Has European Customs Union Agreement really affected Turkey's trade?

Abstract

The numerous discussions regarding the advantages and disadvantages of Turkey's becoming a member of the Customs Union has been inconclusive. The empirical analysis that mostly focus on the changes in the volume of trade without much regard to the conjectural changes have also been insufficient. This study attempts to shed light on this issue in a formal analysis of Turkey's international trade by empirically accounting for the changes before and after the Customs Union Agreement (CUA). In doing so, we explicitly account for the concurrent changes in the macroeconomic environment that may have affected Turkey's trade with the rest of the world. Our empirical findings indicate that CUA has not only positively impacted on Turkey's trade, but also led to changes in the behaviour of both exports and imports with regards to their responsiveness to underlying variables.

Notes

¹ The quota list was removed in 1981 and was replaced by an import programme in 1984, which increased tariffs for consumption goods but reduced them for intermediate and capital goods (Baysan and Blitzer, 1991).

² See, for example, Bayar et al. (2000).

³ Calculated as: nominal (official) exchange rate (foreign currency units per TL) × [Turkish CPI/Foreign CPI], where all figures are indices based in 1995.

⁴ We combined the data for Belgium and Luxembourg for the reason that data on Turkey's bilateral trade with the two countries exists in a combined form.

⁵ A closer inspection reveals that while the share of trade (both imports and exports) in agricultural goods with the EU countries have declined in the second half of the 1990s, the share of imports and exports in industrial goods have increased, also affecting the composition of Turkey's total trade in the same manner (see Table A2).

⁶ The findings of Doroodian et al. (2002) confirm these observations. Estimating the equilibrium real exchange rate (ERER) and comparing it with the real effective exchange rate (REER), the authors report that REER was undervalued prior to 1989 and overvalued thereafter till 1994, while the misalignments in REER were corrected over the long term. On the other hand, employing a new methodology, Ozlale and Yeldan (2004) argue that the Turkish Lira was overvalued mainly between 1995 and 1997. While the misalignments subsided thereafter, a major undervaluation is observed in 2001.

⁷ Both Goldstein and Khan (1976) and Murray and Ginman (1976) use the ratio of import prices to domestic prices to estimate the import demand function; likewise, Bond (1987) and Brada et al. (1997) use the ratio of export prices to world prices to estimate the export function.

⁸ An increase in rer indicates real appreciation of the TL.

⁹ We cannot add the political stability and governance terms to the fixed effect formulation. However, though econometrically inferior, OLS estimation is performed to analyse the effects of these terms, whose results are reported briefly below.

¹⁰ See Kennedy (1997) for example. Both Hausman (1978) and joint F-tests support the appropriateness of this choice (available from the authors).

¹¹ A similar finding is reported by Martinez-Zarzoso and Nowak-Lehmann (2003) in the context of Mercosur-European Union trade flows. In a more general context, Endoh (2005) also argues that global system of trade preferences, another from of preferential trade agreement among developing countries, has also been conducive to an increase in trade value.

¹² See Table A3 for significance tests of the sum of the coefficient estimates.

¹³ With a 0.12 decline in the income elasticity of demand.

¹⁴ According to the result of the Wald test, it is not possible to reject the hypothesis that the sum of the two price coefficients is in fact zero.

¹⁵ The regression analysis that includes only the interactive CU dummy with the income and price variables, reveals similar results and shows that these parameter estimates are quite robust to the addition of other interactive terms and dummy variables.

¹⁶ Berument and Dincer (2005) state that appreciation of Euro against US Dollar improves the trade balance of Turkey, since currency composition of Turkey's exports are more heavily in Euros than in Dollars as opposed to its imports, which are more heavily in Dollars. Coupled with this observation, increased RER sensitivity of Turkish exports during the CU period accentuates the positive effect of a decrease in the Euro–Dollar parity on the trade balance of Turkey.

¹⁷ See Selcuk and Yeldan (2001) for an analysis of the economic impact of the 1999 earthquake.

¹⁸ Results are not reported but available from the author upon request.

¹⁹ See Kaufman et al. (2002) for measures of political instability and estimates of governance variables based on an analysis of wide-ranging data sources–comprised of both polls and surveys conducted in individual countries.

²⁰ Regressions are available from the author upon request.