Copyright © 2008. Diplomica Verlag. All rights reserved.

There exist two prominent theories of trade based on comparative advantage: the Ricardian theory and the Heckscher-Ohlin theory (H-O theory). The Ricardian theory assumes that comparative advantage arises from differences in technology across coun105

See El-Agraa (2004), p. 105. See Ohr/ Theurl (publisher) (2001), p. 6. 107 See Adali (2003), p. 20. This aspect will be explained in more detail in chapter 3.3.2. 108 See Markusen et al. (1995), p. 203. 106

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tries. International differences in labour productivity in distinctive types of goods generate a particular trade pattern. The Heckscher-Ohlin theory on the other hand suggests that technologies are the same across countries. Instead, the H-O theory attributes comparative advantage to cost differences resulting from differences in factor prices across countries. That means that the predictions of classical trade theories are based on the principle of comparative advantage which derives from relative price determination, i.e. differences in pre-trade relative prices across countries, underlined by supply and demand factors. According to the H-O theory, a country’s comparative advantage is determined by its relative factor scarcity.109 According to the neoclassical theory the situation of free trade is the optimum in matters of allocation-efficiency. It is described as the first best solution. In the state of pareto-optimum, welfare increases of one party are only possible on the costs of other parties. This is achieved through free trade and factor mobility. Any disturbance of this situation e.g. by quotas, tariffs, taxes or subventions evokes a sub-optimal state.110 The H-O model has served as the outstanding trade theory in the 20th century.111 The model assumes identical technologies, constant returns to scale and common tastes.112 Also one has to take into consideration the possibility of asymmetric effects. Those can arise when for example South European countries export the same good as Turkey i.e. they have a revealed comparative advantage in the same group of goods. In this case the CU with Turkey leads to an increase of Turkey’s exports to the North European states at the expense of the South European states where the exports to the north decrease.113 The trade theory predicts that tariff liberalization will lead to Turkey specializing in those industries in which they have a comparative advantage. This leads to industries being relocated in countries where relative costs are lowest. Although this will leave the member states of the EU customs union better off since resources are used more effiCopyright © 2008. Diplomica Verlag. All rights reserved.

ciently than before, there may be considerable adjustment costs for particular groups of workers whose jobs disappear as a consequence and who have to move to where new

109

See Utkulu/ Seymen (2004), p. 8. See Lohrmann (1997), p. 23. 111 For detailed information view e.g. Markusen et al. (1995), pp. 98 – 126. 112 See Markusen et al. (1995), pp. 99f. 113 See Adam/ Moutos (2005), p. 13. 110

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jobs are available or re-train.114 These especially occur in the short term and are mainly due to structural change which includes a devaluation of human capital. It is useful to identify the susceptible sectors to support the people concerned. Another problem is that trade liberalization gives growth stimulus to the already booming centres of agglomeration while peripheral regions fall behind and further lose attraction for investors. Employment opportunities worsen and more young and qualified members of the labour force leave the region, which introduces a vicious cycle. Those regions with positive effects from liberalization often suffer from overcrowding. This induces problems of adjustment because it enforces the mismatch on the labour market, in the agglomeration centres the residential property will be scarce and for the employees more expensive. Evidence in the Turkish case can be given by the example of Istanbul, the biggest city in Turkey with 15 million inhabitants, which are 20 percent of the whole Turkish population.

3.3.1.1.2 Turkey’s comparative advantage A specialisation according to the H-O model within a CU results in economic convergence of the members.115 Since measuring comparative advantage is difficult relative prices under autarky being not observable Balassa suggests that comparative advantage is “revealed” by observed trade patterns, and in line with the theory, one needs pre-trade relative prices which are not observable. Thus, inferring comparative advantage from observed data is named “revealed” comparative advantage (RCA). In practice, this is a commonly accepted method for analysing trade data.116 The Balassa index measures the comparative advantage of a country with regard to its exports and imports. The ratio shows trade imbalances for individual product groups divided by the sum of exports and imports of products belonging to the group. A Copyright © 2008. Diplomica Verlag. All rights reserved.

score over 1 signalises a specialisation of the country in this sector.117 In that case the country has a revealed comparative advantage in good i. Its export share of good i is higher than the world average. Conversely, a country is said to have a revealed com114

See El-Agraa (2004), p. 134. See Lohrmann (1997), p. 113. 116 See Utkulu/ Seymen (2004), p. 8. 117 See Quaisser/ Reppegather (2004), p. 39. 115

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parative disadvantage in good i, if the corresponding RCA index is less than one.118 RCA indices can be calculated using the following formula: RCA = ln

Xi ∑ Xi / * 100 Mi ∑ Mi

X and M denote exports and imports, respectively, and the subscript i refers to a product group by Standard International Trade Classification revision 3 (SITC Rev. 3). An increase of the Balassa index over time indicates that the country under consideration has improved its competitive position against its competitors.119 Despite the existing restrictions, the H-O theory is still the foundation for recommendations concerning foreign trade policy. Methodologically it is possible to approach this topic by dividing the different sectors according to their factor intensity. An analysis of the RCA shall explain the trade pattern between Turkey and the EU.120 In Appendix H the calculated RCA values for the different products according to SITC Rev. 3 classification are shown. Turkstat only provided statistics from 1996. 1996 was Turkey’s first year under the CU with the EU, therefore with the help of RCAs Turkey’s development of comparative advantage under the CU can be determined. The calculations are visualised in Appendix I. As the figure depicts the RCA values remained quite stable and didn’t change remarkably. A slight upward trend can be detected in mineral fuels, lubricants and related materials (SITC 3) and machinery and transport equipment (SITC 7). In the other broad categories there is no trend observable. Turkey has and seems to keep its comparative advantage in food and live animals (SITC 0), beverages and tobacco (SITC 1), manufactured goods like rubber manufactures (SITC 62), textile yarn, fabrics (SITC 65), non-metallic mineral manufactures (SITC 66), iron and steel (SITC 67) and manufactures of metals (SITC 69). Moreover Turkey keeps the comparative advantage in miscellaneous manufactured articles including prefabricated buildings; sanitary, plumbing, heating and lighting fixtures and fittings (SITC 81); furniture, bedCopyright © 2008. Diplomica Verlag. All rights reserved.

ding, mattress supports and cushions (SITC 82); articles of apparel and clothing accessories (SITC 84). It is worth mentioning that Turkey developed a comparative advantage during the CU in electric current (SITC 35), in plastics in non-primary forms (SITC 57), in road vehicles (SITC 78) and other transport equipment (SITC 79). On the other 118

See Karakaya/ Özgen (2002), p. 3. See Malkoc (2002), p. 26. 120 See Lohrmann (1997), p. 63. 119

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hand Turkey developed comparative disadvantages under the CU: in crude animal and vegetable materials (SITC 29), travel goods, handbags and similar containers (SITC 83) and footwear (SITC 85). Dividing the SITC classification into 5 groups concerning the factors intensity121 the following conclusions can be made: Turkey has comparative advantages in capital intensive (e.g. SITC 1, 35, 62, 67, and 78) and in labour-intensive goods (e.g. SITC 65, 66, 69, 81, 82, 84). In some labour intensive sectors Turkey developed a comparative disadvantage under the CU (SITC 83, 85). It can be seen that a slight downward trend is developing in the area of Turkey’s product groups with the strongest comparative advantage. At the same time the comparative advantage in capital-intensive goods had an upward trend under the CU. Figure 9 shows the main categories and the RCA development during the regarded period. Although Turkey improved its competitiveness in some raw material intensive products (SITC 0), the overall trend in this category shows that Turkey is losing its comparative advantage. It is the category with the strongest downward slope. Turkey’s agricultural sector is the largest of all the OECD countries, accounting for about 17% of GDP, 20% of exports, and 40% of the labour force. Its production includes tobacco, cotton, grain, olives, sugar beets, pulses, citrus and livestock. Cotton, fruit and vegetable production has increased dramatically in recent years due to irrigation efforts and government support.122 This shows that RCA indices would be even lower in this sector without the government support. The raw material intensive goods comprising among others the agricultural goods are losing its comparative advantage. Even though still having comparative disadvantage in easily imitable and difficultly imitable research-oriented goods, Turkey improved its situation remarkably under the CU, the two curves showing obvious upwards tendency. Some of the groups in those sections even already have positive RCA values and are further improving their Copyright © 2008. Diplomica Verlag. All rights reserved.

competitiveness: Plastics in non-primary forms (SITC 58), Electrical machinery, apparatus and appliances and electrical parts thereof (SITC 77) and other transport equipment (SITC 79).

121 122

See Appendix K. See Danzinger et al. (2005), p. 6.

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Figure 9: Revealed comparative advantage 1996-2007, factor intensity Source: own creation, view Appendix J.

As it will be confirmed in chapter 3.3.1.2 the inter-industrial trade is dominating the exchange of goods between Turkey and the EU. The structure of import of the EU is marked by a high percentage of traditional, labour intensive goods. The high percentage of Turkish textiles and clothing make Turkey face some problems. From 1930 Turkey’s government was investing into the fields of textile production and cotton planting. At the same time the domestic market was protected by high import barriers. In the 80s the textile and clothing industry in Turkey had played the leading role in the export oriented industrialization process.123 But Turkey has failed to establish international brands and design. This leads to great challenges for the Turkish clothing industry, the importance of this sector is declining. Competitors mainly come from Pakistan, India and China that

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produce more cheaply because of their low wages.124 The growth potential of these industries is by tendency limited. The end of the Agreement on Textiles and Clothing in combination with the Eastern enlargement of the EU and additional free trade agreements e.g. with some North African countries leads to an accentuation of competi-

123 124

See Zentrum für Türkeistudien (publisher) (1999), p. 88. See Adali (2003), p.36.

31

tion.125 The strong focus on textiles and clothing can be proved with the specialisation index of Balassa. In 2006 Turkey reaches a score of 97 on textiles and 298 on clothing. Yilmaz (2005) found that the EU-15 seem to have a strong comparative advantage in labour-intensive goods (partly), capital-intensive goods (mainly), and not easily imitable research-oriented goods (mainly).126 It should be mentioned that, trade policy interventions in the form of tariff and non-tariff barriers on imports can distort the calculation of RCA indices because of being based on actual export and import flows.127 Thus the RCA doesn’t take into consideration the protection of certain sectors or if high export values are due to subventions.128 These distortions however should be at reasonably minimal levels due to the implementation of the CU where quotas and tariffs on industrial commodities between Turkey and the EU don’t exist.129 The Turkish Undersecretariat of Foreign Trade uses special tools for export promotion130 which is the reason why the results in this study should be interpreted cautiously. The RCA index can identify only the occurrence rather than the magnitudes of trade creation and trade diversion for each commodity group. Also it should be noted that the RCA index cannot capture scale economies, increases in bargaining power and increases in competition.131 It can be said that Turkey’s competitive advantage lies in the export of labour intense goods. Turkey appears to have noticeable comparative disadvantages in terms of the difficultly and easily imitable research-oriented goods showing its strong dependency on the European Union in this sector.132 After the CU major changes in the competitiveness of the Turkish industry can be observed. It can be seen a tendency of alternation. In some sectors like machinery and transportation equipment however competitiveness has improved after the estab-

Copyright © 2008. Diplomica Verlag. All rights reserved.

lishment of the CU in 1996. That means that the share of skilled labour and capital

125

See Quaisser/ Reppegather (2004), p. 39. See ibid. (2005), p. 79. 127 See Yilmaz (2005), p. 82. 128 See Lohrmann (1997), p. 109. 129 See Utkulu/ Seymen (2004), p. 18. 130 See Undersecretariate of Foreign Trade (without year), view Internet Sources. 131 See Karakaya/ Özgen (2002), p. 13. 132 See Yilmaz (2003), pp. 9f. 126

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intensive exports in Turkish total exports increases while the share of low-skilled labour exports decreases.133 Now the crucial question is how Turkey can proceed step-by-step its export diversification from labour intensive to easily and difficultly imitable research oriented goods within the CU.134 On the whole, the trade pattern is in accordance with the rule of competitive advantage. Especially with respect to EU countries a strong inter-industrial division of labour has developed.135

3.3.1.2 Intra-industry trade “Intra-industry trade refers to the mutual exchange among countries of similar goods.”136 Intra-industry trade contradicts the factor proportion theory as it is explained by increasing returns to scale and imperfect competition. Thus it does not reflect comparative advantage.137 Intra-industry trade tends to be prevalent between countries that are similar in their capital-labour ratios, skill levels and so on. Thus intra-industry trade is likely to occur between countries at a similar level of economic development.138 Mainly highquality products are traded which require a high level of know-how. This leads to an exchange of knowledge between the trading countries which is higher than in interindustry trade.139 Intra-industry trade is said to be a driver of export growth.140 It is expected that intra-industry trade will be greater when tariffs and non-tariff barriers are low. A low share of intra-industry trade is considered to be an indicator of backwardness; accordingly a rising share has to be an indicator of catching up, especially if this change of trade patterns shows a significant move towards trade in capital- and skillintensive sectors.141 Thus an increase of intra-industry trade between Turkey and the EU Copyright © 2008. Diplomica Verlag. All rights reserved.

can be evaluated as a sign of real convergence while an inter-industry pattern rather 133

See Malkoc (2002), p. 28. See Yilmaz (2003), p. 17. 135 See Zentrum für Türkeistudien (publisher) (1999), p. 42. 136 El-Agraa (2004), p. 453. 137 See Krugman/ Obstfeld (2006), p. 129. 138 See Krugman/ Obstfeld (2006), p. 129. 139 See Lohrmann (1997), p. 65. 140 See Quaisser/ Reppegather (2004), p. 42. 141 See Lohrmann (2000), p. 33. 134

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pleads for a divergent development.142 Where producers specialize in particular products or processes, average costs are often lowered as the scale of production can be increased. It will be the cost savings that come from increased plant specialization and longer production runs which will result from greater intra-industry trade. By expanding the number of varieties available, intraindustry trade will also increase the degree of competition facing individual producers, which may bring further benefits from the elimination of inefficiency. If producers are forced by this process to cut prices, consumers will enjoy a further increase in their real incomes.143 Grubel and Lloyd (1975) used a formula, in which trade imbalance for an individual product group was deducted from total exports and imports before being divided by total exports and imports.144

Formula:

GLI = 100 *

(X

j

+ M j )− X j − M j

(X

j

+Mj)

with 0 ≤ GLI ≤ 100

Xj and Mj refer to exports and imports, respectively, of each of the SITC Rev. 3 production sectors j. The coefficient can vary between 0 and +100. When there is no intraindustry trade the Grubel-Lloyd index (GLI) has a value of zero whereas it has a value of one hundred when there is perfectly matching intra-industry trade. A coefficient under 50 means that trade takes the form of inter-industry specialization. This implies that the index is positively related to the level of intra-industry trade.145 One problem occurs when the GLI is calculated for aggregated commodity groups; they tend to overstate the true amount of intra-industry trade by pooling goods that are in fact not very similar. Therefore it is more appropriate to calculate them for highly detailed and disaggregated commodities, which would lead to distinctly lower Copyright © 2008. Diplomica Verlag. All rights reserved.

figures.146 This problem also occurred in the calculation of GLI values in Appendix K. Data was calculated for the trade between Turkey and the EU-25. The amount of intra142

See ibid. (1997), p. 65. See El-Agraa (2004), p. 137. 144 See ibid. (2004), pp. 134f. 145 See Yilmaz (2003), p. 13. 146 See Markusen et al. (1995), p. 235. 143

34

industry trade for the aggregated product groups from the SITC Rev. 3 classification in the second level of segmentation leading to 9 main groups and 66 subgroups appears to be quite high. Although the whole level of calculated intra-industry trade might not be convincing, one can still consider the development over the regarded years. The data provided by Eurostat were available only for the years 1999-2006. The following graphic illustrates the overall result of the calculations.

Overall GLI 100% 90% 80% 70% share

60%

inter-industry trade

50%

intra-industry trade

40% 30% 20% 10% 0% 1999

2000

2001

2002

2003

2004

2005

2006

year

Figure 10: Development of the share of intra-industry trade Source: own creation, see Appendix K.

A slight upward trend in the curve is visible, indicating the rise of the amount of intraindustry trade. Product groups with a high share of intra-industry trade are cereals and cereal preparations (SITC 04); coffee, tea, cocoa, spices and manufactures thereof (SITC 07); beverages and tobacco (SITC 1); crude animal and vegetable materials Copyright © 2008. Diplomica Verlag. All rights reserved.

(SITC 29); petroleum, petroleum products and related materials (SITC 33); inorganic chemicals (SITC 52); iron and steel (SITC 67); non-ferrous metals (SITC 68); manufactures of metals (SITC 69). On the other hand sectors like coins (SITC 96); photographic apparatus, equipment and supplies and optical goods, watches and clocks (SITC 88); articles of apparel and clothing accessories (SITC 84); office machines and automatic data-processing machines (SITC 75); chemical materials and products (SITC 59); dye-

35

ing, tanning and colouring materials (SITC 53); electric current (SITC 35); gas, natural and manufactured (SITC 34); coal, coke and briquettes (SITC 32); pulp and waste paper (SITC 25); hides, skins and furskins, raw (SITC 21); vegetables and fruit (SITC 05) and dairy products and birds´ eggs (SITC 02) are highly inter-industrial. Turkey approaches intra-industry specialization only in capital intensive and in the labour intensive goods. In other groups of goods, Turkey shows the characteristic of inter-industry world trade.147 All in all it can be estimated that the Turkish trade pattern has shifted towards intra-industry trade within the last years. This is a positive sign.

3.3.2 Economies of scale It has been widely recognized that economies of scale provide an alternative to differences in technology or factor endowments as an explanation of international specialization and trade.148 Economies of scale are made possible by the increased market size benefiting firms and industries operating below optimum capacity before integration occurred.149 The occurrence of economies of scale can be explained with the new trade theory since it is free of the limitations of perfect competition and constant returns to scale. In industrial markets there is imperfect competition because of the existence of economies of scale and product differentiation.150 Economies of scale are understood as profit maximisation along the long-run average cost curve and they are plotted as the envelope curve of short-run cost curves of different output volumes. The theoretical conception keeps the assumptions of a given state of technology, fixed factor proportions and given factor prices. Consequently, scale curves can be different between countries.151 Economies of scale can influence the allocation of production in a CU. Trade can arise between two economies for which Copyright © 2008. Diplomica Verlag. All rights reserved.

there is no pattern of comparative advantage. Gains from scale economies occur in

147

See Yilmaz (2003), p. 15. See Krugman (1994), p. 11. 149 See El-Agraa (2004), p. 105. 150 See Hansen/ Nielsen (1997), p. 35. 151 Pelkmans (1984), p. 44. Please consider the assumptions which are made for this theory: homogenous products, identical techniques, Turkey as an autark country before, See Zentrum für Türkeistudien (publisher) (1999), p. 33. 148

36

addition to gains due to comparative advantage.152 Economies of scale are regarded as an important source of welfare gain of the Single European Market. The evidence of an uncurbed wave of mergers and acquisitions (M&A) supports the view that scale economies in manufacturing and services are far from being exhausted.153 Expansion of an increasing returns sector through trade generates a benefit equal to the excess of price over marginal cost on incremental output. This pro-competitive gain can be broken down into the excess of price over average cost and the fall in the average cost of producing existing output. Gains may also be captured as a result of the exit of some firms, freeing up the resources that were used in fixed costs for other uses. That means the fix costs which were paid double by each firm will be paid only once after one firm left the market. Gains can be captured by having either the same range of products at lower costs or a larger range of products at the same costs.154 A better division of labour occurs due to rising specialization.155 For Turkey as a less developed country it means that if it enters a CU where Economies of scale are already realised it is likely that the EU can produce with lower costs and take over the whole market. Turkey as the newcomer might have difficulties to compete.156 Peridy (2004) investigated the empirical relationship between the magnitude of scale economies and trade. He directly estimated scale economies from a non linear translog production function system. These estimates were then introduced in an original supply–demand export model. The application of this model to four EU countries (Germany, UK, France and Italy) indicates that exports unambiguously rise with the degree of scale economies. Peridy concludes that scale economies have a positive effect on those EU countries’ exports. However, given the small degree of increasing returns calculated, and the small scale elasticities it seems that this impact is limited.157 The liberalisation of trade with more developed regions doesn’t lead to convergence in the sense of the neoclassic theory. The richer countries get into a monopoly Copyright © 2008. Diplomica Verlag. All rights reserved.

position in their production.158 Surviving firms can increase their production resulting in

152

See Markusen et al. (1995), p. 192. See Zentrum für Türkeistudien (publisher) (1999), p. 33. 154 See Markusen et al. (1995), p. 193. 155 See Lohrmann (1997), p. 36. 156 See Zentrum für Türkeistudien (publisher) (1999), p. 33. 157 See Peridy (2004), pp.1-5. 158 See Lohrmann (1997), p. 52. 153

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a decrease in the average production cost.159 With economies of scale big firms will prevail due to cost advantages and there is a tendency to monopolies. The large share of small and medium enterprises (SMEs) in Turkey does not favour Turkey’s opportunities for economies of scale. According to estimates in 2000 the SME sector, including services, accounted for: 99.8% of the total number of enterprises, 76.7% of total employment, 38% of capital investment, 26.5% of value added, roughly 10% of exports and 5% of bank credit. Therefore, while SMEs dominate the economy in terms of employment, they evidently operate with comparatively little capital equipment, generate relatively low levels of value added, make only a small contribution to Turkish exports and receive only a marginal share of the funds mobilised by the banking sector.160 Thus the situation favours multi-plant firms as they can split production processes and distribute them regionally according to comparative advantage. As a consequence labour intensive stages may be transferred to Turkey.161 Erzan and Filiztekin studied the expected impact of the CU on small and medium size enterprises in 1997. They come to the conclusion that concerning value added growth, the small firms suffered from exchange rate volatility, inflation, wage hikes and import penetration more than large enterprises. Changes in credit availability and changes in domestic and foreign demand also had a negative influence on the value added growth of small firms. All in all they state that in explaining value added and productivity growth, industry characteristics appeared to be more important than firm size. In the face of wage hikes it was found that the larger enterprises had much greater possibilities of substituting capital for labour and increasing productivity despite of the increases in factor costs. SMEs suffered from economic instability. From this point of view the situation under the CU could improve as it is supporting economic stability. Nevertheless SMEs managed to maintain their productivity by labour reduction using their “flexibility” advantage.162 Copyright © 2008. Diplomica Verlag. All rights reserved.

When economies of scale apply at the level of the industry rather than at the level of the individual firm, they are called external economies. They occur when for example concentrating production of an industry in one or a few locations reduces

159

See Markusen et al. (1995), p. 194. See OECD (2004), p. 27, view Internet Sources. 161 See Zentrum für Türkeistudien (publisher) (1999), p. 33. 162 See Erzan/ Filiztekin (1997), p. 891. 160

38

industry costs, even if the individual firms in the industry remain small. This might happen because a cluster of firms can support specialized suppliers; a geographically concentrated industry allows labour market pooling and helps foster knowledge spillovers.163 Also external economies to scale can occur if the specialization leads to an improvement of the infrastructure or if success in research and development accumulates.164 External economies can also lead to losses from international trade for a single country as they might cause countries to get locked into undesirable patterns of specialization. They give strong role to historical accident in determining who produces what and may allow established patterns of specialization to persist even when they run counter to comparative advantage.165 In Turkey’s case the clothing industry had established historically due to high investments in this sector and became the most important industry in exports. On the other hand as will be shown in chapter 3.3.3 this sector is losing its comparative advantage. Although this pattern of specialization is not favourable it persists, showing the effect of external economies. Evidence can be found on the one hand in the high export rates making up 14% of total exports in 2006 and on the other hand also in the high amount of people working in this industry. Compared with 1996 the importance already decreased (26.2%) which is a sign that Turkey is developing into the right direction. Measuring scale economies in a consistent way across industries is an elusive task. Besides plant size are issues of geographical concentration, cost-reducing innovations in intermediate outputs, diffusion of technological information, and learning economies from repeated production.166 Most of these impacts have not been measured well in the past and investigating them will be a task of further research.

3.3.3 Competitiveness Copyright © 2008. Diplomica Verlag. All rights reserved.

Another dynamic effect concerns the economic efficiency and the smoothness with which trade transactions are carried out due to enhanced competition and changes in

163

See Krugman/ Obstfeld (2006), p. 136. See Ohr/ Theurl (publisher) (2001), p. 13. 165 See Krugman/ Obstfeld (2006), pp. 139f. 166 See Markusen et al. (1995), p. 231. 164

39

uncertainty.167 The creation of a CU is aligned with an intensification of competition inside the integrated area. Thus, for companies there is a higher incentive for product and process innovations that lead to an increase in productivity and a higher variety of products.168 In this part the influence of the CU on Turkey’s competitiveness in its important sectors is regarded. The pressure of increased EU competition in import markets is likely to improve Turkish product quality and the price of Turkish products in EU markets. The most important challenge from the CU is that it will result in Turkish industries being exposed to international competition to a greater extent than it has been the case before. The increasingly competitive industrial structure brought on by the CU will further expose inefficient State Owned Enterprises. The loss-making ones will likely lose even more, making it increasingly costly to maintain inefficient State Owned Enterprises.169 It should be noted that comparative advantage is distinct from competitiveness because competitiveness is related to the relative strength or weakness of a country for producing a given product. Comparative advantage is related to the relative strength or weakness of products for a given country. Furthermore competitiveness is often subject to macroeconomic fluctuations like the exchange rate or wage rate, while comparative advantage is structural.170 Yet those aspects influence each other. Therefore this chapter is closely connected with chapter 3.3.1.1.2 which analysed Turkey’s comparative advantage. Turkey's ability to overcome difficulties and challenges that might arise from the hard competition with the EU can be positively influenced by specialization according to comparative advantage. For analysing the competitiveness and its change over the years Ege applied the World Competitive Scoreboard which is published annually by IMD in the World Competitiveness Yearbook. It measures the whole economies´ competitiveness. It shows Turkey’s relative position with respect to competitiveness among EU countries Copyright © 2008. Diplomica Verlag. All rights reserved.

and other countries of the world.171 Factors considered in this calculation are the economic performance, government efficiency, business efficiency and infrastructure.172 167

See El-Agraa (2004), p. 105. See Ohr/ Theurl (publisher) (2001), p. 14. 169 See Harrison et al. (1997), p. 868. 170 See Yilmaz (2003), p. 20. 171 See Zentrum für Türkeistudien (publisher) (1999), p. 76. 172 See IMD World Competitiveness Yearbook (2007), view Internet Sources. 168

40

Appendix L shows this scoreboard for the last five years. From 55 analysed countries which include almost all of the 27 current members of the EU, in 2007 Turkey is on position 48 compared to position 43 in the previous year. Best performing country is the USA and worst is Venezuela while the best EU country is Luxembourg, ranking on position 4. Still, it is interesting to mention that Turkey leaves the new EU member Poland behind which is on position 52. Also in the 5 year comparison Turkey ranked on the last places even showing a deterioration of its performance, falling from position 39 in 2005 to position 48 in 2007. Especially in the economic sector Turkey’s situation worsened within the last 3 years falling from position 44 in 2005 on position 53 in 2007. The IMD estimates in its final report that Turkey is losing ground instead of catching up in comparison with the no. 1 USA. Despite some real and specific competitive advantages, Turkey will, sooner or later, lose its standing in world competitiveness if it does not improve its overall performance.173 One has to bear in mind that if the indicator had been calculated as a percentage of the labour force rather than as a percentage of the total population, Turkey’s performance would have been more favourable, since Turkey has a very large young population below the working age.174 The considered indicators show that the Turkish economy faces some severe challenges concerning EU competition. Since the CU was completed gradually over the years it is hard to distinguish how much is the result of the CU and how much arises from other factors. The improvements in Turkish economy are not yet substantial enough to bring Turkey to a reasonably competitive level with respect to its trading partners. Nevertheless Turkish producers proved that they are able and willing to cope with the competition in the European markets. Yet, to establish oneself on the global markets in the long run, companies need to invest more into new technologies175 which

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is the topic of the next chapter.

3.3.4 Technological transfer According to the theory of catching up (Abramovitz 1986) underdeveloped countries may close a technology gap by free trade. The more a country’s productivity and tech173

See IMD World Competitiveness Yearbook (2007), view Internet Sources. See Zentrum für Türkeistudien (publisher) (1999), p. 80. 175 See Adali (2003), p. 51. 174

41

nology is backward the higher is its growth potential and its growth rates in case of free trade. Trade also causes a technology transfer, and underdeveloped nations may use new technologies without spending a lot on invention.176 This is also connected with the product cycle hypothesis. The high developed industrial countries are the producers of new products realising export monopolies at the beginning of the product cycle. If the product reaches its maturing stage less developed countries may foster development through imitation. In the standardization period, it is possible to produce with standardised techniques and low-qualified labour, which makes it possible for developing countries to specialise on these goods due to their lower costs of production and low wage rates.177 This is also often thanks to direct foreign investment (DFI), giving the ability to develop competitive products.178 Rising commercial contacts between countries causes an accumulation of knowledge. This leads to a catching-up, while producing low technology goods under protection causes falling behind. Producing standardised low-technology goods may end in the so called Heckscher-Ohlin trap. That means that there is no remarkable technical progress because of lacking human capital accumulation in the production. There is no significant technology transfer because DFI is also going into branches with less human capital. Without technical progress the country will fall behind. Low-technology goods in the exporting sector will suffer from rising competition in the world market.179 Convergence is evoked mainly by the 2 factors technological progress and capital accumulation.180 Faster implementation of technological innovations can lead to a higher rate of technological change.181 As an industrializing country, Turkey needs advanced technologies to speed up its industrialization process.182 There is a natural alliance between the new trade theory, with its emphasis on increasing returns and imperfect competition, and the view that technological change is Copyright © 2008. Diplomica Verlag. All rights reserved.

a key factor driving international specialization. Technological development is normally an increasing returns process carried out in imperfectly competitive industries, and the 176

See Lohrmann (2000), p. 27. See Lohrmann (1997), p. 65. 178 See Markusen et al. (1995), p. 209, the effect of the CU on DFI is covered in chapter 3.3.5. 179 See Lohrmann (2000), pp. 27ff. 180 See ibid. (1997), p. 65. 181 See Adali (2003), p. 18. 182 See Zentrum für Türkeistudien (publisher) (1993), p. 65. 177

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most important sources of increasing returns in practice probably lie in dynamic economies of learning and research and development.183 If bigger sales markets and increased competition initiate innovations and growth processes, which excite technologic dynamics, then those positive effects can be carried over to other companies or even to other sectors by spill-over effects, learning effects and income effects.184 Technological gaps are also explainable with the traditional trade theory. The H– O model would predict that technologically advanced countries have a comparative advantage in technology-intensive goods.185 Innovation, by increasing the range of products, represents an increase in real world productivity. Technology transfer then since it is allowing a wider range of goods in Turkey, also represents a gain from a global point of view. Innovation as well as technology transfer increase world output. Hereby innovation disproportionately benefits the EU, the more innovative area, while technological transfer supports Turkey.186 The high protection rates of the Turkish industry before the CU lead to a relatively underdeveloped level of technology in its production.187 It shall be considered how this situation changed under the CU. The whole level of technology itself is not measurable; however technologyinput can be measured with the expenses for education, research and development or the employment of scientists and engineers.188 The following graphic gives an overview about the employment of research and development (R&D) personnel including scientists and technicians. As it can be seen the number of people employed within R&D increased significantly during the regarded period. The comparison between Turkey and other chosen countries in Appendix N with respect to the education expenses as a percentage of GDP confirms Turkey’s high technology input. In 2002 Turkey spend 7.26% on education being 1.36 percentage points Copyright © 2008. Diplomica Verlag. All rights reserved.

higher than the OECD average.189 Unfortunately there are no time series evidences available in this matter. Yet, the different factors indicating Turkey’s technology input 183

See Krugman (1994), p. 7. See Ohr/ Theurl (publisher) (2001), pp. 14f. 185 See Krugman (1994), pp. 152f. 186 See ibid. (1994), p. 146. 187 See Adali (2003), p. 49. 188 See Lohrman (1997), pp. 68f. 189 See Appendix O. 184

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show positive results. R&D personnel

2004 2002

year

2000 1998 1996 1994 1992 1990 0

10 000

20 000

30 000

Headcount

40 000

50 000

60 000

70 000

80 000

90 000

Full time equivalent

Figure 11: R&D personnel, 1990-2004 Source: Turkstat (2007), view Appendix M.

Technology-output is measured by the number of patent applications. If this number increases within the time period of the CU it can be interpreted as a positive sign for the catching-up process of Turkey.190 Alternatively the percentage of innovative firms can give an impression about the technology output. In the following graphic the development during the years 1997-2004 is shown. The percentage of innovative firms increased being a sign on the one hand of more investment in R&D and on the other hand

Copyright © 2008. Diplomica Verlag. All rights reserved.

of possible spillover effects due to the closer integration with Europe.

190

See Lohrman (1997), pp. 68f.

44

percentage of innovative firms

35,0 30,0 25,0 20,0 15,0 10,0 5,0 0,0 1995-1997

1998-2000

2002-2004

years

Figure 12: Percentage of innovative firms in Turkey, 1995 – 2000; 2002 - 2004 Source: own creation, data from Turkstat (2007), view Appendix P.

The overall estimation for Turkey’s technology change is a positive one although Turkey still needs to increase its transfer of technology to overcome the shortcomings of their trade balance. Another possibility would be to attract more DFI191 which is the topic of the next chapter.

3.3.5 Direct foreign investment Positive growth effects can occur when the CU leads to an increase in investments. Reasons like high competition plead for such a positive relation.192 The CU had influence on the location and volume of real investment193 which is analysed in more detail

Copyright © 2008. Diplomica Verlag. All rights reserved.

in this chapter.

3.3.5.1 Theoretic implementation “Direct foreign investment is defined as an investment in which the investor acquires a substantial controlling interest in a foreign firm or sets up a subsidiary in a foreign 191

See Yilmaz (2005), p. 96. See Adali (2003), p. 18. 193 See El-Agraa (2004), p. 105. 192

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country. DFI involves ownership or control of a business enterprise abroad.”194 Thus the distinctive feature of DFI is that it involves not only a transfer of resources but also the acquisition of control. The subsidiary is part of the same organizational structure.195 In case of a plant the transfer of resources and production capabilities, and therefore DFI, contribute to the industrial base of the host country Turkey.196 DFI is one important pillar of convergence theories, in which it is assumed that capital flows into the region with lower wages and higher interest rates. In the “catching up” theory it is the source of technology and know-how because every investment from developed countries will cause a technology transfer, and the production will have external effects via learning-by-doing and spill-over to other industries.197 Increasing intra-industry trade198 is a sign of catching up while DFI flows may be an indicator of technology transfer.199 The growth in investments is one important requirement to catch up with the development level of the EU.200 There are a lot of factors determining investment decisions, among others: In developing countries there often exists a lack of savings and capital accumulation which is needed to realize additional profitable investments. Hence investment opportunities which promise high profits are realised by foreign entrepreneurs especially if the domestic demand in the invested sector offers good growth prospects. Another advantage is the relatively cheap quality and surplus of the labour force in developing countries. By shifting the assembly industries to these countries they can reduce their costs and increase their ability to compete in the world market. Moreover the geographical position of the country and suitable connections to different foreign markets are a determining factor for choosing the country of investment.201 In this way Turkey could be

Copyright © 2008. Diplomica Verlag. All rights reserved.

used as an export base to the Middle Eastern and Islamic countries.

194

Markusen et al. (1995), p. 394. See Krugman/ Obstfeld (2006), p. 157. 196 See El-Agraa (2004), p. 318. 197 See Lohrmann (2000), pp. 38f. 198 This issue is examined in chapter 3.3.1.2. 199 See Lohrmann (2000), p. 30. 200 See Yazganarikan (2003), p. 8. 201 See Zentrum für Türkeistudien (publisher) (1993), p. 58. 195

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3.3.5.2 Direct foreign investment inflows by countries There are several reasons why the CU may affect DFI. Since regulations in the area of economy are more similar to each other now, investing might be more attractive for the EU firms. In addition these firms could benefit from the low-wages and yet relatively high skilled labour in Turkey. Furthermore the CU could attract more firms from nonEU countries that want to export to the EU market without any nominal tariff and other customs barriers from Turkey. In this case there is supposed to be an increase in DFI in Turkey from non-EU countries.202 The following graphic demonstrates the inflows coming from special regions. As it can be recognized the EU investments were boosting within the last few years, but also investment from the USA and Asia was rising. In fact, Turkey – a non-oil producing country – is the leading source of FDI from West Asia: its outward FDI stock accounts for about half of the total FDI stock of the region.203

inflows in million USD

DFI inflows from special regions 20.000 15.000 10.000 5.000 0

2002

2003

2004

2005

2006

EU-25

455

555

1.025

5.003

14.572

Europe (excluding EU)

64

70

109

1.650

84

U.S.A.

2

52

36

88

851

Asian

70

60

60

1.756

1.946

Figure 13: DFI inflows from special regions

Copyright © 2008. Diplomica Verlag. All rights reserved.

Source: own creation, data from Undersecretariat of Treasury, http://www.hazine.gov.tr/stat/yabser/Haziran2007_tablolaring.xls

Also in Appendix S the composition of DFI inflows by countries can be regarded. Between 2002 and 2006 75% of all DFI inflows came from the EU-25.204 This is an exceptionally high share. DFI is seen as the main source of technology and know-how trans202

See Malkoc (2002), p. 33. See ibid. (2006), p. 131, view Internet Sources. 204 See Appendix T. 203

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fer to developing countries.205 DFI to Turkey mainly originates from the EU countries. The EU-25 share is about 82% with respect to total DFI inflows in 2006.206 That means that most foreign firms operating in Turkey come from EU countries. Most important EU investors are from Germany, Great Britain, the Netherlands, and France.207 At present, the main channel for the transfer of technology has been DFI. In this regard, those investor countries have been playing a very important role in the transfer of technology by DFI.208

3.3.5.3 Direct foreign investment volume In the case of Turkey DFI didn’t play a big role until 1980 because of the internally oriented economic policy and import substitution strategy as it was explained already in chapter 2.3. This together with strong protectionism and complicated and timeconsuming administrative procedures hindered the influx of DFI to the country.209 Other reasons for this were the poorly developed infrastructure, high inflation rates, and high interest rates on credits. Also the political instability played an important role.210 From the 1980´s this situation slightly improved. This was connected to the new export-led strategy and liberalization attempts in both Turkish and world economy during that period.211 Anyhow compared with other developing countries the investment in Turkey was rather static. Other countries like Spain, Mexico, Brazil and Indonesia had much higher DFI inflows. Around 25.6% of all DFI into emerging market countries and developing countries went to Spain while Turkey only got 1.1% (in 1989).212 One would expect an increase in DFI from 1995 onwards. Yet the weak institutional framework combined with the financial turbulence at the end of the decade has led to a steady stagnation of DFI flows.213 Nevertheless the following figure demonstrates that DFI in Turkey made an astonishing development during the last few years.

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205

See Lohrmann (1997), p. 137. The IMF and the World Bank categorize Turkey as a newly industrialised country which traditionally belongs to the developing coutries. The term was introduced by the UN to identify countries with an advanced level of development eligible to overcome the typical structural characteristics of a developing country. See Wissen Media Verlag (2007), view Internet Sources. 206 See Appendix R. 207 A graphic showing the most important investing countries in 2005 can be found in Appendix Q. 208 See Yilmaz (2003), p. 6. 209 See Zentrum für Türkeistudien (publisher) (1993), p. 59. 210 See Adali (2003), p. 42. 211 See Zentrum für Türkeistudien (publisher) (1993), p. 59. 212 See Adali (2003), p. 42. 213 See Ülgen/ Zahariadis (2004), p. 22.

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Figure 14: Foreign direct investment in Turkey, 1996-2006 Source: Turkish-U.S. Business Council (2007), p. 113, http://www.turkey-now.org/db/Docs/ekonomik%20rapor%20mart%2007.pdf

2003 a new investment law went into effect which is expected to encourage DFIs, protecting the rights of investors and introducing international standards.214 DFI into Turkey having amounted to 2.8 (1.7) billion US$ in 2004 (2003), boosted to ca. 9.7 billion US$ in 2005. In 2005 Turkey was the second largest recipient of DFI in West Asia behind the United Arab Emirates on account of a few mega cross-border M&A sales in services including the privatization of Türk Telekom (with $1.3 billion paid in 2005) and two deals in banking amounting to some $4 billion.215 This means there is no statement possible about the sustainability of this development.216

3.3.5.4 Direct foreign investment by sectors Also it is important to consider the flow of foreign capital into special sectors. A flow of foreign capital into human capital intensive industries is a sign of convergence while the

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investment into labour-intensive industries indicates a stagnation of development because a significant technology transfer doesn’t take place.217 A specialisation on labourintensive industries faces the problem of increased competition between developing countries, in DFI as well as exports. 214

See Investinturkey (2007), p. 1, view Internet Sources. See UNCTAD (2006), p. 60, view Internet Sources. 216 See Baden Würtemberg International (2006), p. 26, view Internet Sources. 217 See Lohrmann (1997), p. 140. 215

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There has been a sectoral change in time. In the 70´s the industrial sector was most attractive while in the 80´s it was shifted more to the service sector. The agricultural sector is not significant for foreign investors.218 Looking at the sectors is important because it shows if a transfer of technology is possible by DFI.219 Appendix U shows the distribution of investment incentive certificates by sectors. It is obvious that especially within the last years the manufacturing sector gained significance as well as the service sector, while other sectors like mining and agriculture are not supported that much by investment incentives. The investment incentive certificates given for a fixed investment in the manufacturing sector rose from 2000 by 322% to 11,873.4 million Turkish new liras (YTL) in 2006. Also the importance of the energy sector declined. While in 2000 the share of total DFI inflows amounted to 26%, in 2006 only a share of 8% was left. The total amount of support for this sector remained, just the 2 important sectors manufacturing and services gained significant support. The share of services basically remained constant while the share of manufacturing rose from 40% in 2000 to 53% in 2006.220 The distribution of DFI on the different industries shows that Turkey’s investment structure is changing. While Lohrmann (1997) came to the conclusion that Turkey focuses on labour-intensive low technology branches like clothing, food and transports,221 looking at the table in Appendix W financial intermediation and transport, storage and communication are the front-runners in DFI. Investments in textiles decreased. Lohrmann pointed out that specialisation on labour-intensive industries leads to increased competition between developing countries, in exports but also in DFI. There is a fundamental change: on the one hand the number of investing countries increased but on the other hand there are also more countries competing for these investments especially due to the breakdown of the Eastern bloc.222 Therefore the change in investCopyright © 2008. Diplomica Verlag. All rights reserved.

ment targets supports Turkey’s structural change. In manufacturing also the higher technology branches like manufacture of machinery and equipment, office machinery and computers and chemicals and chemical 218

See Zentrum für Türkeistudien (publisher) (1993), pp. 60f. See Lohrmann (1997), p.138. 220 See Appendix V. 221 See Lohrmann (1997), p. 141. 222 See ibid. (1997), pp. 140f. 219

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products were branches that gained popularity at foreign investment although this change seems to develop slowly and cautiously.223

3.3.5.5 Prospects The situation of DFI in Turkey has been unsatisfactory. In comparison with other nations, the inflow of foreign capital was too low.224 The reason for the insufficient entry of foreign capital to Turkey can be seen in the unstable atmosphere created by domestic economic and politic happenings rather than in the effects of the CU.225 In 1996 the chairman of Turkish Foreign Investors Association blamed the incessant crisis atmosphere and the lack of confidence in Turkey for the situation. But it is also a question of productivity, energy, infrastructure, and education. Nevertheless an improvement especially during the last 4 years can be acknowledged. In recent years new laws concerning school education and rising domestic investment in energy, education and transport have been introduced.226 Moreover, Turkey developed a lot of incentives for DFI, which were mainly introduced by a macroeconomic stabilization programme of the IMF. Now Turkey has the same conditions for national and international investors, it avoids double taxation and allows special tax exemptions. Besides that, there are no regulations for the amount of inland production or about the employment of inland personnel and no limits on the stock market for foreign enterprises. A series of measures was taken to abolish bureaucratic obstacles.227 Still, the offered incentives are not sufficient to compensate the disadvantages. Hence Turkey has to prioritize the aim to gain the investors trust. In addition, the structure of the Turkish consumer market presents good opportunities for foreign investors in various investment fields. Among the largest part of the population, there is no rejection of foreign goods. On the contrary it seems that Turkish consumers show affection towards foreign especially European products. Imported Copyright © 2008. Diplomica Verlag. All rights reserved.

goods are generally more expensive than domestic products in Turkey which is seen as an indicator of higher quality by Turkish consumers.228 It has to be mentioned that 223

View Appendices Y and Z. See Lohrmann (2000), pp. 41f. 225 See Zentrum für Türkeistudien (publisher) (1999), p. 67. 226 See Lohrmann (2000), pp. 41f. 227 See ibid. (1997), pp. 138f. 228 See Zentrum für Türkeistudien (publisher) (1993), p. 63. 224

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Turkey made considerable progress in the area of IPRs (intellectual property rights). The Turkish Patent Institute has administrative and financial autonomy and has full responsibility for the registration and administration of patents and IPRs. A number of commentators now describe Turkey as an attractive investment environment, which is in compliance with the agreement on trade-related aspects of intellectual property rights (TRIPs). This qualification is an important step forward for Turkey. IPRs essentially set a rules-based system for the marketing and trade of innovative new ideas and thus act as a powerful signalling mechanism for potential foreign investors. By acquiring a sound set of IPR rules and a transparent and reliable monitoring system, Turkey creates better opportunities for strengthening foreign investment flows and in particular DFI.229 In their matrix for 3 year potential (2002-2004) UNCTAD classifies Turkey as a country with high DFI potential but a DFI performance below potential.230 Turkey has a high growth potential in terms of economy as well as population. It is declared to be a big emerging market for reasons like the abundance in raw materials, the central location of the country with easy access to European, Central Asian and Middle Eastern markets.231 Turkey as a fast growing economy is also at the top of the list of the most preferred locations.232 The overall estimation of UNCTAD for Turkey is as follows: “Privatization and the creation of an investor-friendly environment have been on Turkey’s agenda since 1984. The new Mining Law of 2004 promotes privatization of the mining industry and welcomes FDI. A law adopted in 2004 lifted some of the foreign ownership restrictions in telecommunications. The largest share, reserved for the State, has been reduced, making foreign acquisitions easier. The Privatization Administration is currently planning to privatize several firms in insurance, hotels and ports.”233

All in all the DFI in Turkey shows a positive development especially within the last years. There seems to be an improvement due to specialization effects that are shifting as it was already shown in chapter 3.3.1. The flow of DFI contributes to an improvement of the situation. Still more investments are needed which support the future economic development especially branches which launch positive growth effects through Copyright © 2008. Diplomica Verlag. All rights reserved.

learning-by-doing. This would bring about the needed technology transfer which is an important factor for the catching-up process of Turkey.234 There is the hope that DFI 229

See Ülgen/ Zahariadis (2004), p. 21. See UNCTAD (2006), p. 24, view Internet Sources. 231 See Adali (2003), p. 41. 232 See UNCTAD (2006), p. 36, view Internet Sources. 233 Ibid. (2006), p. 61, view Internet Sources. 234 See Lohrmann (1997), p. 143. 230

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will grow with the political and economical stabilization of the country. Positive factors are the huge population with a consistent increase in demand and the favourable geographical location as a bridge between Europe and Asia.235

3.4 Exchange rates – Excursus: free floating or pegging to the Euro During the 80s the Turkish economy underwent series of trade reforms and abandoned the fixed exchange rate regime.236 If Turkey were to decide whether or not to change their floating exchange rate policy and peg it to the euro it has to take into consideration the possible gains and losses arising from this step. Those are conveyed in the next chapter followed by a recommendation for Turkey.

3.4.1 Gains and losses from pegging to the euro The advantage of a fast pegging to the Euro would be to import its credibility. This would lower the interest rates and attract more DFI. In the case that no exchange rate mechanism is used negative consequences for the economy only occur when the other adaptation mechanisms like the mobility of factors of production or wage and price flexibility fail. Consequently scientists recommend a flexible fiscal and exchange rate policy and an opting out of the exchange rate mechanism.237 Before joining the Euro area each member state has to join the revised exchange rate mechanism (ERM 2). This defines broad exchange rate zones against the euro (+/15 %) and specifies reciprocal intervention arrangements to support these target zones. ERM 2 gives would-be Economic and Monetary Union entrants a way of satisfying the Maastricht Treaty’s exchange rate stability convergence criterion. Anyway Turkey can only apply to join ERM 2 after being member of the EU and after having fulfilled the convergence criteria. But it could peg the Turkish new lira (YTL) to the euro voluntarily and let the exchange rate allow fluctuating only a fixed degree from the assigned Copyright © 2008. Diplomica Verlag. All rights reserved.

value.238 A fixed exchange rate is most appropriate for areas closely integrated through international trade and factor movements.

235

See Adali (2003), p. 76. See Neyapti et al. (2003), p. 2. 237 See Quaisser/ Reppegather (2004), p. 79. 238 In this section Turkey fixing its exchange rate is to be interpreted in that way that it pegs the YTL to the euro. 236

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Turkey’s decision to peg its exchange rate to the euro can in principle lead to sacrifices as well as benefits. The monetary efficiency gain from fixing the exchange rate equals the joiner’s saving from avoiding the uncertainty, confusion and calculation and transaction costs that arise when exchange rates float. In practice, it is hard to attach a precise number to the total monetary efficiency gain Turkey would enjoy as a result of pegging to the euro. It is certain that this gain will be higher the more Turkey trades with the euro zone countries. Turkey’s trade in 2006 with the euro zone countries amounted to 37.3% of the Turkey’s total trade volume239 while US share amounted to 4.9% of Turkey’s trade volume.240 This implies that the monetary efficiency gain will be higher for Turkey if it pegs to the euro than to the dollar. On the other hand when comparing the currencies in which the goods are traded another picture can be drawn. 53.2% of Turkey’s trade are paid in US$ while only 41.7% were processed in euro in 2006.241 Another factor influencing the monetary efficiency gain is the factor mobility. If factors of production can migrate freely between Turkey and the euro area the monetary efficiency gain from pegging the YTL to the euro will be higher. In case of pegging the YTL to the euro Europeans who invest in Turkey benefit from more predictable returns on their investment and the other way round. Therefore a high degree of economic integration between Turkey and the euro area magnifies the monetary efficiency gain Turkey reaps when it fixes its exchange rate to the euro. The more extensive cross border trade and factor movements, the greater is the gain from a fixed exchange rate. The euro zone’s price level is stable since the main aim of the European Central Bank (ECB) is price stability and has been maintained successfully

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since the introduction of the euro. This can also be observed in the following graphic.

239

See Eurostat (2007) / Turkstat (2007). See Turkish-U.S. Business Council (2007), p. 18, view Internet Sources. 241 Own calculation. See Turkstat (2007), view Internet Sources. 240

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3,0 2,5

2,4

2,3 2,2 %

2,2 2,0 1,9

2,0

2,0

1,5

1,9 1,7 1,4

1,0 0,5 0,0

2002

2003

2004

2005

2006

year

HCPI

core HCPI -less seasonal food and energy

Figure 15: Inflation in the euro area 2002-2006 Source: own creation, data from Undersecretariat of treasury (2007), view Internet Sources.

Since the introduction of the euro money in cash in 2002 the Harmonised Consumer Prices Index (HCPI) remained relatively stable and followed the aim of the ECB to keep the inflation close to 2%. When Turkey’s exchange rate commitment was firm, Turkey would gain from this stability. This efficiency gain is greater the more closely tied Turkey’s markets are with euro zone markets. Turkey also might wish to peg the YTL to the euro because Turkey wants to import the anti-inflationary resolve of the ECB. The better Turkey is integrated with the euro zone the easier low domestic inflation can be achieved. The reason for this is that close economic integration leads to international price convergence and therefore lessens the scope for independent variation in Turkey’s price level. On the other hand Turkey needs to bear in mind the costs arising because of givCopyright © 2008. Diplomica Verlag. All rights reserved.

ing up the ability to use the exchange rate and monetary policy for the purpose of stabilizing output and employment. This economic stability loss from joining is like the monetary efficiency gain related to Turkey’s economic integration with the euro area. When the Turkish economy is disturbed by a change in the output market, a floating exchange rate has an advantage over the fixed exchange rate as it can automatically cushion the economy’s output and employment by allowing an immediate change in the

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relative price of domestic and foreign goods. When the exchange rate is fixed, purposeful stabilization is more difficult because monetary policy has no power at all to affect domestic output. The decline in the aggregate demand for Turkey’s output is only important when Turkey alone faces the problem. If the other euro zone countries have the same problem, the euro will simply depreciate against outside currencies, providing automatic stabilization. When Turkey suffers from an asymmetric shock in a fixed exchange rate regime, then the YTL will remain stable against all foreign currencies. Full employment will be restored only after a period of costly slump during which the prices of Turkish goods and the wages of Turkish workers fall. Greater integration implies a shallower slump, and therefore a less costly adjustment to the adverse shift in demand. There are two reasons for this reduction in the cost of adjustment. First, if Turkey has close trading links with the euro zone, a small reduction in its prices will lead to an increase in euro zone demand for Turkish goods that is large relative to Turkey’s output. Thus, full employment can be restored fairly quickly. Second, if Turkey’s labour and capital markets are closely meshed with those of its euro zone neighbours, unemployed workers can easily move abroad to find work and domestic capital can be shifted to more profitable uses in other countries. The ability of factors to migrate abroad thus reduces the severity of unemployment in Turkey and the fall of return available to investors. In case of an increase in Turkish demand for its output, a small increase in Turkey’s price level, combined with some movement of foreign capital and labour into Turkey could quickly eliminate the excess demand for Turkish products given that Turkey is tightly integrated with the euro zone. If Turkey has extensive trading links with countries outside the euro area, euro zone disturbances that change the euro´s exchange rate will have more powerful effects on Turkey’s economy. This would raise Turkey’s economic stability loss from pegging to the euro. As mentioned before, the economic stability loss to Turkey from pegging the YTL to the euro is lower when Copyright © 2008. Diplomica Verlag. All rights reserved.

Turkey and the euro zone engage in a large volume of trade.242

3.4.2 Recommendation To show how Turkey should decide whether to fix the YTL against the euro look at the following graphic. 242

See Krugman/ Obstfeld (2006), pp. 558-562.

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Figure 16: GG-LL schedule Source: own creation following Krugman/ Obstfeld (2006), p. 563.

The vertical axis shows the economic stability loss and also the monetary efficiency gain for Turkey. The horizontal axis shows the degree of economic integration between Turkey and the euro zone. The upward-sloping GG curve shows that Turkey’s monetary efficiency gain from joining a fixed exchange rate area rises as Turkey’s economic integration with the euro zone rises. The downward-sloping LL schedule shows that Turkey’s economic stability loss from joining a fixed exchange rate area falls as Turkey’s economic integration with the euro area rises. At point one there is the critical level of economic integration d1. At any level of integration above d1, Turkey’s decision to peg its currency to the euro yields positive net economic benefits. For levels of economic integration below d1 the GG schedule lies below the LL schedule. Thus the Copyright © 2008. Diplomica Verlag. All rights reserved.

loss Turkey would suffer from greater output and employment instability by fixing its exchange rate against the euro exceeds the monetary efficiency gain, and the country would do better to stay out. The intersection of GG and LL determines the minimum integration level at which Turkey will desire to peg the YTL to the euro.243 As the level of economic integration is really hard to measure this part will finish with a final esti243

See ibid. (2006), pp. 560,563.

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mation based on the precedent analysis. The overall degree of economic integration can be judged by looking at the integration of product markets, that means, the extend of trade between the joining country and the currency area, and at the integration of factor markets, equivalent to the ease with which labour and capital can migrate between the joining country and the currency area.244 It can be estimated that the level of Turkish integration with the euro zone is under the critical level of d1. This position can be supported by the low factor movements especially the relatively low movement of workers between the euro zone and Turkey. The trade volume with the euro zone is relatively high when regarded from Turkey’s position. From the position of the euro zone imports from Turkey and exports to Turkey just amount to 2.4% of the total trade volume.245 Besides that, Turkey also has other important trading partners like the USA and Russia. Moreover there are still some areas that are excluded from free trade and some non-tariff barriers like technical barriers to trade remain as it has been shown in chapter 2.4.2. Regarding the free movement of labour a lot of restrictions on labour migration exist. Although there is a significant migration flow from Turkey to the EU (principally Germany) amounting to some 35,000 people per year and there is also return migration from Germany to Turkey246 these numbers are not high enough to ensure the cushioning of adverse shocks. The last few years have witnessed an increase in the number of highly qualified professionals and university graduates moving to Europe. In 2003, approximately 3.6 million Turkish nationals were living abroad, of whom about 3.2 million are in European countries, a substantial increase from 600,000 in 1972.247 However the Commission states in her report on the Turkish progress to accession that the access to the Turkish labour market is still restricted and alignment is at an early stage. The administrative capacity needs to be strengthened.248 Also the progress Turkey made in ensuring the free movement of services is regarded rather reserved by the Commission.249 The free movement of capital was examined already Copyright © 2008. Diplomica Verlag. All rights reserved.

partly in chapter 3.3.5. The Commission reports: “Turkey has important restrictions in areas such as outward capital movements, credit and cash transactions, foreign direct 244

See Krugman/ Obstfeld (2006), pp. 565. See Eurostat (2007) / Turkstat (2007). 246 See Erzan et al. (2004), p. 14. 247 See Migration Information Source (2003), view Internet Sources. 248 See Comission of the European Communities (2006), p. 33. 249 See ibid. (2006), pp. 34f. 245

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investment in a number of sectors, special government rights in privatised companies and real estate acquisition by foreigners.”250 Therefore the advice for Turkey at this time is not to peg the YTL to the euro because asymmetric economic developments with countries of the euro zone could call for different national interest rates under a regime of individual national currencies. Still this is a matter of time. Turkey can reach the point d1 with its further development within the next decades. Also it has to be alluded to the fact that even the euro zone is no optimum currency area.251 Differences in language and culture as well as government regulations like taxes impede labour movements between European countries. Similarity in economic structure, especially in the types of products produced, minimizes output market disturbances. Euro zone countries are not entirely dissimilar in manufacturing structure, as the very high volume of intra-industry trade within Europe demonstrates. On balance there is little evidence that Europe’s product and factor markets are sufficiently unified yet to make it an optimum currency area. The low labour mobility between and within EU countries implies that the economic stability loss from euro zone membership could be high. An evidence for this is the persistently high unemployment rate in some euro zone countries.252 Still one shouldn’t forget about Turkey’s history which was characterized by repeated busts of hyperinflation, capital flights and political instability. In their study Neyapti et al. observed that, the Turkish Lira appears overvalued in the early 1990s; undervalued in 1994 since crises led to the overshooting of the Turkish Lira. Then it was in long run equilibrium between 1996 and 2000 and became undervalued again in 2001.253 All of these features make the exchange rate channel stronger then in other countries and this may lead to stronger reactions of prices and foreign exchange rates to monetary policy disturbances. Copyright © 2008. Diplomica Verlag. All rights reserved.

Fostering real convergence between the current and future periphery of the EU should be a major goal of Turkey before adopting the Euro. While some form of real convergence will surely take place in the period leading to accession, income inequali250

See ibid. (2006), p. 35. These are groups of regions with economies closely linked by trade in goods and services and by factor mobility. See Krugman/ Obstfeld (2006), p. 564. 252 See Krugman/ Obstfeld (2006), p. 569. 253 See Neyapti et al. (2003), p. 6. 251

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ties and structural heterogeneities are likely to persist for quite some time after membership is granted. Nevertheless reforms needed to join the EU will support growth and convergence.254

4. Conclusions This paper aimed at examining the effects of the CU. Certain aspects were considered that shall be shortly reviewed now to result in a final conclusion. Chapter 2 made clear that the relations between Turkey and the EU followed a long and sometimes rocky growth path. The CU between the EU and Turkey is a unique, highly complex agreement since it involves a CU between an existing regional trading block and an independent country. The CU is not an ordinary one as it has given new impetus to the liberalization process in Turkey. Hence, abolishing the barriers of trade was an important step for Turkey on the way to trade liberalization; a way that still continues since some non-tariff barriers persist. By abolishing tariffs and non-tariff barriers with the EU the Turkish economy has accepted the serious pressure of international competition. Chapter 3 brought new insights into the integration effects, analysing different influences of the CU. The trade volume increased significantly leading to a current account deficit due to the high import demand of Turkey. The results of this paper suspect that the CU has been a welfare-enhancing form of trade integration dominated by trade creation. The Turkish economy is more open not only towards EU countries but also towards third countries since the CET is much lower than the former tariffs. Thus, Turkey also increased its trade with third countries. Yet the dynamic effects that were considered in chapter 3.3 have proven to be more important than the purely static effects. It is obvious that the establishment of the CU has created and provided new dynamics for the Turkish economy. The free trade between the unequal partners leads to an adjustment of production structure in the forCopyright © 2008. Diplomica Verlag. All rights reserved.

mer protected economy. Moreover an adjustment following comparative advantage supports Turkey’s catching-up process. As it was shown in chapter 3.3.1.1.2 Turkey’s comparative advantages are shifting. This structural change can be rated positively because the labour intensive sectors are by tendency losing their competitive advantage while capital intensive and research oriented sectors gain which is a sign of conver254

See Canova/ Favero (2005), pp. 43f.

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gence. Turkey has to proceed with its export diversification from labour intensive to easily and difficultly imitable research oriented goods. Surprisingly the share of intra-industry trade with the EU was quite high and even rising in the considered period. Intra-industry trade is said to be an indicator of catching-up. Due to the bigger market Turkey has the chance to make use of economies of scale. In order to do this Turkey has to improve its competitiveness. The CU supports the transformation of Turkish industry by introducing stronger competition and accentuating the need for gaining a competitive edge. There is a great challenge for the Turkish economy to integrate itself with the most advanced economies in the world. The CU has also assisted in the rationalisation of the industrial structure, whereby domestic industries sought ways to integrate with global webs of production and distribution. These factors reveal the beneficial effects of the CU.255 Although the overall estimation of the IMD World Competitiveness Yearbook has not been very promising the analysis of the RCA indices showed that Turkey is on the right way. For the catching up process Turkey needs to achieve long run growth rates higher than the average EU level. For this reason Turkey needs to take advantage of the technology transfer. The indicators for technology input and output showed very positive results for Turkey. Within the last years Turkey increased its expenses for R&D and education significantly. That this is beneficial is supported by the increasing share of innovative companies in Turkey. The quality of the current account's financing is improving, through a sharp pick-up in DFI inflows a development that looks likely to continue, given the recent tax incentives introduced by the government.256 DFI volumes as well as their distribution over the different sectors indicate that Turkey’s structural change is supported. Turkey should continue to set up the environment for international capital flows, restructuring public spending and containing public debt, creating supply side incentives by proper reforms of fiscal and social Copyright © 2008. Diplomica Verlag. All rights reserved.

insurance policies, setting a competitive level of labour income taxation and free movement of capital and labour.257 Looking at the aims of association the CU is regarded by Turkey as an integrationist project which would pave the way to full EU membership, even though some intermediate 255

See Ülgen/ Zahariadis (2004), pp. 5f. See Turkish Daily News (2005), view Internet Sources. 257 See Canova/ Favero (2005), p. 39. 256

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economic disadvantages may be experienced.258 Thus it can be expected that the CU regime will be sustainable only if there is concrete progress towards Turkey’s full membership. The CU can be reviewed to have had a positive impact on further integration between the EU and Turkey. Turkey was accepted as a candidate country in December 1999 and accession negotiations started in October 2005 which shows that the integration process between Turkey and the EU continues. Just in accordance with the Neofunctionalism the CU created spillovers into other areas of integration.259 The creation and deepening of integration in one economic sector creates pressures for further economic integration within and beyond that sector.260 The CU was an important step to a common market which is followed by further integration and a possible accession of Turkey to the EU as the peak of Turkish integration with the EU. This paper tried to weigh the advantages and disadvantages of trade integration between Turkey and the EU leading to a relatively positive evaluation of the effects on Turkey. The statistical data being up-to date in combination with the customs union being into effect now for more than 10 years allows a more detailed analysis of the long term effects of the customs union. Turkey still has a lot of challenges to face on the way to further integration approaching convergence with Europe. A lot of problems persist like the current account deficit and Turkey has to improve its competitiveness on the European markets. But Turkey is steadily developing which includes structural change, adaptation and endurance. In the end one question remains: would Turkey be better off without the EU-Turkey customs union? The answer to this question can not be figured out anymore but it can be

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doubted the examined indicators evidencing the contrary.

258

See Zentrum für Türkeistudien (publisher) (1999), p. 28. See George/ Bache (2001), pp. 9f. 260 See Rosamond (2000), p. 60. 259

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Canova, Fabio/ Favero, Carlo: “Monetary policy in the Euro area: lessons from five years of ECB and implications for Turkey”, Centre for Economic Policy Research, Discussion Paper No. 5101, June 2005. Chenery, Hollis et al.: “Industrialisation and Growth: A Comparative Study”, New York: Oxford University Press, 1986. Comission of the European Communities: “Turkey 2006 Progress Report” Comission staff working document, Brussels, 2006.

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Internet Sources Baden Würtemberg International (2006): Türkei 2006 Daten und Fakten, July 2006, summary by Claudia Hackel http://www.bw-global.de/deu/data/MA_Tuerkei.pdf 2006, Download July 22nd, 2007. Central Bank of the Republic of Turkey (2007): GNP and GDP per capita http://evds.tcmb.gov.tr/yeni/cbt-uk.html 2007, Download August 22nd, 2007. Delegation of the European Commission to Turkey (1977): Agreement establishing an Association between the European Economic Community and Turkey www.deltur.cec.eu.int/kitap/e-ankara.rtf 1977, Download August 30th, 2007. EurLex (1996-2006):

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Foreign trade by years http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=621 2006, Download August 30th, 2007. IMD World competitiveness Yearbook (2007): Methodology and principles of analysis, by Suzanne Rosselet-McCauley http://www.imd.ch/research/publications/wcy/upload/methodology.pdf 2007, Download August 6th, 2007.

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Press Release – publication: IMD World Competitiveness Yearbook 2007 http://www.imd.ch/research/publications/wcy/upload/PressRelease.pdf 2007, Download August 6th, 2007. Investinturkey (2007): Foreign direct investment law http://www.investinturkey.gov.tr/cms/uploads/files/Turkish/Yasal_Duzenlemeler/FDI_Law.pdf 2007, Download September 6th, 2007. Migration Information Source (2003): Country profiles: Turkey, a transformation from emigration to immigration http://www.migrationinformation.org/Profiles/display.cfm?ID=176 2003, Download August 12th, 2007. OECD Organisation for Economic Co-operation and Development (2004): Small and medium-sized enterprises in Turkey – issues and policies http://www.oecd.org/dataoecd/5/11/31932173.pdf 2004, Download August 27th, 2007. Republic of Turkey Prime Ministry Secretariat General for EU Affairs (1977): Additional Protocol http://www.euturkey.org.tr/files/AB_Iliskileri/tur_en_realitons/protocol_1977.pdf 1977, Download August 30th, 2007. Turkish Daily News (2005): A major financial crisis in Turkey is highly unlikely to recur, says governor of Bank of Greece http://www.turkishdailynews.com.tr/article.php?enewsid=30347 2005, Download September 7th, 2007. Turkish-U.S. Business Council (2007): Turkey brief: Turkish-U.S. Relations http://www.turkey-now.org/db/Docs/ekonomik%20rapor%20mart%2007.pdf 2007, Download August 30th, 2007.

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Turkish Statistical Institute (2003/2005/2007): Exports by countries http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=624 2007, Download September 07th, 2007.

Exports by country groups http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=626 2007, Download September 07th, 2007. Exports by currencies http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=634 2007, Download September 07th, 2007.

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Exports by Standard International Trade Classification (Sitc.Rev.3) http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=632, 2007, Download September 07th, 2007. Imports by countries http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=625 2007, Download September 07th, 2007. Imports by country groups http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=627 2007, Download September 07th, 2007. Imports by currency http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=635 2007, Download September 07th, 2007. Imports by Standard International Trade Classification (Sitc.Rev.3) http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=633 2007, Download September 07th, 2007. R&D Personnel by Occupation and Sector of Employment http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=772 2007, Download September 07th, 2007. Gross Domestic Expenditure on R&D by Sector and Type of Expenditure http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=770 2007, Download September 07th, 2007. Innovative and Non-Innovative Enterprises in Manufacturing Industry by Economic Activity and Size 1995-2000, 2002-2004 http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=315 http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=316 http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=318 2005, Download September 07th, 2007.

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The Comparison of Turkey, OECD Countries and Other Countries According to the Share of Education Expenditures in GDP http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=150 2003, Download September 07th, 2007. UNCTAD United Nations Conference on Trade and Development (2006): World investment report 2006, FDI from developing and transition economies: implications for development http://www.unctad.org/en/docs/wir2006_en.pdf 2006, Download August 21st, 2007.

71

Undersecretariate of foreign trade (without year): Export promotion activities http://www.igeme.org.tr/introeng.htm without year, Download August 29th, 2007.

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Wissen Media Verlag (2007): Schwellenland http://www.wissen.de/wde/generator/wissen/ressorts/finanzen/index,page=1237580.html 2007, Download July 30th, 2007.

72

Appendices

Appendix A: Ankara Agreement, chosen articles Source: Delegation of the European Commission to Turkey (1977), www.deltur.cec.eu.int/kitap/e-ankara.rtf

Article 2 1. The aim of this Agreement is to promote the continuous and balanced strengthening of trade and economic relations between the Parties, while taking full account of the need to ensure an accelerated development of the Turkish economy and to improve the level of employment and the living conditions of the Turkish people. 2. In order to attain the objectives set out in paragraph 1, a customs union shall be progressively established in accordance with Article 3, 4 and 5. 3. (a) (b) (c)

Association shall comprise: a preparatory stage; a transitional stage; a final stage. Article 4

1. During the transitional stage the Contracting Parties shall, on the basis of mutual and balanced obligations: –

establish progressively a customs union between Turkey and the Community;

–

align the economic policies of Turkey and the Community more closely in order to ensure the proper functioning of the Association and the progress of the joint measures which this requires.

2. This stage shall last not more than twelve years, subject to such exceptions as may be made by mutual agreement. The exceptions must not impede the final establishment of the customs union within a reasonable period. Article 7

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The Contracting Parties shall take all appropriate measures, whether general or particular, to ensure the fulfilment of the obligations arising from this Agreement. They shall refrain from any measures liable to jeopardize the attainment of the objectives of this Agreement. Article 10 1. The customs union provided for in Article 2 (2) of this Agreement shall cover all trade in goods. 2.

The customs union shall involve:

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– the prohibition between Member States of the Community and Turkey, of customs duties on imports and exports and of all charges having equivalent effect, quantitative restrictions and all other measures having equivalent effect which are designed to protect national production in a manner contrary to the objectives of this Agreement; – the adoption by Turkey of the Common Customs Tariff of the Community in its trade with third countries, and an approximation to the other Community rules on external trade. Article 11 1. The Association shall likewise extend to agriculture and trade in agricultural products, in accordance with special rules which shall take into account the common agricultural policy of the Community. 2. Agricultural products' means the products listed in Annex II to the Treaty establishing the Community, as at present supplemented in accordance with Article 38 (3) of that Treaty. Article 21 The Contracting Parties hereby agree to work out a consultation procedure in order to ensure coordination of their commercial policies towards third countries and mutual respect for their interests in this field, inter alia in the event of subsequent accession to or association with the Community by third countries. Article 28 As soon as the operation of this Agreement has advanced far enough to justify envisaging full acceptance by Turkey of the obligations arising out of the Treaty establishing the Community, the Contracting Parties shall examine the possibility of the accession of Turkey to the Community. Appendix B: Additional Protocol, chosen articles Source: Republic of Turkey Prime Ministry Secretariat General for EU Affairs (1977),

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http://www.euturkey.org.tr/files/AB_Iliskileri/tur_en_realitons/protocol_1977.pdf

Article 5 1. If either Contracting Party considers that differences arising from the application to imports of customs duties, quantitative restrictions or any measures having equivalent effect, or from any other measure of commercial policy, threaten to deflect trade or to cause economic difficulties in its territory, it may bring the matter before the Council of Association, which shall, if necessary, recommend appropriate methods for avoiding any harm liable to result therefrom. 2. Where deflections occur or economic difficulties arise and the Party concerned considers that they call for immediate action, that Party may itself take the necessary protective measures, and shall notify the Council of Association thereof without delay; the Council of Association may decide whether the Party concerned shall amend or abolish those measures. 3. In the choice of such measures preference shall be given to those which least disturb the operation of the Association and, in particular, the normal development of trade. Article 7 1. The Contracting Parties shall refrain from introducing between themselves any new customs duties on imports or exports or charges having equivalent effect, and from increasing those already applied, in their trade with each other at the date of entry into force of this Protocol.

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2. The Council of Association may, however, authorize the Contracting Parties to introduce new customs duties on exports or charges having equivalent effect if they are necessary for the attainment of the objectives of the Agreement. Article 9 On the entry into force of this Protocol, the Community shall abolish customs duties and charges having equivalent effect on imports from Turkey. Article 10 1. For each product, the basic duty on which Turkey is to apply the successive reductions shall be the duty actually applied in respect of the Community at the date of signature of this Protocol. 2. The timetable for the reductions to be effected by Turkey shall be as follows: the first reduction shall be made on the entry into force of this Protocol. The second and third shall be applied three years and five years later. The fourth and subsequent reductions shall be made each year in such a way that the final reduction is made at the end of the transitional stage. 3. Each reduction shall be made by lowering the basic duty on each product by 10 %. Article 11 Notwithstanding Article 10 (2) and (3), Turkey shall progressively abolish, over a period of twenty-two years, in accordance with the following timetable, the basic duties in respect of the Community on the products listed in Annex 3: a reduction of 5 % on each duty shall be made on the entry into force of this Protocol. Three further reductions, each of 5 %, shall be made three, six and ten years later. Eight further reductions, each of 10 %, shall be made twelve, thirteen, fifteen, seventeen, eighteen, twenty, twenty-one and twenty-two years respectively after the entry into force of this Protocol.

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Article 17 The Turkish Customs Tariff shall be aligned on the Common Customs Tariff during the transitional stage on the basis of the duties actually applied by Turkey in respect of third countries at the date of signature of this Protocol, and in accordance with the following rules: 1. In the case of products on which the duties actually applied by Turkey at the date indicated above do not differ by more than 15 % either way from the duties in the Common Customs Tariff, the latter duties shall be applied one year after the second reduction of duties provided for in Article 10. 2. In any other case Turkey shall, one year after the second reduction of duties provided for in Article 10, apply duties reducing by 20 % the difference between the duty actually applied at the date of signature of this Protocol and the duty in the Common Customs Tariff. 3. When the fifth and seventh reductions of customs duties provided for in Article 10 are applied, this difference shall be further reduced by 20 %. 4. The Common Customs Tariff shall be applied in its entirety when the tenth reduction of customs duties provided for in Article 10 is applied. Article 21 Quantitative restrictions on imports and all measures having equivalent effect shall, without prejudice to the following provisions, be prohibited between the Contracting Parties. Article 60 1. If serious disturbances occur in a sector of the Turkish economy or prejudice its external financial stabi1ity, or if difficulties arise which adversely affect the economic situation in a region of Turkey, Turkey may take the necessary protective measures. The Council of Association shall be notified immediately of those measures and of the rules for their application. 2. If serious disturbances occur in a sector of the economy of the Community or of one or more

75

Member States, or prejudice the external financial stability of one or more Member States, or if difficulties arise which adversely affect the economic situation in a region of the Community, the Community may take, or authorize the Member State or States concerned to take, the necessary protective measures. The Council of Association shall be notified immediately of such measures and of the rules for their application. 3. In the choice of measures to be taken in pursuance of paragraphs 1 and 2, preference shall be given to those which will least disturb the functioning of the Association. These measures shall not exceed what is strictly necessary to remedy the difficulties that have arisen. 4. Consultations may take place in the Council of Association on the measures taken in pursuance of paragraphs 1 and 2. Appendix C: Decision No 1/95 of the EC-Turkey Association Council of 22 December 1995 on implementing the final phase of the Customs Union, chosen articles Source: EurLex (1996) http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=CELEX:21996D0213(01):EN:HTML

Article 4 Import or export customs duties and charges having equivalent effect shall be wholly abolished between the Community and Turkey on the date of entry into force of this Decision. The Community and Turkey shall refrain from introducing any new customs duties on imports or exports or any charges having equivalent effect from that date. These provisions shall also apply to customs duties of a fiscal nature. Article 5 Quantitative restrictions on imports and all measures having equivalent effect shall be prohibited between the Parties. Article 6 Quantitative restrictions on exports and all measures having equivalent effect shall be prohibited between the Parties.

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Article 7 The provisions of Articles 5 and 6 shall not preclude prohibitions or restrictions on imports, exports or goods in transit justified on grounds of public morality, public policy or public security; the protection of health and life of humans, animals or plants; the protection of national treasures possessing artistic, historic or archaeological value; or the protection of industrial and commercial property. Such prohibitions or restrictions shall not, however, constitute a means of arbitrary discrimination or a disguised restriction on trade between the Parties. Article 8 1. Within five years from the date of entry into force of this Decision, Turkey shall incorporate into its internal legal order the Community instruments relating to the removal of technical barriers to trade.

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2. The list of these instruments and the conditions and detailed arrangements governing their implementation by Turkey shall be laid down by decision of the Association Council within a period of one year from the date of entry into force of this Decision. 3. This provision shall not preclude the application by Turkey, with effect from the date of entry into force of this Decision, of Community instruments deemed to be of particular importance. 4. The Parties stress the importance of effective cooperation between them in the fields of standardization, metrology and calibration, quality, accreditation, testing and certification. Article 19 1. The agricultural component applicable to goods imported into Turkey shall be obtained by adding together the quantities of basic agricultural products considered to have been used for the manufacture of the goods in question multiplied by the basic amount corresponding to each of these basic agricultural products as defined in paragraph 3. 2. (a) The basic agricultural products to be taken into account are listed in Annex 2. (b) The quantities of basic agricultural products to be taken into account are set out in Annex 3. (c) In the case of goods classified under the nomenclature codes for which reference is made in Annex 3 to Annex 4, the amounts of the agricultural component to be taken into account are set out in Annex 4. 3. The basic amount corresponding to each basic agricultural product is the amount of the charge applicable on import into Turkey of the agricultural product originating in a nonpreferential third country during the reference period applicable to agricultural products. The basic amounts are set out in Annex 5. Article 31 1. The Parties confirm the importance they attach to ensuring adequate and effective protection and enforcement of intellectual, industrial and commercial property rights. 2. The Parties recognize that the Customs Union can function properly only if equivalent levels of effective protection of intellectual property rights are provided in both constituent parts of the Customs Union. Accordingly, they undertake to meet the obligations set out in Annex 8.

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Article 58 1. If, at the end of the consultations undertaken under the procedure provided for in Article 56 (2) or Article 57 (4), a mutually acceptable solution cannot be found by the Customs Union Joint Committee and if either Party considers that discrepancies in the legislation in question may affect the free movement of goods, deflect trade or create economic problems on its territory, it may refer the matter to the Customs Union Joint Committee which, if necessary, shall recommend appropriate ways of avoiding any injury which may result. The same procedure will be followed if differences in the implementation of legislations in an area of direct relevance to the functioning of the Customs Union cause or threaten to cause impairment of the free movement of goods, deflections of trade or economic problems.

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2. If discrepancies between Community and Turkish legislation or differences in their implementation in an area of direct relevance to the functioning of the Customs Union, cause of threaten to cause impairment of the free movement of goods or deflections of trade and the affected Party considers that immediate action is required, it may itself take the necessary protection measures and notify the Customs Union Joint Committee thereof; the latter may decide whether to amend or abolish these measures. Priority should be given to measures which least disturb the functioning of the Customs Union. Article 63 The Parties confirm that the mechanism and modalities of safeguard measures provided for in Article 60 of the Additional Protocol remain valid. Article 64 1. If a safeguard or protection measure taken by a Party creates an imbalance between the rights and obligations under this Decision, the other Party may take rebalancing measures in respect of that Party. Priority shall be given to such measures as will least disturb the functioning of the Customs Union. 2. The procedures provided for in Article 63 shall apply. Appendix D: Treaty establishing the European Community, chosen articles Source: EurLex (2006) http://eur-lex.europa.eu/LexUriServ/site/en/oj/2006/ce321/ce32120061229en00010331.pdf

Article 23 1. The Community shall be based upon a customs union which shall cover all trade in goods and which shall involve the prohibition between Member States of customs duties on imports and exports and of all charges having equivalent effect, and the adoption of a common customs tariff in their relations with third countries. 2. The provisions of Article 25 and of Chapter 2 of this title shall apply to products originating in Member States and to products coming from third countries which are in free circulation in Member States. Article 28

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Quantitative restrictions on imports and all measures having equivalent effect shall be prohibited between Member States. Article 29 Quantitative restrictions on exports, and all measures having equivalent effect, shall be prohibited between Member States.

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Appendix E: Turkey´s foreign trade by years, 1963-2005

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Source: Eurostat (2006), http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=621 Exports

Imports

Years

Value '000 $

Value '000 $

Value '000 $

1963 .......................................................................

368 087

687 616

- 319 529

1964 ..................................................................

410 771

537 229

- 126 458

1965 ........................................................................

463 738

571 953

- 108 215

1966 ...................................................................

490 508

718 269

- 227 761

1967 ..........................................................................

522 334

684 669

- 162 335

1968 .........................................................................

496 419

763 659

- 267 240

1969 ......................................................................

536 834

801 236

- 264 403

1970 ..............................................................

588 476

947 604

- 359 128

1971 ........................................................................

676 602

1 170 840

- 494 239

1972 ...............................................................................

884 969

1 562 550

- 677 581

1973 ...............................................................................

1 317 083

2 086 216

- 769 133

1974 ....................................................................

1 532 182

3 777 501

-2 245 319

1975 ................................................................................

1 401 075

4 738 558

-3 337 483

1976 .............................................................................

1 960 214

5 128 647

-3 168 433

1977 .................................................................................

1 753 026

5 796 278

-4 043 252

1978 .............................................................................

2 288 163

4 599 025

-2 310 862

1979 .............................................................................

2 261 195

5 069 432

-2 808 236

1980 ...................................................................................

2 910 122

7 909 364

-4 999 242

1981 ............................................................................

4 702 934

8 933 374

-4 230 439

1982 ................................................................................

5 745 973

8 842 665

-3 096 692

1983 ............................................................................

5 727 834

9 235 002

-3 507 168

1984 ...............................................................................

7 133 604

10 757 032

-3 623 429

1985 ............................................................................

7 958 010

11 343 376

-3 385 367

1986 ........................................................................

7 456 726

11 104 771

-3 648 046

1987 .................................................................................

10 190 049

14 157 807

-3 967 757

1988 ..............................................................................

11 662 024

14 335 398

-2 673 374

1989 ................................................................................

11 624 692

15 792 143

-4 167 451

1990 ........................................................................

12 959 288

22 302 126

-9 342 838

1991 .........................................................................

13 593 462

21 047 014

-7 453 552

1992 ...............................................................

14 714 629

22 871 055

-8 156 426

1993 ...............................................................

15 345 067

29 428 370

-14 083 303

1994 ...............................................................

18 105 872

23 270 019

-5 164 147

1995 ...............................................................

21 637 041

35 709 011

-14 071 970

1996...............................................................

23 224 465

43 626 642

-20 402 178

1997...............................................................

26 261 072

48 558 721

-22 297 649

1998...............................................................

26 973 952

45 921 392

-18 947 440

1999...............................................................

26 587 225

40 671 272

-14 084 047

2000………………….

27 774 906

54 502 821

-26 727 914

2001………………….

31 334 216

41 399 083

-10 064 867

2002………………….

36 059 089

51 553 797

-15 494 708

2003.........................

47 252 836

69 339 692

-22 086 856

2004........................ 2005..........................

63 167 153 73 476 408

97 539 766 116 774 151

-34 372 613 -43 297 743

Balance of Foreign Trade

79

66 851 107

36 889 649

55,2

Total EU trade

Total EU share in %

54,1

EU exports share in %

Total trade volume

23 224 465

12 568 775

55,7

EU imports share in %

EU exports

24 320 874

EU imports

Total exports

43 626 642

1996

Total imports

Value in 000 $

52,9

39 553 721

74 819 792

51,2

13 434 739

26 261 072

53,8

26 118 982

48 558 721

1997

Data from 2007, January - June only

55,0

40 095 361

72 895 344

54,9

14 813 149

26 973 952

55,1

25 282 211

45 921 392

1998

56,4

37 954 176

67 258 497

58,0

15 424 238

26 587 225

55,4

22 529 938

40 671 272

1999

53,7

44 191 323

82 277 727

56,4

15 664 421

27 774 906

52,3

28 526 902

54 502 821

2000

51,4

37 369 024

72 733 299

56,0

17 545 567

31 334 216

47,9

19 823 457

41 399 083

2001

52,6

46 103 867

87 612 886

56,6

20 415 034

36 059 089

49,8

25 688 833

51 553 797

2002

53,6

62 533 901

116 592 528

58,0

27 393 762

47 252 836

50,7

35 140 139

69 339 692

2003

52,7

84 683 602

160 706 919

57,9

36 580 859

63 167 153

49,3

48 102 744

97 539 766

2004

Source: own compilation, data from Turkstat (2007), http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=626; http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=627

Appendix F: Turkey-EU trade

Copyright © 2008. Diplomica Verlag. All rights reserved.

49,4

94 060 755

190 250 559

56,3

41 364 962

73 476 408

45,1

52 695 793

116 774 151

2005

47,7

107 267 387

225 008 777

56,0

47 929 220

85 528 416

42,5

59 338 167

139 480 361

2006

47,0

70 930 118

150 925 336

57,1

33 332 247

58 413 341

40,6

37 597 871

92 511 994

2007

80

Appendix G: SITC Classification in factors of production Source: Yilmaz (2003), pp. 19f.

Note that e.g. SITC 6 (-62, -67, -68) means that it includes all groups in SITC 6 besides numbers 62, 67 and 68. Raw material intensive goods: SITC 0 Food and live animals SITC 2 (-26) Crude Materials excl. fuels SITC 3 (-35) Mineral Fuels etc SITC 4 Animal Vegetable Oil fat SITC 56 Fertilizers (other than those of group 272) Labour intensive goods SITC 26 Textile fibres and Waste SITC 6 (-62, -67, -68) Basic Manufactures SITC 8 (-87, -88) Misc Manufactured Goods Capital-intensive goods SITC 1 Beverages and Tobacco SITC 35 Electrical Energy SITC 53 Dyes, Tanning, Colour Production SITC 55 Perfume, Cleaning etc Production SITC 62 Rubber manufactures SITC 67 Iron and Steel SITC 68 Non-Ferrous Metals SITC 78 Road Vehicles

Copyright © 2008. Diplomica Verlag. All rights reserved.

Easy Imitable Research Oriented Goods SITC 51 Organic Chemicals SITC 52 Inorganic Chemicals SITC 54.1 Medical Pharm. Products SITC 58 Plastic Materials etc SITC 59 Chemical Materials SITC 75 Office Machines and Adapt Equipment SITC 76 Telecommunications and sound recording Difficultly imitable research-oriented goods SITC 7 (-75, -76, -78) Machines, Transport Equipment SITC 87 Precision Instrument SITC 88 Photo Equipment, Optical Goods etc

67 48 168 19 372 30 94 -170 180 155 236 146 -84 -446 -175 -224 -171

01 Meat and meat preparations

02 Dairy products and birds eggs

03 Fish, crustaceans, molluscs and aquatic invertebrates, and preparationns thereof

04 Cereals and cereal preparations

05 Fruits and vegetables

06 Sugar, sugar preparations and honey

07 Coffee, tea, cocoa, spices and manufactures thereof

08 Feeding stuff for animals

09 Miscellaneous edible products and prepar.

1 Beverages and tobacco 11 Beverages

12 Tobacco and tobacco manufactures

2 Crude materials, inedible, except fuels 21 Hides,skins and furskins, raw

22 Oil seeds and oleaginous fruits

23 Crude rubber(including synthetic, reclaimed)

24 Cork and wood

1996

133 -5

81

0 Food and live animals 00 Live animals other than animals of division 03

TOTAL

Revealed comparative advantage 1996-2007 (2007 only January-June) SITC Rev. 3

Data from 2007, January-June only

http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=632, http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=633

Source: own calculations, data from Turkstat (2007),

Appendix H: RCA 1996 – 2007

Copyright © 2008. Diplomica Verlag. All rights reserved.

-107

-257

-155

-94 -473

119

127 256

173

-257

97

243

326

49

149

108

348

167 209

1997

-129

-249

-171

-94 -230

118

123 205

141

-299

72

331

309

72

132

87

427

171 114

1998

-144

-231

-139

-70 -194

108

110 145

108

-295

48

297

302

33

161

22

361

151 -29

1999

-173

-213

-165

-76 -146

101

104 162

108

-231

79

340

292

67

154

14

270

159 -199

2000

-62

-293

-123

-85 -192

71

74 127

74

-140

48

361

318

81

212

84

372

178 92

2001

-84

-331

-177

-109 -222

97

103 175

74

-206

46

255

303

9

220

24

480

144 103

2002

-167

-355

-180

-112 -218

96

105 190

82

-224

34

223

336

-18

191

32

414

128 2

2003

-217

-327

-179

-113 -214

113

122 174

60

-311

45

225

348

36

179

17

383

146 14

2004

-220

-366

-189

-107 -201

122

137 230

65

-250

58

199

320

183

172

49

444

186 -54

2005

-231

-335

-140

-91 -239

147

151 171

70

-293

64

244

300

191

161

73

459

183 -11

2006

-233

-344

-174

-104 -242

87

102 171

70

-318

63

202

265

30

159

116

410

125 -47

2007

57 -310

133 -138 67 -244 -578 -214 -430 90 -16 -168 -50 175 -112 -199 -62 -149 -124 66 -221 -183 -30 -178 51 -121 61 30 -109 89 111

27 Crude fertilizers and crude ores (excluding coal, petroleum and precious stones)

28 Metalliferous ores and metal scrap

29 Crude animal and vegetable materials, n.e.s

3 Mineral fuels, lubricants and related materials 32 Coal, coke and briquettes

33 Petroleum, petroleum products and related materials

34 Gas, natural and manufactured

35 Electric current

4 Animal and vegetable oils, fats and waxes 41 Animal oils and fats

42 Fixed vegetable fats and oils, crude refined or fractionated

43 Animal and vegetable fats and oils, processed; waxes of animalor vegetable origin; inedible mixtures

5 Chemicals and related products, n.e.s. 51 Organic chemicals

52 Inorganic chemicals

53 Dyeing, tanning and colouring materials

54 Medicinal and pharmaceutical products

55 Essential oils,resinoids and perfume materials; toilet, polishing 56 Fertilizers (other than those of group 272)

57 Plastics in primary forms

58 Plastics in non-primary forms

59 Chemical materials and products, n.e.s

6 Manufactured goods classified chiefly by material 61 Leather, leather manufactures, n.e.s. and dressed furskins

62 Rubber manufactures, n.e.s.

63 Cork and wood manufactures (excluding furniture)

64 Paper , paperboard and articles of paper pulp, of paper or of paperboard

65 Textile yarn, fabrics, made-up articles, n.e.s. and related products

66 Non-metallic mineral manufactures,n.e.s.

-510

-34

131

98

-89

8

62

57 -90

-177

-14

-203

-135

-136

-32

-110 -217

175

-38

-13 -394

-141

-438

-248

-284 -542

60

-117

95

-102

-502

26 Textile fibres (other than wool tops) and their wastes

82

25 Pulp and waste paper

Copyright © 2008. Diplomica Verlag. All rights reserved.

-501

115

96

-99

-34

58

51 -66

-189

-22

-217

-272

43

-160

-134

-42

-121 -235

150

-45

-25 -394

-143

-441

-187

-232 -516

28

-135

96

-101

-678

125

103

-116

-9

61

57 -50

-193

-21

-216

-307

16

-179

-147

-22

-130 -227

68

-7

-11 -391

-131

-431

-200

-235 -526

23

-125

114

-68

-529

162

123

-104

-46

69

65 -88

-148

23

-208

-345

43

-153

-122

-15

-111 -197

46

-72

-65 -279

-119

-465

-229

-269 -513

23

-93

128

-107

-721

162

100

-69

25

97

63 -128

-183

15

-191

-237

21

-189

-137

-27

-124 -207

3

-21

-30 -406

-179

-473

-218

-265 -421

2

-125

128

-110

-520

160

76

-64

5

79

54 -149

-177

8

-227

-163

22

-199

-142

-33

-129 -204

-6

-113

-109 -235

-173

-447

-176

-223 -581

5

-171

119

-114

-530

159

81

-73

3

70

51 -108

-175

17

-233

-258

29

-197

-144

-47

-132 -212

-10

-21

-31 -217

-39

-297

-170

-209 -611

4

-206

130

-88

-538

153

87

-74

-2

61

55 -75

-172

32

-238

-236

29

-192

-130

-38

-128 -192

1

-45

-52 -402

178

-242

-162

-188 -580

6

-198

146

-83

-523

137

93

-67

-21

77

48 -50

-161

55

-240

-253

33

-184

-108

-28

-122 -220

48

-9

-15 -625

220

-218

-135

-162 -538

-8

-171

137

-86

-518

109

97

-72

7

75

45 -38

-139

69

-211

-255

36

-175

-99

-16

-106 -187

132

-46

-27 -811

238

-355

-114

-160 -618

-17

-131

152

-73

-523

119

80

-59

11

86

40 -41

-139

70

-222

-212

20

-176

-101

-23

-112 -207

19

-40

-44 -629

254

-424

-95

-148 -671

-34

-131

150

-101

-6

-145 -296 -39 -10 -52 -215 166 56 25 132 420 105 -218 -299 -4

74 General industrial machinery and equipment, n.e.s. and machine parts, n.e.s.

75 Office machines and automatic data processing machines

76 Telecommunications and sound recording and reproducingapparatus and equipment

77 Electrical machinery, apparatus and appliances, n.e.s. andelectrical parts thereof 78 Road vehicles(including air-cushion vehicles)

79 Other transport equipment

8 Miscellaneous manufactured articles

81 Prefabricated buildings; sanitary, plumbing, heating and lightingfixtures and fittings,n.e.s. 82 Furniture,bedding, mattress supports and cushions

83 Travel goods,handbags and similar containers

84 Articles of apparel and clothing accessories

85 Footwear

87 Professional, scientific and controlling instruments andapparatus, n.e.s.

88 Photographic apparatus, equipment and supplies and opticalgoods,watches and clocks 89 Miscellaneous manufactured articles, n.e.s.

Monetary gold

96 Coin (other than gold),not being legal tender

-154

-291

-171

73 Metal working machinery

97 Gold,non-monetary (excluding gold ores and concentrates)

5

-242

72 Machinery specialized for particular industries

69 226

160 49

-103 -95

7 Machinery and transport equipment 71 Power generating machinery and equipment

9 Commodities and transactions not classified elsewhere in the SITC

-32 -109

7

69 Manufactures of metals,n.e.s.

-174

44 433

-223

105

397

123

-110

-32

-284

-151

-170

-206

-110 -122

17

-44

-38

58

61

68 Non-ferrous metals

83

67 Iron and steel

Copyright © 2008. Diplomica Verlag. All rights reserved.

-163

79 193

-17

-278

-206

90

390

67

5

151 25

-80

-96

-45

-8

-268

-153

-130

-193

-96 -107

29

-37

33

-388

274 364

-13

-277

-221

74

387

48

37

145 20

15

-31

-49

-71

-258

-128

-93

-143

-69 -83

36

-52

53

-317

-303 500

14

-245

-209

66

389

67

63

154 46

23

-60

-24

-48

-256

-94

-77

-131

-60 -57

52

-41

41

-192

-335

-298 494

3

-250

-208

68

361

63

81

144 77

8

51

-13

8

-242

-101

-82

-125

-30 -92

39

-46

61

-245

-291

-282

28

-244

-209

48

371

51

119

157 108

-29

68

-19

71

-286

-90

-96

-166

-23 -80

55

-78

61

-126

-314

-271

47

-262

-185

34

354

17

136

160 135

112

31

-14

61

-301

-79

-97

-150

-17 -56

75

-74

40

-42

-321

-250

40

-284

-183

4

328

-27

119

145 137

7

22

-25

57

-309

-75

-104

-127

-18 -56

77

-78

56

105

-289

-187 -185

44

-289

-194

-19

317

-58

112

134 126

45

37

-16

51

-311

-70

-90

-110

-10 -51

80

-72

32

50

-135

-104

39

-270

-173

-29

289

-63

92

124 114

44

54

7

38

-296

-70

-77

-99

0 -36

81

-73

37

29

-187

-152

34

-252

-159

-11

276

-64

82

119 122

71

85

25

-19

-265

-54

-50

-85

13 -35

85

-80

37

84

Appendix I: Revealed comparative advantage 1996-2007, SITC main groups Source: own creation, view also Appendix H. Data from 2007: January-June only

Revealed com parative advantage 1996-2007

300

200

100

0 RCA

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

-100

-200

-300

-400 year Food and live animals

Beverages and tobacco

Crude materials, inedible, except fuels

Mineral fuels, lubricants and related materials

Animal and vegetable oils, fats and w axes

Chemicals and related products, n.e.s.

Manufactured goods classified chiefly by material

Machinery and transport equipment

Copyright © 2008. Diplomica Verlag. All rights reserved.

Miscellaneous manufactured articles

85

Appendix J: RCA by factor intensity Source: own creation Data used for the calculation of 2007 only January-June

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

Raw material-intensive goods

-27

-15

-8

-29

-57

-62

-72

-72

-65

-58

-69

-75

Easily imitable research-oriented goods

-118

-107

-94

-120

-97

-89

-67

-70

-60

-61

-59

-81

Labour-intensive goods

117

116

112

115

123

110

110

115

111

108

102

94

18

-3

-12

5

-8

37

41

24

26

26

33

43

-131

-126

-120

-90

-69

-73

-88

-71

-75

-66

-52

-41

Capital-intensive goods

Copyright © 2008. Diplomica Verlag. All rights reserved.

Difficultly goods

imitable

research-oriented

86

Appendix K: Grubel-Lloyd Index 1999-2006 Source: own calculations, data from Eurostat (2007), Comext: http://epp.eurostat.ec.europa.eu/portal/page?_pageid=0,1136217,0_45571467&_dad=portal&_schema=P ORTAL 1999

2000

2001

2002

2003

2004

2005

2006

00 LIVE ANIMALS OTHER THAN ANIMALS OF DIVISION 03 26

18

38

38

58

51

52

59

01 MEAT AND MEAT PREPARATIONS

64

45

40

38

69

97

99

95

02 DAIRY PRODUCTS AND BIRDS' EGGS

4

4

27

14

10

6

2

0

03 FISH (NOT MARINE MAMMALS), CRUSTACEANS, MOLLUSCS AND AQUATIC INVERTEBRATES, AND PREPARATIONS THEREOF 27

34

15

17

21

18

21

18

04 CEREALS AND CEREAL PREPARATIONS

61

83

69

76

74

95

97

82

05 VEGETABLES AND FRUIT

3

3

2

3

3

3

4

4

06 SUGARS, SUGAR PREPARATIONS AND HONEY

63

63

37

25

27

49

58

52

07 COFFEE, TEA, COCOA, MANUFACTURES THEREOF

81

77

84

77

81

67

72

57

15

9

15

17

13

9

8

4

69

68

74

69

72

78

89

0 FOOD AND LIVE ANIMALS

SPICES,

08 FEEDING STUFF FOR ANIMALS INCLUDING UNMILLED CEREALS)

AND (NOT

09 MISCELLANEOUS EDIBLE PRODUCTS AND PREPARATIONS 54 1 BEVERAGES AND TOBACCO

Copyright © 2008. Diplomica Verlag. All rights reserved.

11 BEVERAGES

54

52

63

67

75

70

61

65

12 TOBACCO AND TOBACCO MANUFACTURES 63 2 CRUDE MATERIALS, INEDIBLE, EXCEPT FUELS

78

51

58

75

92

70

96

21 HIDES, SKINS AND FURSKINS, RAW

4

2

6

1

0

2

4

3

22 OIL-SEEDS AND OLEAGINOUS FRUITS

56

91

45

47

25

63

85

28

23 CRUDE RUBBER (INCLUDING SYNTHETIC AND 18 RECLAIMED)

13

8

6

6

6

5

3

24 CORK AND WOOD

54

75

94

99

94

61

48

39

25 PULP AND WASTE PAPER

0

0

1

1

1

0

1

18

26 TEXTILE FIBRES (OTHER THAN WOOL TOPS AND OTHER COMBED WOOL) AND THEIR WASTES (NOT MANUFACTURED INTO YARN OR FABRIC) 74

62

77

71

69

79

70

60

27 CRUDE FERTILIZERS, OTHER THAN THOSE OF DIVISION 56, AND CRUDE MINERALS (EXCLUDING COAL, PETROLEUM AND PRECIOUS STONES) 33

30

30

34

40

40

39

35

28 METALLIFEROUS ORES AND METAL SCRAP

70

65

44

35

30

42

45

53

29 CRUDE ANIMAL AND VEGETABLE MATERIALS, N.E.S. 79

91

77

86

85

99

87

85

1

22

12

7

14

3

1

44

93

81

63

61

62

98

3 MINERAL FUELS, LUBRICANTS AND RELATED MATERIALS 32 COAL, COKE AND BRIQUETTES

1

33 PETROLEUM, PETROLEUM PRODUCTS AND RELATED MATERIALS 53 34 GAS, NATURAL AND MANUFACTURED

8

5

0

2

3

4

2

5

35 ELECTRIC CURRENT

0

0

0

0

0

0

0

0

87

4 ANIMAL AND VEGETABLE OILS, FATS AND WAXES 41 ANIMAL OILS AND FATS

0

74

83

29

50

59

0

0

42 FIXED VEGETABLE FATS AND OILS, CRUDE, REFINED OR FRACTIONATED 74

41

66

86

67

90

62

33

43 ANIMAL OR VEGETABLE FATS AND OILS, PROCESSED; WAXES OF ANIMAL OR VEGETABLE ORIGIN; INEDIBLE MIXTURES OR PREPARATIONS OF ANIMAL OR VEGETABLE FATS OR OILS, N.E.S. 15

6

8

9

8

10

26

23

5 CHEMICALS AND RELATED PRODUCTS, N.E.S. 51 ORGANIC CHEMICALS

18

20

23

24

26

26

21

26

52 INORGANIC CHEMICALS

86

89

77

77

89

95

99

97

4

3

4

5

5

5

6

7

10

12

11

10

10

12

14

14

55 ESSENTIAL OILS AND RESINOIDS AND PERFUME MATERIALS; TOILET, POLISHING AND CLEANSING PREPARATIONS 16

17

20

22

27

25

21

21

56 FERTILIZERS (OTHER THAN THOSE OF GROUP 272) 7

6

44

90

69

68

39

45

57 PLASTICS IN PRIMARY FORMS

8

7

14

8

8

7

7

11

58 PLASTICS IN NON-PRIMARY FORMS

29

33

45

43

41

43

58

67

3

3

5

5

4

7

8

8

53 DYEING, MATERIALS

TANNING

54 MEDICINAL PRODUCTS

AND

AND

COLOURING

PHARMACEUTICAL

59 CHEMICAL MATERIALS AND PRODUCTS, N.E.S. 6 MANUFACTURED CHIEFLY BY MATERIAL

GOODS

CLASSIFIED

61 LEATHER, LEATHER MANUFACTURES, N.E.S., AND DRESSED FURSKINS 30

21

19

17

21

24

29

39

62 RUBBER MANUFACTURES, N.E.S.

76

81

55

63

62

71

66

69

63 CORK AND WOOD (EXCLUDING FURNITURE)

63

30

62

61

54

47

31

40

64 PAPER, PAPERBOARD AND ARTICLES OF PAPER PULP, OF PAPER OR OF PAPERBOARD 11

11

26

26

20

17

19

23

65 TEXTILE YARN, FABRICS, MADE-UP ARTICLES, N.E.S., AND RELATED PRODUCTS 64

67

58

68

64

68

62

57

66 NON-METALLIC MINERAL MANUFACTURES, N.E.S. 71

67

47

52

52

57

59

67

67 IRON AND STEEL

94

86

87

85

96

83

97

MANUFACTURES

92

68 NON-FERROUS METALS

92

94

89

92

93

83

86

98

69 MANUFACTURES OF METALS, N.E.S.

76

77

93

94

98

95

96

96

45

46

67

55

54

51

54

55

72 MACHINERY SPECIALIZED FOR PARTICULAR INDUSTRIES 11

10

14

16

20

24

24

24

73 METALWORKING MACHINERY

42

36

47

46

41

48

44

44

74 GENERAL INDUSTRIAL MACHINERY AND EQUIPMENT, N.E.S., AND MACHINE PARTS, N.E.S. 21

23

33

34

40

35

35

33

75 OFFICE MACHINES AND AUTOMATIC DATA11 PROCESSING MACHINES

8

15

9

7

7

4

5

7 MACHINERY AND TRANSPORT EQUIPMENT

Copyright © 2008. Diplomica Verlag. All rights reserved.

71 POWER-GENERATING EQUIPMENT

MACHINERY

AND

88

76 TELECOMMUNICATIONS AND SOUNDRECORDING AND REPRODUCING APPARATUS AND EQUIPMENT 54

52

98

68

74

72

77

82

77 ELECTRICAL MACHINERY, APPARATUS AND APPLIANCES, N.E.S., AND ELECTRICAL PARTS THEREOF (INCLUDING NON-ELECTRICAL COUNTERPARTS, N.E.S., OF ELECTRICAL 60 HOUSEHOLD-TYPE EQUIPMENT)

56

76

70

74

66

74

84

78 ROAD VEHICLES (INCLUDING AIR-CUSHION VEHICLES) 66

38

88

93

89

84

92

99

79 OTHER TRANSPORT EQUIPMENT

83

80

65

77

90

75

66

46

81 PREFABRICATED BUILDINGS; SANITARY, PLUMBING, HEATING AND LIGHTING FIXTURES AND FITTINGS, N.E.S. 99

92

66

61

62

70

75

78

82 FURNITURE AND PARTS THEREOF; BEDDING, MATTRESSES, MATTRESS SUPPORTS, CUSHIONS AND SIMILAR STUFFED FURNISHINGS 84

88

60

48

40

46

56

59

83 TRAVEL GOODS, HANDBAGS AND SIMILAR CONTAINERS 61

81

62

54

55

62

71

86

8 MISCELLANEOUS MANUFACTURED ARTICLES

84 ARTICLES ACCESSORIES

OF

APPAREL

AND

CLOTHING 7

8

7

6

7

8

7

9

69

54

87

97

91

97

90

77

87 PROFESSIONAL, SCIENTIFIC AND CONTROLLING INSTRUMENTS AND APPARATUS, N.E.S. 20

15

19

20

18

15

17

17

88 PHOTOGRAPHIC APPARATUS, EQUIPMENT AND SUPPLIES AND OPTICAL GOODS, N.E.S.; WATCHES AND CLOCKS 9

8

6

5

6

5

5

8

89 MISCELLANEOUS MANUFACTURED ARTICLES, N.E.S. 64

57

77

71

78

77

80

80

96 COIN (OTHER THAN GOLD COIN), NOT BEING LEGAL TENDER 2

0

0

13

0

19

4

0

97 GOLD, NON-MONETARY (EXCLUDING GOLD, ORES AND CONCENTRATES) 87

6

68

30

6

15

26

34

85 FOOTWEAR

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9 COMMODITIES AND TRANSACTIONS NOT CLASSIFIED ELSEWHERE IN THE SITC

CONFIDENTIAL TRADE

5

9

16

11

9

14

32

35

TOTAL

42

39

48

46

48

51

52

57

89

Appendix L: World competitiveness Yearbook - Overall Ranking and competitiveness factors Source: IMD World competitiveness Yearbook (2007),

Copyright © 2008. Diplomica Verlag. All rights reserved.

http://www.imd.ch/research/publications/wcy/upload/Overall_ranking_5_years.pdf

90

Appendix M: R&D personnel, 1990-2004 Source: Turkstat (2007), http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=772

R&D personnel by occupation and sector of employment A: Headcount B: Full time equivalent Year

1990 1991 1992 1993 1994 1995 A 36 376 38 323 39 817 44 349 46 643 51 193 B 13 951 14 969 15 701 16 087 16 899 18 498

1996 1997 58 315 63 601 21 983 23 432

Year

1998 1999 2000 2001 2002 2003 A 62 181 66 330 76 074 75 960 79 958 83 281 B 22 892 24 267 27 003 27 698 28 964 38 308

2004 86 680 39 960

Appendix N: Share of education expenditures in % of GDP, a comparison of Turkey, OECD and other countries in 2002

Copyright © 2008. Diplomica Verlag. All rights reserved.

Source: Turkstat (2003), http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=150

OECD countries

Total

Public Expenditures (Central Govern- Special ment) tures

Turkey 2002 U.S.A. U.K. Norway Australia Canada Germany Greece(1) Korea

7,26 7,0 5,2 5,9 6,0 6,4 5,3 3,9 7,1

4,76 4,8 4,5 5,8 4,6 5,2 4,3 3,7 4,3

2,5 2,2 0,7 0,1 1,4 1,2 1 0,2 2,8

OECD countries-2002 Argentina Philippines Jamaika India (2)

5,9 5,9 6,4 9,7 4,3

4,6 4,5 3,9 6,4 4,1

1,3 1,4 2,5 3,3 0,2

Expendi-

(1) The contribution of government for households is not included in public expenditures, but in private expenditures. (2) Reference year is 1999.

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rk ey

20 02 U .S .A . U . K N or . w A us ay tr a C lia an G ad a er m an G re O EC ec y e( D 1) co un Ko tr ie rea sA 200 rg e 2 Ph nt ili ina pp in Ja es m a In ika di a (2 )

Tu

91

Appendix O: Share of education expenditures in % of GDP in 2002, graphic

Source: own creation, view Appendix N.

Share of education expenditure in % of GDP

10

9

8

7

% 6

5

4

3

2

1

0

92

Appendix P: Percentage of innovative enterprises in industry by economic activity Source: Turkstat (2007), http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=315 http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=316 http://www.turkstat.gov.tr/PreIstatistikTablo.do?istab_id=318

Innovative enterprises in industry by economic activity

Total Industry Manufacturing (NACE 15 to 37) 100,00 15 Manufacture of food products and beverages 100,00 16 Manufacture of tobacco products 100,00 17 Manufacture of textiles 100,00 18 Manufacture of wearing apparel; dressing and dyeing of fur 100,00 19 Tanning and dressing of leather; manufacture of luggage, 100,00 handbags, saddlery, harness 20 Manufacture of wood and of products of wood and cork, 100,00 except furniture; manufacture of articles of straw and plaiting materials 21 Manufacture of pulp, paper and paper products 22 Publishing, printing and reproduction of recorded media

100,00 100,00

23 Manufacture of coke, refined petroleum products and 100,00 nuclear fuel 24 25 26 27 28

Manufacture of chemicals and chemical products Manufacture of rubber and plastic products Manufacture of other non-metallic mineral products Manufacture of basic metals Manufacture of fabricated metal products, except machinery and equipment

29 Manufacture of machinery and equipment n.e.c. 30 Manufacture of office machinery and computers 31 Manufacture of electrical machinery and apparatus n.e.c.

100,00 100,00 100,00 100,00 100,00 100,00 100,00 100,00

1995-1997

1998-2000

2002-2004

24,6 20,3 11,4 23,2

29,4 38,1 20,0 17,9

34,80 29,45 12,08 25,78

7,3

18,7

21,93

35,9

8,9

17,66

9,1 23,7

27,6 20,7

42,62 53,00

29,2

18,5

23,10

65,2 47,3 36,1 33,6 37,5

31,6 44,4 32,8 32,5 33,5

69,43 52,63 35,31 39,58 41,79

27,5 35,0 66,7

35,0 50,8 66,7

40,00 52,17 35,62

38,1

66,6

37,80

32 Manufacture of radio, television and communication 100,00 equipment and apparatus

47,1

37,2

80,61

33 Manufacture of medical, precision and optical instruments, 100,00 watches and clocks

78,6

50,0

42,61

38,2 31,2 32,7

25,1 62,6 15,2

59,83 23,33 46,72

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34 Manufacture of motor vehicles, trailers and semi-trailers 35 Manufacture of other transport equipment 36 Manufacture of furniture; manufacturing n.e.c.

100,00 100,00 100,00

93

Appendix Q: Direct Foreign Investment in Turkey, main investing countries in 2005, percentage

Copyright © 2008. Diplomica Verlag. All rights reserved.

Source: Baden-Würtemberg International (2006), p. 11, www.bw-global.de/deu/data/MA_Tuerkei.pdf

94

Appendix R: DFI inflows by country Source: Undersecretariat of Treasury (2007), http://www.hazine.gov.tr/stat/yabser/Haziran2007_tablolaring.xls

Countries

Copyright © 2008. Diplomica Verlag. All rights reserved.

European Union (25) Other European Countries (Excluding EU) Africa U.S.A. Canada Central America And Caribbean South America Asian Australia Unclassified Total

2002 455 64 0 2 7 0 0 70 0 24 622

2003 555 70 0 52 6 0 0 60 0 2 745

2004 1.025 109 36 61

60

1.291

2005 5.003 1.650 3 88 26 8 1.756 1 1 8.536

2006 14.572 84 32 851 121 33 1 1.946 108 7 17.755

95

Appendix S: DFI inflows by country, graphic Source: own creation, Undersecretariat of treasury (2007), See Appendix R.

Copyright © 2008. Diplomica Verlag. All rights reserved.

http://www.hazine.gov.tr/stat/yabser/Haziran2007_tablolaring.xls

96

Appendix T: DFI inflow by country 2002-2006 cumulative Source: own creation, data from Undersecretariat of treasury (2007), http://www.hazine.gov.tr/stat/yabser/Haziran2007_tablolaring.xls

S outh America 0% Central America And Caribbean 0% Canada 1% U.S .A. 4% Africa 0% Other European Countries (Excluding EU) 7%

Australia 0% Asian 13%

Unclassified 0%

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European Union (25) 75%

97

Appendix U: Sectoral breakdown of investment incentive certificates given for a fixed investment 2000-2006 Source: own creation, data from Undersecretariat of Treasury (2007), http://www.hazine.gov.tr/stat/egosterge/II-Yatirim/yatirim.xls

Sectoral breakdow n of investm ent incentive certificates given for a fixed investm ent 2000 - 2006

25.000,0

20.000,0

15.000,0 m illion YTL 10.000,0

5.000,0

0,0

2000

2001

2002

2003

2004

2005

2006

Services

2.977,2 3.323,2 5.093,8 10.729,9 6.030,5 8.023,2 7.723,3

Energy

2.447,8 2.075,4

491,3

524,4

868,2

2.129,7 1.888,7

Manufacturing 3.684,0 5.549,4 8.747,7 11.921,1 13.272,1 13.081,8 11.873,4 Mining

69,7

84,4

589,1

317,3

569,2

705,4

614,8

Agriculture

122,3

95,9

137,0

303,9

378,7

524,5

524,2

year

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Agriculture

Mining

Manufacturing

Energy

Services

98

Appendix V: Sectoral breakdown of investment incentive certificates for fixed investment in 2000, 2006, graphics Source: own creation, data from Undersecretariat of Treasury (2007), http://www.hazine.gov.tr/stat/egosterge/II-Yatirim/yatirim.xls Sectoral breakdow n of investm ent incentive certificates for fixed investm ent in 2000, in m illion YTL (total: 9.301,0)

Agriculture 122,3 1% M ining 69,7 1%

Services 2.977,2 32%

M anufacturing 3.684,0 40%

Energy 2.447,8 26%

Sectoral breakdow n of investm ent incentive certificates given for fixed investment 2006 in m illion YTL (total: 22.624,4)

Agriculture 524,2 2% M ining 614,8 3%

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Services 7.723,3 34%

Energy 1.888,7 8%

M anufacturing 11.873,4 53%

99

Appendix W: International Direct Investment Inflow by Sector Source: Undersecretariat of Treasury (2007), tablo-ek-2, http://www.hazine.gov.tr/stat/yabser/Haziran2007_tablolaring.xls

Sectors

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Agriculture, hunting and forestry Fishing Mining and quarrying Manufacturing Manufacture of food products and beverages Manufacture of textiles Manufacture of chemicals and chemical products Manufacture of machinery and equipment n.e.c. Office machinery and computers Manufacture of motor vehicles, trailers and semi-trailers Manufacture of furniture; manufacturing n.e.c. Other Manufacturing Electricity, gas and water supply Construction Wholesale and retail trade Hotels and restaurants Transport, storage and communications Financial intermediation Real estate, renting and business activities Education Health and social work Other community, social and personal service activities Total

2002 2003 2004 2005 2006 --

1

4

5

5

--

--

2

2

1

2

14

75

40

125

110

448

214

788

1.874

14

249

78

68

605

10

8

14

183

24

9

9

39

174

600

13

17

8

13

56

2

4

2

13

53

33

145

35

106

102

--

2

0

4

3

19

14

38

227

431

68

86

69

4

112

3

8

23

80

302

89

92

103

68

1.145

0

4

1

42

28

1

2

639

3.285

6.699

260

51

69

4.016

7.002

0

6

3

29

92

0

0

0

17

--

5

23

53

74

264

84

10

36

86

106

622

745

1.291

8.536

17.755

100

Appendix X: International Direct Investment Inflow in manufacturing Source: own creation, data from Undersecretariat of Treasury (2007), tablo-ek-2, http://www.hazine.gov.tr/stat/yabser/Haziran2007_tablolaring.xls

DFI inflow in m anufacturing 700

inflow in million USD

600 500 400 300 200 100 0 2002

2003

2004

2005

Manufacture of food products and beverages Manufacture of textiles Manufacture of chemicals and chemical products Manufacture of machinery and equipment n.e.c. Office machinery and computers Manufacture of motor vehicles, trailers and semi-trailers

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Manufacture of furniture; manufacturing n.e.c.

2006

Autorenprofil

Susanne Voigt, geb. 29.10.1981 in Eisenhüttenstadt, Studium an der Berufsakademie Berlin in der Fachrichtung Bank, Abschluss 2004 als Diplom-Betriebswirtin (BA), Aufbaustudium an der Europa Universität Viadrina in Frankfurt/Oder, Abschluss 2007

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als Master of Arts (European Studies).

Unser gesamtes Verlagsprogramm finden Sie unter: www.diplomica-verlag.de

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