Turkey’s AKP Claims Export Win Amid Economic Pressures

On 24 May, Turkey’s ruling party – the Justice and Development Party (AKP) – claimed that Pakistan signed its contract for 30 Turkish Aerospace Industries (TAI) T129 ATAK attack helicopters.

The AKP’s statement is as follows (translated): “a very short while ago, contracts were signed with Pakistan for the sale of 30 ATAK helicopters.”[1] In the beginning of May, the Turkish Undersecretary for Defence Industries (SSM) had informed the state-owned TRT Haber news channel that there would be positive news regarding the T129 sale, stating: “In Pakistan, we will have important developments related to the export of ships and attack helicopters. God Willing, we will have news about the ATAK helicopter sale to Pakistan next week.”[2] Thus, official government confirmation has been given regarding the T129 sale.

Granted, the original equipment manufacturer (OEM) – TAI – has yet to announce the sale, but one would imagine that two government entities (including the state head of stewarding Turkey’s defence industry) would stand for credible information. If correct, it would mark a significant breakthrough for the Turkish defence industry, especially in its efforts to secure big-ticket exports of its products and services.

The Pakistani ATAK would be Turkey’s single largest defence export order to-date, seconded only by the potential $1 billion US sale of four MILGEM Ada corvettes to Pakistan and further joined by a $350 million US program to upgrade the Pakistan Navy’s Agosta 90B mid-life-update program.[3] [4] If each of these deals comes to complete fruition, Turkey’s defence industry activities in Pakistan would total nearly $3 billion US (note: the T129 deal is thought to be worth $1.5 billion US).[5]

Turkey would effectively assume its position as Pakistan’s second-largest defence supplier, second to the Chinese (which is the leading supplier by a significant margin). There are various potential outcomes, but for this Quwa Premium article, the focus will be on discussing Turkey’s steps to reach this position. While discussing Turkey’s steps (i.e. building and marketing its product portfolio), this article will also answer a number of underlying questions surrounding Turkey’s sales to Pakistan, notably its provision of credit and how Turkey’s current economic woes could impact its near and long-term efforts to drive exports.

Fiscal Strength, Transfer-of-Technology & Indigenous Development

Although offsets played a role in facilitating the Turkish defence industry’s growth, especially in the role of a defence exporter, the fuel for Turkey’s advancements has been its fiscal strength. Buoyed by a strong economy through the 2000s and 2010s, the Turkish Armed Forces (TSK) and Turkish Undersecretariat for Defence Industries (SSM) were able to fiscally back big-ticket defence procurements, especially from the U.S. and Western Europe. Of course, many of these acquisitions carried offsets and transfer-of-technology (ToT), but they would not have been possible to undertake – especially to the scale Turkey was generally able to achieve (e.g. 270 F-16C/D) – without fiscal capacity, which in turn was fed by a strong economy.

The T129 reflects both aspects (i.e. fiscal strength and ToT). Following a competitive bid involving the Bell Helicopter AH-1Z, Denel Aviation Rooivalk and the AgustaWestland A129, the SSM selected the A129 with ToT – which both included turnkey manufacturing, intellectual property (IP) rights and third-party export rights – under a program worth a total of $3.2 billion US.[6] Besides the turnkey manufacturing transfer, the A129CBT – later designated T129 – deal also included 51 units for the TSK.[7] Early open source information delineated the $3.2 billion US program into two core components: a $1.2 billion contract signed in 2007 and a $2 billion follow-on in a subsequent year (totaling the $3.2 billion US program).[8] [9] An analysis of the cost (found in March 2018’s Quwa Premium Report) surmised that the $1.2 billion is the fixed overhead of the program (e.g. the cost of ToT), while the $2 billion is the cost of production.

For Turkey, the goal would be to amortize the overhead cost ($1.2 billion), ideally through exports which can help the SSM recuperate that cost. However, doing so in a manner that matches the big-ticket pricing to the Turkish economy’s involvement requires indigenizing the core inputs. Thus, the Turkish government had to inject additional layers of investment, e.g. building state-owned capacity for as well as incentivizing private sector entities into aerostructure manufacturing and developing electronics. For Turkey, the goal was (and still is) to use its fiscal strength to build military strength in parallel with a defence industry and then cause a loop wherein the defence industry supports the economy (and ultimately, the exchequer).

However, fiscal capacity was the underlying constraint which has thus far driven Turkey’s success, and with the Turkish economy now under various forms of pressure, the concern is whether it can sustain its efforts through the long-term moving forward. This is a critical issue because the next wave of its industry advancements – such as the domestic turboshaft engine program – are to rely on forthcoming funding.

Economic Turbulence

In recent months, attention has fallen to the state of Turkey’s current economic situation, specifically the rise of risk on its monetary situation. To summarize: Erdogan’s governance through the 2000s coincided with an influx of significant capital into Turkey’s private sector, mostly in the form of loans. This access to credit had enabled Turkish companies to expand their respective activities and, in turn, enable the Turkish economy to sustain relatively high growth rates through a five-to-ten-year period (note: as shown in the chart below, Turkey’s annual GDP growth rate suffered in 2009 – i.e. amid the Great Recession).[10]

However, market confidence in Turkey’s debtors and their ability to repay those loans was contingent on the strength of the Turkish Lira (relative to the US Dollar). With the Lira losing 60% of its value since 2013, its (i.e. the private sector) ability to repay those loans is under scrutiny. Additionally, Turkey’s expanding account deficit – i.e. the gap between its hard-currency gains (exports) and losses (imports) – now stands at $47.1 billion US, up 44% from 2016-2017.[11] The outflow of hard-currency to repay loans does not help.

Turkey’s Central Bank opted to raise interest-rates, which basically makes borrowing costlier and, in turn, potentially reduce the amount of Liras in the market (i.e. help raise the Lira’s value).[12] If sustained, this might stabilize the situation for private sector debtors in Turkey (who owe money to foreign loaners), but other factors – such as potential closure of businesses that cannot balance their books (and would have used additional loans to plug the gaps) – could increase unemployment and slow economic growth.

How is Defence Impacted?

Be it state-owned or private sector, Turkey’s defence industry relies on state funding to back development and production activities. Thus, the question would then be whether Turkey’s monetary issues will affect Ankara’s fiscal capability. This could occur in at least two ways. First, the Turkish government could be a guarantor for some private sector entities (notably supporters of the AKP), which could see it step-in to support those entities if they fall into arrears. Second, the rise in unemployment could see increased strain on the state to provide jobs, social services and other socio-economic mechanisms to help the population.

Such expenditure could impact Turkey’s defence spending and, in turn, affect its defence programs. In April, the Turkish government committed $33 billion US in spending for defence development and long-term production work.[13] Overall, Turkey hopes to push total technology development spending (including defence) to 3% of its Gross Domestic Product (GDP) by 2023.[14] Turkey intends to boost its Thus, there is a risk of key programs, such as the development of inputs (e.g. the TEI turboshaft engine program), slowing and forcing the defence industry to rely on core input imports for a longer period of time. While Ankara would want the Turkish defence industry to bolster its exports, the growth of activity – which will benefit domestic employment – will not accrue enough hard-currency gains. This is because the import of engines and potentially other critical components will consume a significant portion of the revenue.

In relation to Turkey’s fiscal capacity, the country’s defence industry is also seeking line-of-credit or loan mechanisms to back its sales. In fact, the core element enabling the T129 and MILGEM exports to Pakistan is the provision of credit to Pakistan. Functionally, it appears that the credit would function as a catalyst to get the Turkish industry to start production work (i.e. a stimulus to its economy). Considering Turkey’s monetary situation, it is unlikely that this credit is coming from conventional banking; rather, it appears that the loan is a government-to-government provision. However, these sales will see closer scrutiny, be it in terms of Ankara’s ability to commit credit or its conditions for Pakistan.

However, the high-risk monetary situation as well as fiscal pressure will cap Ankara’s ability to extend its credit to other countries. In effect, potential export customers would either have to be low-risk or be high-income states with strong cash reserves for advance payments. Unfortunately, this would limit Turkey’s potential market scope to countries, especially the Arab Gulf, that might have already committed to US or Western European suppliers. On the other hand, Ankara could potentially use supporting the defence industry through public funds as an economic stimulus, though its ability to do so will depend on the level of agency the AKP (or future Turkish government) can leverage amid tougher macro-economic pressures.

[1] The full copy of the AKP’s elections manifesto can be found on Gunes, accessible via the following URL: http://gunes.com/akparti-secim-beyannamesi-tam-metni.pdf (page 211). Last Accessed: 04 June 2018).

[2] Interview with Dr. İsmail Demir, Undersecretary of Defence Industries (SSM). 09 May 2018. Statements are in Turkish. URL: https://youtu.be/oAYODDYJJGA?t=6m30s (Last Accessed: 13 May 2018).

[3]  “Defense Industry Focuses on Quality and Quantity to Step-up Turkey’s Exports.” Defence Turkey. 30 September 2016. URL: https://web.archive.org/web/20161121203521/http://www.defenceturkey.com/index2.php?p=article&i=2424#.WkSZTN-nGUk (Last Accessed: 28 December 2017)

[4]  Göksel Yıldırım. “MILGEM’s $1 billion export journey.” Anadolu Agency. 11 May 2017. URL: http://aa.com.tr/tr/ekonomi/milgemin-1-milyar-dolarlik-ihracat-yolculugu/815910 (Last Accessed: 28 December 2017).

[5] “Pakistan Prime Minister Abbasi to fly with T129 ATAK helicopter.” Kokpit Aero. 22 October 2017. URL: http://www.kokpit.aero/pakistan-basbakani-atak-helikopteriyle-ucacak (Last Accessed: 21 December 2017).

[6] Burak Bekdil. “Turkey keen on attack helicopter program despite snags.” The Hurriyet Daily News. 14 November 2013. URL: http://www.hurriyetdailynews.com/turkey-keen-on-attack-helicopter-program-despite-snags-57882

[7] SSM Annual Report. 2010. p46

[8] Alan Warnes. “Turkish Aerospace Industries (TAI) in the Spotlight.” Monch. May 2017. URL: http://www.monch.com/mpg/ebooks/military-technology/2017/05/files/basic-html/page92.html

[9] Burak Bekdil. “Turkey keen on attack helicopter program despite snags.” The Hurriyet Daily News. 14 November 2013.

[10] Turkey GDP Growth Rate. 1998-2008. Trading Economics. URL: https://tradingeconomics.com/turkey/gdp-growth (Last Accessed: 08 June 2018).

[11] Borzou Daragahi. “Erdogan Is Failing Economics 101”. Foreign Policy. 25 May 2018. URL: http://foreignpolicy.com/2018/05/25/erdogan-is-a-mad-economist-and-turkey-is-his-laboratory/ (Last Accessed: 08 June 2018).

[12] “Lira firms as Turkey’s Central Bank makes decisive hike to key interest rate”. The Hurriyet Daily News. 07 June 2018. URL: http://www.hurriyetdailynews.com/lira-firms-as-turkeys-central-bank-makes-decisive-hike-to-key-interest-rate-132940 (Last Accessed: 08 June 2018).

[13] Kerry Herschelman. “Turkey unveils incentive package for defence industry.” 11 April 2018. IHS Jane’s Defence Industry. URL: http://www.janes.com/article/79203/turkey-unveils-incentive-package-for-defence-industry (Last Accessed: 07 June 2018).

[14] Interview with Dr. Ata Şenlikçi, the Head of Research and Development and Technology Management Department in the Turkish Undersecretariat for Defence Industry (SSM). Defence Turkey. URL: http://www.defenceturkey.com/en/content/ssm-s-aggressive-r-d-investment-plans-by-2023-spending-target-3-of-turkey-s-gdp-2157#.WxzYgUgvyUl (Last Accessed: 07 June 2018).