**This paper starts with a review of current account developments over the longer-term, followed by an in-depth analysis of current account dynamics, and possible future policy implications.** The rest of the paper is structured as follows: Section I presents the context of the study including a detailed descriptive trend analysis of Turkey’s current account, its components, and related variables; Section II presents the results of the econometric exercise to identify the determinants of the current account; Section III sets out forecast scenarios and sensitivity analysis around possible future realizations of determinants and the current account.

# **Overview of recent literature on the current account in Turkey**

**There is a large literature analyzing current account balances, both across countries and within.** Empirical analyses on determinants of the current account typically map it as a ratio to GDP to factors affecting saving and investment. Some surveys provide a discussion of an extensive list of CA determinants in the literature:  Calderón, Chong, and Loayza (2002), Cusolito and Nedeljkovic (2013), IMF (2013), Devadas and Loayza (2018). These determinants are used in several empirical studies and/or in the baseline External Balance Assessment (EBA) econometric model run by the IMF (IMF 2018, 2013).  Box 1 in next section provides a discussion of the literature on the determinants that are retained for our empirical model.

**Much research in Turkey has focused on the sustainability of the current account deficit (CAD), although differing time periods and methodologies have given rise to a range of different conclusions, illustrating the difficulty in arriving at an ex-ante assessment of CAD sustainability.** Turkey’s current account has been the subject of several research papers over time, particularly following current account liberalization in the early 1980s. Given the changing nature of the current account over time, we will highlight studies after 2000 that focus on sustainability, much of which is summarized in Topalli & Dogan (2016). A variety of different methods employed have given rise to different conclusions – that Turkey’s CAD is sustainable, is not sustainable, or may be sustainable under certain conditions. A further reason for the heterogeneity in findings in this literature is the relatively fast-changing nature of the current account position as time has gone by, with more recent studies covering a period of larger and longerrunning CADs tending to find the situation less sustainable. Traditional tests of stationarity provide mixed results and do not clearly point to current account deficits being unsustainable, in contrast to some more qualitative assessments such as Akçay & Ücer (2008). Recent papers that build on this strand of work come to different conclusions. Turan et al (2016) note that based on the degree of cointegration between imports and exports, in the longer term the current account deficit is not sustainable. On the other hand, Abbasoğlu et al (2018), employing the approach adopted by Engel and Rogers (2006), find that the CAD is sustainable in the long-term if Turkey’s growth performance relative to the rest of the world continues at a similar rate as it has in the last 15 years. Finally, external assessments, notably the IMF’s External Sector Asssessment are carried out periodically, the most recent of which is part of the IMF’s 2018 Article IV Consultation Staff Report. This assessment indicates that while the real effective exchange rate is not out of line with fundamentals, the current level of the current account (at 5.5 percent of GDP in 2017) is higher than warranted by fundamentals, with a norm CAD estimated to lie in the range of 0.5 and 2.5 percent of GDP.

**Relatively fewer recent studies have looked at the economic determinants of the current account balance in Turkey.** Those that have, have tended to find that energy import dependence, real exchange rate movements, and the investment and/or saving rate were some of the most important drivers of the CAB in Turkey. Some studies, such as Kara & Sarıkaya (2014), decompose the structural and cyclical components of the CAD. They suggest that the cyclical component of the CAD has subsided in the latter part of their period of analysis of 1998 to 2007 due to policy measures taken at the time, but the structural deficit remained unaffected. Research led by Clarke & Zaidi (2014) into the determinants of the current account found that, among others, the main drivers of the enlarged deficit were a low national saving rate, relatively low productivity growth, and high import costs, particularly for energy commodities. Yurkdakul & Cevher (2015) subjected the CAB and a range of macroeconomic variables to Granger causality testing and identified that the real effective exchange rate was the most significant causal driver of the current account balance. Finally, Topalli & Dogan (2016) employed a Markov-switching model to assess the non-linear impact of different variables on the current account in either a contractionary or expansionary state,

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