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WITHIN Report No. EMA-30a

ONE WEEK

This report is for official use only by the Banki Group and specifically authorized organizations or persons. It may not be published, quoted or cited without Bank Group authorization. TIhe Bank Group does not accept responsibility for the accuracy or completeness of the report. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT

INTERNATIONAL DEVELOPMENT ASSOCIATION

THE DEVELOPMENT PROSPECTS

OF

TURKEY

(in nine volumes)

VOLUME V

ANNEX III -THE MANUFACTURI:NG INDUSTRI

MAIN TEXT

December 10, 1971

Europe, Middle East and

North Africa DepartmentPublic Disclosure AuthorizedPublic Disclosure AuthorizedPublic Disclosure AuthorizedPublic Disclosure Authorized

CURRUCI EQIVATS

After August 9, 1970

US $1.0

= TL 150

TL 1 .

US $0.067

TL 1 million

= US $66,667

Prior to August 9, 1970

US $1.00=

TL 9.00

TL 1

US $0.11

TL 1 million

US $111,111

t

PREFACE

This report is based.on the findings of an economic mission,, which visited Turkey in April/May 1970. The mission was composed of: Gordon C. Billington (chief of mission), Gene D. Reese (agricultural adviser), Don Mlitchell (consultant, agronomist), Jacobus van Assen (consul- tant, irrigation engineer), Bertil Walstedt (industrial adviser),, Andrew Freyman (consultant, mining and metallurgy expert), David Beaton (consultant, metal fabricating and engineering report), Antoino Bassili (UNIDO consultant, forest industries expert), Milivoje M. Stojancvic (industrial economist), Cyril J. Martin (planning adviser -organization and machinery o:E planning), N. Dean Ganjai (IMF Consultant, fiscal adviser), Francesco Gallo (general economist), Hajo Lell (general economist), Josefina Vial (national accounts), Rosalinda Dacumos (statistical assistant), Zoe! Carson (secretary). The industrial team was headed by Mr. Walstedt and the agricultural group by Mr. Reese. The sector volumes of the report also draw on other special studies on Turkey, initiated or undertaken by Bank staff, in related fields, notably textiles (by James Nannery, consultant), petro-chemicals and fertilizers (by Erich Becker-Boost of IFC Staff). 4

IV t S

TABLE OF CONTENTS

Page

SU'MI4ARY .,.... i

1. INTRODUCTION ...1.. ........ ... .1

11. INDUSTRIAL POSITION AND RECENT PERFORMANCE ... 2

A. Historical Perspective..... ... , 2

B. The Second Plan ..... 4

C. Recent Performance ..... 5

D. Industrial Structure * .... .. ..16

111. PRINCIPAL BRANCH{ES OF tMANUFACTURING -PERFORIANCE

AND PROSPECTS ..9.9. ......... 25

A. Textiles .... .O9* .... 26

B. Forest Products.. .... * ..... 32

C. Fertilizers ......... *.......9 40

D. Petrochemicals and Plastics ....44

E. Steel , ......... .........50

F. tMachinery and Metal Products Industries. .54

G. Motor Vehicles and Tractors ... ........... .............. 59 IV. RESOURCE ENDOWIENT, FACTORS OF PRODUICTION AND DEVELOPMENT

PROSPECTS ..64

A. Resource Endowment. ......9. 9 .. 64

B. Manpower .................................... I.... 65 C. Management and Entrepreneurship ......................... 66 D. Outlook for Trade in Manufactured Products ............. 66 V. STRPATEGY AND POLICIES FOR INDUSTRIAIL GROWTII ........ ........ 70 A. Historical Perspective ... ..... .............. .....to 70

B. The Second Plan and SPO ... 71

C. The New Framework for Trade ... ... 71

D. Industrial Programming and Project Identification 73

E. Investment and Export Incentive.s 75

F. Small and Medium Enterprise ..76

C. Location of Industry ...9999 ............. 77

II. State Enterprise ...................... ..... 78

I. Industrial Finance ......... I ..... 81

4 J. Foreign Direct Investment 99 ......................9...... 84

K. Management of Industrial Growth; ............ * .. ....... 85

This report was prepared by Bertil Walstedt

-ii -

APPENDIXES

I. Statistical. Appendix

II. Brief Note on Industrial Statistics

III. Import projections for Manufactured Products

IV. Industrial Objectives of the Second Plan

V. Suimary of pre-devaluation system of foreign trade controls and export incentives VI. Summary of Recent Turkish Measures to Support Industrial Growth VII. Brief Summary of Major State Enterprises in the Manufacturing Field

VIII. Summary of Recommendations

LIST OF CIIARTS AND TABLES

Charts and Tables in the Text

Charts

1. Net Protection Rates Implied by Price Differences Between

Turkish and Imported Products.

2. Population and Imsured Workers, By Provinces, 1958-1960

Tables

1. Value Added in Manufacturing by Major Industrial Groupings

2. Import Dependence and Export Development by Manufacturing

Sectors, 1969

3. Exports of Manufactures

4. Manufacturing Investments 1963-1969

5. Structure of Turkish Industry, 1963

6. Sales, by Manufacturing Sector

7. Value Added in St:ate Manufacturing Sector

f' Production Indices for State Manufacturing Sector

9. Financial Data for Ten Largest State Enterprises in the

Manufacturing Fie!ld, 1967

10. Role of Small Establishments

11. Value Added in Manufacturing, By Industry Groups, 1969

12. Installe(d Capacity in Textile Industry

13. Size Distribution of Plants in Textile Industry

14. Textile Industry: Projected Capacity Increases and Export Growth

15. Turkisli and Foreign Production Costs for Textiles

16. Production of Forest Industries in 1968

17. Turkish Prices for Forest Products Compared with International

Prices

-iiI -

18. Targets for Wood Removal

19. Development Targets for Forest Industries

20. Shares of Major Sectors in Forestry and Forest Industries

Contribution to GNP (%)

21. Fertilizer Consumption, 1964-1969

22. Projected Fertilizer Consumption

23. Demand-Supply Outlook for Fertilizers, 1969-1977

24. Petrochemicals Sector: Recent Additions to Capacity

25. Demand for Petrochemicals and Plastics in Turkey

26. Aliaga Complex -Alternative Proposal

27. Import Requirements for Petro-Chemicals

28. Demand-Supply Outlook for Steel, 1967-1977

29. Domestic Demand, Production, and Imports of lachinery, 1967

30. Motor Vehicles and Tractors: Imports, Domestic Production,

and Import Content of Domestic Production, 1962-69

31. Demand for Motor Vehicles and Tractors, 1967-1977

32. Approved Investments in Engineering Industries, April 1970

33. Import Projections for Manufactured Products 1972-1977

34. Turkish Exports of Manufactures

35. Projected Foreign Trade in Manufactured Products, 1967-1977

36. Summary of Industrial Projects with Investment Certificates,

April 1970

Tables in the Statistical Appendix

See Table of Contents in the Statistical Appendix of this report. i'

THE MANUFACTURING INDUSTRIES OF TURKEY

SUMMARY

Performance

i. In 1948-1961, manufacturing output growing at 5% per year barely kept pace with GDP. In contrast, during the 1960's, manufacturing has grown by over 10% per year. An upsurge in private sector investments contributed to a steady increase in the share of manufacturing in the total gross nation- al product. A large number of important new projects have been put in the pipeline. Foreign industrial participations are growing, permitting new departures in e.g. the manufacture of motor vehicles and tractors and in fertilizers production. ii. During the last six years (1963-1969), the output of certain "new" industries approximately doubled. Output of machinery quadrupled -- albeit from a very low base in 1963. The second highest growth rate was in steel, reflecting the coming into producl:ion of the first stage of Erdemir's flat products mill on the Black Sea. Though fertilizer produc- tion doubled, it is still far from meeting the country's requirements. Considering Turkey's forest resources, the 48% growth rate for pulp and paper production was disappointing. iii. For a country its size, Turkey represents an extreme case of import substitution. During the 1960's the position of autarchy was accentuated, with the share of imports in the total supply of manufac- tured products falling from 15.6% in 1963 to 8.7% in 1969. Most of the import substitution occurred in steel, machinery and transport: equipment. iv. Exports of manufactured goods are small though they have been increasing by more than 12% per year since 1963. A high proportion of man- ufactured exports represent processed agricultural products. Nevertheless, increased export incentives and Government exhortation have aLso led to exports of more typical factory products, particularly textiles but also a small volume of refrigerators, radiators, ship repairs, etc. v. Measured by the net protection actually utilized, Turkey is competitive over a wide range of consumer goods, mainly non-durables. Here lies a considerable export potential once integration with the Common Market becomes effective. In contrast, competitiveness in dura- ble consumer goods is relatively poor, and it is very low for tractors, motor vehicles, and certain types of machinery. Great variations in the protection needed for different items within the same product group suggest deficiencies in resource allocation in a closed and small market. vi. Today, growth in manufacturing is handicapped by the all-per- vasive foreign exchange constraint. One tractor company, during the mission's visit, was at a complete standstill because of a shortage of imported parts and components. Another serious constraint iE capacity bottlenecks, e.g. in steel, cement, textiles, and electrical equipment. ii - For the long-term outlook, however, the decisive factor of success or failure will be the orientation and quality of the country's industrial structure.

Present industrial Structure

vii. The "new" in-,dustrial materials and equipment industries, includ- ing steel, fertilizers, auchinery, motor vehicles, tractors, etc. today account for roughly te seame proportion of the total value added by manu- facture as traditional industries (food, textiles, clothing, footwear, wood products). viii. On an overall basis, imports account for less than 10% of the supply of manufactured products. Manufactured imports consist mainly of metal products and machinery (52%), chemicals (27%) and basic metals (10%). Though import substitUt!on has been facilitated by Turkey's varied resource endowment, it is equally a result of past Government policies which empha- sized autarchy. ImporL substitution in Turkey has been pushed as all end ir itself, sometimes without regard for economic implications. ix, In contr-^t, 3 and In spite of the country's favorable resource endowment, the process-ng for export of agricultural, forest and mineral raw materials is un1erdeveloped, a point reinforced by a comparison between Turkey and other countries in a simuilar position of economic development. This reflects the long period of an overvalued exchange rate, the absence, until recently, of adequate export incentives, and the earlier weakness and lack of self-confidence of the private sector. x. In 1963 (the latest census year), 238 establishments in the public sector produced about 42% of the total value added, 2,774 large and medium-sized private establishments 38%, and the remaining 158,000 establishments (engagirg ten workers or less) not quite 20%. State enterprise predominated ih major potential growth industries like basic metals, pulp and papt4 ments already under way and on improving efficiency. In large projects which could not be undertaken by the private sector alone, the "mixed enterprise" approach would be given preference to wholly State-owned enterprise. xvi. The decisive first step towards reestablishment of a free market and eventual abolition of rigid controls --- i.e. devaluation -- was taken only several months after the mission left Turkey. Progress towards other objectives was as follows: -iv - a) Private enterprise. The main State Planning Organization (SPO) instrument for guidance and support of private enterprise was the "investment certificate" generally entitling the holder to several privileges and incentives, most importantly import licenses for needed equipment and raw materials but also tax rebates and duty exemption on imported equipment. As of April

1970, no less than 171 certificates had been issued for projects

totalling -L 5.7 billion (at the old exchange rate); fourteen of these were for individual investments exceeding Tb 100 million. b) Exports. Substantial export incentives, intrinsically only a correctiorn for the overvalued exchange rate, were effective in promoting an array of new exports. Quantitatively, the greatest impact was in the textiles sector. c) Foreign investments. The change in official attitude is reflected in 62 decrees during the last three years authoriz- ing foreigin rinnufacturing Investments for a total project value of TL 2.9 billion equivalent. d) State entr1px-ise. Contrary to the Plan objectives, the State manufacturing sector has been expanding its sphere of opera- tions. During the last few years, petroleum refining (includ- ing the supply of feedstocks to petrochemicals plants) has become a virtual State monopoly. Major new State projects include Turkey's third `ntegrated steel mill, its first aluminum smelter. its first petrochmicals plant and its first ammonia plant. Meanwhile, the State is also greatly increasing its stake in the production of ships, diesel locomotives, auto- mobiles, tractors, and diesel engines, generally in partner- ship with foreign companies.

Position and Prospects for Maior Industries

xvii. The textile industry accounts for 22% of Turkey's manufacturing output. But its contribution to the economy can be gauged better by two facts. First, value added is only one-third of the output value, and the vaz:rt bulkl of the inputs are bought locally. Secondly, the industry is widely dispersed regionally -- a trend vigorously supported by the Govern- ment. Trade in textiles, in spite of recent increases, is quite small, with exports totalling only $17.2 million equivalent in 1969. The average pro- ductivity of Turkish textile mills is relatively low, with excess manning and poor machine efficiencies. There is a lack of specialization (each cotton mill typically producing a range of 20-40 different types of cloth), and there is excess fin:ishing capacity. Yet, some of the largest private plants have excellent labor productivities comparing favorably even with the United States. In contrast, the equipment and productivity of some 18 state and six "mixed" enterprise establishments in this industry are generally well below the standard set by the better private plants. v xviii. Demand for cotton textiles is expanding rapidly, and Turkey hopes to capture a growing share of trade in the Common Market, with total textile exports increasing to $22.5 million equivalent in 1970 and nearly $50 million equivalent by 1975. Investments 1970-75 required to meet increased domestic demand and planned exports are estimated at about $380 million equivalent which is about 50% higher on an annual basis than in 1967-69. The export targets are, if anything, too modest in view of the comparative advantage of Turkey: good quality cotton, low wages, and geographical proximity to the Common Market. Yet, Turkey's advantage must be pushed quickly; some measures to this effect are suggested in this report. xix. The net value added in the forest products industries in 1969 was about 8% of the total value added by all manufacturing industries but the net value added in forestry was almost twice as high as in forest products industries. The forests are estimated to have provided partial employment and livelihood for a population of 4.5 million. Turkey's important forest capital is underexploited with many undesirable consequences (deterioration of overmature trees, high cost of infrastructure in relation to production, etc.). Perversely, imports of forest products, ait $20 mil- lion equivalent, are about five times as high as exports. The fiorests are nationalized, and pulp and paper production and trade is virtually a state monopoly under the SEKA enterprise. There are also State enterprises in saw-milling, fibreboard manufacture, plywood production, and the manufacture of wooden boxes, though private enterprise -- generally medium or small scale -- predominates in these industries. After the devaluation, Turkish prices for most forest products (other than kraft paper) are quLte competi- tive but quality presents a major problem for export sales in lumber, sleepers, beech plywood and particle board. xx. A recent UNDP/FAO report addresses itself to targets and policies for the forest and forest industries. According to that report, the cut of industrial wood should be raised from 4.1 million cu m in 1968 to 14.6 million cu m by 1982. Most of the increased output would be absorbed in Turkey, with exports of forest products growiLng only to $15 million by

1977 and $25 million by 1982. The attainmenl: of a 14.6 million cu m cut

will prove a formidable task. It will call for acceleration of the forest inventory, major improvements in infrastructure, and new log removals sys- tems. On the industrial side, it will require careful and skilled planning taking into account markets, logistics of wood and product movement, econo- mies of scale, maximum utilization of sawmill waste, etc. Progress in the industry will be slow and disappointing unless there is decentralization of effort and modernization of industry structure. To foster competition and reduce red tape, Turkey might be divided into a series of major forest concessions, each large enough to feed an economic-size integrated forest complex. xxi. Fertilizer production in 1969 accounted for at the most 1.5% of net manufacturing output. Its value at world market prices averaged about $12.5 million equivalent in recent years, divided more or less equally between phosphate and nitrogen fertilizers. The three major plants are -vi - all in the State sector. The present raw materials costs for both nitrogen and phosphate production are excessive. Costs of conversion are also high, reflecting small plant scales, equipment procured under tied aid, and management difficulties. Since consumption of fertilizers has been rising very rapidly in recent years, with domestic production stagnant, imports rose from an average of $8 million per year in 1964-67 to an average of $43 million equivalent in 1968-69. xxii. Consumption of nitrogen is projected to rise rapidly. The Tur- kish Government plans 1to meet this demand essentially by construction of new economic-size plants making highly concentrated composite and simple fertilizers. Altogether five such units are under construction or planned with total scheduled investments exceeding $200 million equivalent. Under proper management, all five proposed fertilizer plants would be profitable. The major doubts concern the managerial capability of building these new plants, bringing them into operation on schedule, and inducing the Turkish farmers to absorb a rapidly increasing supply of fertilizers. Increased for- eign equity participation could help resolve these difficulties. xxiii. The petrochemicals and plastics industry in Turkey is represented mainly by Petkim, a State Economic Enterprise which, as from early 1970, produces polyethylene, PVC, and dodecyl benzene at its new-Yarimca complex. Units for the manufacture of synthetic rubber are under construction. A few small plants in the private sector make plasticizer raw materials (phthalic anhydride), paints and lacquers, urea-formaldehyde resins, etc. Together with steel and paper, petrochemicals represented the bulk of planned investments in the State manufacturing sector in 1969 and 1970, totalling about TL 0.5 billion for both years. Neither Petkim's naphtha cracker nor the associated PVC complex, low-density polyethylene plant, dodecyl benzene unit, or various intermediates plants are of economic size. The synthetic rubber plant, on the other hand, is of reasonable size. xxiv. Present Turkish plans envisage substantial expansion of the Yarimca complex, construction of a new large complex at Aliaga, with "downstream" plants to convert basic intermediates from the above com- plexes into other intermediates or end products. The new strategy espoused by SP0 is to build-the downstream plants first, phasing in the upstream plants only as a market can be developed for economic size opera- tions, and to push exports through cooperation with foreign investment partners who might be willing to arrange such exports in order to make early investments viable. Even a very carefully tailored plan along these lines would be likely to require investments 1970-75 of, say, $500 million. Turkey should carefully analyze these expiensive invest'ients in an industry which is highly capital and technology-intensive, and where Turkey may have little comparative advantage. xxv. The Turkish steel industry accounts for roughly 8% of the value added in manufacturing. Its impootance to the economy is enhanced by Turkey's present near-self-sufficiency in iron ore and coal. Turkish steel expansion has been lagging behind the rapidly increasing demand. -vii - There are two major integrated producers, both in the State sector, plus a number of medium--sized and small producers in the private sector. Karabik produces non-flat products, with an ingot steel capacity of about 600,000 tons; Erdemir, built with United States aid produces flat products, and has an ingot capacity of 525,000 tons. The only major producer of alloyed steels, MKEK, is also in the State sector. xxvi. An expert study of the future demand for steel would be highly useful. Provisionally, it is estimated that steel consumption may triple between 1967 and 1977, reaching 3,2 milliorn tons of finished steel in the latter year. Turkey's Third Integrated Steel Mill, sponsored and partly financed by the USSR, is scheduled t:o start operations at Iskenderun in 1974, with a first-stage capacity of about 900,000 tons of non-flat steel (including some billets for sale). At the same time, Erdemir would be expanded'from about 400,000 tons to roughly 1.2 million tons of finished steel. If both Iskenderun and Erdemir move ahead on schedule, total import requirements might reach a peak of about one million tons by 1974 but could fall to half that total or less by 1977. Investment requirements for Iskenderun and for Erdemir expansion are estimated at about $800 million equivalent. xxvii. Turkey is fortunate indeed to have a plausible potential for both major steel-making materials -iron ore and coal, with Eregli located vir- tually on the coal deposits. The recent steep increases in world market prices for coking coal coupled with the Turkish devaluation have made Turkish coking coal competitive. Planning and development with respect to both coal and iron ore is however behind schedule. A realistic national strategy for coal would be retraction from high-cost mining areas, with the main focus on coking coal production for the steel indusl:ry and use of low-grade co-products from the mining and washing processes for mine- based power stations. xxviii. In terms of the original investment and recent conversion costs, the country has made a heavy sacrifice for its ambition to become a sub- stantial steel producer. Nevertheless, the proposed expansion of Erdemir would show adequate economic returns, and the likely selling price after expansion might be only about 15% higher than the expected equivalent import price. The corresponding protection for the new mill at Iskenderun is likely to be considerably higher. In both cases, the combination of tied aid with inadequate planning are mainly responsible for the high costs. Erdemir was premature in terms of timing (low initial capacity), Iskenderun is located away from the coal and, even more important, from the major markets. xxix. The machinery and metal products industries in 1969 accounted for about 11.5% of the total Turkish manufacturing output; in 1963-69 machinery production was the most rapidly expanding branch of all Turkish manufacturing industries. Imports, mainly of machinery, were valued at $277.5 million equivalent in 1969 -about 31% of total manufactured im- ports. Over three-fourths of the domestic output came from factories -viii - employing more than 100 persons, including heavy fabricating plants (making items like cranes, rock crushers, boilers, sugar and cement mill equipment) as well as machine tools, small diesel engines and pumps, motor cycles, refrigerators, washing machines, etc. A sizeable number of these factories have modern machine tools, and products are often manufactured to a high standard of technology and finish. Hence, a promising potential for growth exists. xxx. The plans fcor expansion in this sector are particularly ambitious, including facilities for the production of boilers and other pressure vessels, pulp and paper machinery, textile machinery, machine tools, pumps, compressors, valves, as well as parts for the motor vehicle and tractor industries. The total. investment volume for some 33 major engineering industry products granted SPO approval is about TL 1 billion. Considering also expansion of existing lines, the average annual growth in machinery output could approach 20% per year. xxxi. Turkey suffers from an acute shortage of management and skilled labor and the low utilization rate for heavy engineering facilities. Ex- pansion must be t.iilored to economic feasibility, taking into account the small demand for specialized industrial equipment and the likelihood of substantial fluctuations in that demand. Time must be allowed for the development of managerial and design capability, supplier capacity for items like castings and forgings, etc. and growth of workers' skill and experience. An inventory of metal working capacity, increased sub-contrac- ting of specialized operations, promotion of standardization, and dissemina- tion of new technology and new production methods would be extremely use- ful. A dynamic industrial association would have a particularly important role in pioneering this type of change. The State sector needs restructuring with a view to better use of its present metal working facilities and the separation, as independent units, of activities not linked by any economic or managerial rationale. Most important, procurement and subcontracting in Turkey by industrialized countries should be vigorously promoted. xxxii. Until recently, Turkish production of motor vehicles and tractors had not gone much beyond the assembly stage. Nevertheless, between 1964 and 1969 the domestic component of tractors, trucks and buses was raised from 20-30% to 52% for trucks and tractors and 70% for buses. The total numberof such vehicles assembled grew from less than

4,000 units in 1962 to about 33,000 units in 1969 and the number of passen-

ger cars assembled from less than 1,000 units to over 4,000. Unfortunately, growth has been haphazard, with no less than 19 companies now engaged in motor vehicle and tractor production. Of these, six produce trucks, another six tractors, while four produce buses and three passenger cars and/or light pick-ups. Imports of motor vehicle and parts rose moderately from about $21 million equivalent in 1964 to about $55 million equivalent in 1969, with passenger vehicles severely rationed. -ix - xxxiii. The second phase of the industry's development (1970-1977) would be highlighted by an increase in the domestic content of truck and tractor manufacture to 85-90% and a major increase in passenger car production to

65,000 units by 1977, by which time the domestic integration would be

nearly the same as for trucks. The main new items to be produced are engines, transmissions, auto-electric equipment and various cast and forged parts. There are six large projects with an initial investment exceeding

TL 100 million.

xxxiv. However, there are severe limitat:ions imposed by a small market, e.g. competitive passenger car manufacture probably requires a minimum output of 200,000 vehicles per year as compared with the 20,000 cars per year level targeted for 1977 by both Fiat Future Strategy and Major Policies xxxvi. Turkey has a good potential for industrialization. It has sub- stantial natural resources, excellent low--cost iman-power, a rising and increasingly capable entrepreneurial and managerial class. Recent plan- ning and industrial promotion by SPO has been imaginative and aggressive. Yet, recent industrialization also suffers from two weaknesses: expansion on too wide a front, without sufficient regard for economic priorities, and ineffective control of the investments and operations of State indus- trial enterprises. xxxvii. Industrial Targets. At the timie of the Mission's visit, work on the Third Plan had barely started. A tentative projection biy the Mission suggested that, under recent policies, nanufacturing imports; would increase by some 50% between 1969 and 1972, with a tapering off after that date to less than $1 billion equivalent as import substitution in steel, motor vehicles and tractors, fertilizers and petrochemicals would make its impact. At the same time, manufacturing exports could conceivably triple between

1969 and 1972, with a further 150% increase to $400 million equivalent by

1977. The main weakness of this perspective is that much oif the projected

x import substitution may not e econoAmical or at least would need to be more carefu.l17 appraised. The export targets, on the other hand, do re- present a desirable and plausible goal; the main need here would be for a series of institutional and organizational changes to achieve these targets. xxxviii. The first ,hnse of Turkey's Association Agreement with the Common Market, wvL, rll virtually coincide with the Third Plan, calls for mnjor cha,. 6 es ia ludustrial objectives. The first need is for a series of intensive sefLur studiets to determine where Turkey's compara- tive advantage lies Much of this work could be geared into the Third Plan and assigned to secial cumLittees for each industry, grouping in- dustry members with representatives for the Government and independent experts. These committees should be responsible for proposing both tar- gets and the policies and investme-rts required for the realization of such targets. SPO wouI' c-.orMaate thin work and provide the committees with a general macrz-eo .2:J.c framework and overall criteria for determining economic priorities. xxxix. Sed., ' n r,ort drie s,'ould have the highest priority. Fi- nancial support sh L-' given to mnrket study. The institutional frame- work for export-tr i -E 1 ojL-. l (trade representation, training of personnel, export fmlancin-, market intelligence, etc.). Every effort must be made to remove, by negotiation, artificial and harmful roadblocks to the entry of Turkish industrial pioducts on the Common Market. xxxx. Indu3trial Structure. Changes in the pace and direction of industrialization call for an industrial structure which can respond quickly and flexiJIy tw n ew incentives and new opportunities, make optizmum use of existing res3curces in entrepreneurial and labor skills and, finally, draw on direct particfpation by foreign companies with respect to capital, know-how, the opening (if new markets, etc. At the present moment, three problems jeopardize al strong and flexible response: uncertainties as to the respective roles of large and small enterprise, conflicting claims of State and private ernterprise, and ambivalent Turkish policies with respect to foreign direct investment. xxxxi. A division of tasks may be envisaged between some 200-300 "large" enterprises which would spearhead industrial growth and bear the prime resporsibility for Turkey's adjustment to the world market and medium and small enterprises which might evolve in specialist trades and as suppliers for new mass production industries (perhaps on the Japanese model). xxxxii. The advantages of large enterprises lie in their cost competitive-- ness in the atriet mrkt sease, whereas small and medium enterprise is generally more labor-intensive and can, in some cases, be more widely dis- persed regionally. Thle main requirement for the large enterprises at this moment is a properly functionirng capital market and an improved supply of managerial and professional personnel. The needs of medium-sized enter- prise are more complex, but two poirts may be brought out. First, they would be tremendously helped by the kind of industrial restructuring which -xi - would create independent specialists, whether for textile finishing or for engineering tasks such as gear cutting, heat treatment, etc. Secondly, both regional development nuclei and, in particular industrial estates, should be carefully studied and evaluated. xxxxiii. Foreign investment clearly has an important role to play, partic- ularly as a source of technological and management know-how and as a bridge for Turkish export penetration into foreign markets. There is need for hard bargaining with foreign firms but also an objective view of the benefits they could bring and of the conditions needed to attract them. Restructuring (elimination of dualism between the State and private sec- tors, strengthening of medium-sized industries) would make Turkish firms valid partners and increase their bargaining power. xxxxiv. It is concluded in the following report that State enterprise in Turkey has been assigned an industrialization role which it: has not been able to fulfill. Its large claims on available finance and foreign exchange thus far have not been matched by corresponding resu]Lts. The Turkish public is not adequately informed on the economic periormance of these enterprises or the efficiency of their investment. In spite of many studies, State Industrial Enterprises lack a proper institutional frame- work. The dualism between State and private enterprise -separate markets for factors of production (both labor and management) and separate channels of financing and import allocation -creates antagonism, hampers compari- sons of economic and financial performance and drastically limits the scope for fruitful cooperation and dynamic growth. xxxxv. Differences in employment conditions and financing channels as between State and private enterprise should be eliminated at the most rapid rate practicable. Secondly, State enterpriLse might be essentially limited to fields where (a) private enterprise is unlikely to venture (because of size or risk of investments), and (b) the same purpose cannot be fulfilled through State financial participation. This might reduce State partici- pation in industries like textiles and plywood. A study should be made regarding optimum administrative and corporate structures of State enterprises. The main objectives would include effective management, eventual restructuring of individual State Enterprises, and more public information on operations and performance. xxxxvi. Industrial financing and incentives. A high proportion of even the "large" Turkish enterprises are not of viable size and organization to compete in the Common Market. They need more support in rhe form of feasibility studies, project credits, efficient development bank aid and an organized capital market. The supply of marketable shares and bonds would be greatly increased by industrial restructuring. The demand for such shares and bonds, in Turkey's early phase of industrialization, can only be mobilized through institutions (banks, insurance companies, pen- sion funds). These institutions need strEtngthening, and their legal capability of investment in industrial securities increased. Equally -xii - important, in a new unified view of the Turkish industrial economy, pref- erential allocationi of funds to the State sector (e.g., through the Army Pension Fund or even the State Investment Bank other than reconstruction and emergency aid) should be gradually eliminated, and all funds channeled through the market into the financially most attractive projects whether in the State or in tht -rl ate- sector. xxxxvii. Special suoport woT.i !- needed for regional industrializaticn and for small and medium enterpr'ise to permit the latter to make their maximum contribution o) an. economic basis (industrial estates, technical assistance, sector and narket studieds). The extent to which special "infant industry" support would be needed for individual industries (apart from the export industries already mentioned) will only become clear after the individual sector studies have keen completed. The sub-sector reviews of the mining, engine-,r.i.'a; and f£trst industries undertaken in connection with this report suggest trhst sound growth may be as much dependent upon structural reform (e.g., of the supply of wood or the improved utilization of existing metal-c:r. s- eapacity, etc.) as upotl general or selective incentives. xxxxviii. Managemener WC 'GlUStri Growth. The institutional framework for the planning and adminlstr:ation of industrial growth needs revision. In the recent past, SPO has provided the groundwork, ideas and direction. The Ministry of Industry has bkI4 -u-,ncerned with State Enterprises (a function it shares with the Miis-tTvy of Finance, SPO, the High Control Board, and the St-ate nvestment ank,) with import allocation and with medium and small _-enterprise. Industrial associations, in turn, are weak- ened by their excessive focus on import allocation and by the split between public and private enterprise. xxxxix. With due recognition for the role of SPO in overall strategy formulation, control actd sttpervision, the Ministry of Industry should play a more vigorous role in, the pl-aJ ing and promotion of specifically indus- trial growth. There is much t? be said for removing the burden of adminis- tering State industrial enterprises from the Ministry of Industry, allow- ing the Ministry to concentrate on overall planning, monitoring and support of industrial growth. At the same time, the various industrial associa- tions and its central organization, the Chamber of Industries, should be strengthened.

1. Suggestions and Recommendations. For ease of reference, the

suggestions and recommendations made in this report are summarized in

Appendix VIII.

I. INTRODUCTION

1. During the 1960's Turkey achieved substantial industrial growth

and increases in investment activity. Turkish trade in manufactured products has always been low. There was a further increase in import substitution during the 1960's while exports of manufactured products, except at the very end of the decade, continued to be abnormally low.

2L The State industrial sector which accounts for nearly one-half

of the total manufacturing output, continued to expand its investments in capital intensive industries like steel, fertilizers, pulp andl paper, etc. In the late 1960's it initiated the construction of large industrial com- plexes to produce petrochemicals and aluminum, as well as a third inte- grated steel mill. The private sector which had been held back during the 1950's by the priority given to State enterprise in investment finan- cing and import allocation, showed a remarkable upswing duringt the 1960's. i4ew industrial entrepreneurs emerged on the scene, and many leading pri- vate entrepreneurs showed increased willingness and determinatLion to enter the world market.

3. ToTo events of major importance dtLring 1970 confirm Turkey's

intent to break its past economic isolation and to move towards a free economy. These are the devaluation of the Turkish lira from a previous rate of TL 9 per dollar to a new rate of Tl, 15 per dollar and the new agreement with the European Economic Comm1unity (EEC) defining conditions for the final integration of Turkey with the Common Hlarket.

4. One of the purposes of the devaltuation is to permit a gradual

dismantling of the quantitative restrictions and excessive duties and other charges against imports which have constrained and distorted growth in recent years. In this respect the association agreement between Turkey and the European Economic Community will set the pace. It provides for a 22-year period of transition, though industrial planning must clearly take into account integration in a shorter time perspective. The Comnmunity will completely remove restrictions and duties on all industrial imports from Turlkey, with the exception of certain textile items; these will be removed after 12 years. Turkey will eliminate duties for some categories of industrial products over 12 years and for the remaining categories (representing about 45 percent of present imports from EEC) over 22 years. Quantitative restrictionis will also be eliminated gradually over 22 years.

5. Turkey is a member, with Iran and Pakistan of the Organization

for Regional Cooperation and Development (RCD). The work of that organi- zation in the industrial field has been preparatory and no major results have been aclhieved as yet. As a result all members are expanding, more- or-less simultaneously, over a wide industrial front, jeopardizing divi- sion of labor and coordination in industries like steel, aluminum, trac- tors, automobiles, diesel engines, petrochemicals, etc. whiclh would be highly beneficial to all parties. -2-

II. INDUSTRIAL POSITION AND RECENT PERFORMANCE

A. Historical Perspective

6. At the end of the Ottoman Empire, Turkish industry was in a very

primitive state. The country was lacking in every type of infrastructure, and there were grave deficiencies in education. The little industry that existed was concentrated in the Aegean region. Much of the trade and indus- try was in the hands of foreigners, or Turks of foreign origin (Greeks, Armenians, Jews). The predominance of these groups and the privileges granted to foreign capital was resented. Eventually many in these groups were driven away leaving a wide gap in private entrepreneurial talent.

7. The AtatUrk Regime which came to power in 1923 believed that growth

should be planned, that the state would need to shoulder some of the burden of industrial development, and that industry should be made to spread east- wards. The founding of the £9 Bank in 1924 to assist private enterprise did not lead to major immediate developments. In contrast, the visit by a Russian Mission in 1931 ignited a spark. This Russian Mission recommended the creation of industries to produce steel, chemicals, and textiles. In rapid succession, several State Enterprises were formed to engage in indus- trial activities; including SUmerbank (for textiles) in 1933, Etibank (for mining and power) in 1935, the State Steel Works at KarabUk in 1937, the Pulp and Paper Corporation at Izmit (1938), and the SUmerbank Cement Factory at

Sivas (1943).

8. Industrialization outside the State sector gained momentum

only in the early 1950's. It was fostered by severe import restric- tions and stimulated by high profits earned in a protected market. The creation of the Turkish Industrial Development Bank in 1950 also had a far-reaching effect upon the growth of the private sector.

9. Nevertheless, during most of the 1950's and in the first Five-Year

Plan started in 1963 particular emphasis was still placed on State Enter- prises. Several new State textile mills were created in 1949-1957 (virtu- ally one for every major provincial center); some of these were taken over from the private sector (probably because of financial difficulties). The Turkish Cement Corporation was formed in 1953, and followed a similar policy of regional decentralization (aided by the widespread occurrence of lime- stone). The growing internal markets in mining, power generation, and steel- making also led to the establishment, in 1950, of MKEK, a general engineering company. It grew initially from an existing armaments industry at Kirikkale in a remote area of Anatolia. Finally, in 1954, the State Nitrogen Corpora- tion was formed, and started with much difficulty the production of nitrogen fertilizers based upon the lignite deposits at KUtahaya.

10. In spite of the substantial industrial activity in the 1950's,

manufacturing growth during that decade was not impressive. In fact, the share of manufacturing in total economic activity declined slightly: -3-

1948 1961 : 1961 1967

Net national product (Indices)

at 1948 factor cost /1 100 190 : at 1961 factor cost 100 146

Share of manufacturing (%)

at 1948 factor cost 9.4 9.2: at 1961 factor cost : 14.1 16.7 /1 I.e. essentially after correcting net national product at market prices for the effect of indirect taxes and subsidies. At constant prices, net national product grew by about 5 percent per year in 1948-1961 and manufacturing barely kept pace. The reasons for this dis- appointing performance were mainly the effect of import controls on growth and efficiency, the running out of easy avenues of import substitution, the underdeveloped private sector, and the inefficiencies of the State manufac- turing sector.

11. During the period 1961-1967 the performance improved considerably.

Not only did the total national product grow more rapidly (by about 6.5 per- cent cumulatively) but manufacturing was a lead sector, with a growth rate of nearly 10 percent per year. Growth in industrial production responded to rapidly rising agricultural incomes and booming construction activity, and there was a noticeable development of intermediate goods industries (iron and steel, cement, glass and petroleum products). Nevertheless, private man- ufacturing investments did not develop as rapidly as hoped, due to greater attractiveness of housing investments and also to failures to implement many of the inducements originally stipulated in the First Plan. Public sector investments in manufacturing were held back by difficulties in project pre- paration and implementation as well as lack of finance. 1/

12. In 1967, the last year of the First Plan, Turkey presented

somewhat of an industrial paradox. The share of manufacturing output in total domestic output (19%) was low. Manufactured exports were abnormally low, and manufactured imports lower than might have been

1/ The contribution of industry to national product was much higher in

terms of 1961 prices than at 1948 prices. In fact, there was a substantial upward shift in industrial prices compared to other prices, apparently reflecting the cost-raising effects of import substitution, including a more rapid rise of income for persons engaged in industry than in most other sectors. expected for a country with Turkey's per capita income or total volume of industrial production. Manufacturing accounted for less than 10% of total employment, and the average value added per worker in manufacturing establishments was onlI $1,000.

13. Against tbhesE IndT-ces of underdevelopment, Turkey had a surpris-

ingly differentiated indst-rial structure. The country produced steel and copper as well as a varitty of engineering products, including heavy pro- duction equipment aud domestic appliances. Both phosphate and nitrogen type fertilizers were made, though not yet in volumes permitting self-sufficiency, and production of synthetic fibers had been initiated. Also, construction had started on three new integrated pulp and paper mills which, it was hoped, would make the country self-sufficient in the near future. This industrial structure had been shaped by two major constraints: the rigid import control system and the failure to develop exports. These in turn were connected with an overvalued exchange rate. Behind this protective wall the Turkish economy had become increasinylvy insulated from foreign competition and from world market prices as a , to resource allocation.

B. The Second Plan

14. The Second Plan, 1968-1972, set a target of a 12 percent per

annum growth in industrial output 1/ (related to a 7% growth target for the gross national product) and an increase in the share of industrial output in GNP from 16.3 percenit to 20.5 percent in 1972. Steps would be taken to integrate Turkey with the world market and to give the private sector the lead role it the development of manufacturing.

15. More detoiled analysis of the Plan shows that the structure of

Turkish industry would shift only mildly towards a more outward orienta- tion; the Plan was drafted before the Association Agreement with the Common Market. Instea-, t,e main thrust was to "lead Turkey away from a primitive economic 'tructure in which raw materials are sold and man- ufactured products bought, to one which is industrialized and where manufactured products are both produced and sold". 2/ Though manufac- turing exports were planned to approximately double and their share in total exports grow from 17.5% in 1967 to 27.5% in 1972, even in the latter year they would represent a very small proportion (less than 5%) of the gross value of manufacturing output. Employment in manufacturing was expected to grow by 8.6% per year from about 1.26 million in 1967 to

1/ Industry in this case tucludes mining and manufacturing, plus electri-

city, gas and water works. In 1967, the approximate shares of these branches in th-.e net industrial product were -manufacturing 88%, mining

8%, electricity, gas and water 4%.

2/ Foreword to the Secotnd F'ive-Year Development Plan.

-5-

1.9 million by 1972, with the share of manufacturing in total employ-

ment increasing from 33.2 to 36.4%. (This future employment estimate, however, was only a rough statistical projection with little analytical support.)

C. Recent Performance

16. Although there is considerable data on various aspects of the

Turkish industrial economy, these have not been pulled together :Lnto a con- sistent and reliable statistical frame. The latest Census of Manufactures was taken in 1963, there is no industrial production index, and no unambi- guous information on the changing role of the State sector. This repre- sents a serious limitation on the analysis, and the conclusions presented in the following paragraphs are subject to a corresponding margin of un- certainty (See Appendix II). In the mission's view it would be highly desir- able for a new industrial census be taken as soon as practicable. Meanwhile available data might be pulled together to construct a provisional index of manufacturing output.

Production and Trade

17. Turkey being only about half-way through the Second Five-Year

Plan (1968-1972), the growth of production and trade must be judged in a wider perspective than the Plan. For this purpose, we have generally focussed on the six-year period 1963-69. In terms of output andl trade, the program for manufacturing under the Second Plan is a projection of the path already charted in the First (1963-67) Plan. New directions become apparent mostly in the volume and composition of private manu- facturing investments and in approvals of new projects.

18. SIS figures for values added in manufacturing (at constant

1961 prices) show the following changes:

Share of Manufacturing

Index Rate of Growth in GNP

1963 100 14.3

1964 107 7.3 14.7

1965 118 9.7 15.6

1966 131 11.0 15.7

1967 148 13.0 16.8

1968 163 10.4 17.3

1969(est.) 179 10.0 (17.5)

Though lagging somewhat behind the targeted rate of 12% per year, manu- facturing growth has been steady and relatively vigorous. The share of manufacturing in GNP which was 14.3% in 1963 was estimated to be about 17.5% per 1969. -6 -

19. A significant change in industrial structure occurred between 1963

and 1969. The new industrial materials and equipment industries have grown considerably faster than "traditional" (mainly consumer goods) industries, and now account for nearly the same proportion of the total value added in manufacturing. In real terms, of course, the contribution of the new indus- tries is considerably overstated; while prices for consumer goods are gen- erally very competitive, Turkish prices for many industrial materials and equipment are well above the world level. The relevant growth trends are summarized below; for details, see Tables I and II.

Table 1: VALUE ADDED IN MANUFACTURING BY MAJOR

INDUSTRIAL GROUPINGS

(billion TL at 1963 prices) 1969

Production Index

1963 1969 (1963 = 100)

Food, beverages, tobacco 28.8 23.9 144

Textiles, clothing, footwear 22.6 21.8 167

Wood and cork 1.8 1.8 173

Other 4.2 4.0 164

"Traditional" 57.3 51.5 155

Pulp and paper 3.3 2.9 150

Chemicals and petroleum 12.2 11.5 163

Non-metallic minerals 5.5 6.1 189

Basic metals 6.8 9.4 240

Metal products and machinery 15.0 18.7 216

"New" 42.7 48.5 196

All industries 100.0 100.0 172.5

20. The table suggests the following principal comments:

(a) the figure for traditional industries is reduced by the relatively low growth rate in food processing; up to now Turkey has not succeeded in developing exports of processed foods in spite of its very promising potential. In textiles, clothing, and leather on the other hand, factory production is believed to have grown by 67-75% above the 1963 level. Among the "new" industries, the forest products sector, in spite of a favorable industrial potential, has thus far failed to serve as a growth point. (b) cement and glass production more than doubled reflecting record construction activity. Though fertilizer produc- tion also doubled, it remained at a low level, and came nowhere near meeting the country's requirements. -7- (c) a tremendous effort has gone into the production of basic metals and machinery, with machinery productior. showing the highest growth rate of all sectors -300%, albeit from a very low base in 1963. This reflects En increase not only in the quantities produced but also in the "depth" of output; thus the average domestic com- ponent of agricultural machinery and tractors rose from

24 to 44% and of refrigerators from 60 to 90%. The

second highest growth rate was in steel, reflecting t:he coming into production of the first stage of the Erdemir integrated flat products mill on the Black Sea.

21. Industrial growth was propelled mainly by the general. expan-

sion of the Turkish economy including a high rate of growth in fixed investments which nearly doubled between 1963-1969. Imports substitu- tion was not a major factor in the sense of new industries covering rapidly increasing proportions of the country's requirements. The extent of Turkey's industrial autarchy is illustrated in the following table: -8-

Table 2: IMPORT DEPENDENCE AND EXPORT DEVELOPMENT

BY MANUFACTURING SECTORS, 1969

(TL Billion)

Ip. Prod. Exp.

Food, beverages, tobacco .01 25.9 1.45

Textiles, clothing, footwear .09 11.0 .15

Wood and cork products .00 2.7 .04

Others .07 1.5 .06

"Traditional" .17 41.1 1.70

Pulp, paper, and printing .24 1.1 .00

Chemicals 1.78 4.0 .05

Petroleum products .21 4.5 .00

Non-metallic minerals .07 2.1 .01

Basic metals .64 4.9 .14

Metal products and machinery 3.44 9.7 .04

"New" 6.38 26.9 .21

All industries 6.57 68.1 1.92

Share of trade in production 9.7% 2.8%

Some comparative data on share

of trade in production (1966) /1

Turkey 13.5% 0.3%

Pakistan 17.1% 8.0%

Philippines 13.7% 1.9%

United Arab Republic 15.5% 4.0%

Greece 22.9% 2.1%

Portugal 11.2% 11.8%

Colombia 12.9% 1.4%

/1 Excluding primary products processing and non-ferrous metals.

22. Imports of manufactures (Table III) are highly concentrated in a

few categories: heavy electrical equipment, components for the vehicle industries, industrial machinery, instruments, special chemicals. Exports (Table III) are essentially limited to a few resource-based specialities (sugar, olive oil, animal feedstuffs, copper, ferro-chrome, and fuel oil to balance refinery operations). Only recently, under the influence of improved export incentives, has there been an interest in exporting other items, particularly cotton yarn (of which there is a shortage in Western Europe) and other cotton textiles. While Portugal and Colombia are more -9- extreme cases of import substitution in manufactured products, none of the countries listed has a poorer record than Turkey with respect to export development.

23. Between 1963 and 1969 import subst:Ltution accounted for only TL 5.5

billion of the total growth in the value of industrial production, esti- mated at TL 42.5 billion, while increased exports contributed only about TL 1.5 billion (Table IV). 1/ Most of the import substitution occurred in steel, machinery, and transport equipment (about 60% of the total), with another 15% accounted for by petroleum refiniLng and rubber. Particularly in the last three industries, however, the net import substitution effect was relatively modest due to the prominence of imported raw materials and components in the cost structure of these industries. Another reason why import substitution had such a modest influence is that Turkey's import de- pendence in manufacturers was low even at the beginning of the period. The share of imports in the total supply of manu:Eactured products was 15.6% in

1963; continuing import substitution reduced this figure to 8.7% in 1969.

24. Manufacturing exports are very muclh underdeveloped and, before

1969 showed a stagnating trend in the 1960's. The following figures are

summarized from Table V in the Statistical Appendix:

Table 3: EXPORTS OF MANUFACTURES

(million US$ equivalent)

1963 1969

Processed foods and beverages 24.4 29.5

Textiles 2.7 15.4.

Chemicals 2.1 8.9

Petroleum Products 9.0 2.6

Non-ferrous metals 6.2 6.7

Other manufactures 2.4 11.3,

Total manufactures 46.8 74.4

Minerals 10.0 34.0

Agricultural products 311.3 428.4

All exports 368.1 536.8

1/ We have defined "import substitution" as the difference between:

(a) 1969 imports for each major industrial category; and (b) hypo- thetical imports representing the same share of total domestic con- sumption of each category as in 1963. -10 - Three points may be noted. First, non-ferrous metal exports reached a high $25 million in 1966 and then declined due to the unfavorable ex- change rate and lagging mineral development. Secondly, Turkey, in spite of favorable resources, is a net importer of forest products. Thirdly, most of the growth over the six-year period occurred in 1969, e.g. in processed foods, textiles, and chemicals. This growth was spurred by high- er export incentives; Government exhortation continued in 1970 and has spread to more typical factory products. New business, only partly reflected in 1969 trade returns, includes large orders for textile yarns to the Common Market, refrigerators for Tunisia and shoes for the United States. On a lesser scale, exports of items like cast iron radiators and ceramic plates as well as an increased volume of ship repairs may be noted.

25. In our descriptions of the Plan we mentioned that Turkey is trying

to extricate itself from excessive reliance upon import substitution for industrial development.. It is paradoxical therefore that Turkey should have largely neglected a promising export potential in processed foods, forest products and metals to invest enormous amounts of foreign exchange in the production of steel, aluminum, fertilizers, or even tractors. An econo

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