Turkey - Second Structural Adjustment Loan Project

Document of The World Bank flt Copy FOR OFFICIAL USE ONLY Report No. P-3034-TU REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELO-' TO THE EXECUTIVE DIRECTORS ON A SECOND STRUCTURAL ADJUSTMENT LOAN TO THE REPUBLIC OF TURKEY April 20, 1981 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  TURKEY CURRENCY EQUIVALENTS Currency Unit July 1979 January 1980 /1 April 1981 US Dollar 1 TL 47.10 /2 TL 70.0 /3 TL 98.20 /3 TL 1 - US$ 0.02 US$ 0.01 US$ 0.01 /1 Since January 1980 the exchange rate is being adjusted to offset the differential inflation between Turkey and its major trading partners. A rate of TL 95.95 = US$1.00 was used for this report. ./2 Except for imports of crude oil, petroleum products and fertilizer raw materials, and exports of agricultural products benefitting from official price supports, for which it was TL 35 = US$1.00. /3 Except for imports of fertilizers and insecticides/pesticides, as well as raw materials and inputs for their manufacture, for which the rate was TL 55 = US$1.00 as from January 1980, and is TL 85.34 = US$1.00 as from April 1981. FISCAL YEAR Republic of Turkey; March 1 to February 28 State Economic Enterprises: January 1 to December 31 ABBREVIATIONS AND ACRONYMS DSI - State Hydraulic Works DYB - State Investment Bank EIE - Electricity Survey Administration of MENR (see below) LIBOR - London Inter-Bank Offer Rate MAF - Ministry of Agriculture and Forestry MENR - Ministry of Energy and Natural Resources M&LT - Medium and Long-Term MTA - Mineral Research and Exploration Institute SEE - State Economic Enterprise SPO - State Planning Organization TCZB - Agricultural Bank of Turkey TEK - Turkish Electricity Authority TKI - Turkish Coal Enterprises TMO - Soil Products Office TOPRAKSU - Land and Water Development Directorate of the Ministry of Village Affairs and Cooperatives TPAO - Turkish Petroleum Corporation TZDK - Agricultural Supply Office The Second Structural Adjustment Loan was appraised by a mission consisting of Messrs. A. Zaman, D. Berk, R. Burcroff, I. Hume and H. van Wersch and Ms. K. Saito  FOR OFFICIAL USE ONLY REPUBLIC OF TURKEY SECOND STRUCTURAL ADJUSTMENT LOAN Table of Contents Page No. Loan Summary i PART I: THE ECONOMY 1 Characteristics and Constraints 1 Effectiveness of Government Policies 3 Government Policy Priorities 4 Investment, Savings and Projected Capital Requirements 4 Creditworthiness 7 PART II: THE GOVERNMENT PROGRAM 8 Introduction 8 The IMF Program 9 A. Macroeconomic Policies 10 1. Domestic Resource Mobilization 10 - Tax Reform 10 - Scheme to Attract Emigrants' Savings 14 - Interest Rate Policy 14 - Capital Market Development 15 2. Balance of Payments Policies 17 - Export Promotion 17 - Import Liberalization 18 B. Supply-Side Policies 20 1. Investment 20 - Public Investment 20 - Investment Incentives 22 2. Energy 23 - Background 23 - Energy Policy 25 - Pricing 25 - Conservation 26 - Organization and Management 27 - Exploration and Development 28 - Public Investment 28 - Assessment of Energy Policy 29 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  Table of Contents (cont.) Page No. 3. Agriculture 29 - Background 29 - The Government's Program 30 - Input Prices 31 - Support Prices 32 - Exports 32 - Public Investment 34 - Reorganization of Agricultural Institutions 35 - Assessment of Agricultural Policy 36 C. State Economic Enterprises 38 - Background 38 - The Government Program 39 - Pricing and Financial Performance 41 - The 1981 Reforms 44 - Evaluation 45 Evaluation of the Government's Program 45 Future Policy Directions 47 PART III: BANK GROUP OPERATIONS IN TURKEY 48 PART IV: THE PROPOSED LOAN 50 Introduction 50 Performance under the Structural Adjustment Loan (Supplement) 50 Macroeconomic Considerations Underlying the Proposed Loan 52 Case for the Loan 54 Loan History 54 Cooperation with the IMF 55 Loan Amount and Allocation 55 Loan Administration Arrangements 55 Counterpart Funds 56 Procurement 56 Monitoring 56 Risks 57 PART V: LEGAL INSTRUMENTS AND AUTHORITY 57 PART VI. RECOMMENDATIONS 57  ANNEXES Annex I: Economic Developments in 1980 and Short-term Prospects Social and Economic Data Annex II; Status of Bank Group Operations in Turkey Annex III: Supplementary Loan Data Sheet Annex IV: Government Letter and Statement of Development Policy Annex V: IMF Transactions MAP (No. IBRD 11656R dated August 1979)  TURKEY SECOND STRUCTURAL ADJUSTMENT LOAN Loan Summary Borrower Republic of Turkey Loan Amount US$300 million equivalent in various currencies Terms : 17 years including 4 years grace, with interest at 9.6 percent. Description The loan will be in further support of Turkey's January 1980 stabilization program, and measures initiated and being implemented since then in areas critical to restoring economic viability. These policies provided the basis for the Structural Adjustment Loan I (Loan No. 1818-TU) and its Supplement (Loan No. 1915-TU). The policy measures which provide the basis for this new loan are in the areas of; (a) macroeconomic policies - domestic resource mobilization, export promotion, and import liberalization; (b) supply-side policies - public and private investment, energy and agriculture; and (c) reform of the State Economic Enterprises. The loan will finance high priority imports leading to fuller utilization of productive capacity in agriculture and industry. For agriculture; fertilizer raw materials and intermediate products ($200 million). For industry: raw materials and intermediate products ( 100 million). The main risks relate to possible political developments in Turkey which might impede the Government's determination and efforts to carry out the policy reforms designed to restore domestic and external financial equilibrium. Estimated Disbursements ; US$ Million Bank FY 1981 1982 Annual 50.0 250.0 Cumulative 50.0 300.0  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE IBRD TO THE EXECUTIVE DIRECTORS ON A PROPOSED SECOND STRUCTURAL ADJUSTMENT LOAN TO THE REPUBLIC OF TURKEY 1. I submit the following report and recommendation on a proposed Second Structural Adjustment Loan to the Republic of Turkey for the equivalent of US$300 million to support the Government's program of policy reforms designed to restore domestic and external financial equilibrium. The loan would have a term of 17 years including 4 years of grace, with interest at 9.6 percent per annum. PART I - THE ECONOMY 2. A Special Economic Mission visited Turkey in April/May 1979 to evaluate the Fourth Five-Year Plan (1979-1983). Its report entitled "Turkey: Policies and Prospects for Growth" (No. 2657a-TU dated December 12, 1979) was distributed to the Executive Directors on December 26, 1979 and its Postscript on March 24, 1980. An appraisal mission for the proposed loan visited Turkey in February 1981. Its findings are reflected below. Annex I contains the basic Country Data, and provides updated information on recent economic developments. Characteristics and Constraints 3. Turkey is a large country (about as big as France and Germany combined), with an estimated GNP per capita of $1,330. With a population of around 43 million, the density is low (78 per square kilometer of agricultural land), and the rate of urbanization high (about 45 percent). Educational enrollments have expanded greatly, but the rate of adult illiteracy remains high (40 percent). Although population growth is not high by middle-income country standards (2.5 percent per annum), the employment situation has deteriorated steadily, with the unemployment rate about 20 percent, despite rapid economic growth, and substantial emigration of workers to Western Europe in the early 1970s. Almost no one in Turkey lives in absolute poverty but income distribution is relatively unequal by international standards, and urban social services are under considerable pressure. Income distribution deteriorated in the middle 1960s but improved through the early 1970s. Data for more recent periods is incomplete, but indicates a worsening especially of the position of wage and salary earners over the last few years, with a sharp real decline in the minimum wage. There are considerable regional differences, and large rural-urban disparities. 4. Agriculture is the most important sector in the economy, contributing 25 percent of GDP (1980), employing about 60 percent of the total labor force, and providing the majority of merchandise exports (60 percent in 1980). As a result, Turkey is one of the very few developing countries which is self-sufficient in food. Yet, agriculture has been given a secondary role compared to industry in Turkish development strategy. The main sector objectives have been to (a) expand food supply for a growing population, and  -2- (b) provide exports to finance the country's industrial effort. Turkish agriculture is dualistic, with a modern irrigated commercial sector using modern inputs in coastal areas to produce cash crops and most exports, alongside traditional rainfed agriculture on the Anatolian plateau emphasizing grains and livestock. Only a small part of the irrigation potential has been developed despite massive investments, partly because these have emphasized large slow-gestation projects. 5. With its climatic, soil, water and human resources, Turkey has considerable potential for expanding agricultural production and exports. The major constraints on agricultural growth and productivity are: (a) limited development of irrigation and drainage facilities and poor utilization of what has been developed; (b) small and fragmented farm holdings (over 70 percent of holdings are less than 5 hectares; over 95 percent, less than 20 hectares); (c) inadequately funded and poorly coordinated research and extension services; (d) insufficient availability of credit; and (e) inadequate marketing arrangements, especially for export. Improvements in productivity could be realized with a somewhat larger and more efficient allocation of investments, backed by more coherent credit and price policies and support services. 6. Reflecting the heavy emphasis of Turkish development strategy on rapid industrialization, manufacturing industry has absorbed about 25 to 30 percent of total investment. As a result, manufacturing today accounts for 21 percent of GDP, 38 percent of exports (mainly textiles -- about 50 percent -- and processed foods and leather products), but only 14 percent of employment. The private sector is overwhelmingly dominant in exports, and accounts for some 60 percent of value-added, and an even higher share of employment. 7. Industrial policy has sought to achieve self-sufficiency through import substitution, use of advanced technology and greater depth of integration in productive processes, with consequent priority for capital-intensive investments in basic and intermediate products. As a result, capital/labor ratios have risen rapidly. Exports have generally been given a secondary role, and account for only 6 to 7 percent of sector output. The principal policy instruments used have been large public investments in State Economic Enterprises (SEEs) and generous incentives combined with high levels of protection for private investments. These policies have yielded high growth rates, domestic production of some important basic and intermediate goods based on local natural resources, adoption of modern technology and training of a skilled labor force, as well as some dispersal of modern industries to less developed regions. But they have also resulted in the establishment of a number of uncompetitive industries, wasteful of scarce capital and too dependent on imported inputs, with low employment and limited export possibilities. 8. The major constraints to industrial development, which the Government is attempting to overcome, are: (a) low levels of capacity utilization; (b) limited export capability in some subsectors; (c) inefficiency of the manufacturing SEEs; (d) uneven quality of investments; and (e) lack of sufficient long-term financing for industry.  - 3 - 9. Turkey has large underdeveloped energy resources (hydropower and lignite), but very little petroleum. Energy consumption has grown in line with GDP but remains below the per capita average for middle-income developing countries. However, imported petroleum accounts for over 85 percent of petroleum consumption and about 45 percent of total energy consumption. As a result, the oil bill was $3.3 billion in 1980, equivalent to 113 percent of merchandise exports, probably the highest figure in the world. 10. The energy situation has become a major preoccupation of the Government and the sector has been accorded the highest economic priority. Prices for most products -- especially petroleum products -- have been brought belatedly into line with world prices or other indices of real costs to the economy. Investment in energy has the largest share in the public investment program. The principal constraints in the sector are: (a) organization and management of the main sector institutions; (b) the lack of a comprehensive conservation program; (c) over-dependence on petroleum, especially imported petroleum; (d) insufficient resources for exploration; and (e) poor project implementation capacity, especially in the coal/lignite sub-sector. Effectiveness of Government Policies 11. Effective public policies in the period from 1950 until the early 1970s were responsible for the achievement of rapid economic growth, with substantial growth in industrial capacity. Both the pattern of growth, and the degree of recourse to external finance, however, resulted in the substantial problems with which Turkey is confronted today. At the same time, income distribution remained relatively unequal; employment creation inadequate; savings performance poor; and the industrial structure created to achieve import-substitution behind high protection, in many cases inefficient. Industry absorbed large investment resources yet provided neither exports nor employment at sufficient levels. 12. Since the early 1970s, economic management: has suffered due to political instability at home, which has thwarted effective decision-making. At the same time, economic problems have increased in complexity due to serious economic shocks emanating from abroad -- international inflation, leading to a sharp rise in Turkey's import prices (including oil) and a significant deterioration in her terms of trade, high interest rates resulting in an increased debt servicing burden, and recession in Western Europe leading to reduced export prospects and emigration possibilities. Inappropriate (expansionary) policies in response to the crisis delayed Turkey's adjustment to the changed international environment, so that by 1977 the country was in a severe foreign exchange crisis. Since then, it has taken some time to evolve a new set of policies more appropriate to Turkey's current difficult situation. Since the late 1970s, however, the Government has made a series of efforts -- exemplified in the stabilization programs, worked out in close consultation with the IMF, in early 1978, 1979 and 1980 -- to restore price stability, creditworthiness, and a balance in domestic and external finances. On balance, given the exceptional nature of the difficulties of the last few years, and when compared to the record of other developing countries, the record of Turkish economic management has been a good one.  -4- Government Policy Priorities 13. Turkey's long-term development strategy has been aimed at modernizing the country through rapid growth based on high rates of investment, the main emphasis being on industrialization, the use of the most modern technology, and self-sufficiency. A long-term aim set in the early 1970s was to reach the then current Italian standard of living by the time of proposed EEC membership for Turkey in 1995. Social development has been a prominent objective along with economic transformation. Consistent emphasis has been placed on the integration and development of backward regions. However, with high rates of emigration in the 1960s and early 1970s employment pressures have been minimal, and employment creation has not been given a high priority. Among sectors, industry and power have been emphasized rather than agriculture. 14. The new regime, which took over following the military intervention on September 12, 1980, has set about to restore political order, following a period of rampant terrorism, paralysis of the constitutional process (evidenced by the failure to elect a new President and to enact laws) and widespread labor unrest. One of the first acts of the new regime was to end the numerous strikes and lock-outs which had seriously disrupted the economy (the number of strike-days lost in 1980 was 20 percent more than the total for the previous eight years). The military have emphasized that, as in the prior interventions in 1960-61 and 1971-73, they will revert to constitutional rule and transfer power back to civilian authorities once order has been restored. 15. Since January 1980, there has been a substantial shift in policy priorities, which the new regime has strongly endorsed, but the Government has continued to focus much more on short-term than on medium-term concerns. Also, in view of the severity of the immediate financial stringency, the Government has accepted the need for a temporary sacrifice of growth and of social objectives in order to bring down inflation and improve the balance of payments as quickly as possible. The Fourth Plan macroeconomic targets have been tacitly abandoned, along with medium-term planning in general. Financial aspects of economic management, especially availability of local currency and foreign exchange have come to dominate policy concerns. In development issues, there has been a change in sectoral emphasis to favor the development of energy and agriculture at the expense of that of manufacturing especially as far as the allocation of public sector resources is concerned. There is a return to a traditional view of the division of labor between the public and the private sectors, with the former now expected to concentrate on the provision of infrastructure while the latter provides the main impetus to industrial growth and exports. Development strategy has been changed to give much greater weight to exports relative to import-substitution. Finally, and most significantly, reliance on the market mechanism is being emphasized as against more centralized planning. Investment, Savings and Projected Capital Requirements 16. The Government's development strategy committed it to raising the level of investment relative to GDP at a fairly rapid rate. Total investment increased at a 15-20 percent annual rate in real terms over the decade  1967-77, with public investment growing at a more pronounced rate than private. Since 1977, both public and private investment have been declining in real terms; with private investment falling at a faster rate, the public sector share is now approaching 60 percent. The sharp decline in investment since 1977 reflects the severe shortage of domestic and external resources that has existed since then. 17. While the rate of investment rose from 19 percent of GDP in 1967 to 26 percent in 1977, savings stayed virtually constant at an average of around 17 percent of GDP. This widening in the savings-investment gap was comparatively greater in the public sector; in 1972-73 public savings amounted to 9 percent of GDP and were more than sufficient to cover public investment, but by 1977 they declined to 7 percent of GDP and covered only 55 percent of public investment. In the private sector, the savings rate also declined during these years (from 11 to 9 percent of GDP). Over the last three years, savings performance continued to be poor in both the public sector, where the Government has had to bear the large financial losses of the SEEs, and the private sector. 18. The growing gap between domestic savings and investment was increasingly financed by both medium and short-term borrowing from abroad. Turkey obtained increased support and debt rescheduling from the members of the OECD Consortium for Turkey and diversified its aid relationships with OPEC countries (especially Saudi Arabia). Loan commitments, which totalled $2.5 billion during 1972-75, increased to $8.0 billion during 1976-79. Medium and long-term external debt outstanding and disbursed rose from $2.5 billion at the end of 1972 to $4.8 billion by 1977 and an estimated $12.8 billion by 1980. Gross public M&LT disbursements in 1980 were around $1.1 billion. 19. The estimation of capital requirements over the medium-term is particularly hazardous at this juncture. Nevertheless, if the investment rate is projected at 21 percent of GDP over the next five years, and gross domestic savings to rise slightly to 18 percent of GDP by 1985, the current account deficit in current dollars can be projected to decrease to 4 percent of GDP by 1985 (compared to about 5 percent in 1980). Considering the limitation on available external assistance and given the need for continued sound external debt management, Turkey can sustain the implied current account deficits of the order of $3-3.5 billion annually in 1981 and 1982, given further quick-disbursing assistance. The deficits are projected to increase gradually to around $4 billion annually in the mid 1980s, but it should be possible to finance an increasing proportion from commercial sources without endangering creditworthiness, provided the commercial banks become willing to resume lending to Turkey on a net basis. Taking into account the substantial obligations for debt amortization, despite agreed and prospective debt rescheduling, large annual gross inflows of foreign capital will be required, rising steadily from $3 to 7 billion per annum during the next five years, to permit a reasonable rate of growth. 20. Past and prospective movements of the main macroeconomic indicators are shown in the Table below.  - 6 - MACROECONOMIC INDICATORS Levels Average Annual (Units) Actual Estimated Projected Real Growth Rates 1975 1980 1985 1975-80 1980-85 A. GDP 1978 $bn 44.9 53.1 65.3 3.4 4.2 B. Exports of goods Current $bn 1.4 2.9 7.9 6.4 11.7 Imports of goods " 4.7 6.9 13.1 -7.2 4.0 - oil: value " (0.8) (3.3) (6.8) 8.9 5.5 volume m. tons (9.8) (13.1) (17.2) 8.9 5.5 Current account balance Current $bn -1.9 -2.8 -4.1 Gross Public M&LT capital inflows /1 0.3 2.0 3.1 Net Public M&LT capital inflows /1 0.2 1.0 1.0 Period Averages C. Investment/GDP % 24 21 21 24 21 Gross domestic savings/GDP 17 17 18 18 17 Marginal national savings rate 27 Negative 26 17 26 D. Exports of goods/GDP (current prices) % 4 6 8 Oil imports/Exports of goods 58 113 86 Current account balance/GDP % -5 -5 -4 Debt service ratio /2 " 8 12 41 Terms of trade 1978=100 100 78 77 /1 Includes private guaranteed and non-guaranteed debt. /2 Differs from figures in previous reports due to (i) taking account of debt relief provided through the debt rescheduling arrangements; and (ii) use of the standard definition which excludes interest on short-term debt.  - 7 - 21. Given the accumulation of economic problems, the substantially increased cost of oil imports, and the difficulty of significantly increasing the net inflow of capital, Bank projections suggest that GDP growth per annum may only average around 4 percent in real terms, and provided Turkey achieves a real growth of exports of about 11 percent per annum and can attract the projected inflows of external capital during 1980-1985. These growth rates appear attainable, assuming continuation of appropriate economic measures, and taking into account the low export base and market prospects especially in the OPEC countries, and the present underutilization of industrial capacity. The inflation rate should come dowin progressively. However, employment prospects are less sanguine, and even if substantial efforts are made, the unemployment rate is likely to rise significantly above its already high level. 22. The future rate of international inflation (including oil price increases) will have a major impact on future prospects. It is estimated that even if the volume of oil imports in 1980 had been held at 1977 levels, the inflationary cost increase would have been around $1.8 billion; similarly, in 1980 the inflationary cost increase alone of the 1977 volume of Turkish imports from OECD countries would have been around $1.7 billion. During 1980-1985, even if Turkey allows the volume of oil imports to increase only as fast as GDP, the oil import bill is estimated to increase from $3.3 to $6.8 billion; as a percentage of exports of goods, the oil bill was equivalent to 113 percent in 1980 and is only likely to decline to 86 percent by 1985. The pressure this will exert on Turkey's already difficult balance of payments position is obvious. 23. A significant determinant of future prospects, in addition to increased aid flows, will be the negotiation of substantive improvements in trade policies towards Turkey. The benefits expected from Turkey's 1963 Association Agreement with the European Economic Community (EEC) have been progressively eroded by the associate membership of other southern European countries, trade and other agreements with Mediterranean countries and the privileges accorded to signatories of the Lome Conventions, and by EEC restrictions on labor movement and on textile exports. Revised agreements between the EEC and Turkey in 1977 and 1980 have only partly compensated for this erosion, but offer hope for a better future relationship. On the other hand, Turkey has succeeded in diversifying its trade to include larger shares for both OPEC countries and the centrally planned economies. Creditworthiness 24. At the end of 1977, Turkey faced an overwhelming debt burden. Its adjustment to the international economic shocks of the previous few years had been delayed partly by resorting to large-scale external borrowing, especially short-term borrowing. Short-term debt outstanding increased from $216 million at end 1974 to $7.5 billion by end 1978, when total medium and long-term debt outstanding and disbursed was $6.8 billion. When external confidence collapsed in 1977, Turkey was left with service payment obligations for 1978 (mostly on short-term debt) of $5.1 billion (including arrears), or nearly three times the value of merchandise exports in 1977. Prolonged discussions  - 8 - with over 200 creditor banks resulted in an agreement in July 1979 to reschedule a total of $3.0 billion in short-term liabilities, including some $2.4 billion in convertible Turkish Lira deposits and $400 million banker's credits (both at 1.75 percent above the London Inter-Bank Offer Rate (LIBOR), with 7 years maturity including 3 years grace) and $300 million in third party reimbursement credits (also at 1.75 percent above LIBOR, but with an accelerated repayment schedule). Some $0.3 billion in oil loans were also rescheduled in 1979. At the end of 1980, arrears on unguaranteed trade credits were consolidated in an amount of around $1 billion. As a result of these exercises, short-term debt outstanding at end 1980 was $3.3 billion. Finally, in January 1981 leading commercial banks agreed in principle to extend the terms of the 1979 commercial debt rescheduling. A series of large-scale rescheduling operations relating to medium and long-term official debt also took place. In 1978, 1979 and 1980 OECD member creditors rescheduled $1.0, $1.1 and $2.5 billion, respectively, of debt service obligations and accumulated arrears (the last exercise including some re-rescheduling). The terms of the 1980 rescheduling were 8 to 10 years including 4 to 5 years of grace, and it provided debt relief estimated at $1.1 billion in 1980 and another $0.8 billion in 1981, with smaller amounts thereafter. 25. The effect of these debt rescheduling exercises on Turkey's debt structure and debt service profile has been dramatic and has led to a substantial revision of previous projections. Service payments on short-term debt are now of manageable proportions. The estimated medium and long-term debt service ratio for 1979 was 14 percent, and for 1980 12 percent (of exports of goods and non-factor services and workers' remittances). During the next 5 years, however, much of the rescheduled debt must be repaid. As a result the ratio is expected to climb rapidly again, to 41 percent in 1985 and a peak of 45 percent in the late 1980s. These figures, which are still in the process of being finalized, compare with 26 percent for 1979, and a peak of 45 percent by 1984, mentioned in recent President's Reports on loans to Turkey. Despite the rapid increase the debt burden should remain manageable provided current policies are successfully implemented, the export drive is sustained, and Turkey continues to receive further international support from both private and official donors. PART II - THE GOVERNMENT PROGRAM Introduction 26. The Government's January 1980 stabilization program was a major departure from the strategy and policies pursued by Turkey over the last two decades. Measures were introduced with its announcement and again in June/July 1980 to implement some of the key policies. Further measures have been introduced starting in November 1980, and will continue to be introduced during the remainder of 1981, to carry forward the work of reform. The Bank supported this process through the first Structural Adjustment Loan for $200 million approved in March 1980, and its Supplement for $75 million approved in November 1980, and will support its continuing implementation through the proposed loan.  - 9 - 27. The objectives of the January 1980 program, as well as the areas and directions of initiatives taken, were explained in a letter dated February 7, 1980 to the Bank from the Undersecretary, Prime Ministry. In addition to demand management policies, they focused on four main areas: (a) export promotion, through a rational exchange rate policy and financial and institutional incentives; (b) domestic resource mobilization, through an increased tax effort, gradual reform of the SEEs and interest rate liberalization; (c) rational public investment policies; and (d) improved external debt management. These four areas were emphasized and monitored under the first Structural Adjustment Loan and its Supplement since they were critical to both restoring viability to the economy and spearheading the process of structural adjustments over the medium term. As previously reported, satisfactory progress led to the release of the second tranche of the Structural Adjustment Loan I on July 30, 1980 (Sec M80-596), and of the final tranche on October 23, 1980 (Sec M80-804); the loan is fully disbursed. Progress since November 1980 in implementing the Government's program, which has been monitored under the Supplement loan, is reviewed by policy area below, summarized in the Table following paragraph 174, and evaluated in paragraph 175. 28. The new measures taken since the Supplement loan or to be taken shortly, in these and other new policy areas, are set out in a Statement of Development Policies attached to a letter from the Deputy Prime Minister to the Bank dated February 20, 1981 (Annex IV). The measures focus on the following key policy areas; (a) macroeconomic policies -- domestic resource mobilization, export promotion, and import liberalization; (b) supply-side policies -- public and private investment, energy and agriculture; and (c) reform of the State Economic Enterprises. Each is discussed in turn below, with updating to reflect the Government's continuing progress since February 1981 in implementing its program. Further progress in these major areas will be monitored in connection with the proposed loan (paras. 49, 54, 64, 92, and 157, and Loan Agreement, Section 3.04 and Schedule 4). The IMF Program 29. Following the announcement of the January 1980 program, the IMF accelerated the release of the remaining tranches of the July 1979 stand-by arrangement. In June 1980 it was replaced by a new three-year stand-by arrangement involving SDR 1.25 billion (about $1.63 billion), with SDR 460 million (about $600 million) in the first year, SDR 400 million (about $520 million) in the second year and SDR 390 million (about $510 million) in the third year. The key conditions of the new stand-by are that: (i) the exchange rate is to be kept flexible; (ii) the financial position of the public sector is to be improved, mainly as a result of the restructuring of the operational policies of the SEEs; (iii) monetary conditions are to be kept extremely tight, as a result of the observance of limits on Central Bank lending; and (iv) interest rates are to be adjusted to reflect market conditions. The IMF is of the opinion that the Turkish authorities have made serious efforts to implement the stabilization program being supported by the stand-by arrangement. Despite pressures arising from the continuing weakness  - 10 - of the public finances, Central Bank credit has been kept within the strict limits set; external competitiveness appears to have been broadly maintained; and a more flexible and realistic interest rate policy has been adopted. A review of the stand-by was satisfactorily concluded in January 1981, and the third drawing was made available on schedule in that month. In April 1981 further discussions under the stand-by, to review subsequent developments and to set credit ceilings for the second quarter of 1981, were also completed satisfactorily. A. MACROECONOMIC POLICIES Domestic Resource Mobilization 30. As discussed in Part I, domestic savings have for years been inadequate for Turkey's investment needs. Moreover, they have declined by 3 percentage points of GDP from 1978 to an estimated 17 percent in 1980. Public saving has declined particularly sharply, from 8 to 4 percent of GDP, due primarily to large SEE deficits and an inadequate tax effort. Private saving performance has also been disappointing. There has been substantial diversion of funds to the unorganized money market, as interest rates have become increasingly negative in real terms. 31. The Government's response to the domestic savings constraint has been to grant greater pricing autonomy to the SEEs (para. 140), implement a major tax reform, implement a scheme to attract emigrants' savings, deregulate commercial bank interest rates, and take steps to develop the capital market. (a) Tax Reform 32. Turkey is currently undertaking a comprehensive and far-reaching tax reform. These changes were long overdue. The existing tax laws were enacted more than a decade ago and the rates were no longer meaningful. Serious distortions emerged because rapid inflation and the failure to adjust the progressive income tax schedule meant that the tax burden on wage and salary earners had become excessive, with low income groups particularly suffering from the erosion of the real value of personal exemptions. Income tax had become a flat-rate tax of 55 percent on wage and salary earners unable to evade it, and as a result, the taxation of this group accounted for about 70 percent of total income tax revenue. The distribution of the tax burden between public and private sector employees had become increasingly inequitable, with income tax being avoided in the private sector through tax-free allowances. Moreover, lags in revenue collection and administration, together with non-adjustment of tax penalties, compensated the nominal fiscal drag usually associated with taxation under inflationary conditions to such a degree that the income elasticity of the tax system as a whole did not increase. In fact, it declined, since it was cheaper to pay penalties than to pay taxes, and also due to the existence of specific taxes. The budgetary situation was further complicated by the fact that until January 1980, the prices of many goods and services were set by the Government, and the political and administrative difficulties of adjusting these prices to inflation led to heavy losses in real revenues.  - 11 - 33. The Government recognized the urgent need for tax reform in its January 1980 program, and presented two bills to Parliament in February. However, it was not until the new regime came to power that enactment became possible. The Government took this opportunity to widen the scope of the reform to encompass three broad objectives; to bring about a more equitable distribution of the tax burden, to generate additional net revenue through increasing the tax buoyancy, and to improve the efficiency of tax administration. By December 1980, the Government had submitted twenty-four bills to the National Security Council, ranging from fundamental reforms of the tax system to modifications in existing taxes; most of the important bills have already been enacted. 34. The most important tax change already enacted concerns the income tax system, in which there are three major reforms. First, the personal income tax schedule has been revised with a view to restoring progressivity to the system. There are substantial increases in the income tax brackets and in the level of tax-exempt earnings, so that under the new system wage-earners will be mostly in the 40 percent tax bracket (equivalent to an effective rate after deductions of about 32 percent). After an estimated one-time revenue loss of TL 140 billion in 1981, the new scheme is expected to have an important positive impact on revenue over the medium term. Second, the widespread tax evasion by professionals and self-employed persons is to be reduced through a new system of assessed taxes paid in advance, with the burden of proof in challenging the assessment falling on the taxpayer, and the assessment contestable only at the end of the fiscal year. The lump sum tax on artisans and small businessmen is also increased. These changes are expected to yield about TL 170 billion in 1981, more than compensating for the revenue loss incurred through the personal income tax changes, and reflecting both more progressive tax rates and an expected increase in the number of taxpayers. Third, the other major sector which has been little taxed, agriculture, is to be taxed for the first time on a systematic basis by subjecting sales of agricultural products to a 5 percent withholding tax. In addition, the taxation of farmers' incomes is modified by reducing the farm size used as the basis for small-farmer exemption, reducing permitted tax deductions and raising the level of minimum agricultural taxation. Revenue from agricultural earnings is thereby expected to increase from about TL 2 billion in previous years to TL 55 billion in 1981. 35. The corporation tax has been simplified by abolishing the income tax withholding, which discriminated against distribution of profits and was also costly to administer. The effective rate of tax on profits increases from 43 to 53 percent, with a new income tax credit of 25 percent for individuals partly compensating for the increased tax rate. Distributed profits are no longer subject to double taxation. The new system has important tax exemptions and deductions designed to encourage exporting and other foreign exchange earning activities (paras. 51 and 73). 36. Other laws already enacted provide for substantial increases in a wide range of fixed rate taxes and duties and the strengthening of the revenue base of municipalities through the provision of 5 percent of central government tax revenue (a separate bill identifying new revenue sources for  - 12 - the municipalities together with large increases in existing taxes has not yet been passed). A major strengthening in tax administration is to be achieved through a stiffening of penalties for tax evasion, improvements in tax collection staff by better training, budget allocations (already implemented -- see para. 40) and possibly remuneration, and the establishment of new tax courts under a draft law already approved by the Council of Ministers. 37. The Government further intends to enact the following additional tax measures; introduction of a value added tax during fiscal 1982 (the draft law has been approved by the Council of Ministers); reduction of the transaction tax on interest by May 1981; rationalization of production and sales taxes, also by May 1981; and introduction of the principle of index-linking specific taxes, income tax brackets and tax penalties by December 1981. It also intends to continue improving tax administration. 38. The Government expects the tax reform measures to yield around TL 240 billion (3 percent of GNP) in 1981, bringing the total projected revenue to TL 1355 billion (89 percent more than in 1980). The impact of the tax reform package is shown in the Table below. This is based on a projected increase in nominal income of around 45 percent and the assumption that about 50 percent of the tax base generated in 1980 would be subject to tax collection in 1981, as well as a projected increase in the buoyancy of total taxes from an average of 0.99 over the last five years to 1.16 in 1981, and that of personal income tax from 1.07 to 1.18 in 1981. ESTIMATES OF REVENUE AND IMPACT OF TAX REFORM (Amounts in TL billion) 1980 1981 Of which Percent Change in Revenue Revenue Revenue due to With Without Estimate Estimate tax reform tax reform tax reform Taxes on income 426.5 817.2 145.2 (91.6) (57.6) Personal income tax 358.0 691.2 140.0 Li (93.1) (54.0) Corporation tax 33.0 76.0 15.0 (130.3) (84.8) Other /2 35.2 50. -9.8 (42.0) (-14.2) Taxes on wealth 9.4 16.5 5.8 (75.5) (13.8) Taxes on goods 105.9 188.6 29.5 (78.1) (50.2) Taxes on services 78.6 182.5 55.5 (132.2) (61.6) Taxes on foreign trade 97.7 150.0 - (53.5) ( - ) Total tax revenue 718.1 1354.8 236.0 (88.7) (55.8) /1 TL 140 billion is the net increase of the following elements of the personal income tax; revision of personal income tax schedule - TL 140 billion; receipts from taxpayers in advance payments category + TL 170 billion; increase in lump sum taxes + TL 30 billion; agricultural sales tax + TL 50 billion; witbholdings from real estate earnings and increase in tax on interest earned + TL 20 billion; other TL 10 billion. 12 Fiscal balance tax (rate reduced in tax package) and capital gains tax on real estate.  - 13 - 39. These estimates considerably exceed those of earlier schemes, due to the large number of discretionary tax increases. The underlying assumptions generally appear feasible. The assumed increase in nominal income of 45 percent is, as explained in Annex I, para. 8, conservative, and an increase of around 60 percent is more likely. Moreover, the assumption of a 50 percent carry-over effect of the tax base is in line with earlier experience. The buoyancy estimates, which are based on a real growth in GDP of 3 percent, are more difficult to evaluate. Where there is no major change in the tax base and revenue growth is mainly a function of tax rate increases, the estimates can be corroborated (e.g. as with taxes on services). The major question is with the income tax reform, which is expected to generate 60 percent of the net revenue of the tax package. The feasibility of this depends on the effectiveness of the new system of advance payments by non-wage earners, particularly ensuring appropriate tax assessments by local commissions, and bringing into the scope of the system the estimated 1.15 million taxpayers potentially involvsd; efficient collection of lump-sum taxation from an estimated 800,000 taxpayers; and effectively taxing agricultural sales proceeds. For such a revenue yield to be realized, a major strengthening is clearly needed in tax administration. This is particularly the case with the taxation of professionals and self-employed, which is not only the principal source of new revenue but also a difficult tax to administer. However, with most assessments completed and assessment challenges not permitted until the end of the fiscal year, 1981 collections should be reasonably secure. The first two installments of the tax are to be paid in April and July, permitting an early check on collections. 40. The tax package should result in a more equitable distribution of the tax burden, which, as described in para. 32, had become grossly distorted. Improvements in equity should be substantial among middle and upper-income groups with the progressivity of the revised income tax schedule. However, the schedule could be improved through a more gradual progression in the tax rates at the lower income levels; currently all incomes less than TL 1 million or just over $10,000, which apply to most taxpayers, are subject to the same tax rate of 40 percent, so that even after exemptions the tax burden on an income of TL 300,000 is only marginally less than on an income of TL 1 million. In terms of equity between sectors, the changes regarding the taxation of agricultural earnings are particularly welcome, since this is one sector which has been grossly undertaxed. As a result of the tax reform, the share in total income tax receipts of the taxes on agricultural earnings is expected to rise from 2 to around 8 percent. Self-employed and professionals have also borne a disproportionately small share of the tax burden, and while the tax reform creates the conditions for this group to pay their share of taxes, success will depend on adequate improvements in tax administration to implement this and other reforms. While needed institutional changes in tax administration have been and are being made (para. 36), better remuneration and training for revenue officers, as well as an increase in their number, are also necessary. This has yet to be done, but a start has been made with a 62 percent increase in allocations for the Revenue Department of the Ministry of Finance in the 1981 budget as compared to last year. In terms of impact on incentives, changes in the corporate tax law (paras. 51 and 73) have been made to stimulate export activity (e.g. permitting tax deductible export earnings)  - 14 - as well as investment (e.g. extending investment allowances to investments financed from sources other than own assets, and increasing the allowances in the case of investments in less-developed regions). The proposed reduction in transaction tax is particularly welcome and should encourage greater financial intermediation, and the bias against distribution of corporate profits and hence against development of the stock market is removed through corporate tax changes. Some negative impact on saving in financial assets may, however, result from raising the rate of taxation of income earned from such assets. Perhaps the most important incentive effect would be the discouragement of tax evasion; through the substantial raising of tax penalties and expected improvements in tax administration. Again, as with the impact on revenue and equity, the conclusion is that the tax reform measures are basically sound, but that adequate resources need to be made available to ensure successful implementation. Moreover, the tax package needs to be completed by the introduction of a value-added tax and by the indexation of tax brackets and specific taxes. It is the Government's intention to undertake these measures by 1982 and December 1981, respectively. (b) Scheme to Attract Emigrants' Savings 41. In December 1980, the Government introduced a new savings scheme to promote the inflow of savings of emigrant workers. The scheme provides for Turkish banks to open deposits in foreign exchange at competitive yields, which upon maturity are either renewable or convertible into Turkish Lira at the prevailing exchange rate. The scheme thus provides Turkish workers abroad with a competitive outlet for their savings in Turkey, while avoiding the problematic features of the previous convertible Turkish lira deposit scheme. (c) Interest Rate Policy 42. Interest rates are seen as a major policy instrument for mobilizing and allocating savings in the January 1980 program. The Government acknowledges the negative impact of recent high rates of inflation on the accumulation of savings in financial form and the efficiency of the market mechanism for mobilizing and allocating resources. On July 1, 1980 it deregulated interest rates on all time deposits and loans, and intends to ensure that this is fully implemented and leads to rates reflecting inflationary expectations. It has had a considerable degree of success, especially over the last few months. Deregulation plus the introduction of Government bonds at competitive rates, led to successive large increases in commercial bank deposit rates through February 1981; for example, rates on deposits of 6 months rose from 12 to 42 percent per annum, while those on deposits of 4 years or more rose from 26 to 50 percent per annum. Certain unregulated brokers now offer a 56 percent yield, annualized over two years. Lending rates have risen to a range of 29-41 percent per annum depending on maturity, and before taking account of taxes and fees. The effective cost of long-term credit to borrowers not receiving any incentives goes as high as 60 percent. 43. There has been a significant response to these developments in deposit rates. In the one month of July 1980, total deposits grew TL 48 billion, only slightly less than the total increase over the January to June  - 15 - period. Since then, deposit growth has continued to be impressive; between August and November, total deposits grew by TL 107 billion, three times the deposits accumulated over the same months in 1979. While most of these new deposits were demand deposits, the growth in time deposits was substantial, amounting to TL 25 billion, some eight times the increase over the corresponding months of 1979. In addition, the introduction of bearer certificates of deposit appears to have successfully brought into the organized financial system some of the funds from the considerable volume of parallel market activity of the last few years. 44. The Government has reaffirmed its commitment to an interest rate policy which is effective in attracting financial savings and efficiently allocating investible funds. It intends to raise the rate of interest on Government bonds to levels required in light of market conditions to achieve its borrowing targets. After the passage of the capital market bill (para. 46), it intends to lift the ceilings on the interest rates on private bond issues, which were raised to a range of 28 to 32 percent depending on maturity in 1980 but are no longer competitive. (d) Capital Market Development 45. The capital market in Turkey is particularly underdeveloped. The bulk of non-monetary financial liabilities is issued by the public sector, and consists largely of bonds sold with the help of statutory provisions. There is one small stock exchange, and the shallow market which does exist is controlled by major brokers, banks and large holding companies partly as a result of taxation and commercial practices. Most private corporations are closely held, and the underdeveloped state of the stock market, the widespread issue of bearer shares and the non-existence of transferable rights continue to inhibit the widening of ownership. As a result, the capital market is not a significant source of long-term domestic currency financing for industry; about 50 percent of fixed investment in the organized private sector of industry is financed by banks, another 40 percent out of internally generated funds, about 4 percent through direct foreign financing, only about 8 percent from bond issues and a negligible proportion by new share issues. During the last two years, there has been increased activity in the bond market; in the first nine months of 1980, the flotation of private bonds amounted to TL 13.4 billion, almost triple the volume in the whole of 1979 and seven times that in 1978. This development is due mainly to the placement of bonds of large well-known private companies by private unregulated brokers who were able to offer competitive yields on the bonds by purchasing them below par value. 46. The Government expects enactment shortly of a bill already approved by the Council of Ministers on the regulation and control of the capital market which has three main aspects. First, it establishes a legal framework for the issue and trading of shares and bonds through setting up a new High Council on Regulation and Control of Capital Markets. A company wishing to sell shares or bonds must first obtain approval by the High Council. Independent auditors who are professional chartered accountants (see para. 48) and are acceptable to the Council will examine the financial viability of such firms. To ensure adequate and accurate information, the Council will enforce  - 16 - standardized accounts and other pertinent information and minimum accounting standards. It is authorized to halt sales by a company deemed financially unsound. Second, the bill introduces regulation of financial intermediaries dealing in stocks and bonds. The Council will determine their financial solvency and certify them on conditions it will determine. Third, banks are also permitted to establish a stock investment fund for the purpose of operating a stock portfolio. This fund will operate portfolios of stocks and bonds and will be composed of money collected from the public against participating certificates issued by the Bank. The Government has requested IFC assistance in implementing this framework legislation and IFC has commented on the draft law. 47. The new bill takes the essential first steps in developing the capital market through establishing an independent authority to supervise the capital market. The bill should also significantly contribute to increasing the flow of private savings; and by requiring certain standards of both intermediaries and issuing firms, investors' confidence in the market should improve, and by offering savers a wider portfolio choice in a financial market currently dominated by commercial banks, as well as broadening the range of available instruments in terms of scale, maturity and risk, new opportunities for attracting and pooling savings as well as specializing in investment will be created. The bill should also help to improve the capital base of private companies, through channelling a larger volume of funds to the corporate sector, and through simplification of the procedures for capital increases in joint stock companies. The bill may also increase the inflow of foreign capital; foreign firms have been hindered from investing in Turkish companies by the fact that Turkish capital has not assumed an adequate size for partnerships. On the negative side, it is to be hoped that this regulation of the capital market does not stifle the recent development of the private bond market. To ensure that the law does not impose unduly burdensome restrictions on the market; market professionals such as brokers, dealers and underwriters should be encouraged to remain in the market for new issues and secondary trading, and this can only be ensured through taking into account the views of the private sector on the bill, and through adequate representation of these securities professionals in the proposed council. The Council should also have representatives of the most important Government bodies which affect financial market developments. IFC has submitted preliminary comments on the bill, and their recommendations, particularly on the operation of the stock exchange, should be taken into consideration. 48. The Government intends to complement the capital market bill, encourage wider private ownership of firms, and facilitate tax collection, by limiting the issue of bearer shares by companies; and by enacting legislation to introduce a professional chartered accountancy system in Turkey. It also intends to enact legislation to permit firms to make much-needed revaluations of assets, with the initial revaluation not subject to income taxation. 49. Monitoring. Under the proposed loan, the Bank will continue to monitor the adequacy of policies and legislative and administrative measures for domestic resource mobilization, in particular with respect to tax reforms: (a) progress in enacting a law providing for a value added tax to be  - 17 - introduced during fiscal year 1982; and (b) progress in establishing procedures for adequate tax collection, especially with respect to personal and corporate income and agricultural sales tax (Loan Agreement, Section 3.04, and Schedule 4, para. 1). Balance of Payments Policies (a) Export Promotion 50. The Government's economic program gives strong emphasis to the need to improve export performance. Since January 1980 much has already been done in terms of export policies, as detailed in the President's Reports on the Structural Adjustment Loan I and its Supplement and monitored by the Bank. Access to credit and foreign exchange for exporters has been greatly facilitated, the range of financial incentives available to exporters is extensive, and administrative procedures have been simplified. Furthermore, exporters have been relieved of the requirement to buy domestically-produced inputs, and may import inputs free of customs duties. Most important of all, the exchange rate regime has been made much more flexible, and the Turkish lira has moved broadly in line with price differentials between Turkey and abroad since mid-1980. The latest change, effective April 15, 1981, brought the rate to TL 98.20 = US$l. 51. The Government has recently introduced further improvements in financial incentives and administrative procedures for exporters. These include an important provision in the tax reform package whereby earnings from exports of industrial goods, fruits, vegetables and fishery products, and receipts from freight and tourism can now be deducted to varying degrees from taxable income. The formula encourages continued growth in exports and provides an incentive to smaller individual exporters to amalgamate. All foreign exchange earnings of contractors abroad are also deductible. Access to export credit is being improved by a new measure requiring commercial banks to increase steadily the share of their outstanding credit extended for industrial exports, to 15 percent by end June 1981. This implies in practice that one-third or more of increases in total credits must be for exports. This is enforced by the Central Bank through administrative measures. Furthermore, in response to complaints that providing export credit in installments was disruptive, the proportion made available in one installment has been increased. 52. There has also been continued improvement in the institutional and administrative framework for exports, including the initiation of an interim export credit insurance system under the 1981 Export Regime, which will be implemented by May 1981. A more dynamic head of the Export Promotion Center has been appointed. 53. The Government intends to take further action to improve this framework. It expects to enact during 1981 a nearly finalized bill establishing a permanent export credit insurance agency, as well as another already drafted to establish free trade zones. It intends to revitalize the Export Promotion Center to make it effective, and also to encourage the  - 18 - establishment of export promotion organizations by the private sector. Other institutional actions such as the creation of a specialized export development bank are also under consideration. 54. The financial incentives for exports are now reasonably comprehensive. However, as the Government is aware, the institutional and administrative framework needs further improvement. Under the proposed loan, the Bank will continue to monitor the adequacy of policies and legislative and administrative measures for export promotion (Loan Agreement, Section 3.04 and Schedule 4, para. 1). 55. Exports have increased rapidly during the last four months of 1980, after a disappointing performance over the first eight. During the last four months, merchandise export receipts grew from $1.6 billion to $2.9 billion, an increase of 84 percent, and during this period were 72 percent higher than during the corresponding months of 1979. For the year as a whole, they are estimated to have been $2,910 million, 29 percent more in value than in 1979. Moreover, results for the early months of 1981 indicate that this trend is continuing. The recent expansion has been broad-based in both its commodity composition and its market destinations. Certain agricultural exports performed particularly well over the last four months of 1980; barley exports were unusually large, as were fruits and vegetables (especially citrus) exports, and livestock exports increased 75 percent in value over their 1979 level. Agricultural export receipts as a whole increased by 24 percent. Manufacturing export receipts increased by 33 percent in 1980, particularly processed agricultural products, chemicals, garments and carpets. 56. To some extent, the recent encouraging developments reflect specific factors such as the usual seasonal increase in agricultural exports, the new agricultural support prices, greater finance for crop purchases, and the upswing in industrial production following the improved availability of liquid fuel, electricity and raw materials, as well as the end of labor disputes following the political changes in September 1980. More generally, however, it is likely that they reflect an increasing effectiveness of the export promotion policies, with the official acceptance of and adherence to a flexible exchange rate policy, the Government's increased focus on exports and the steady improvement in most incentives offered for exporting. (b) Import Liberalization 57. The import regime provides extensive protection to domestic producers against foreign competition. There is a comprehensive system of import licensing consisting of two Liberalized Lists, for non-competing and competing commodities, and (until 1981) a Quota List revised annually. Only items on these lists can be imported; in principle, all other imports are banned. The Ministry of Commerce issues import licenses on the advice of other agencies, and (until January 1980) the Central Bank determined the amount of foreign exchange available for import transfers, and thus controlled nearly all allocations of foreign exchange. Since January 1980, commercial banks have been permitted to retain a higher proportion of foreign exchange deposited with them, and some import transactions have thus been delegated to the private sector, especially those of exporters.  - 19 - 58. Imports of raw materials and spare parts which are non-competitive with domestic production are allowed freely under Liberalized List I, but comprised only around 7 percent of total imports in 1980, reflecting the diverse nature of domestic industrial production. Most imports come under Liberalized List II, and an import license is issued only if the good in question cannot be supplied locally in comparable quantity and quality and within a reasonable period of time. In 1980 List II imports amounted to around 79 percent of the total, half being petroleum and its products and a further 20 percent fertilizer. In 1980 about 14 percent of imports were subject to quotas. Quota List Section I provided for small dollar amounts for specific less essential items. Quota List Section II consisted of large allocations to broad general categories, e.g., US$290 million in 1979 for private sector investment. 59. In January 1980, the Government took the very important step of allowing exporters to import all needed inputs duty-free and without regard to the import regime. This year, following a short-term study on which understandings were reached under the Supplement loan, the Government has continued the reform of the import regime. 60. The main feature of the 1981 import regime, which became effective in January, is the abolition of the Quota List. Of the 312 items on this list, 100 have been moved to Liberalized List 1. These items, which accounted for about $50 million of imports in 1980, consist mostly of raw materials for chemicals, spare parts and spices. The remaining 212 items, which accounted for about $850 million of imports in 1980, have been transferred to List II. They consist mostly of intermediate and capital goods (iron and steel products, pulp and paper products, machinery, dyed products, rubber and glass products, spare parts for machinery and fibres). In addition, about 200 items accounting for around $300 million of imports in 1980 have been shifted from List II to List I. These consist of chemical items (sodium phosphate, fluorides, cobalt oxides, nitrile-function compounds) tin, rolling mills, synthetic dyestuffs and pigments, spare parts for machinery and plastic raw materials. 61. In continuation of present policy, imports of items on List I will be limited only by the availability of foreign exchange, and the transfers of items to this list -- which may increase imports under it to about 15 percent of the total -- indicate the Government's commitment to providing the inputs needed to improve capacity utilization. A speeding up of the application and approval process under List II is proposed. Also, a new feature is that an excess of the domestic price of a List II item of 20 percent or more over the tariff inclusive import price will be a discretionary trigger, leading to a review of the merits of importing it. There is no plan to raise tariffs as an offset to the relaxation of quantitative restrictions. 62. To facilitate the financing of imports, the 1981 import regime introduces two changes: First, the rates of import guarantee deposits have been reduced substantially. Second, the proportion to be paid at the time of application to the importer's commercial bank has been considerably reduced, with the balance paid when the request is made to the Central Bank for the import license.  - 20 - 63. These changes in the import regime, particularly the abolition of the Quota List and other relaxations of quantitative restrictions, constitute a part of the gradual process of import liberalization, and considerably exceed Bank expectations at the time of approval of the Supplement loan. They should enhance the flexibility and efficiency of the import regime, as well as simplify its administration and help reduce previous abuses whereby licenses in excess of needs were requested and subsequently resold. 64. To continue the process of import liberalization, the Government intends to further improve the structure of import tariffs. It is also making arrangements to undertake the long-term study of Turkey's protection and incentive system, to be completed by end 1982, on which understandings were reached under the Supplement loan. It has proposed detailed organizational arrangements for this study and partial financing for it from the Bank's external research budget has been approved. The study is designed to lead to recommendations for policy reforms aimed at reducing the remaining bias against exports, the variability of effective protection and effective subsidy across activities, moving from continuing reliance on quantitative restrictions to the use of tariffs and reducing effective protection progressively where excessive. Under the proposed loan, the Bank will monitor the adequacy of policies and legislative and administrative measures for import liberalization (Loan Agreement, Section 3.04 and Schedule 4, para. 1). B. SUPPLY-SIDE POLICIES Investment Public Investment 65. Public investment accounted for 59 percent of total investment and 10 percent of GNP in 1980. After a rapid increase in the mid to late 1970s, its level has declined by 4 percent per annum in real terms for the last three years under the pressure of foreign exchange and local resource constraints. The largest shares in 1980 went to manufacturing (28 percent), transport and communications (20 percent) and energy (with associated mining) (28 percent), while the share going to agriculture has been falling and was 7 percent in 1980. The public sector investment portfolio contained no less than 9,000 projects as of the end of 1980; at the rate of spending of recent years, it would take about 11-12 years to complete all these projects even without taking acount of new ones, and the average gestation period has risen throughout the 1970s. The portfolio contains a large number of projects of uncertain merit which were introduced in the mid-1970s without careful scrutiny and in line with the development strategy and political preferences of the time. Other projects are now either premature or oversized in view of the prospects for slower economic growth over the next few years. 66. In 1981, the Government has effected a first step rationalization of the program. The total allocation for the year has been set at TL 667 billion at 1981 prices. This is intended to be administered as a cash limit and to provide for a 12 percent increase in public investment in real terms using the Government's inflation forecast of 40 percent in 1981. With a more realistic  - 21 - inflation forecast, the level is not expected to rise in real terms. The number of projects has been cut to about 8,000, partly because of project completions in 1980 but partly by eliminating a number of nonviable projects. In addition, many projects retained in the program have received only nominal allocations in 1981. About 78 percent of total spending will be for ongoing projects, with new projects concentrated in transport and communications and in agriculture. The energy sector retains the highest priority, so as to remove bottlenecks, and its share has been increased slightly. Another sector given high priority, in contrast to recent years, is agriculture, because of its export potential; its share has been increased to 12.6 percent. The other priority sector is communications, particularly freight transportation, to facilitate industrial and agricultural production. Priority has been given to export-oriented projects. Within the sectoral priorities, projects have been grouped as follows: (a) high priority projects which (i) can be completed within 24 months, where there is substantial sunk capital and where a high cash flow is expected, or (ii) can be brought quickly to a more economic basis through rehabilitation and the removal of bottlenecks: these have been given large allocations; and (b) profitable projects, the additional requirements of which exceed the resources available to the public sector: The Government will attempt to have these implemented through the equity participation of the private sector, either jointly with the public sector or alone. 67. The public investment program, as well as the institutional arrangements for investment decision-making, are being reviewed by a special Bank mission which visited Turkey in November 1980. Since its report has not yet been completed, the following reflect only preliminary conclusions. The rationalization efforts of 1981 have been an important step in the right direction, but more remains to be done. The overall size of public investment is consistent with resource availabilities in 1981 and the general orientation of policy. However, the foreign exchange and local currency requirements for the program in future years could exceed those likely to be available, so that additional cuts will be needed, even without taking account of the need to include some new projects in these years. In addition, the average gestation period remains excessive as resources are still spread too thinly. The changes in the intersectoral balance of the program in 1981 appear generally to be in the right direction, although there is a relative neglect of the social sectors. The Government's criteria for project selection are appropriate; the issue is rather the extent of the effort that has been made to rationalize and trim the program, i.e. the degree of implementation of the criteria. The review mission's preliminary findings are that a number of projects with low priority or of uncertain merit have been retained in the program with sizeable allocations for 1981, and a more serious re-evaluation of these projects is needed as soon as possible. 68. The mission's review has also highlighted several additional aspects that have been particularly weak in Turkey's public investment decision-making. First, market analysis, if properly carried out, might well  - 22 - have ruled out certain large projects. Second, projects have not always been selected on the criterion that they should be internationally competitive within a reasonable time horizon. Third, within the list of proposed investments, those projects with the highest economic returns should be given preference, and only minimum investments should be made in permanent "economic losers", that is in plants whose current operating costs exceed the prospective world market price. 69. The Government will discuss the report of the public investment review mission with the Bank in June 1981, and intends to take account of the views expressed in the preparation of the 1982 public investment program. It will inform the Bank of the priorities for that program, especially of any changes from those of this year. Investment Incentives 70. The investment incentive system in Turkey has played a significant but not major role in the allocation of investment by the private sector which has been influenced more by macroeconomic factors such as the industrialization drive, the strategy of favoring import-substitution over exports, and the desire to modernize using the la*est technology. Moreover, a bias in economic policies has favored capital and import-intensive investment. 71. The incentive system has for long been designed to encourage investment in manufacturing, agriculture, mining, and less developed regions. The instruments used have remained unchanged for more than a decade, and consist of (a) exemption from customs and other duties on imported machinery; (b) as an alternative to (a), spreading the duties over five years; (c) an allowance of a percentage of equity funds invested against taxable income for corporate income tax purposes (30 percent in general, and 50 percent for less developed regions); (d) interest rebates; (e) accelerated depreciation; and (f) exemption from building construction tax. 72. Since January 1980, the important switch in both development strategy and several major policies has changed the incentives for different kinds of investments. The emphasis on exports rather than on import substitution has been reflected in successive refinements of the incentives tables which had begun already in 1979. The more flexible exchange rate policy, and the increase in interest rates after their deregulation, have reduced the incentive towards capital and import-intensity of investment, but there has been no specific change with these aims in mind in the investment incentives themselves. The following changes were made in the incentives in 1980: a rebate of 40 percent of the base interest rate for export loans, and a 25 percent rebate of the base interest rate for less developed regions; the exemption of medium and long-term loans for exports from all charges and fees; and finally, the lifting of the bias against smaller enterprises by providing the same incentives to them as to larger firms with less formal documentation. 73. For 1981, the investment incentives have been further improved and refined. The new corporate income tax law provides that the investment allowance will now be based on the total funds invested, not just the equity  - 23 - portion. Depending on the proportion of investment financed by equity, this doubles or more than doubles the value of this incentive, which applies to all fields of investment in the incentives tables. In addition the rate of this investment allowance has been increased from 50 to 60 percent for investments in less developed regions, and from 30 to 40 percent for tourism investments. The incentive tables themselves have been revised again to give greater stress to export-oriented projects. 74. The system of investment incentives is likely to assume more importance in future, given the need to increase present levels of private investment and the increasing market-orientation of the SEEs. The current incentives reflect some improvement in an effort to stimulate investment and to focus it more on exports and other foreign exchange earning activities. However, further progress is desirable. The ranking of priorities tends to vary at present depending on the policy instrument. The customs exemption/deferral and interest rebates tend to subsidize imports and capital, while income tax concessions might be more neutral in their impact on factor proportions. The fine-tuning of the system from year to year should be changed to a system of a few clear incentives or rates applicable to each activity in a general class. At an aggregate level, the incentives provide important cost reductions to investors (possibly as much as half of investment costs), yet little is known of the total fiscal cost of the system. A Government study in 1980 suggested that its effectiveness had previously been low: nearly half of projects with incentive certificates issued earlier had not been implemented, hardly any of the export guarantees given had been fulfilled, and applications for investments in less developed regions had not increased. A thorough review of the system is clearly needed, and will be undertaken by the proposed Bank mission on industrialization and trade strategy in May 1981 (para. 166). ENERGY Background 75. Resources. Turkey is relatively well endowed with conventional energy resources, except for oil most of which is imported. The most important domestic resources are hydropower (100,000 GWh per annum), lignite (7.3 billion tons of which 4.1 billion proven) and hard coal (1.4 billion tons of which 0.2 billion proven). Present proven resources of petroleum of 17 million tons are equivalent to little more than one year's consumption, although this could be tripled if the enhanced recovery technology being tested in the Bank-financed FY81 Bati Raman project is successful. Known natural gas resources are also limited to about 8 million SCF/day. There are large resources of bituminous shale but technical and economic factors have so far restricted their exploitation. For nuclear energy, there is a little uranium, and significant thorium deposits of possible long-term interest. Turkey has significant resources of renewable energy, specifically fuel wood and agricultural wastes which provided 18 percent of total energy consumption in 1980; and it has potential estimated at 4,500 MW for geothermal energy and 2,000 MW for small and mini-hydro schemes.  - 24 - 76. Consumption Patterns and Trends. The level of energy consumption in Turkey remains somewhat below the average for middle income countries. Total consumption per capita rose from 583 kg (oil equivalent) in 1973 to 795 kg in 1980, an increase of 30 percent over the period, similar to the 32 percent growth of real GDP per capita. The share of petroleum products in total energy consumption has declined only slightly since 1973 to 49 percent in 1980, while that of lignite has increased somewhat to 16 percent; other shares were hard coal at 8 percent, hydropower 8 percent, fuel wood 11 percent and crop and animal waste 7 percent in 1980. As for user sectors, industry accounted for 29 percent of total energy consumption in 1980, transport 20 percent and commerce, agriculture and domestic household consumption together 51 percent. 77. Balance of Payments Impact. With rising incomes, substantial industrial growth over the last decade, and falling domestic oil production, there was a sharp increase in the share of imported oil in total energy consumption, from 39 percent in 1973 to 44 percent in 1980. Given the increases in international oil prices which have also taken place, imports of petroleum and petroleum products have risen from US$0.2 billion in 1973 to an estimated.US$3.3 billion in 1980, when they accounted for 48 percent of merchandise imports and were equivalent to 113 percent of exports of goods, probably the highest figure in the world. The macroeconomic projections discussed in Part I suggest that, even if the volume of oil imports grows only as fast as GDP, the oil import bill could well rise to US$6.8 billion by 1985, and still be equivalent to 86 percent of exports of goods. 78. Issues in Energy Management. In the energy sector, there is a need to economize on the use of imported energy sources while simultaneously accelerating the development of the substantial endowment of domestic resources to sustain the renewal of economic growth. In doing so there are several constraints to be faced. Principal among these and affecting the supply side is organization and management in the sector. The structure of institutions, the capability of management and the cadre of qualified technicians are inadequate to sustain the major effort in investment and energy supply required. This affects policy planning, project execution and the quality of operation of the country's energy system. Major institutional reforms appear to be a prerequisite to improved performance. Since energy supply is overwhelmingly managed by the public sector, a general SEE reform (see paras. 130-157) will assist matters; but there are also problems specific to each subsector. In coal and lignite, presently managed by Turkish Coal Enterprises (TKI), implementation capacity is weak, there is a need for improved planning and specialization of activities between hard coal and lignite and cost-consious management is lacking. In petroleum, managed by the Turkish Petroleum Corporation (TPAO), the budgetary burden of financing the oil import bill has seriously interfered with other activities (especially exploration). In power, managed by the Turkish Electricity Authority (TEK), supply has fallen short of demand in every year since 1971, due to lagging project implementation and maintenance, and the unavailability of foreign exchange for spare parts.  - 25 - 79. On the demand side, the two principal issues are conservation and substitution away from petroleum products in favor of domestic resources, principally lignite. The scope for general conservation is still being explored, but is probably significant among the larger industrial users: some major energy-intensive industries use 40-60 percent more oil per ton of output than in Germany. Rational pricing is a major instrument in encouraging both conservation and substitution (see paras. 81 and 82) although substitution has also been pursued by a virtual embargo on petroleum usage in all new major investment projects. Energy Policy 80. The Government has responded to the urgent need since the beginning of the world energy crisis for both reforms and rapid development in the sector with a series of measures. First, since the first oil crisis of 1973/74 it has given considerable emphasis to development of Turkey's domestic energy resources. Second, following the further major escalation of world oil prices in 1979, it has undertaken major changes in pricing policy and in policy on foreign investment in oil as part of the January 1980 program, as described below. In September 1980, the energy sector has been given top priority in terms of both claims on investment resources and policy formulation. While actual reforms are still at an early stage, a significant start has been made. The principal measures are continued price adjustments, measures to further conservation, organizational changes, proposals for hard coal development, encouragement to oil exploration, and public investment. Pricing 81. The Government controls but does not subsidize most major energy prices. For about a decade up to late 1977 prices were adjusted neither frequently nor sufficiently; after the 1973 oil price increase, domestic prices of petroleum products were approximately doubled in early 1974. In the period after 1977, there were selective increases to respond to the major distortions that had emerged between domestic prices and real costs. In January 1980, SEEs were set free to determine most of their own prices. The exceptions in the energy sector are bulk electricity tariffs for the ferrochrome and aluminum industries, municipal electricity tariffs, coal and lignite prices, and well head prices to producers for the minor portion of oil consumed which is produced from wells on stream before 1978. Energy pricing policy is now designed to serve the objective of overall conservation and of switching away from imported petroleum-based fuels in favor of domestic lignite; energy resources are with minor exceptions priced at levels which broadly reflect their costs in international terms. 82. The record of price increases made in the execution of this policy, and pricing policy in each subsector, can be summarized as follows: (a) Petroleum Products: From 1977 to 1980 several successive price increases have been made (six in 1980 alone) on account of world price increases, domestic inflation and exchange rate changes. Prices were raised eight to ninefold, implying a tripling in  - 26 - real terms. These adjustments have brought petroleum product prices fairly close to West European levels. Policy is to pass increases in import prices immediately and in full to domestic consumers. (b) Coal and Lignite: In the period since 1977 the price of hard coal, which is used principally in the steel industry, was raised more than twenty-fold, or more rapidly than that of any other fuel. Lignite prices differ as between industrial, power generation and domestic uses. Policy has been to eliminate subsidies for industry and power generation, while reducing them over a longer period in the case of domestic use both for income distribution reasons and to prevent even worse overexploitation of fuel wood resources. In the period 1977-80, lignite prices for industrial use were increased 84 percent in real terms; for power about 60 percent; and for domestic use about 13 percent. Households now pay about 60 percent of the industrial price for lignite. (c) Electricity Tariffs: Taking an index with 1970 as 100, wholesale prices stood at 1,789 in 1980 compared to the TEK average tariff index of 1,794. These tariffs are subject to an automatic fuel cost adjustment, but this has not always been applied. Also, they contained an element of subsidy because coal and lignite fuel prices were heavily subsidized during this period. In addition, the tariffs charged by the municipalities for final consumption of electricity have failed to keep pace with inflation. The January 1980 policy change of freeing these tariffs from government control was never implemented, partly because of subsequent political changes. Whether the Government will continue to control electricity tariffs is under review. At the same time, as agreed under the Bank-financed FY80 Karakaya Hydropower Project, TEK's tariffs will be set to provide internally an increasing portion of the funds needed for TEK and DSI power investments; and a committee of experts is reviewing all aspects of power subsector financing with a view to recommending suitable fuel pricing policies and electricity tariff levels. Even under present practice the adjustments of bulk rate tariffs has almost kept pace with inflation. Conservation 83. In addition to regulating demand through energy pricing the Government is committed to the encouragement of conservation by other means to minimize low value uses of energy. The Ministry of Energy (MENR) commissioned a series of studies into energy uses and conservation potential in Turkey, the findings of which were published in January 1979, but except in the area of residential/commercial usage, the recommended measures fall short of those suggested as most effective by the 1980 World Energy Conference, particularly in industry and transport. A major obstacle to the formulation of a comprehensive, practical and specific program is the lack of detailed  - 27 - information, particularly on consumption patterns in industry, the major energy user. To begin to remedy this, the Government has agreed under the FY81 Bank-financed Petroleum Exploration Project to undertake energy audits of selected plants in major energy-using industries. In addition, a draft law has been submitted to the Council of Ministers to establish a unit in MENR, the Energy Survey Administration!', to coordinate conservation policy, implementation and enforcement, supervise energy audits, be responsible for developing alternative indigenous sources of energy such as bituminous shale, peat, biogas, geothermal and solar energy, and have charge of researching and alleviating energy-related pollution. The drafting of the law is intended to be completed by March or April 1981. Organization and Management 84. The Government recognizes that improved management in the sector is a prerequisite to fulfilling the country's future energy needs. Accordingly, proposals are being drawn up for major reforms of three principal energy agencies, TPAO (petroleum), TEK (power) and TKI (coal and lignite). Since they have yet to be finalized their likely impact cannot be judged at this stage. However, the intentions underlying them are clear and they generally follow the principles of specialization in management task and autonomy in budgeting. 85. TPAO would be set up as five operating companies for each field of operation (exploration and production; distribution and marketing; pipelines; refineries and petrochemicals) with independent budgets under TPAO as holding company. In this way, budget crises in one company (e.g. that dealing with refining imported crude, which would have to bear the brunt of rising oil prices) would not jeopardize the operations in other fields (e.g. exploration), so a balanced program of energy management would be preserved. 86. A draft law has been submitted to the Council of Ministers which will allow for the divestiture of TKI's unprofitable small lignite mines supplying most domestic users (often over great distances) to private operators, and may also provide for the setting up of a separate agency to mine and distribute hard coal on a profitable basis. This will narrow TKI's management responsibilities and reduce the need for subsidies to it. 87. Another draft law currently being revised will enable several autonomous companies to be formed, to operate under TEK as a holding, to take over the retail distribution of electricity in urban areas from the municipalities and operate at a profit. The objectives are to improve both efficiency (electricity losses in the major urban distribution systems are around 13 percent, compared with a desirable level of around 5 percent) and the use of revenues from urban electricity sales to maintain and extend the distribution system. 1/ The core of the new unit will be the existing Electricity Survey Administration (EIE) of MENR.  - 28 - Exploration and Development 88. Two further policy measures adopted recently are important for to the development of Turkey's indigenous resources. One is the major shift of policy in the January 1980 program encouraging of private companies -- both Turkish and foreign -- to explore for crude oil. During 1980, several decrees were issued containing guarantees to such companies, including in particular a 35 percent equity (free to export) share of any oil finds. Following recent interest by several oil companies, the final details of operating procedures -- principally the taxation regime -- are being reviewed and clarified. 89. The second measure deals with the accelerated development of hard coal production in the next few years to avoid the need for rapidly increasing imports for the steel industry. The Mineral Research and Exploration Institute (MTA) has recently revived an ambitious drilling program for both coal and lignite in the main coal producing region of Zonguldak over the period 1981-88. The MENR has given the program priority over other mineral exploration but financial commitments for it in 1981 are small. Public Investment 90. The emphasis the Government has placed on the development of domestic energy resources is clearly evident in the rising share of public investments in this sector, from about 19 percent in 1970-73 to a little over 24 percent in 1976-80. Following the reaffirmation of a strong development program, and the placing of energy as the sector of highest priority, this share has been increased further to 28 percent for 1981, or TL 190 billion. 1] 91. The priority given to energy investments is in line with the importance of the sector as a contributor to the structural adjustments required in the economy. The bulk of the investment is for hydropower and lignite in which the country has a comparative advantage. However, the preliminary conclusions of the public investment review mission are that there are a number of problems with the program. It may be difficult to execute financially since local even more than foreign exchange funds are scarce. It would require also a strengthening of management in the implementing agencies which, while being attended to (as described above), will take time to be effective. Another problem is that it has been based on energy demand forecasts derived from an economic growth forecast of around 8 percent per annum in the coming years. This is optimistic and the demand forecast should be scaled down. A consequent scaling down of the investment program by delaying new projects would permit the agencies to concentrate their financial and managerial resources and advance the completion of ongoing projects. Finally, the balance of the program needs to be improved by raising expenditures that will increase efficiency in energy consumption; for example, investments in power generation have grown at the expense of those in urban distribution where there is large energy waste. 1/ These figures include investments in power and 70 percent of those in mining, but exclude those in refining.  - 29 - Assessment of Energy Policy 92. Taken as a whole, the package of measures discussed above which constitutes the Government's energy policy is difficult to fault on grounds of principle. Given the mixed nature of the Turkish economy the Government has assembled an appropriate balance of market instruments (cost-related price adjustments of final energy consumption, and shifting the SEEs into cost-based operations), institutional reform (reorganizing the energy SEEs, establishing the conservation unit in MENR, decrees to encourage exploration, proposed divestiture of lignite mines), resource allocation (priority in the public investment program) and direct intervention (such as the embargo on use of petroleum-based fuels in new public investments) to constitute an effective means of both demand and supply management in the sector. Under the proposed loan, the Bank will monitor the adequacy of energy policies, in particular pricing of petroleum products at levels comparable to international market prices (Loan Agreement, Section 3.04 and Schedule 4, para. 3). 93. Such problems as arise with the policy are those of practicality and relative priorities. On the side of demand management, the major instrument is price policy. Even though the impact of cost-related price adjustments on both conservation and substitution is not yet fully known, the policy should be broadened to cover all energy resources. On conservation, the needs are for further information and for the proposed coordinating unit to develop a specific and coherent program. On the supply side, since it is not clear what the time response of companies nor the level of their interest might be in oil exploration and lignite mine operation, the Government should also press ahead with urgently needed exploration on its own account, particularly in hard coal. Higher priority should be given to the drilling programs in these fields. The undertaking of a systematic and updated demand forecast and energy balance analysis would be the single most important means of rationalizing investment in the sector. This is to be a central point of focus of the joint Government-Bank energy sector survey planned for this summer. Finally, the energy sector is seriously deficient in both technicians and technical management. This needs urgent attention and a systematic staffing policy (recruitment, training and placement) is needed as a parallel to the plans for reorganizing of the energy agencies. AGRICULTURE Background 94. Turkish development strategy since the early 1960s has leaned heavily on industrial development with agriculture given a secondary role of (a) expanding the food supply for a growing population, and (b) providing exports to help finance the country's industrial effort. Its low share of public, and also private, investment and imbalances within the sector have undoubtedly contributed to the modest 3 percent per annum growth of agricultural value added over the period 1962-80. The major sources of growth have been expansion of the irrigated area and increased use of modern inputs such as fertilizer. Helped by good weather and priority for fertilizer imports, the sector has shown considerable resilience in the face of Turkey's economic difficulties since 1977.  - 30 - 95. Agriculture continues to be Turkey's largest single source of commodity exports, although these have declined from 77 percent of total exports in 1962-64 to 62 percent in 1977-79. They reached a record US$1.7 billion in 1980 despite poor performance in wheat exports. Their composition has changed significantly over the last decade. Exportable surpluses of wheat and barley have materialized, as well as dramatic increases in the export of nuts, fruits and vegetables, and tobacco, livestock and fisheries products have tripled in value since the early 1970s; while in contrast exports of cotton, once the most important agricultural export commodity, have not increased significantly since 1973. 96. Prior to 1980, Turkish agriculture received extremely favored treatment through a combination of input subsidies and commodity price supports. In the name of income parity, price stabilization, and import substitution, Turkish farmers had become well insulated by the late 1970s from market pressures to achieve international quality and cost standards. 97. The modest growth rate of agriculture can be attributed to underemployment of the sector's natural, human and investment resources. The key to removing the constraints on their improved exploitation lies in Government policies with respect to public and private investment, recurrent budgets and price intervention, and in the structure and performance of Government institutions providing support services to agriculture, as discussed below. 98. Accelerated growth in crop production could have a rapid effect on the country's balance of trade. Prospects for increases in production and exportable surpluses are brightest in cereals, cotton, nuts, fruit and vegetables and, in the livestock subsector, meat, mohair and wool. There are also good prospects for a greater supply of oilseeds and sugar beet, which would reduce Turkey's dependence on imports of these commodities. The macroeconomic projections discussed in Part I assume that during 1980-85 the annual average growth rate of agricultural value added will be close to 4 percent in real terms, and that of agricultural exports 8 percent. World markets for the commodities in surplus to domestic requirements are expected to be sufficient to absorb this output. The Government's Program 99. The Government recognizes that agricultural performance could be substantially improved because of considerable unused potential for both production and exports, both in the near and in the long term. Through the January 1980 program and subsequent measures it has given greater emphasis to the sector. Because of the past subsidization policy's net drain on public resources and inflationary impact, and the need to increase agricultural exports, the 1980 measures in the agricultural sector focussed on major changes in four interrelated policy areas: input subsidization, price supports and their financing, and export encouragement.  - 31 - 100. The September 1980 program of the new government outlined significant organizational initiatives. In 1981, policies involve further actions in the areas of input subsidization, price supports and export promotion, and new initiatives in the areas of public investment and the reorganization of agricultural institutions. Input Prices 101. The very large input subsidies were reduced in 1980, with apparently little effect on production. As a result of a five-fold fertilizer price increase in 1980, fertilizer consumption fell by about 25 percent without interrupting the growth of agricultural production, as sufficient quantities were available when needed resulting in both a better distribution across farms and more efficient utilization. At present, plant protection materials are sold to farmers at cost; however, the retail price of most domestically produced fertilizers is still about 50 percent of the ex-factory price. The Government does not intend to reduce these subsidies further until the domestic fertilizer industry has increased its output and farmers have had an opportunity to adjust to the new prices and agricultural sales tax. However, the subsidies will be phased out within five years, concomitant with cost-reducing innovations in the Agricultural Supply Organization's (TZDK) fertilizer handling and distribution network, and reduction of arrears to the Agricultural Bank of Turkey for fertilizer procurement credits. 102. To limit inflationary financing for the inputs program during this transition period, flexible levies were introduced in 1980 on the export of supported commodities. These return part of the margin between f.o.b. export prices and farmer support prices via an export stabilization fund and budgetary transfers to SEEs involved in the production and distribution of fertilizers. After some initial difficulties in adjusting the levies to fluctuating export prices were ironed out, the system worked reasonably well in 1980 because f.o.b. prices for most major agricultural exports were above the support prices. 103. For irrigation schemes constructed by the State Hydraulic Works (DSI), Government policy is to recover all operations and maintenance (O&M) costs and investment costs, over 50 years at no interest, from beneficiaries. In practice, the amounts recovered have been far less. O&M charges were assessed in 1978 in line with actual expenditures, but there has been no increase since despite rapid general inflation; besides, the proportion actually collected has been falling, to only 35 percent in 1980. However, the level of actual O&M work has kept the systems functioning so the issue is a fiscal and distributional one. For 1981, the Government has decided in principle to levy the full cost of operating and maintaining DSI irrigation schemes, and a proposal to this effect has been submitted to the Council of Ministers. It also intends to make a special effort to increase the rate of timely collection of these charges.  - 32 - Support Prices 104. At present floor prices for 23 agricultural products are established from time to time by the Council of Ministers to accommodate changing economic circumstances and objectives (e.g., income support, price stabilization, production encouragement, regional agricultural development, etc.). They cover most major export commodities except fruits and vegetables and also important import substitutes. In setting them, the Council of Ministers relies mostly on often conflicting recommendations obtained from (a) the large number of independent agencies which administer floor prices, and (b) farmer organizations having a vested interest in high prices regardless of resource cost or need. The independent views of the Ministry of Agriculture and Forestry (MAF) and the State Planning Organization (SPO) are sought, though neither is staffed to do detailed analysis. As a result, it has been difficult for the Government to coordinate production planning and supporting services, particularly for those crops which fall under the purview of MAF, with the price incentives. It has made the planning of production for export equally difficult. 105. Following the political changes in September 1980, the Government has tried to depoliticize the program and reduce some of its inefficiencies. SPO's recommendations are now given more weight; the only price announced thus far under the new arrangement, that for sugar beet, was determined after a review by SPO of competing land uses, and was announced early with the intention of influencing farmers' planting decisions. 106. Responsibility for financing the program has largely been vested in the Agricultural Bank of Turkey (TCZB), which, from its own resources, has been required to rediscount Treasury-guaranteed bonds issued by agencies concerned. The retirement of these bonds has been slow in the past, with the threefold effect of abetting inflation through sometimes large increases in the money supply, constraining TCZB's liquidity, and periodically frustrating the administration of specific supports (e.g. wheat in 1980) due to subsequent underfinancing of the procurement agency involved. In 1980, the financing procedures were made more flexible to relieve TCZB and speed up disbursements. Procurement agencies can now borrow from any public sector bank after consultation with the Central Bank. The latter in turn now discounts the agencies' bonds and repays the public banks within days. This procedure also allowed the Central Bank to closely monitor the creation of credit for the program in 1980 for the first time, and to impose ceilings on allocations for specific supports to restrain its inflationary impact. 107. In 1981, there will be further important changes in the system of price supports. Since these are directed mainly at export promotion, they are discussed below in para. 111. Exports 108. The Government's overall export strategy may be viewed as consisting of a short-term and a medium-term component. The first is to induce an immediate improvement in the balance of trade through price, operating credit and various export incentives to generate production for export from existing  - 33 - capacity. The agricultural sector responded to these during the latter half of 1980. The second is a medium-term strategy to improve the economy's overall production capacity and generate a sustainable surplus for export. It is here, because of its climatic and comparative cost advantages, that agricultural development has been assigned a major role. However, reorientation of existing production patterns is required to change the commodity composition of production to favor exports. 109. In 1980, the administration of existing export incentives was strengthened and made more flexible. In particular, regulations governing eligibility for the general export incentives described above and in the President's Reports on the previous loans were relaxed to encourage use by agricultural exporters, who are expected to comprise the largest single group of beneficiaries. They include complete prefinancing of materials imported and local procurement requirements, investment incentives, the foreign exchange retentio-n scheme, and generous tax incentives that offer premia if exports increase in subsequent years. 110. New investment incentives for agricultural exporters were introduced in late 1980. For fruit and vegetables, which are considered to have high export potential, preferential interest rates on medium-term and working capital loans will encourage investment in and operation of cold stores and containerized cold fleets to overcome major bottlenecks in the marketing system. 111. The Government drive to improve agricultural trade balances in the medium term will rest on more selective price supports and on increased allocations of land for the production of export crops and important import substitutes. Beginning with 1981, the Government intends to utilize price supports as a major instrument of export promotion. Income support will be deemphasized as a program objective and competitive price signals will be transmitted to the agricultural sector to improve its efficiency. The number of eligible commodities will be sharply reduced from 23 to 12-15, mainly exported produce and important import substitutes such as sugar beet. Most prices will be announced sufficiently in advance of the planting season to encourage the planting of desired commodities. The procurement agencies will be provided with adequate funds to permit timely payment to farmers via the Central Bank rediscount mechanism described above, within the constraint of overall resource availability. 112. With respect to land use and measures to improve the production and quality of particular crops, the Monopolies Administration has recently instituted area allotments and delivery ceilings for tobacco growers and discontinued advance payments for procurement that previously resulted in cultivation for higher yields to the detriment of quality. This is expected to improve the quality of tobacco production and hence its competitive position in export markets. A fallow suppression program will be introduced in 1981, principally in wheat growing areas, through the introduction of lentils and other leguminous crops in rotation with wheat. This program is intended to augment the supply of food grains and animal feeds, while improving the fertility of the soil. A program to grow soybean, also in  - 34 - rotation with wheat, is planned for 1981, with the intent to phase out imports of vegetable oils and feed concentrates and reduce the allocation of land to sunflower production (which competes with wheat). 113. These programs will be buttressed by two less tangible but equally important changes. In January 1980, the Government deliberately withdrew from a stance of export regulation via licensing, minimum price requirements and use of multiple exchange rates, to a more neutral posture -- at least insofar as agriculture was concerned. Beginning in late 1980, this posture changed to one of advocacy and export promotion, through deliberate efforts to reach potential agricultural exporters and interested producers via seminars, individual and group meetings in the Prime Ministry, and utilization of the mass media. Considerable headway has been made with exporters of fruits and vegetables, who are expected to form regional marketing corporations for export in late 1981, and hazelnuts (the primary agricultural export) following removal of a ban on private exporting. In 1981, the Government also intends to open the export of wheat to the private sector following the failure of the Soil Products Office (TMO) to handle the task adequately in 1980. Another significant measure in 1981 will be the initiation of a pricing and land use study, agreed under the Bank-financed FY80 Grain Storage Project, which has met with intense political resistance until only very recently. This study will create a sound statistical basis for estimating the farm income and producer incentive effects of alternative support prices, and for modelling the impact of support prices on the allocation of land amongst competing uses. Public Investment 114. Agriculture's share of public fixed investment fell from 19 percent in 1963-65 to 8 percent in 1978-80. Historically, between 55 and 65 percent of public investment in agriculture has been for directly productive purposes, mainly irrigation; 25 percent for marketing, forestry and fisheries; and only about 10 percent for indirectly productive purposes such as agricultural research, extension and other supporting services. 115. The 1981 public investment program shows an increase in agriculture's share to 13 percent from 7 percent in 1980. The intrasectoral allocations retain the traditional strong bias towards physical infrastructure: two-thirds is for irrigation infrastructure and land improvements (including 18 percent for new project starts) and 12 percent for indirectly productive purposes. Nevertheless, the overall increase permits some increase in outlays for purposes other than physical infrastructure, if these activities can all in fact be implemented. 116. In the irrigation subsector, the pattern of investment allocations shows only a marginal departure from past budgets. While 24 of the State Hydraulic Works (DSI) projects in which virtually no investments had been made are excluded from this year's program, approximately equal amounts are allocated for projects that can be completed within 3-6 years and for others that would not be completed until the late 1980s and beyond. The other public institution active in irrigation works is the Land and Water Development Directorate of the Ministry of Village Affairs and Cooperatives (TOPRAKSU).  - 35 - About one-third of its greatly expanded 1981 investment allocation goes to completion of on-going projects, including 41,000 ha of on-farm development work in DSI schemes, and two-thirds for new projects. It is recognized, however, that TOPRAKSU has neither the construction capacity nor the financial resources to continue to provide on-farm development works free of charge and at the same time to complete the backlog of work in DSI projects estimated at more than 500,000 ha.. TOPRAKSU is therefore actively encouraging farmers to explore alternative construction arrangements, e.g. for local contractors to work under the general supervision of TOPRAKSU. The Government realizes that this can only succeed on a large scale if farmers are also made to pay for the cost of TOPRAKSU works. It intends as a matter of principle to introduce such charges and is in the process of preparing a legislative proposal. 117. Public investments in storage and marketing facilities have fallen behind output growth, and their 3 percent share of sectoral public investments for 1981 should be increased, considering the effect that efficient marketing can have on production. 118. About 9 percent of the sectoral investment budget is allocated for the administrative and technical entities of MAF, equivalent in real terms to the 1980 allocation. Until the reorganization of the Ministry's technical support services (para. 121) has taken hold, this level is probably justified, based on the low realization rates of 60 percent and 70 percent in 1978 and 1979 respectively. Thereafter their absorptive capacity will increase and allocations for indirectly productive investments should be raised. Reorganization of Agricultural Institutions 119. The common factor in the basic constraints facing agricultural development is the inability of public institutions to formulate and implement a coordinated set of policies and programs for the sector. SPO is not equipped to assess all sectoral programs and policies in detail at the planning stage, much less during implementation. Neither MAF nor any of the other ministries involved has the capability to undertake adequate sector analysis, planning and policy and program formulation. The separation of authority between SPO for the investment budget and the Ministry of Finance for the current budget has led to a situation where agencies are often not provided with adequate current budget resources to carry out their approved investment program. The responsibility for developing and executing policies and programs affecting the agricultural sector is diffused widely among and within 8 ministries and more than 40 general directorates including 10 State Economic Enterprises. Many of these agencies, in particular the SEEs, have a large degree of freedom in their operations to which frequent shifts in jurisdiction between ministries have contributed. Duplication of services to farmers and lack of coordination among agencies cause gross inefficiencies in carrying out production and marketing programs. This is compounded by excessive centralization of authority in Ankara which inter alia prevents effective regional coordination of field operations. 120. The unsatisfactory state of affairs has long been recognized by Government officials. MAF reorganization has been studied in 1964, 1976 and (for extension) since 1978. The only major organizational change made until  - 36 - late 1980 in the sector was the partial consolidation of agricultural research functions with the establishment in 1975 of the General Directorate of Agricultural Research in MAF. 121. In late 1980, the new Government reintegrated into the Ministry of Agriculture the forestry services, which had formed an independent ministry since 1969. Shortly after its accession to power it also requested plans from all ministries for streamlining their organization. To this the Ministry of Agriculture responded with a report, completed by end-January 1981, which formed the basis for the decisions announced in late March 1981. These decisions aim at improving the delivery of support services to agricultural producers, focusing on research and extension. At the center, these activities have been integrated by incorporating the General Directorate of Agricultural Research (with the exception of horticultural research) into the General Directorate of Agricultural Affairs, which inter alia is responsible for agricultural extension. A new General Directorate has been established for horticulture, combining investment projects, research, extension and marketing, and reflecting the importance given by the Government to the development of fruit and vegetables. Further changes at the central level are expected in the consolidation of the general directorates dealing with livestock. At the provincial level, a provincial director of agriculture will be responsible for coordination of agricultural, livestock and forestry services. The new organization is to be introduced on a pilot basis in 3-4 provinces. 122. In addition, the January 1981 report contains proposals for integration into MAF of, or increasing MAF's control over, various agencies and SEEs involved in the agricultural sector but now under the jurisdiction of other ministries. While decisions on the internal reorganization of MAF may be completed shortly, it is expected that those regarding interministerial shifts in responsibility will be postponed until the effect of MAF's internal reorganization can be observed. Implementation of the decisions reached will, of course, take considerable time, especially at the field level, to permit adjustments based on early experience with the new organization. Assessment of Agricultural Policy 123. The Government program in agriculture has followed the orientation set forth in the January 1980 program. While the growth in agricultural GDP has not risen above the long-term trend of 3 percent p.a., and is not expected to do so in 1981, export performance has been very good in 1980 with a record high of US$1.7 billion. 124. The 1981 public investment program budget shows an improvement over past years by an increase in the share of public investments allocated to agriculture. The intrasectoral allocations continue the traditional heavy emphasis on irrigation infrastructure although there is some evidence of depoliticization in removing a number of slow-gestating and low-yielding projects. The first steps have been taken to consolidate, reorganize and reform the institutions involved in the agricultural sector, through integration of research and extension at the center and a new pilot integrated  - 37 - organization for agricultural services in the provinces. Improvements have been achieved in price policies. Subsidies on fertilizers were drastically reduced in January 1980, and some were further reduced in September 1980 basically to establish parity among the various fertilizer prices. There has been a focus on the support price system with a view towards its rationalization. Greater attention is being paid to price parity among crops competing for the same land, the principle of announcing support prices before planting time is being introduced and, in general, SPO's views feature more prominently in the decision making process which has been substantially depoliticized since September 1980. The measures designed to improve the sector's export performance have been successful and will be further relied on to maximize exports from the existing production capacity. During 1980, the various general export incentives were opened up to agricultural exporters and specific measures were adopted to overcome bottlenecks in the export of fruit and vegetables and tobacco. The system of flexible export levies, introduced in 1980, caused some early difficulties by discouraging exports when levies were not adjusted quickly enough to changing export prices. Improvements have now been introduced into the mechanism which have led to quicker responses to such situations. In addition, the Government has initiated programs to reorient the structure of agricultural production to capitalize on export opportunities in the medium term. 125. The main policy areas requiring priority attention now are public investment, credit for private investment, extension, research, and sector planning and coordination. The 1981 public investment allocations appear to run contrary to the Government's stated de-emphasis of longer gestation projects. A more balanced program should retain a large share of outlays for directly productive purposes, but be highly selective as to large irrigation projects. However, since technical and institutional innovations will be required increasingly to permit future expansion, these investments should be balanced by a considerable increase in outlays for indirectly productive purposes including comprehensive agricultural extension services, agricultural research, storage and marketing, although this shift has to be postponed until the efficiency and absorptive capacity of the farmer support services of MAF and the SEEs in agriculture has improved. 126. Private investment in agriculture has fallen off in recent years; its coordination with public investment remains piecemeal and ineffective. Policy instruments already exist which could foster its rapid expansion: potentially the most powerful one is the medium and long-term credit of TCZB, which with its branch network is the only institution capable of reaching farmers in large numbers. TCZB's investment lending has been severely restrained by the term structure of its deposits, its statutory responsibility (limited in 1981) to finance price support agencies, and the Government's requirement that it finance a portion of the fertilizer subsidies. As a result, investment loans accounted for only 21 percent of its programmed disbursements to the sector in 1980, and production credits only another 23 percent. To increase private agricultural investment, it will be necessary both to augment TCZB's "discretionary" resources and to markedly improve the coordination of its lending with public investment and the delivery of supporting services.  - 38 - 127. Consolidation, improvement in the capacity and performance, and reorientation of agricultural extension services, initially those now under MAF, is an urgent prerequisite to accelerate agricultural development, with a pooling of resources, devolution of authority over investment and recurrent budgets and work programs to the provincial director of extension, separation of administrative and regulatory functions from direct farmer extension and training, adequate staff incentives, training programs, and techniques of systematic management. The recent decision to introduce, on a pilot basis, in a few provinces a reorganization of the technical services of MAF by coordinating agricultural, livestock and forestry services under a provincial director of agriculture should be seen as a step in this direction. 128. Phased consolidation and restructuring of agricultural research activities would make an indispensable contribution in the medium term. There is a clear need to establish research priorities in accordance with sectoral development objectives and to respond to farmers' requirements; forge a functional link with the extension service, and achieve greater efficiency in the use of manpower, facilities and funds while improving staff incentives. 129. To overcome the fundamental shortcomings of the present institutional arrangements, a single appropriMtely staffed entity should be given the principal responsibility for agricultural sector analysis, planning and overall policy formulation -- the General Directorate for Planning, Research and Coordination in MAF could possibly take on this role in future under the general guidance and supervision of the SPO; each ministry or agency should monitor closely the implementation of its policies and program and keep MAF informed; and of budget proposals coordination among SPO, Ministry of Finance and technical agencies should be improved. C. STATE ECONOMIC ENTERPRISES Background 130. The State Economic Enterprises were established starting 50 years ago to spur development in the absence of, and as a powerful means of creating, an indigenous class of Turkish entrepreneurs, as well as of achieving a desired structure of the economy. They play a particularly important role in the economy, especially in manufacturing as well as in traditional infrastructure sectors. Their investment has constituted about 25 percent of total fixed investment in the last few years. Their operational losses have increased, from TL 4 billion in 1975 to TL 61 billion in 1980 (1.5 percent of GDP), and constitute the major factor behind the deterioration in the fiscal accounts. 131. The poor performance of SEEs can be attributed to three sets of causes: (a) the conflicting objectives and constraints imposed by Turkey's development strategy, (b) the macro-institutional inefficiencies of the system, and (c) the micro-economic inefficiency of individual SEEs. 132. They have been expected to contribute to the growth of output; to supply goods at stable prices; to provide employment opportunities; and to be efficient and enhance productivity. It is clear that there are certain inherent conflicts among these objectives, particularly as public enterprises  - 39 - are more susceptible to political pressures and constraints than the private sector. Besides, they have been frequently involved in capital intensive, large investments with long gestation periods and a long process of learning by doing before production near full capacity can be attained, resulting in large financial losses for long periods of time. The high levels of protection that are granted and near monopoly in the domestic market provide little incentive for improving efficiency. 133. The macro-institutional deficiencies relate to both the organization of the SEEs and the relations between SEEs and other parts of the Government. The SEEs are subject to a wide variety of interference and control from different sources, not only on policy questions but also on day-to-day operations. The SPO, the Council of Ministers, the Ministry of Finance, the local governments, the various Ministries dealing with economic issues, the political parties and the Parliament have all affected SEE decisions. In particular, "overstaffing" problems in the SEEs are traditionally traced to political pressures. Many important decisions have usually been made outside the enterprise. The frequent changes of government in the 1970s have often been accompanied by changes in management. The lack of continuity in top management, and of experienced middle level administrative and technical personnel also because of inadequate salaries, has had a deleterious effect on performance. 134. SEEs are also often hampered by inefficient management, poor industrial relations, and technical problems in design and operation, resulting in low productivity of labor and capital and wasteful use of raw materials and intermediate goods. The Government Program 135. General reforms have been discussed and bills considered in Parliament over more than a decade, but little action has occurred other than occasional and belated price increases. Reforms have been agreed in the context of Bank-financed projects of SEEs, but implementation has been uneven. 136. Government policy since January 1980 has attached particular emphasis to the reform of SEEs, and actions already taken show the seriousness of this commitment. The major step in 1980 was the granting of pricing autonomy to most SEEs (para. 140). In addition the SEEs have been subjected increasingly to market forces and their position has been brought closer to that of private sector firms. Pricing freedom has brought them face-to-face with the possibility of limited consumer demand, and in some cases competition from the domestic private sector, at the prices they wish to charge. The realistic exchange rate has made them aware of the real cost of importing. The progressive reform of the protection system is beginning to expose them to increasing competition from abroad. 137. The Government has now committed itself to a comprehensive reform of the SEEs, with a view to achieving several important objectives, and according to a number of generally agreed principles as follows;  - 40 - (a) SEE objectives should be mainly financial and economic, including in particular specific efforts to increase productivity at the plant level; (b) Depoliticization of Government-SEE relations, management selection and behavior; (c) Sector organization changes, if required for greater efficiency; (d) Reduction or elimination of the drain on public funds; (e) Increasing subjection to market forces; (f) Improvement of management; - selection on merit, - continuity in office subject only to satisfactory performance, - pay which is competitive and performance-related; (g) Reduction of overstaffing; (h) Delegation of authority from Ministers and Boards to managers and operating units; (i) Improvement of the quality of investments; and (j) Labor force; - sufficiently competitive pay for technical staff, - elimination of negative inter-union competition. 138. In furtherance of these objectives, important actions were taken in late 1980 on SEE financing and employment (paras. 145 and 150). The report of an official committee was submitted in December to the Council of Ministers, which after an initial review has appointed a sub-committee of Ministers to prepare final recommendations. The Government's future reform work will move on two parallel tracks. First, the Council of Ministers decided in principle in February 1981 on a series of urgent and achievable reforms of the objectives, management and other aspects of SEE performance which are intended to be implemented by the end of September 1981 (paras. 150-154). Second, recommendations are being prepared for longer-term changes in the structure of the SEE system, where the Government intends to implement significant reforms by the end of 1981 (para. 155). 139. In addition, the SEEs have been encouraged to propose solutions to their individual problems which can be arrived at within the existing system and organization. These will include specific suggestions for balancing and modernization investments at the plant level, and recourse to technical advisory services as necessary, with a view to achieving both the general objectives referred to in paragraph 137 above and specified financial and productivity targets for individual units.  - 41 - Pricing and Financial Performance 140. In January 1980, the Government made a major change in economic policy by freeing SEEs to set their own prices according to market conditions, with the financial objective of covering their operating costs. Price controls leading to a few SEEs continuing to incur so-called "duty losses" were retained for social reasons on coal and lignite prices, electricity for energy-intensive industries, fertilizers, and railroad and maritime cargo tariffs. Municipal electricity tariffs and the wellhead price of "old" oil (to producers but not consumers) have also been controlled. 141. Financial discipline in the SEEs has improved in some respects in 1980, and the policies followed have achieved some success in limiting the drain on SEEs on public funds, as shown by the Table below. FINANCIAL PERFORMANCE OF OPERATIONAL SEEs (SUMMARY) 1975 1979 1980 1981 Estimate Program A. PROVIT AND LOSb ACCOUNT (TI. bni.) 1. Expenditure 109 545 1366 2135 Wages and Salaries 28 143 240 300 Purchases or Goods and Services 75 380 1102 1798 2. sales revenue 93 431 1207 1981 3. Duty losses /a -1 -75 -93 -95 4. Gross Protit (+)/Loss (-) Including duty losses -4 -71 -61 -38 Excluding duty losses -3 .4 +32 +57 B. INVESThENT AND FINANCING (TL Bni.) 1. Fixed investment 26 128 224 316 2. Own resource generation (profits excluding duty losses + depreciationi - taxes) 0 16 43 72 3. External financing: 27 215 357 455 buogeLary transiera 11 83 148 249 state Investment Banik 15 17 25 Foreign Borrowing 62 35 38 Central Bank 6 54 52 40 Change in net a/c payable G- Cange in neL a/c receivable 3 1 105 103 C. PExFOtIMANCE INDICATORS Unit 1. lEproving Duty losses/sales revenue percent 17 8 5 Profit (excluding duty losses)/sales revenue percent 1 3 3 Own contribution/ f ixed investment percent 12 19 23 Cerntral bank financing TL bn 54 52 40 Aggregate debt/equity ratio 82/18 67/33 54/46 Employm_nt '000 550 c. 550 c. 520 2. -eterioratit g Budgetary transfers (for duty losses and Investments) TL bn 83 148 249 Change in net a/c payable - Change in net a/c receivable IL bn 1 105 103 btock oi arrears TL bn 205 Increasing bource: bPO ana Mlinistry ot Finance. /a bee definition in para. 140.  - 42 - 142. As a result of a large number of major price increases, sales revenues of the SEEs rose from TL 431 billion in 1979 to TL 1,207 billion in 1980, an increase of 180 percent or a virtual doubling in real terms. Even so they again recorded a small operating loss. Owing to higher than anticipated inflation, "duty losses" caused by the remaining price controls exceeded expectations (TL 93 versus TL 51 billion), although they declined substantially as a percentage of total sales revenue; the degree of subsidization of items with controlled prices also decreased. Operating profits of the other SEEs were considerably smaller than forecast (TL 32 versus TL 90 billion) partly because some planned price increases were not fully implemented. More generally, the management of some SEEs, accustomed over many years to working to instructions from government, were understandably slow to adjust to the new environment and exercise managerial autonomy. In these circumstances, and with borrowing from the Central Bank limited within the context of the IMF Standby, the financing of the SEEs' investment program proved extremely difficult. Even with an increase in transfers from the Treasury, a very large increase occurred in arrears to contractors. 143. The Government has reaffirmed the policy of SEE pricing autonomy for 1981, with the refinement that it now urges SEEs to make individually smaller and more timely price adjustments than in 1980. However, the National Security Council currently has under review a set of price increases intended for early 1981. The Government also intends to encourage manufacturing SEEs to adopt pricing formulae which more closely reflect unit costs with efficient operation at higher levels of capacity utilization, and which also take account of both the domestic market situation and the need to increase international competitiveness. It recognizes that in order to strengthen their overall financial position, SEEs will need to go beyond covering operating costs to achieve a progressively increasing rate of return on assets. 144. Many of the problems of individual SEEs require not just more efficient use of capacity, but also new investment as part of their solution. The quality of the SEEs' investment programs has been improved somewhat through the rationalization of the public investment program effected in 1981 (paras. 66 and 67). To help SEEs prepare future projects, the Government has allocated $10 million equivalent in the 1981 budget for them to hire consultants. In addition, SEEs will be instructed, as part of the February 1981 decisions, to review their financial position and other resources and inform the Government how many investment projects they can implement properly at the same time. If their current program exceeds this number, the State Planning Organization and the Government will decide in light of the SEE's recommendation which ones are to proceed. 145. The Government has already made major changes in the methods of financing the SEEs and increased the cost and reduced the availability of the soft funds to which SEEs enjoyed easy access in the past. The 1981 Program decree for SEEs issued in November 1980 cuts off all SEEs from their previous direct access to the Central Bank, except for two export-oriented agricultural purchasing ones; the interest rate the latter pay was raised in July 1980 from 1 percent to a still very low 10 percent per annum. Other SEEs must seek short-term funding from commercial banks on the same terms as private firms,  - 43 - which has increased their cost of working capital from 10 percent to 36 percent. Foreign exchange loans contracted by the Government will be made available to operational SEEs only through the State Investment Bank (DYB). This fiscal year, loans for investment will be made to SEEs from the budget only through DYB, if the SEE is profitable; DYB increased its interest rate from 14 percent to 21.5 percent in 1980, and in 1981 is expected to adopt market-related interest rates as already done by private commercial and development banks. Loss-making SEEs will continue to receive loans directly from the budget, which will avoid compromising DYB's financial standing, but from 1981 this will occur only after scrutiny of the project by DYB, and DYB will supervise implementation. This will help improve SEEs' financial discipline on investment account, although DYB's capacities may well be strained by these new responsibilities: to the TL 25 billion it plans to lend from its own sources will be added TL 40 billion in budget funds to channel. 146. To permit SEEs to borrow commercially on an increasing scale in future, the Government is studying how to strengthen their capital structure. Paid-up capital of the operational SEEs increased from TL 92 billion in 1979 to TL 300 billion in 1980, and is programmed to reach TL 460-470 billion in 1981. The aggregate debt/equity ratio of these SEEs has improved from 82/18 in 1979 to 67/33 in 1980, and is programmed to improve further to 54/46 in 1981 by the infusion of around T1 115 billion (over US$l billion) through either new equity or conversion of debt to the Treasury. 147. Despite these important policy changes, little fundamental improvement can be expected in the SEEs' accounts in 1981. Official estimates look for an increase of 64 percent in sales revenues, mainly from new price increases, and a reduction in the operating deficit from TL 61 to TL 38 billion, mirroring the expected once-for-all relief to the wage bill from the tax reform. Duty losses are forecast to remain substantially unchanged at TL 95 billion (implying a further reduction in the rate of subsidy), while the operating profit of the other SEEs is projected to approximately double. Following a paring of plans, SEE investment is expected to fall by 4 percent in volume terms in 1981. Even so, the financing picture remains discouraging. While borrowing from the Central Bank has been strictly limited to two agricultural SEEs and will thus fall in amount, budgetary transfers are again expected to grow apace, although the growth is intended mainly to compensate SEEs for prior duty losses. A further large buildup in the net accounts payable-accounts receivable balance is seen as inevitable. 148. The financial rehabilitation of the SEEs will require more fundamental changes than pricing autonomy alone, although it remains imperative that prices be adjusted promptly and fully. However, raising prices may merely serve to cover operating inefficiencies. As an aid to management, the Government intends to require SEEs to introduce modern accounting and management information and control systems. 149. The IMF remains worried by the financial position of the SEEs, and in its discussions is strongly emphasizing the necessity of (a) adequate and timely price adjustments (some planned price increases have not been fully implemented); (b) more concerted efforts to control expenditures; and (c) stricter and ongoing monitoring of developments in SEEs' accounts against stipulated policy intentions.  - 44 - The 1981 Reforms 150. The problem of overstaffing in the SEEs is at the root of many other problems. It can only be solved over several years, through attrition and through the creation of new productive job opportunities in the economy. The Government has taken the strongest steps possible within this constraint to deal with the problem in 1981. The 1981 Program decree for the SEEs froze the number and structure of positions for existing operations in each SEE at their level as of November 30, 1980. New factories opened by a SEE must first draw on existing staff of that SEE, and in any case new hiring may not exceed 50 percent of the normal complement for the plant. SEEs may not apply to the Ministry of Finance for new positions as in previous years, while vacant posts can only be filled with the permission of the Ministry. Indeed, in 10 SEEs accounting for 44 percent of total SEE employment in 1980, 50 percent of the positions becoming vacant through resignations, retirements or deaths are automatically being cancelled. These steps are expected to cut total employment in operational SEEs by 5-6 percent in 1981. Finally, early retirement has also been encouraged by a decree setting attractive rates of severance pay. Since some 40 percent of the present labor force of SEEs is eligible for retirement in the next five years, consistent implementation of the policy begun this year could lead to a significant reduction in overstaffing in the medium term. 151. The Government will draw up a list of simple, realistic and monitorable objectives for SEEs and instruct the SEEs to work towards them. The High Control Board will be instructed to institute an interim system of monitoring of the economic, financial and efficiency performance of all SEEs starting in 1981. This will be based initially on unit costs and capacity utilization and later will include additional criteria decided by the Government in light of the High Control Board's recommendations. SEEs will be instructed to survey their current unit costs to provide a base line. 152. The Government will enhance the autonomy of SEEs as much as possible, without changing existing laws now, by explicitly transferring authority to them. The Boards of SEEs will be instructed to focus on policy-naking, and to delegate authority and responsibility for day-to-day running of the SEEs to their managers and operating units to the extent permitted by existing law; proposals will be approved for legal changes as required to fully achieve this objective. Managers will be informed in writing that they, not the Government, are responsible for the SEEs. 153. SEE managers' pay is uncompetitive. General managers can presently earn up to TL 55,000 per month (equivalent to about US$7,000 per annum) before tax. This compares with a normal ceiling of TL 70,000 before tax for contract employees in the public service. On a net-of-tax basis, SEE managers' pay may be no more than one-fifth that of their private sector counterparts. The tax reform package has somewhat alleviated the situation, since it provides a larger percentage increase in net-of-tax pay for the public sector than for the private sector, which enjoys untaxed fringe benefits. Nevertheless, the State Personnel Department is currently studying managers' compensation, and the Government envisages initially a substantial increase in salary supplements for a limited number of key posts, mostly in SEEs.  - 45 - 154. A major development is that SEE managers' pay will no longer be subject to the provisions of the State Personnel Law; instead they will be offered contracts, initially for one year given present legal limitations, but with informal assurances of renewal given satisfactory performance; proposals will be approved for legal changes to permit multi-year contracts. The change to contractual status will lead to a large increase in managers' net-of-tax pay which, taken together with the impact of the tax reforms, will bring it to significantly more competitive levels. As for technical staff, SEEs are also being requested to inform the Government of their needs for additional contractual personnel. 155. Reform of the whole structure of the SEE system will require a new operating environment, encompassing the reorganization of the relations of the SEEs with the government as a whole, the Ministers administratively responsible, the State Planning Organization and DYB; their ultimate degree of autonomy especially with respect to investment, credit, wages and employment policies; and permanent new systems of audit and inspection to ensure their accountability to the nation. Since the vital problem of the selection/dismissal process for SEE managers is intimately bound up with these general questions, it will only be settled in the same timeframe. Evaluation 156. It will take a number of years of unrelenting effort to solve the problems of the SEEs, which are deep-rooted in nature. While the Government expects most of the new system to be in place by the end of 1981, it is aware that the full benefits of such fundamental reforms in terms of increased SEE efficiency will only be reaped progressively over several years. Nevertheless, its new determination and decisions promise action by September 1981 in a number of important areas; objectives, performance monitoring, autonomy, delegation of responsibility within SEEs, pay and conditions of service of SEE managers, and investment programs. Significant reforms in the organization of the SEE sector, the relationship of SEEs to Government, and the related process of management selection/dismissal should take place by the end of 1981. These are all important steps in the right direction. Their determined implementation will be vital if the SEE sector is ever to be modernized and play its important potential role in the mixed economy. 157. Under the proposed loan, the Bank will monitor the adequacy of progress in SEE reforms, in particular; (a) by September 30, 1981, (i) implementation of the reforms decided in principle in February 1981 by the Council of Ministers, and (ii) approval by the Council of Ministers of proposals for legal changes permitting greater delegation of authority within SEEs and multi-year contracts for their managers; and (b) adhering to the 1981 Program decree for the SEEs as regards numbers of authorized positions and new hiring. Progress will be reviewed inter alia by examining the implementation in selected SEEs of the measures under (a) (i) and (b) above (Loan Agreement, Section 3.04 and Schedule 4, para. 2). EVALUATION OF THE GOVERNMENT'S PROGRAM 158. The economic philosophy underlying the January 1980 program marks a decisive break with the previous long period of Turkish economic development.  - 46 - It involves an acceptance of the need to change the ranking of objectives in the short run, to emphasize stabilization of the economy initially so that growth can be resumed on a viable basis. It accepts the need to change Turkey's development strategy to an outward-orientation emphasizing the development of exports and other foreign exchange earning activities instead of the heavy import substitution bias of the past. It introduces the principle of using the market mechanism and incentives wherever possible to guide economic activity, rather than the quantitative controls and physical planning of much of the last two decades. These changes are generally appropriate to the present stage of Turkey's development and its current difficult economic situation. 159. Since January 1980 the Government has put in place the major part of the macroeconomic policy framework required. The abolition of price controls on the private sector and all but a few SEE products and services has permitted the elimination of many previous distortions and parallel markets. The more flexible exchange rate policy has both improved competitiveness and made importers more aware of the real cost of importing. The deregulation of interest rates and their subsequent rise is improving the accumulation of private savings in financial form, reducing the subsidization of capital and imposing greater selectivity in investments. The partial reform of the protection and incentive system has removed some of the previous bias by improving the position of exporters and is beginning to expose domestic producers to limited competition from abroad. Stabilization is being pursued through a tight monetary policy, an attempt to restrain Government expenditures, SEE price adjustments and an important tax reform. 160. Action on the supply side of the economy has also started but has progressed less far. There has been some rationalization of the public investment program, under the pressure of short-term resource constraints and according to appropriate criteria. Investment and tax incentives have been improved for exporting and other foreign exchange earning activities and for less developed regions. In the energy sector, prices for most products -- and especially for petroleum products -- have been brought into line with world prices or other indices of real costs to the economy. Investment in energy has been accorded the highest priority among sectors in the public investment program. Initial steps to conserve energy have been or are being introduced. Institutional reforms in all the major sector institutions are being prepared. In the agricultural sector, policies to promote exports, which have a large potential in both the short and medium runs, have been successful. Improvements have been achieved in price policies, reducing input subsidization and rationalizing price supports. Agriculture is being accorded much higher priority in public investments than previously. Decisions are pending on the reorganization of the services of the Ministry of Agriculture and Forestry to increase their effectiveness. 161. Action to reform the SEEs is also underway. Pricing autonomy has provided a powerful instrument to transform the SEEs' financial situation. Their forcible cutting-off from access to Central Bank credit and increasing subjection to market forces will require them to be more efficient. The recent freezing of their authorized staffing and new hiring will begin to  - 47 - reduce their large overstaffing problem. The new decisions in principle to focus SEEs on financial and economic objectives, monitor their performance, increase their autonomy from Government and internal decision-making freedom, and improve their managers' pay and conditions of service are all important moves in the right direction. FUTURE POLICY DIRECTIONS 162. Success in achieving macroeconomic objectives will require further major efforts to improve the public finances, particularly the financial position of SEEs, and increase public savings which have dropped to very low levels. As part of this effort, the tax reform needs to be implemented through improved administrative machinery and completed by the introduction of a value added tax and by the indexation of tax brackets and specific taxes. Private savings need to be fostered through the development of the capital markets that is now getting underway. This will also improve the sources of long-term domestic currency financing for industry. The protection and incentives system also exerts a powerful influence on resource allocation, and should be reformed in light of the study now starting, to reduce the remaining bias against exports, reduce the variability of effective protection and effective subsidy across activities, move from reliance on quantitative restriction to the use of tariffs, and reduce effective protection progressively where excessive. Finally the objective of improving the rate of employment generation needs to be given more weight and public policies and programs adopted or adjusted accordingly. Externally, the achievement of the projected rapid increases in exports under prevailing international conditions will require constant vigilance in maintaining competitiveness and a concerted effort by Government and private sector alike. Turkey also needs to devote more attention to restoring its ability to borrow increasing amounts from commercial sources on favorable terms over the next few years. 163. On the supply side, major efforts appear to be necessary to reduce further the present portfolio of public investment projects, to bring the future financial requirements of the program into line with available foreign exchange and local currency resources, and to remove remaining low-priority projects which are not viable. To help stimulate investment and better direct it, the investment incentives need reviewing and revising. In the energy sector, Turkey needs to integrate existing and new initiatives into a comprehensive energy policy. An updated demand forecast and energy balance are needed for planning. Cost-related price adjustments should be extended to all energy resources. A wider ranging conservation program backed by incentives and resources needs to be drawn up. The reforms of sector institutions need to be pushed through and their technical staffing and project implementation capabilities radically improved. Exploration for additional domestic energy resources needs to be accorded higher priority in resource allocation. Finally, investment and managerial resources need to be concentrated on fewer projects. In the agricultural sector, public investment needs to be concentrated on short gestation projects and balanced by increasing outlays for supporting services. To revive private investment, TCZB's resources should be augmented and its lending coordinated with public investment and the delivery of services. Extension and research activities  - 48 - need to be consolidated and coordinated and made more effective and responsive to needs. Agricultural planning and policy formulation should be centralized and sector coordination improved. Finally, a major effort needs to be made to tackle the problems of the industrial sector on a comprehensive basis. While many other policies (notably macroeconomic policies and reform of the SEEs) bear on industry, what is needed is first to deal with the short-term financing crisis and inability or reluctance of many private firms to invest, and then to restructure existing industries and promote new ones to achieve an industrial structure more in line with Turkey's long-run comparative advantage and able to produce the projected rapid increases in manufactured exports. This will require focused industrial planning, the reform of certain incentives, policies, institutions and Government services, and financial and technical assistance. 164. Determined implementation of the SEE reforms already introduced or decided in principle will be crucial to their success. Management selection procedures need to be evolved to assure competence and continuity. Pricing autonomy needs to be constantly safequarded and needed price adjustments promptly introduced. To bring about further improvements in the financial position of SEEs, limits should be placed on budgetary transfers to them, and arrangements should be made to solve the problem of their accumulated arrears to the private sector. Decisions are required on how public sector borrowing from the domestic capital market will be organized and SEE investments financed with an increasing role for DYB and diminishing dependence on the budget. These investments should be scrutinized by SEEs with the same care as is taken by private firms. Finally, legal changes will be required to adjust the relationship between Government and the SEEs to make the latter more autonomous while retaining accountability to the nation. PART III - BANK GROUP OPERATIONS IN TURKEY 165. Bank Group activities are aimed at supporting the economic policies initiated in January 1980, especially: (a) de-regulation of the economy to promote efficiency in production and resource allocation; (b) the pursuit of an export oriented development strategy with emphasis on employment creation; (c) domestic economic policies aimed at establishing macroeconomic balance, increasing domestic savings, restraining public investment and reorienting it to reflect the new Government priorities (completion of priority ongoing projects, emphasis on quick-yielding new investments, and balance of payments impact); (d) policies to increase the contribution of agriculture, industry and energy to economic restructuring and the resumption of viable growth; and (e) institutional reform of key sectors and especially in the SEEs. 166. The close macroeconomic and sector dialogue established with the Government in recent years is expected to be pursued on key issues. The economic and sector work underway or planned over the next several months includes special studies of the public investment program, of industrialization and foreign trade strategy, and of the energy sector, and completion of a sector memorandum on industry. In addition, the progress of the Government's economic program will be monitored in the context of each future structural adjustment loan.  - 49 - 167. A large lending program for Turkey was begun following the introduction of its 1970 stabilization program. Despite the slowdown caused by the 1977-78 crisis, the Bank/IDA have lent $2,815 million through 65 projects to date. Agriculture accounts for 22 percent of funds lent, industry and DFCs for 36 percent, energy for 19 percent, program and structural adjustment loans for 15 percent, and urban development, transportation, education and tourism for the rest (8 percent). IFC has invested in synthetic yarns, pulp and paper, glass, aluminum, iron and steel products, motor bicycle engines, piston rings and cylinder liners, and tourism. It has also invested in the Turkish Industrial Development Bank (Turkiye Sinai Kalkinma Bankasi -- TSKB). As of March 31, 1981, gross IFC commitments totalled about $212 million, of which $88 million were still held by IFC. New investment opportunities are being pursued. Annex II contains a summary statement of Bank loans, IDA credits and IFC investments as of March 31, 1981, with notes on the execution of ongoing projects. 168. The implementation of private sector projects has been satisfactory. Political instability, limited coordination amongst ministries, staffing problems and the external and domestic financial crisis since 1977 have seriously affected project implementation in the public sector. A system of joint project reviews between Turkey and the Bank was instituted in June 1975. This has resulted in distinct, but modest, improvements. As of June 1980, disbursements increased to 70 percent of appraisal estimates against 51 percent in June 1975. The broad reform of the public sector launched in January 1980, and pursued with new measures since, allows cautious optimism that performance can be gradually improved further, provided it is not eroded by new factors, including shortages of resources. 169. A series of structural adjustment loans is envisaged, at the Government's request, to support its program of economic reform. Agriculture, industry and energy will be the key sectors for project lending. In agriculture, projects emphasize exports, livestock, and rural development; in industry (including DFCs), the emphasis is on promotion of exports and employment, and the gradual strengthening of the SEEs. Energy projects underway are in power generation, based on domestic hydropower and lignite resources, and the oil/gas sub-sector; future projects will emphasize the latter as well as coal/lignite development. Projects for urban development and public utilities may supplement these efforts. The Bank has discussed with the Government how its project lending can best contribute to medium-term objectives, and help remove past policy and institutional constraints. 170. A supplement to the first Structural Adjustment Loan, the Bati Raman Enhanced Oil Recovery Field Demonstration and Petroleum Exploration Projects, a Labor Intensive Industry Project, and a second Fruit and Vegetables Project have been approved by the Executive Directors so far this fiscal year. The other loans being presented this year are for fertilizer industry rationalization and energy saving and state industrial enterprise finance. Projects being processed for later consideration include: promotion of export oriented industries, sewerage development in Istanbul, rural development, seed production, and paper and cement modernization.  - 50 - 171. Given the projected inflows of concessional funds to Turkey included in the macroeconomic projections, and the presently planned Bank lending program, Bank disbursements would account for 21 percent of the total of Bank and concessional flows combined by 1985. The Bank Group's share of Turkey's estimated total external debt disbursed and outstanding (including short-term obligations) was 9 percent in 1980, and is expected to grow to 10 percent in 1981 and 11 percent by 1985. Its share of service payments is projected to remain at its 1980 level of 10 percent through 1985. PART IV - THE PROPOSED LOAN Introduction 172. As discussed in Parts I and II, the Government embarked on a bold policy in January 1980 to bring about a fundamental reorientation of the Turkish economy over the medium term. Recognizing the gravity of Turkey's economic problems and the policies pursued over recent years which gave rise the them, it must be expected that it will take some time before the effects of these changes become clearly manifest and conditions which would permit sustainable growth are restored. Meanwhile, the Government's program continues to deserve, and require, substantial support in terms of external funds, without which it is unlikely to be successful. The Structural Adjustment Loan I for $200 million approved in March 1980, and its Supplement for $75 million approved in November 1980, represent the Bank's support to date for these efforts. The proposed loan of $300 million provides additional support, based on satisfactory performance so far, an important set of new measures, and the current assessment of requirements. Performance Under the Structural Adjustment Loan (Supplement) 173. Administrative Aspects; The Structural Adjustment Loan I was fully disbursed in March 1981, twelve months after its approval. The Government has also fully committed the Supplement loan, with private firms receiving allocations exceeding the target of $25 million. Disbursements reached $37 million as of April 15, 1981, and are expected to be completed early in FY 1982. The counterpart funds are being channelled by Government decision to five of the highest priority energy projects, including the Bank-financed Elbistan Lignite Mine and Power project (Loan 1023-TU) and Karakaya Hydropower project (Loan 1844-TU). 174. Economic Management; The progress made in implementing the policy reforms since the January 1980 program has been satisfactory. Progress under the Structural Adjustment Loan I was discussed in Part III of the President's Report on the Supplement loan. Under the latter, progress is to be evaluated in four major areas; exports, domestic resource mobilization, public investment and external debt management. The specific actions to be taken are described in Schedule 5 to the Loan Agreement for the Supplement loan; the targets and the progress to date have been discussed in Part II of this report and are summarized in the following Table and evaluated in para. 175.  - 51 - PERFORMANCE UNDER STRUCTURAL ADJUSTMENT LOAN I (SUPPLEMENT) Agreed Areas of Review Assessment of Performance a x. txports Adequacy a' export peomotion policses and External competitiveness has bene reasonably well maintained. Financial incentives to exporters odmson-trats-e oseasores, including: hane been improved through ollowancen against corporate income ten included in the new tan refor. pacxage (see below). i -) ferrying out of a stony tor tne purpose of (a) The first phase of the study was completed ahead of schedole. It has already been introcwco-g a more rational protection implemested through changes cn tne 1981 Import Regime which considerably e-ceede- Bank and incenti-e system based os tariffs for espectatioss. Formal quotas have -e,e abolished, and a large somber of items hone seen industry, the first phase ot such study to moved to import lists with wore liberal procedores. Arrangements for the implementot-oo be completed by Jiu.ary 31, 1981. of the long-term study are underway in Turkey, and partial financing for it from the BSnk's eacersal research budgert hba b-e appr-ed. Ii) Establishment by March 31, 1981 ot an (b) Ac interim arrangement for export credit insurance will be implemented in May. Passage export creidt risk Issurance scheme. of a law establishing a permanent scheme is expected later this year. h Ihplenp .entat-oo ot institutional arrangements to (o) A law to permit the establishment of free trade zones has been drafted. A 0-re dynsmic promote inctoer development ot exp-rts, on basns person has been appointed to head the Esport Promotion Center. on review under bAL I. 2. PuOlic Investment Ace,-ocy ol oces-re- to harmnzon poblic in-esimn,ts, isciediog nosea or bEEs is 1980 000 191, witiz (i) a-ailcooe eesources; and (i) The public investment review mission in November 1980 f .od that the level of purlic investment authorised in the 1981 Annual Program is consistent with correct policy directions. --c) investment p-noesty criteria (1t) The fovernmest has effected some rationalizatios of the program in 1981 is line with appropriate criteria, reducing the ncmber of projects by elim-noting none unviable ones. Uoweser, preliminary findings are that further efforts are required. J. Domestic Nenoucc Moailcoatiom Adequacy os meaeurss to socrease domestic resorre Prospects have Improved cosonderably with: mnloblclatios, Incloufing: 10) the enactment of legislation on a comprehensive tax reform package; und ubjecci- ni ninmceg avll public sector detc-t fi.nu.eic n, 1980 and 1981. (b) a sobhtaotnal rise in interest rates on tine deposits. In 1980, the consolidated budget deficit remained high at 5 percent of GNP, owing largely to iagging tam revenues. Despite large increases in sales revenue as a result of the policy of SEE pricing autonomy and the price adnjotme-ts made, the SEEs as a group recorded a small operat-eg loss. Budgetary transfers to them to finance investments increased considerably, but even so their arrears t0 contractors grew very sharply. However, some indicators of SEE financial performance showed am improvement. In 1981, the prospects of greatly increased tru revenues (by at least 3 percent of GNP) will improve the sitwatcon. However, budget prospects remain difficult, since expenditure forecasts may be exceeded by a considerable margin. bEs are ug-ce expected to record a small operating loon despite further large price increases. Budgetary transfers to them are expected to show another sharp increase, but eves so another large increase in arrears is expected. 4. nier-ual Debt ootLl..uatom oat soons external debt management External debt management policy remains sound. Arrangements have been concluded for p01icy. consolidating long-stamding arrears on nguaranteed trade credits. Banks holding a majority oL Turkey's conmercial debt have agreed is principle to extend the repayment schedule applying tn the i3 billion rescheduling package agreed in August 1979, subject to the agreement of the other creditor bangs. ioxputenzastnor. oi extern.al debt data. A coordinator and comnpter programmer have bees appointed and statements oc usae requirements are being prepared. The project is about 3 months behind schedule; the delay is not serioss.  - 52 - 175. Progress during the short period since the Supplement loan was made remains generally impressive. The Government has maintained external competitiveness reasonably well. It has further improved financial incentives to exporters, and set in motion selected improvements in the institutional arrangements for export promotion. The changes made to the import regime in 1981 (including the abolition of quotas) considerably exceeded Bank expectations. Arrangements for the implementation and financing of the long-term protection and incentives study are underway or have been made. The preliminary findings of the public investment review mission in November 1980 are that the level of public investment authorized for 1981 is consistent with current policy directions, but that implementing the entire program may pose financial difficulties in future years. The Government has effected some rationalization of the program in line with appropriate criteria, but further efforts will be required to balance intrasectoral allocations and eliminate more lower-priority projects. Domestic resource mobilization prospects have improved considerably with the enactment of legislation on a comprehensive tax reform package and there has been a substantial rise in interest rates. However, the public finance prospects for 1981 remain difficult, since expenditure forecasts appear to be under-estimates. Indicators of trends in SEE financial performance show a mixed picture and considerable difficulties remain. External debt management policy remains sound. Arrangements have been concluded for regularizing arrears on unguaranteed trade credits. Also, banks holding a majority of Turkey's commercial debt have agreed in principle to extend the repayment schedule applying to the $3 billion rescheduling package agreed in August 1979. The project for the computerization of external debt data has been staffed and has begun, but is lagging somewhat behind schedule; the delay is not serious. On balance, the Government's program of policy reforms, which constitutes the basis for the Bank's structural adjustment lending, is being implemented satisfactorily. Macroeconomic Considerations Underlying the Proposed Loan 176. Turkey continues to suffer from an acute shortage of foreign exchange. Its balance of payments position, based on the Government's provisional estimate of the outcome in 1980 and projections for 1981 and 1982, is summarized in the Table below;  - 53 - FOREIGN EXCHANGE REQUIREMENTS AND SOURCES OF FINANCE (1980-82) ($ millions) 1980 1981 1982 (Est.) (Proj.) (Proj.) Foreign Exchange Requirements 8,699 10,402 11,979 Imports of goods and NFS 7,690 8,696 /1 9,889 /1 Of which: Oil (3,295) (3,819) (4,442) Interest /2 898 1,242 1,557 Amortization /2 111 464 636 Others - - -103 Foreign Exchange Receipts 5,801 6,732 7,883 Exports of goods and NFS 3,701 4,332 5,183 Of which: Goods (2,910) (3,419) (4,123) Workers' remittances 2,100 2,400 2,700 Requirements - Receipts 2,898 3,670 4,096 1. Identified Capital 3,583 1,830 1,952 a. Foreign Private Capital 175 200 220 b. Disbursements from M&LT Commitments as of end-1980; 1,908 1,265 /3 1,385 /3 C. IMF 502 365 347 d. Other 998 - /4 - /4 2. Gap to be filled by multilateral, bilateral and commercial sources - 1,958 /1/3 2,328 /1/3 Use of Reserves (- = increase) -392 -118 -184 Errors and Omissions -293 - - Memo,. Debt Relief (net) Interest 295 84 -72 Amortization 814 533 608 /1 Level of imports contingent on adequacy of capital inflows. /2 After taking account of debt rescheduling agreed in 1978, 1979 and 1980. /3 The figure in Annex I, page 9 assumes $900 million in 1981 disbursements from 1981 commitments; here these are included in the gap. The analogous figure assumed for 1982 is $1,200 million. /4 Included in gap.  - 54 - 177. The projections presented here update those made in the President's Report on the Supplement loan. As mentioned above, the 1980 figures are based on the Government's provisional estimates. The final figure for imports of goods in 1980 may be higher than this estimate; however, this would not substantially affect the projections. For 1981 and 1982, the current account deficit (after debt relief) is estimated to be $3.2 and $3.7 billion respectively. The foreign exchange requirements in these years, including reasonable oil imports, a minimal increase in non-oil imports and the rising debt service burden, are estimated at $10.4 billion and $12.0 billion respectively. Against that, foreign exchange receipts (exports and workers' remittances) in 1981 and 1982 are likely to be $6.7 billion and $7.9 billion respectively. Only half of the inflows required to fill the financing gap in 1981 are presently in sight, leaving a financing gap of $2 billion in disbursement terms. For 1982, unidentified foreign exchange requirements are projected at about $2.3 billion, also in disbursement terms. The proposed loan would thus provide only a small portion of these needs. 178. Should disbursements from new credits not materialize at the level necessary or in time to cover the gap in 1981 and 1982, this would inevitably be reflected in a lower level of imports and a failure to achieve a much-needed improvement in the current low levels of capacity utilization and output growth. It is therefore essential that adequate new funds be made available in time, and on reasonable terms. Case for the Loan 179. The letter from the Deputy Prime Minister, signed on February 20, 1981 in Washington at the end of discussions following the appraisal mission, clearly sets out the directions of the Government's new policy package. The measures taken since the Supplement loan was approved in November 1980, or to be taken during the remainder of 1981, address the key policy areas. The most important elements of the package are the major tax reform, the new decisions on SEE reforms, the further liberalization of imports, and some rationalization of the public investment program. Other noteworthy areas include further export promotion measures, capital market developments, and a variety of policy and institutional changes in the agricultural and energy sectors. The package as a whole is a reflection of the continuing momentum of the economic reform efforts begun by Turkey last year. Along with the continuing stabilization effort being supported and monitored by the IMF, it deserves continuing support on an extensive scale from the international community, and specifically from the Bank. Loan History 180. The Government's request for the proposed loan and the impending commencement of discussions were notified to the Executive Directors at the presentation of the Supplement loan in November 1980. The proposed loan was appraised in February 1981. Negotiations were held in Washington in April with a delegation headed by Mr. Altinok, Chief Financial and Economic Counselor of the Embassy.  - 55 - Cooperation with the IMF 181. There has been an extensive exchange of information between the Bank and the IMF during the period of preparation of the proposed loan. Bank and IMF staff members have participated in the missions of the other institution, in this case the pre-appraisal and appraisal mission for the proposed loan, and this cooperation is expected to continue. The macroeconomic policy actions and the reform of the SEEs supported by the loan are of particular interest to the IMF. The Fund is particularly concerned about the financial position of the SEEs and continues to emphasize the necessity for adequate and timely price adjustments by these enterprises, as well as more concerted efforts to control expenditures. Both the Bank and the Fund will also be concerned with the implementation of the tax reform, so as to ensure realization of the expected revenue yields. Loan Amount and Allocation 182. The proposed loan of $300 million will finance only about 2 percent of Turkey's total merchandise imports over the period of its disbursement. There will be no displacement of alternative financing on acceptable terms available to Turkey, either generally or for the eligible commodities. 183. The commodities to be financed are the same major groups as under the previous loans. The chosen items will have high direct impact on the utilization of capacity in user sectors. The proposed allocations are based on a reappraisal of current needs in the context of the experience since 1978 and the progressive increase in the degree of import liberalization. They reflect the Government's proposal that the loan proceeds be allocated to the two main categories supported by the previous loans; (a) inputs for the agricultural sector, under the proposed loan specifically raw materials and intermediate inputs for fertilizer ($200 million); and (b) raw materials and intermediate inputs for industry ($100 million). Petroleum and petroleum products would not be eligible (Loan Agreement, Schedule 1, para. 1). The fertilizer allocation in particular takes into account projections of consumption, domestic production, stocks, the import pipeline and also other possible external financing for the substantial import requirements of these items. It will provide about 55 percent of the industry's requirements during the disbursement period of the proposed loan. Loan Administration Arrangements 184. The arrangements made for the Structural Adjustment Loan I and its Supplement will be retained, since they remain appropriate and are working satisfactorily. The Ministry of Finance and the Central Bank will bear the main responsibility for administering the proposed loan. Import licensing will reflect the partial liberalization of the system described in paras. 57-62. To ensure rapid disbursements, the Government has agreed that it will arrange for the relevant agencies to promptly issue import licenses, make available the needed foreign exchange, and facilitate timely imports (Loan Agreement, Section 3.02).  - 56 - 185. To speed procurement, 40-day bridge financing arranged with two foreign commercial banks, to cover the period between payments and reimbursement from the proposed loan, will be renewed. To simplify disbursement procedures, the previous minimum amounts of invoices of $5,000 and withdrawal applications of $25,000 have been retained (Loan Agreement, Schedule 1, para. 2(a)(iv) and Section 2.09(b)). Disbursements have proceeded smoothly under both the Structural Adjustment I and Supplement loans. Counterpart Funds 186. Counterpart funds will be deposited in a special account with the Central Bank; the Government will use them to help finance expenditures included in its development programs (Loan Agreement, Section 3.01), as under the previous loans. While the Bank has not sought to influence the Government in its allocation of these funds, the latter has informally indicated that it expects to continue to allocate the funds to a small number of its most important energy development projects, including the Bank-financed Elbistan and Karakaya projects. Procurement 187. Imports will be made directly by actual users. Bulk imports costing $10 million or more will be procured through limited international tendering on the basis of at least three responsive quotations from suppliers in member countries of the Bank and Switzerland or from Taiwan, since there is only a limited number of suppliers of the items expected to be purchased. Certain commonly traded commodities may be purchased through price quotations available from their organized international commodity markets, which is acceptable. All contracts of lesser value will be awarded through normal trade channels on the basis of the normal procurement procedures of the public and private sector firms concerned. The procurement procedures of public sector firms already provide for substantial international bidding or shopping and are satisfactory. Firms in Turkey have adequate choice of international suppliers to ensure reasonable availability and price. More than half of the loan is expected to be procured under limited international tendering. These procedures should permit rapid disbursements. 188. The loan will be disbursed only against foreign expenditures. Retroactive financing will be permitted of up to $30 million worth of expenditures made after April 1, 1981 (Loan Agreement, Schedule 1, para. 2(a)(ii)), since the previous loan is fully committed and the Government wishes to make new commitments for eligible commodities for which it will have to make downpayments and progress payments in the near future. Monitoring 189. Disbursement of the $100 million second tranche of the proposed loan will take place after a satisfactory review of progress in implementing the Government's structural adjustment program (Loan Agreement, Schedule 1, para. 2(b)). The yardstick for evaluating progress will be the key policy actions in the areas of tax reforms, the reforms of the State Economic  - 57 - Enterprises and energy pricing mentioned in paras. 49, 92, and 157 (Loan Agreement, Schedule 4). Provided the review indicates satisfactory progress, the proposed loan is expected to be completely disbursed within about twelve months of effectiveness. The closing date for disbursements will be November 30, 1982 (Loan Agreement, Section 2.04). Risks 190. The principal risks attached to this loan are that political developments in Turkey might impede the Government's determination or efforts, to carry out its new economic policy objectives and the structural and institutional changes in key areas initiated under the January 1980 program of structural adjustments. The commitment of the military regime and new civilian Cabinet to continue implementing that program, and indeed its record in enacting those parts of it hitherto blocked by deadlock in Parliament, as well as many new measures, offers assurance that Turkey will pursue the crucial changes discussed in Parts I and II and maintain the momentum of structural adjustment. The administrative arrangements in respect of import licensing, foreign exchange allocations, transfers, documentation and disbursements made for the previous Structural Adjustment Loans are functioning satisfactorily, and will be maintained. Procurement procedures have been simplified but remain in line with Bank policy. Existing adequate bridge financing will be renewed. With these provisions, the risks of delays in disbursements have been reduced considerably. PART V - LEGAL INSTRUMENTS AND AUTHORITY 191. The draft Loan Agreement between the Republic of Turkey and the Bank and the Report of the Committee provided for in Article III, Section 4 (iii) of the Articles of Agreement are being distributed to the Executive Directors separately. Features of special interest are described in paras. 49, 54, 64, 92, 157, 186, 188 and 189 and listed in Section III of Annex III of this Report. 192. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank. PART VI - RECOMMENDATION 193. I recommend that the Executive Directors approve the proposed loan. Robert S. McNamara President Attachments April 20, 1981 Washington, D.C.  - 58 - ANNEX I Page 1 of 9 ECONOMIC DEVELOPMENTS IN 1980 AND SHORT-TERM PROSPECTS Economic Developments in 1980 1. The year 1980 proved another difficult one for the Turkish economy. For the third year in succession, economic activity stagnated; capacity utilization in industry fell to around 50 percent; unemployment and income distribution worsened significantly; inflation reached an unprecedented rate of more than 100 percent; and the budgetary and balance of payments situation deteriorated. Adverse circumstances contributed to these developments, including the severity of the economic crisis which began in 1977, a chronic shortage of foreign exchange, and considerable social disturbance and labor unrest. The January 1980 program exacerbated these pressures. Uncertainty about future policies and about the timing and pace of economic recovery, together with restrictive monetary and fiscal policies and drastic curbs on imports, affected industrial production and investment activity. Devaluation and the removal of price controls on both private business and SEEs, while necessary to alleviate allocative distortions in the economy, contributed to a large initial upsurge in inflation. The financial rehabilitation of the SEEs was only begun with the January measures, and will require more fundamental changes than price liberalization alone. This initial adverse impact of the program was to be expected, since it was designed primarily to combat inflation through demand restraint by tight monetary policies and absorbing the excess liquidity in the economy by rising prices. The Government expects that, as inflationary expectations dim, economic activity will recover by virtue of its own dynamism and aided by appropriate monetary and fiscal policies, and that this recovery will mark the beginning of a gradual structural change towards a healthier, more market-oriented economy. There are signs that this change is taking place; inflation has decelerated sharply, industrial production is rising, and both exports and workers' remittances have improved in recent months. However, the social costs of the program in terms of employment and income distribution, remain. 2. According to provisional estimates, GDP grew by around 1 percent in 1980. Agricultural net output is estimated to have grown by around 3 percent, due to generally good harvests and efficient use of inputs. Industry stagnated during 1980. Production declined substantially during the first half of the year, due to shortages of essential imported inputs and widespread labor disputes (work days lost due to labor troubles from January to September were 20 percent more than in the preceding eight years combined). The new regime ended the strikes, and production recovered in the second half of the year, especially during the final quarter, as the supply situation also eased due to the inflow of external assistance. Fixed investment declined both in volume and as a percentage of GNP for the third year in succession. Public investment declined by around 5 percent, the most feasible way of limiting deficit financing in the short run given a failure to curtail current  - 59 - ANNEX I Page 2 of 9 expenditures. Private investment also declined, reflecting the low rate of capacity utilization, the high cost of finance, and the generally unfavorable political and economic climate prior to September. 3. The annual average rate of inflation, as measured by the wholesale price index, was 108 percent, compared to 65 percent in 1979, with the cost of living index rising only slightly less. The index reflected the huge increases in previously administered prices and the large devaluation in January and February, rising by 29 percent in February; this was somewhat misleading since several products with administered prices could already only be purchased at much higher prices in the black market. Despite further administered price increases and upward pressure on prices (particularly food prices) because of the Iran-Iraq war, the year-on-year price rise was reduced from a peak of 133 percent in February to 95 percent by December, with the average monthly rate from May to December 1980 reduced to around 3 percent, as the inflow of foreign credit considerably improved the supply situation of industrial inputs. 4. The fiscal situation remained difficult. There was a 32 percent increase in Government expenditures over the budgeted amount, in line with inflation. Despite the substantial overstaffing of the public sector, 300,000 new civil servants were hired during January-September 1980. Largely as a result, Government investment had to be cut back to limit deficit financing. Tax revenue growth lagged significantly behind inflation, and substantial arrears in tax collection have accumulated. SEE operations showed an operating loss again. To finance their investments and debt repayments, budgetary transfers to SEEs rose again to TL 148 billion. As a result, the budget deficit was TL 186 billion (5 percent of GDP) in spite of a further accumulation of Government arrears vis-a-vis the private sector. 5. The balance of payments position remained tight in 1980. Over the first eight months, merchandise exports stagnated. However, with the normal seasonal rise in agricultural exports, the end of various labor disputes in industry, a rising trend in production, and export promotion policies beginning to take effect, exports rose increasingly rapidly from September to reach a total of $2.9 billion for the year, compared to $2.3 billion in 1979. Agricultural exports rose by 24 percent and manufactured exports by 33 percent. The value of merchandise imports was also considerably higher than in 1979--$6.9 billion (including $3.3 billion for oil) as against $5.1 billion, although the volume increase was only 1 percent due to increases in import prices, especially for oil. As a result, fairly severe import rationing continues. Workers' remittances increased strongly from June under the impact of the new exchange rate and interest rate policies to reach $2.1 billion, compared to $1.7 billion in 1979. Interest payments were reduced by debt rescheduling. Even so, the current account deficit increased from $1.7-1.8 billion in 1978 and 1979 to $2.8 billion in 1980.  - 60 - ANNEX I Page 3 of 9 6. Capital inflows were also higher than in 1979, with gross public M&LT disbursements about $1.1 billion. In meetings under OECD auspices in March and April, $1.16 billion of bilateral aid was pledged for 1980, with much more rapid disbursements than in 1979. The Bank supported these efforts through a $200 million Structural Adjustment Loan in March 1980 and its $75 million Supplement in November. Saudi Arabia provided a $250 million cash loan in September. In July 1980, again under OECD auspices, about $2.5 billion in service payments to OECD countries on public and publicly-guaranteed debts falling due prior to June 1983 were rescheduled, 90 percent of them over 8 to 10 years, including 4 to 5 years of grace. Arrears on unguaranteed trade credits were consolidated in a separate operation. With these developments, Turkey secured debt relief estimated at $1.1 billion in 1980 and another $0.6 billion in 1981, with smaller amounts thereafter. In January 1981, leading commercial banks agreed in principle to extend the terms of the August 1979 rescheduling agreement. The Government continues to try to reduce to the extent possible the current and prospective large net outflow of funds to the commercial banks. Debt rescheduling operations since 1978 have greatly reduced the short-term debt burden and the debt service ratio. The July 1980 OECD rescheduling permitted a further drop in the ratio from 14 percent in 1979 to only 12 percent in 1980 (of exports of goods and non-factor services and workers' remittances). Short-Term Prospects 7. The Government has enacted a further series of important policy measures at the end of 1980 and in early 1981. These include a comprehensive tax reform package which has eluded successive governments for at least a decade, further export incentives, a significant liberalization of the import regime including the abolition of formal quotas, improved investment incentives, some rationalization of the public investment program, and reforms of SEE financing and employment policies. While many of these reforms are aimed at medium-term improvements in the economic situation, some of them -- notably the tax reform package -- will begin to bear fruit in 1981. 8. The outlook for 1981 is slightly more promising, although the balance of payments position is likely to remain extremely difficult. The growth rate of real GDP is projected to be about 3 percent, a welcome development after several years of economic stagnation. Value added in agriculture and industry should both grow by about 3 percent. Consumption growth is to be held to just under 3 percent, while fixed investment is to grow by 3 percent. As in 1980, the Government is giving high priority to reducing inflation; the target is to reduce the rate to 40 percent in 1981, but this assumes a continuation of trends between May and December 1980 when the average monthly rate was around 3 percent and that adequate foreign assistance will be forthcoming to ensure a continued easing in supply, and ignores possible pressure on prices from the sizeable monetary expansion in the third quarter of 1980.  - 61 - ANNEX I Page 4 of 9 9. The Government's projections for the public finances are optimistic regarding expenditure estimates. The consolidated budget for 1981 foresees a 52 percent increase in total expenditures to TL 1,560 billion, and is based on the underlying assumption of a 40 percent inflation. The 50 percent increase forecast for current expenditures assumes that basic salaries for civil servants will not be increased, with compensation coming from the relief afforded this group by the tax reforms. In marked contrast to previous years, Government investment is to increase by no less than 83 percent to TL 308 billion, the intended real increase being 30 percent. Transfers are projected to increase by 38 percent, but with those to SEEs growing by 68 percent to reach TL 249 billion. Total revenue is expected to increase by 86 percent to TL 1,502 billion. Tax revenues are projected to increase by 88 percent, with the new tax reform package expected to yield TL 240 billion in 1981. The budget deficit of TL 60 billion is to be financed by bond sales. As for SEEs, they are expected as a group to have a small operating loss once again. SEE fixed investments are to increase by 41 percent to TL 317 billion i.e. no real increase is intended. Despite the large increase in budgetary transfers, SEE arrears are expected to show another large increase. 10. The external position is expected to remain tight. Exports should grow by 17 percent to $3.4 billion, and imports by 13 percent to $7.8 billion, in nominal terms. The volume increase in imports is likely to be small due to increases in import prices, especially for oil, and hence import rationing will have to continue. With a modest rise in service receipts and continuing improvements in workers' remittances, the current account deficit in 1981 is expected to be $3.2 billion, or some $400 million more than in 1980. Turkey has already begun to make preparations to meet its very large financing needs in 1981, and hopes to secure considerably higher capital inflows than in 1980, particularly gross public M&LT disbursements other than the Bank and IMF financing arranged or being processed. The financing required in 1981 but so far unidentified is estimated at $2 billion in disbursement terms. To help fill the gap, the Government intends to seek commitments of about $1.5 billion in further quick-disbursing special aid from OECD members at a pledging session in May 1981.  - 62 - ANNEX I Page 5 of 9 TABLE 3A TURKEY - SOCIAL INDICATORS DATA SHEET TURKEY REFERENCE GROUPS (UEIGHTED AVEAGE5 LAND AREA (THOUSAND SQ. KM.) - MOST RECENT ESTIMATE)- TOTAL 780.6 MOST RECENT MIDDLE INCOME INDUSTRIALIZED AGRIC'LTLRAL 553.8 1960 /b 1970 /b ESTIMATE /b EUROPE COLUNTRTES GNP PER CAPITA (US$) 300.0 550.0 1330.0 2749.5 9499.2 ENERGY CONSUMPTION PER CAPITA (KILOGRAMS OF COAL EQUIVALENT) 245.0 479.0 798.0 1641.4 7021.1 POPULATION AND VITAL STATISTICS POPULATION, MID-YEAR (MILLIONS) 27.5 35.3 44.3 URBAN POPULATION (PERCENT OF TOTAL) 29. 7 38.4 45.6 53.9 76.0 POPULATION PROJECTIONS POPULATION IN YEAR 2000 (MILLIONS) 65.0 STATIONARY POPULATION (MILLIONS) 100.0 YEAR STATIONARY POPULATION IS REACHED 2075 POPULATION DENSITY PER SQ. KM. 35.0 45.0 55.0 77.2 142.8 PER SQ. EM. AGRICULTURAL LAND 51.0 64.0 78.0 129.5 523.3 POPULATION AGE STRUCTURE (PERCENT) 0-14 YRS. 41.3 41.7 39.1 30.6 23.5 15-64 YRS. 55.2 54.0 56.4 61.1 65.1 65 YRS. AND ABOVE 3.5 4.3 4.5 8.2 11.4 POPULATION GROWTH RATE (PERCENT) TOTAL 2.8 2.5 2.5 1.6 0.7 URBAN 5.l/c 5.1 4.8 3.3 1.3 CRUDE BIRTH RATE (PER THOUSAND) 44.0 38.0 32.0 22.8 13.8 CRUDE DEAIH RATE (PER THOUSAND) 17.0 12.0 10.0 8.9 9.1 GROSS REPRODUCTION RATE 2.9 2.6 2.1 1.5 0.9 FAMILY PLANNING ACCEPTORS, ANNUAL (THOUSANDS) .. 65.6 66.6 USERS (PERCENT OF MARRIED WOMEN) 5.3 8.2 38.0 FOOD AND N'TRITION INDEX OF FOOD PRODUCTION PER CAPITA (1969-71-100) 96.0 100.0 110.0 113.1 110.8 PER CAPITA SUPPLY OF CALORIES (PERCENT OF REQUIREMENTS) 110.0 110.0 115.0 125.3 131.6 PROTEINS (GRAMS PER DAY) 81.0 80.0 82.0 91.0 98.0 OF WHICH ANIMAL AND PULSE 24.0 26.0 24.0 39.6 62. 1 CHILD (AGES 1-4) MORTALITY RATE 24.0 16.0 10.0 4.3 0.8 HEALTH LIFE EXPECTANCY AT BIRTH (YEARS) 51.0 57.0 61.0 67.8 73.5 INFANT MORTALITY RATE (PER THOUSAND) 187.0/c 153.Od 118.0 55.9 13.2 ACCESS TO SAFE WATER (PERCENT OF POPULATION) TOTAL .. 52.0 75.0 URBAN .. 51.0 70.0 RURAL .. 53.0 80.0 ACCESS TO EXCRETA DISPOSAL (PERCENT OF POPULATION) TOTAL .. .. URBAN .. .. 19.5 RURAL .. .. POPULATION PER PHYSICIAN 3000.0/e 2250.0 1772.0 1030.1 624.8 POPULATION PER NURSING PERSON .. 1880.0 1403.0 929.4 218.9 POPULATION PER HOSPITAL BED TOTAL 590.0/e 490.0 506.0 289.7 121.2 URBAN 190. o/e 200.0 RLRAL .. 5890.0 ADMISSIONS PER HOSPITAL BED .. 20.0 20.0 17.0 17.0 HOUSING AVERAGE SIZE OF HOUSEHOLD TOTAL 5.7 5.9 URBAN .. .. RURAL .. .. AVERAGE NUMBER OF PERSONS PER ROCM TOTAL .. 2.2 URBANI 2.0 1.9 RURAL .. .. ACCESS TO ELECTRICITY (PERCENT OF DWELLINGS) TOTAL 29.0 40.0 57.0 URBAN .. .. RURAL 2.0 18.0  - 63 - ANNEX I TABLE 3A Page 6 of 9 TURKEY - SOCIAL INDICATORS DATA SHEET TURKEY REFERENCE GROUPS (WEIGHTED AV EACES - MOST RECENT ESTIMATE)- MOST RECENT MIDDLE INCOME INDUSTRIALIZED 1960 /b 1970 /b ESTIMATE lb EUROPE COUNTRIES EDUCATION ADJUSTED ENROLLMENT RATIOS PRIMARY: TOTAL 75.0 109.0 98.0 105.9 100.1 MALE 90.0 124.0 106.0 109.3 102.2 FEMALE 58. 0 94.0 90.0 103.0 102.3 SECONDARY: TOTAL 14.0 28.0 43.0 64.0 87.1 MALE 20.0 39.0 59.0 71.1 84.4 FEMALE S.0 16.0 27.0 56.9 84.3 VOCATIONAL ENROL. (Z OF SECONDARY) 18.0 14.0 15.0 28.8 19.0 PUPIL-TEACHER RATIO PRIMARY 46.0 38.0 34.0 29.4 21.3 SECONDARY 19.0 28.0 27.0 26.1 16.4 ADULT LITERACY RATE (PERCENT) 38.0 55. 5/f 60.0 .. 98.9 CONSUMPTION PASSENGER CARS PER THOUSAND POPULATION 2.0 4.0 11.5 84.6 339.? RADIO RECEIVERS PER THOUSAND POPULATION 49.0 89.0 103.0 192.2 932.9 TV RECEIVERS PER THOUSAND POPULATION .. 1. 8 43.0 118.5 35'. NEWSPAPER ("DAILY GENERAL INTEREST") CIRCULATION PER THOUSAND POPULATION 51.0