Mr. Erçel considers the European financial markets and their implications for
Turkish institutions Speech given by the Governor of the Central Bank of the Republic of Turkey,
Mr. Gazi Erçel, in Istanbul on 23/10/97.
The EMU will be the most important change in the international monetary system since
the creation of the IMF at Bretton Woods. The creation of a new currency, the Euro, is in fact a historical
event for the European Union (EU). It marks a new quality in the process of European unification
because it is the final point and coronation of efforts since 1958 to create one big market in Europe.
The success of the Euro area will, of course, depend on the future development of the
value of the Euro. The Euro, as we all know, has to compete with two strong international currencies: the
US dollar and the Japanese yen. According to one school of thought, the Euro will have a stable value.
That is because the high stock of assets in Euro, held by official or private foreign holders and which
were converted from national currencies, in particular from Deutsche Mark, will not be switched into
other currencies.
Besides, once the Euro is introduced, there could be a significant switch of foreign
exchange reserves out of US dollars and into Euro. This could give a boost to the exchange rate of the
Euro against the US dollar over time. The sheer size of the economy in the monetary union will
encourage the use of the Euro instead of the US dollar in trade and foreign exchange transactions. This
process would further be accelerated by the fact that the use of a single currency will remove the not
negligible cost of transactions. According to a study conducted by the IFO Institute in Munich, "the
transaction costs for the inter-European currency management may be in the order of nearly 60 billion
ECUs, or nearly 1% the GNP of the European Union".
Also it is likely that central banks will use the Euro rather than the US dollar in foreign
exchange interventions. In turn, this will encourage non-EU central banks to switch an increasing
proportion of their reserves into the Euro. This process will take time and the Euro will not usurp the role
of the US dollar in the short term. However, the trend is likely to be persistent and eventually the current
importance of the US dollar in the foreign exchange markets should be replaced by the joint importance
of the US dollar and the Euro. One factor which will affect the speed of this change is the outlook for the
Euro based on the fundamentals of the monetary policy of the European Central Bank (ECB). Moreover,
the creation of a monetary union will prevent exchange rate volatility within the united Europe, the
reason being that the Euro area as a whole will be much less dependent on foreign trade. It is estimated
that the share of foreign trade of the Euro area will be only about 10% of GNP in comparison to about
30% for Germany today. And over the long term, the Euro should become almost as widely used as the
US dollar is today.
One conclusion to be inferred from this is the following: since Turkey has close trade,
service and financial links with Europe, and as the only country connected to Europe in a Customs Union
(CU), which I hope will evolve over time towards full membership, the EMU will create completely new
conditions in Turkey's international and European relations. Therefore what will happen in Europe will
be decisive for Turkey in the years ahead. It will be a challenge for the Turkish authorities, as well as for
bankers and businessmen.
One of the most important prerequisites for a successful monetary union is a sufficient
degree of economic convergence among the potential members. From that standpoint the degree of
convergence among the EU countries is remarkable, particularly as regards the convergence criteria;
stable prices, stable exchange rates, low long-term interest rates and healthy public finances. In addition
to these criteria, the Maastricht Treaty requires that all member countries in the EU must grant
independence to their central banks before the Monetary Union and the establishment of the European
System of Central Banks (ESCB). The reason behind the requirement of independent national central
banks is that fixing exchange rates and unifying currencies requires a common monetary policy.
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For a currency union to function "smoothly and in a sustainable way, it is absolutely
necessary that all participants agree on either a single common policy or closely coordinated policies".
All costs and benefits of the union must be shared equally. Any member acting with the "free-rider"
mentality, and benefiting from the system at the expense of the others, will eventually cause the system
to disintegrate. Therefore, a single common currency requires a single monetary policy with a clearly
defined target, which is price stability. This basic principle of monetary policy has already been
embedded in the Maastricht Treaty. And the European System of Central Banks (ESCB) has been made
responsible for achieving it.
In order for the ESCB to fulfil the task assigned to it, it must act in full independence
from national governments or from European institutions. The ESCB Governing Council, which is
composed of the Board of Management of the ESCB and the governors of the participating central banks,
will not be representing respective national interests. Although there are some differences between the
two systems, the ESCB is like the Federal Reserve System of the US. For the ESCB to act
independently, individual national central banks must already be acting independently of their
governments, because the ESCB will be built on individual national central banks. That is why the
Maastricht Treaty made it obligatory for the national governments to grant independence to their central
banks in the period leading to the formation of the ESCB.
The EMU is an event with far-reaching consequences; in one way or the other all
countries will be affected by it. Unlike the effect of a currency area, a customs union or a free trade area,
a monetary union can affect in various degrees all countries, irrespective of whether they are in or out.
This general fact, together with the signing a Customs Union (CU) Agreement with the EU, make EMU
even more important for Turkey than for other countries outside the EMU. Therefore, I believe that the
Turkish Central Bank has a predominant role to play in informing and educating all Turkish entities
about the choices and implications of EMU.
As you all know, Turkey is one of the potential countries to join the EU. I would say that
our country's ultimate aim is to become a full member of the EU; therefore first we need to adapt to
European standards in many areas. The steps Turkey took on the way to the CU are also steps taken to
ensure full integration in EMU. After these general remarks I would like to look at the issue from
Turkey's perspective.
So far, the measures taken to support the independence of the Central Bank of Turkey
(CBT) are remarkable. Recently, the Central Bank Law was amended and now limits have been set on
the so-called "short-term advances" which the Treasury is legally entitled to obtain from the Central
Bank. Starting from 1994, the Treasury's annual use of short-term advances is to be reduced gradually
over five years from 15 to 3 percent of each year's incremental budget appropriations. By 1998, the
Treasury will be entitled to short-term advances totalling not more than 3 percent of that year's
incremental budget appropriations over the previous year.
In addition to that, the Treasury and the Central Bank have signed a seven-point protocol
to cooperate in fighting inflation. The official aim of this accord is also to give the Central Bank more
independence. So, an important development towards the full independence of the Central Bank has been
initiated, as required in the Maastricht Treaty.
However, we have been in the process of preparing a new Central Bank law in parallel
with the same institutions in the EU. The work has already been done and we are ready to submit it to the
government if and when the political environment is appropriate.
On the other hand, in addition to the already installed electronic payments clearing
system, the CB has signed a contract to develop and install a modern national securities settlement
system. The new system will allow the Bank to increase the efficiency with which government securities
can be traded on the capital markets and ensure that the payments system will match the standards of
those in the EU and other western nations. The new system will also be capable of being connected to the
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TARGET network. At the same time the system will strengthen Turkey's links with the European
member countries and will enable it to trade in the same currency as other members, a requirement for
participation in the EMU. As far as the technical infrastructure is concerned, Turkey is ready to integrate
itself into the EU.
I would like to remind you that Turkey has been pursuing a series of liberalization
policies since 1980 which are broadly in line with economic tendencies in the world. A wide range of
policy measures were put into effect to achieve the restructuring of the economy. Changes in exchange
rate and trade policies were the main instruments in this process. This program has brought a radical
change in Turkey's development strategy by increasing its dependence on market forces. In this context,
the fixed exchange rate policy was replaced by the flexible one, restrictive control measures on imports
were abolished and protection was reduced gradually. Similarly, foreign exchange transactions were
thoroughly liberalized, free trade zones were established, foreign investment was further encouraged
along with the privatization of public enterprises. As a result of these newly adopted policies, there have
been spectacular changes in the Turkish economy, with exports and foreign investments having proved to
be responsive to the structural adjustment process; within this process, the Turkish lira has become fully
convertible and restrictions on capital movements have been effectively removed.
Even though the liberalization policies were adopted independent of the EU perspective,
they helped to facilitate Turkey's attempt to apply for full membership, by providing a solid basis for
lasting progress.
On the other hand, member countries of the EU have tried to make some adaptations in
their banking regulations to integrate financial systems. Competition among them has increased. A
universal banking system is accepted. Banks either have increased their assets or have merged with other
banks in order to be strong in a market where competition is intensified. New financial products are
created every day. Technology is used intensively in order to reduce costs and serve customers better. In
parallel to these developments many reforms have been made in order to develop the Turkish banking
system. Some amendments were made to the Banking Law to harmonize it with European standards, and
now we are in the process of preparing a new Banking Law. These changes will require some banks to
strengthen their financial situation and bring their credit risk and equity participation ratios closer to the
EU norms. Within the process of becoming more deeply integrated with the European financial markets,
the Turkish banking system will now face new competition. The CU agreement has naturally affected
Turkish banks and changed the dimensions of competition. But Turkish banks seem ready in many ways
for this new and larger competitive environment. Today banks in Turkey are made more dynamic by a
high-technology electronic infrastructure, high-quality services and well-trained manpower. What we
need is to integrate the legal and institutional systems in parallel with the EU banks.
With the introduction of the Euro there would arise a number of technical issues which
must be immediately tackled. As of today, Turkish banks are allowed to maintain foreign exchange
positions in 23 foreign currencies, of which 17, including the ECU, are European currencies. With the
Euro the CB and the Turkish banks will no longer have to deal in these currencies, but only in Euro.
Of course, initially there will be some currencies, like the British pound and a few others,
which will continue to exist for a while. But within this process, all foreign assets and liabilities in the
currencies of the countries participating in the monetary union will need to be converted into the Euro.
Currently, Turkey follows an exchange rate policy based on a basket consisting of the US
dollar and the Deutsche Mark. It is assumed that since other European currencies are related to the
Deutsche Mark through the European Exchange Rate Mechanism (ERM), the basket also reflects the
weight of other European currencies through the Deutsche Mark. With monetary union the share of the
Euro area in Turkey's overall trade in goods or services will be more than 50%. But this will not change
the picture from the exchange rate policy point of view. Therefore the Euro could easily be substitute for
Deutsche Mark in the present basket.
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Within the CB's foreign reserves, some positions are being held in the currencies of the
countries which are candidates for monetary union membership. These positions consist of securities and
money market placements. It is expected that security investments will be converted to the Euro as of
January 1st, 1999. Money market placements on the other hand will continue to be transacted in their
original currencies until July 1st, 2002. The fixing of the Deutsche Mark rate against Euro, the Euro's
value against other currencies in the international money markets and the depth and performance of the
Euro bond market will be important factors in terms of our reserve management policy. In the Euro
market, there will no longer be any cross-currency risk and cross currency-induced interest rate
differential. However, it is possible that the country risk-induced differential will become more
pronounced. Therefore investors must pay attention to which country's security they are buying when
investing in Euro-denominated securities.
There are also issues which should be considered by the real sector. In particular those
firms which are very active in trades across borders are likely to adopt the value of the Euro in their
dealings rather quickly, because firms competing in European markets, in order to make comparison
possible, should set their prices in Euro.
As I have already mentioned, the CB and the commercial banks have to convert the
foreign exchange denominated accounts into the Euro. This is not an easy task and involves changes in
accounting systems and data processing. Therefore due attention has to be paid to these infrastructural
changes prior to the introduction of the Euro.
The fact that the EU is Turkey's most important trading partner increases the
implications of EMU for the Turkish economy. On the other hand, the EU has the largest share in foreign
investment in Turkey, and invisible earnings in the Turkish balance of payments have a significant
European content. Furthermore, most of our correspondent banks are in the Euro zone. Turkey has close
trade, service and financial links with Europe, as the only country connected to Europe in a CU which
hopefully will evolve over time towards full membership.
In conclusion, I would like to point out that time is getting short for launching the Euro.
The time remaining must therefore be used efficiently. Those who have prepared and are ready will also
be those who will also derive the greatest benefits. I do believe that we are heading in the right direction.