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Capital markets are the ‘second wing’ of the Turkish economy

Interview - May 29, 2015

Comprehensive reforms in Turkey’s capital markets over recent years have exceeded EU standards and bred confidence among investors, says the Chairman of the Capital Markets Board Vahdettin Ertaş


For much of this millennium, Turkey has been considered one of the major successes of the global economy. However, growth has slowed somewhat in recent years to below levels expected and desired by the government and private sector. How do you perceive the role of Capital Markets in helping Turkey attract the investments necessary for continued growth and development?

From 2002 and until the onset of the 2008 global financial crisis, the Turkish economy grew at an average rate of 6.8% per year, while in, 2010 and 2011 it grew between 8 and 10%. From 2012 onwards, growth slowed to its current pace between 2 and 4%. Economic and political stability, together, stand out as the most important two factors, among many others, that propelled the economy onto such a high growth path. However, I can say that the belated global economic recovery, especially in our main trading partners in developed economies, has dented our growth since Turkey is highly integrated into the global economy, with its exports and imports reaching to 62% of the GDP.

However, we are taking a new approach for a more secure future. Turkey differs from many countries because the government debt to GDP ratio did not increase as it did for so many nations around the world thanks to the disciplined fiscal policies. In 2002 Turkey's government debt to GDP was more than 70%; now it's around 33%. You cannot see such a strong success story in other countries.

I believe one of the greatest successes of the Turkish economy in the last decade has been the reforms in the banking sector. A more stable banking sector gives the economy its resilience. It is imperative to note here that, as a policy, no bank or non-bank financial institution was bailed out throughout the 2008 crisis, which promoted strong institutionalism in the sector. Having landed on sound ground, the banking industry was the primary source for the economic growth seen in the last decade.

Following the crisis, the Turkish government adopted a reform policy for the capital markets. The Turkish Parliament enacted the new capital markets law at the end of 2012 and in two years we completed all the secondary regulations and I am confident to say that all of our regulations are now fully compatible with the EU acquis. Our current regulatory landscape reflects the lessons learned from the recent global financial crisis, and it’s one of the most sophisticated and developed regulatory structures in the world. Capital markets are coming into play as well as the banking sector to finance the economy.

To build on the capital market regulatory reforms, our government also announced plans to promote Istanbul as an international financial center. Furthermore, there are efforts underway to increase the domestic savings rate, which is one of the chronic shortcomings of our economy. Previously I mentioned three conditions for the growth of capital markets: lower interest rates, a lower inflation rate and higher savings rate. We have been able to lower the inflation and interest rates and now they are currently below 10%, but we still need to bolster savings in the economy. So, to encourage savings, the Turkish government has adopted new reforms such as the matching scheme for private pension plans. And in the meantime, last month the Parliament enacted a law which introduced matching schemes for real estate and marriage savings accounts. As we accumulate more domestic savings we will be able to finance our growth in a very strong way, otherwise we would continue to experience the unstable episodes which hinder true growth.

With Turkey now having one of the most sophisticated regulatory frameworks for capital markets in the world, we are seeing exciting changes at Borsa Istanbul, which has entered into important partnerships with Nasdaq and the London Stock Exchange, among others. How do such partnerships move Turkey’s capital markets one step forward?

Our stakeholders are all very excited about the potential of our capital markets and we have experienced many improvements in market conditions. For example, if you look at corporate bond market, it was almost nonexistent five years ago, but last year the issuance limit assigned by the CMB in the fixed income market reached about $100 billion. We are aiming to make Istanbul a center for the asset management industry through our new regulations and the new tax incentives introduced by the Turkish government.  

Borsa Istanbul signed a shareholder agreement with NASDAQ OMX which will allow them to use Nasdaq's market technologies. Additionally, Borsa Istanbul signed a partnership agreement with the London Stock Exchange, covering derivatives and index products. Partnerships with such highly reputable exchanges around the world gives our exchange the strength to charter into new waters. Turkey has a population of 77 million and has a very high potential for growth, so what we see is that if we cooperate with global partners we can have access to their technology, their know-how, their client potential, and vice versa the global partners will have access to the potential of our growth and population; it is a mutually beneficial strategy for all involved parties.

One of the main growth strategies for Borsa Istanbul is to entice foreign companies to list here. What are the major benefits of listing in Turkey for foreign companies?

Firstly, due to our advantageous geographical location, Turkey is a commercial hub between regions. Additionally, our regulatory standards are more sophisticated than many jurisdictions and the attractive tax environment makes Turkey a desired destination for foreign companies to list on Borsa Istanbul. Turkey’s proximity to the MENA and CIS countries also facilitates the relationship with these countries’ local exchanges, some of which are suffering from relatively low liquidity in their markets, which would benefit everyone. I believe they would be ideal candidates to cooperate with Borsa Istanbul due to the economic compatibility and also due to the cultural and historical ties they share with Turkey.  Also, Turkey’s new regulatory norms are compatible with those which investors typically find in London or Frankfurt, making Istanbul a more attractive route to reach to the region around Turkey.

Given how far Turkey has developed over recent years and the reforms you have made, to what extent do you think Turkey is an example to developing countries who are looking to develop their own capital markets?

The global financial crisis caused the confidence in the financial markets hit a new low in history. We are now bringing two issues to the G20 agenda; the first is facilitating SMEs’ access to financing and the second is lowering the current debt levels of corporates. Both governments and private enterprises are very much indebted, even some countries classified as developed have seen debt levels rise above 100% of their GDP, which is of great concern.

The taxation rules, across different jurisdictions, generally favor debt financing over equity. The new law enacted by the Turkish Parliament last month, is aimed at alleviating the tax disadvantage of equity financing. Corporates can deduct from their earnings 50% of the cost of debt applied to the new equity capital raised. In the case of public offerings, this rate could be increased up to 150%. For example, while a company can deduct 10 US Dollars for a 100 US Dollar loan, the same company, if they are publicly listed or going to be publicly listed, can deduct 15 US Dollars for the same amount of equity financing. We have been talking about this new form of regulation in international fora and thus far we have received a lot of positive feedback, so this could soon serve as a model for other countries.

If you consider the high indebtedness in many markets, we should focus more on equity financing and provide new incentives to encourage it.

In conjunction with elevating position of equity financing in the markets, I would also like to touch upon the Islamic finance model very briefly. Conventional financing is based on risk shifting while Islamic finance is based on risk sharing. As the chair of the G20, Turkey promotes Islamic finance because it offers a wide variety of new financial instruments. These new financial products usually tend to have risk sharing mechanisms as their differentiating point, making them quasi-equity financing.

Due to their merits, equity financing and Islamic finance products will increase their share in the global financial system. And I believe that the next decade or so will confirm what I'm saying now.

Could you tell us a little more about what you are doing with Islamic finance here in Turkey?

The pillars of Islamic financing are becoming more recognized even in non-Muslim communities, as the UK recently issued its first sovereign sukuk. The Turkish government has a plan to develop the participation banking sector and also the instruments we provide under Islamic principles. We renewed our sukuk regulation in 2013 and also made a new regulation after the reform on the private pension system which allows for the establishment of Sharia-compliant pension funds. The government also has a plan to develop the Islamic insurance (takaful) industry.

A few years ago, Islamic finance was nonexistent in Turkey. What has made Turkey wake up to its potential?

I would say that Islamic finance is rather nascent concept. The economic successes of many oil rich countries in the Middle East and North Africa have fueled the development of the market in those countries as well as in many other countries that would have an interest in the market to grow.

The global financial crisis proved dramatically the failure of many conventional products. Investors are seeking products that better serve their needs and have a transparent pricing mechanisms. This has created a conducive environment for the growth of Islamic finance which, among many of its principles, prohibits benefiting from a trade partner’s lack of knowledge of the product or excessive risk taking. Turkey, having a highly energetic banking and non-bank financial sector, and being hungry for success and growth, had a prime opportunity to explore the possibilities of Islamic finance that could bring more firepower to its economy.

What motivates you to continue to excel in your important position?

I constantly seek to improve our relationship with our stakeholders, who continue to grow in number. A decade ago, for example, the private pension system had just started its journey in Turkey, and today we have 5.3 million subscribers to the system. As some of them will retire and benefit from additional pension income, they will be able to enjoy retired life more.  I am happy to see that my efforts and hard work have started to pay off, as I was one of the originators of private pension and equity finance reform, which I believe will stir excitement in economics circles in the coming years.  Hopefully this will lead to people having happier and safer lives through sound decisions, and this is the main driver for my continuing work.