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Tuesday, 21 November 2017

Turkey 2005 - If not now, when?

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A suitable legislative framework and its subsequent enforcement are essential to encourage foreign investment. In recent years, Turkey has suffered from a low ratio of foreign direct investment to GDP, as well as a series of headline-grabbing scandals, particularly in the banking sector. But with significant legislative change on the way, are there signs of a fundamental shift in the treatment of investors? Paul Farrow reports.

The Turkish economy has been recording impressive rates of growth in the last two years, and with a strong, majority government in place and EU negotiations due to start this October, the outlook for inward investment should be strong. (See articles in this report on the overview and economic situation.)

But in practice, the country still has to convince many investors that this time things really are different. An important element in that process will be evidence that the legal framework for investment is in place, and that it will be properly enforced.

According to Ece Guner, of Guner Law Office: “In many cases the laws are in place; what is missing is follow-up by the prosecutor when they are broken. And cases just take too long.” As an example of poor follow-through she mentioned protection of minority interests in listed companies, a situation often compounded by the presence of large, majority shareholders.

Among bankers and lawyers there is criticism for the Capital Markets Board of Turkey, which has the job of regulating the country’s financial markets (see a separate profile of the CMB in this report).

“Criminal cases have been pending, often for years, following situations like the one at Imar Bank [which saw large-scale fraud]. It’s hard to believe that none of them could be resolved,” said one observer.

Denton Wilde Sapte is that rare beast, an international legal firm with an operation in Turkey. The firm has an established presence and practice in areas including project finance, syndicated lending, M&A and dispute resolution. According to David Nanson, resident partner for DWS in Istanbul: “There are still basic problems in Turkey with issues such as taking security and then enforcing it”.

There is also scope for simple legal changes. Nanson, who moved to Turkey last year, says that it would be useful to see a greater variety of debt instruments allowed by Turkish legislation, and gives the example of such fundamental concepts as certificates of deposit.

But important legislation is on the way with relation to mortgages, the banking sector and the commercial code, although progress seems slow. Moves to legislate for mortgages, including the creation of a secondary market, are particularly significant given the implications for banking sector growth. (See separate article on the banking sector in this report.)

Emerging market rivals

As an emerging market, Turkey is competing with the countries of Central and Eastern Europe for inward investment, but in recent years with rather less success. During the 1990s, annual FDI inflows averaged about 4% of GDP per year in Hungary and the Czech Republic, but less than 0.5% of GDP in Turkey, according to the World Bank.

One difference is that after the fall of Communism, the countries of the former Eastern bloc realised that they had to adopt Western models of business wholesale. At the same time foreign companies were able to enter markets that had previously been completely or virtually closed, which gave a real boost to FDI.

Turkey’s experience has been very different. The country often looked to Western models during the 20th century (particularly in the 1920s and 1930s under its founding president Kemal Ataturk), but there was no comparable watershed in the 1990s.

Secondly, the Turkish economy had been open to foreign investment since the 1950s, but while many countries in the former Eastern bloc were gaining ground on the West in the 1990s, Turkey suffered political instability and hyperinflation that discouraged further FDI.

The Turkish authorities now have their best opportunity in years to win more investment. To a large extent, the ball is in their court, and how the government tackles upcoming privatisations will be a key indicator.

“It is not that the Privatisation Administration [which handles the sell-offs] is anti-business, but once again the problem is one of follow-through,” said Guner. (See article on equities and the accompanying box on M&A for more on upcoming privatisations.)

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