More than two decades ago, an earthquake rocked Turkey, leaving more than 17,000 people dead. That 1999 disaster ultimately helped pave Recep Tayyip Erdoğan’s path to political power in the country.

Erdoğan capitalised on the public outcry over the then-government’s lacklustre response to the earthquake, ultimately securing the post of prime minister in 2003 under his Justice and Development Party (AKP).

Turkey’s economy grew rapidly in the first decade after the AKP took over, surging after a financial crisis in the early 2000s and buoyed by Erdoğan’s policies to attract foreign direct investment (FDI) into the country. Across this ten-year period, Turkey attracted FDI projects across a number of sectors, including financial services and manufacturing.

This rise put Erdoğan in a position of near-immortality as far as Turkey’s politics went. He has steadily ascended the political ladder (becoming president in 2014), centralised power and held tight reins over the country’s economic levers, including the central bank and the setting of interest rates. However, as Turkey slipped into an economic downturn in recent years, Erdoğan resorted to implementing a series of unconventional economic policies that have increased the national account deficit and ultimately turned off foreign investors; FDI inflows now account for just over 1% of gross domestic product.

Could earthquake response see the end of Erdoğan?

Just over 20 years after the devastating tragedy that helped Erdoğan rise to power, another earthquake struck the country. On 6 February 2023, tremors rocked Turkey and parts of Syria, killing more than 50,000 people in both countries, displacing three million from their homes and destroying infrastructure.

As in 1999, the February earthquakes may well have political consequences – but this time, rather than strengthen Erdoğan’s political grip on the country, there is a growing feeling that the earthquake response in 2023 will shake his political foundation. Tens of thousands of buildings fell, and building codes bypassed during construction – enabled by politically connected construction companies – led to what critics say was an avoidable level of destruction.

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“The political impacts of the earthquakes are weighing up,” says Maximillian Hess, principle at Enmetena Advisory.

The general election in the country on 14 May is seen by many as a referendum on Erdoğan’s handling of the earthquakes, as well as his economic policies.

“[The earthquake] is an issue not defined by politics, but people were angered by the time [it took] to help the people affected,” says Ozan Özkural, founder and managing partner at Tanto Capital Partners. “Political differences aside, it was about getting to people on time, and it left a bitter taste for voters, whether AKP supporters or opposition.”

Voters, who have watched their salaries and purchasing power dwindle as the Turkish currency has devalued and inflation has soared, are now being presented with the opportunity to hold Erdoğan to account at the ballot box.

For foreign investors standing by, the consequences of Erdoğan being defeated could mean a new party in power that would restore the independence of the central bank, potentially raising interest rates and returning Turkey to a more conventional monetary policy.

“The election really is make or break for Turkey’s macroeconomic stability,” says Liam Peach, senior emerging markets economist at Capital Economics.

How is Turkey recovering from the earthquake?

Regardless of how the election plays out, Turkey’s reconstruction will continue amid questions over why construction policies were left unenforced. Meanwhile, Turkey’s economy will take a short-term gut punch that it can barely afford. Turkey could lose 1% of its GDP in 2023 as a result of the earthquake, according to the European Bank for Reconstruction and Development.

Academic literature shows a link between natural disasters and diminishing levels of FDI in the short term, although overall FDI levels tend to increase between three and five years after a disaster. Damage to human capital can additionally be seen as negative to investors.

In Turkey, however, the case is less clear cut. The country’s economy has been reeling ever since Erdoğan slashed interest rates, which sent inflation soaring above 85% in 2022. The local currency has fallen by approximately 30% against the US dollar. Erdoğan’s adopted economic model prioritises production and exports and targets cheap credit, according to the president’s critics.

Economists have stated that to halt inflation, interest rates need to be raised, but Erdoğan – with tight control over the central bank – has remained steadfast, arguing that his strategy of lowering rates will reduce inflation and encourage growth. All of the evidence so far would suggest that this policy is not working.

Just what damage has been done to Turkey?

Against this backdrop, Turkey’s earthquakes aren’t expected to weigh as heavily on investor sentiment as academic literature might suggest.

“When we have compared it to the great east Japan earthquake of 2011 or the earthquakes in Santiago, Chile, Turkey’s looks at the mild end of the spectrum in terms of damage to capital stock,” says Peach. “For that reason, we think reconstruction will be easier and won’t have as much of an impact on the economy’s growth potential.”

Analysis by economist Selva Demiralp of the Istanbul Political Research Institute (Istanpol) found that the region in the country hit hardest by the earthquake is responsible for around 7.5% of Turkish GDP, and some 15% of the country’s agricultural output comes from the area, with steel and textiles also being key industries.

Iskenderun Harbour, which was heavily damaged by the earthquakes, is the fourth-largest harbour in Turkey and steel, iron, energy and fertilisers are imported into the country via the port. Steel, iron, fruit and vegetables, machinery and furniture are exported from Iskenderun.

“Damage to the harbour may trigger supply chain disruptions at home as well as abroad,” writes Demiralp in her analysis, adding that one long-term knock-on effect of the earthquakes could be that “forced emigration from the area turns out to be more permanent, [meaning] the damage to production capacity, particularly in the labour-intensive agriculture and textile sectors, would be longer lived.”

While the human cost of the earthquakes was devastating, the damage done when it comes to Turkey’s overall economic outlook could have been worse. The hit to the housing sector, however, has been huge, estimated to add up to around $57bn (Tl1.11trn) with more than 160,000 buildings collapsing or being severely damaged. An earthquake-resistant construction law came into force in 2000, but many of the houses destroyed in February were built before this time.

Perhaps lingering in the back of investors’ minds is the way that the earthquake, primarily a natural and humanitarian disaster, has been politicised. “The root cause of this earthquake is that it reflects in large part government policy upon the construction sector,” says Peach. “There may be a bit of corruption too. There have been a lot of construction CEOs and heads of businesses that have been hit pretty hard by the crackdown in response to the earthquake, and maybe that is a deterrent to foreign investment.”

The Wall Street Journal reported that more than 230 builders, architects and engineers in Turkey were facing legal proceedings in the wake of the earthquakes.

Can FDI help to rebuild Turkey?

How Turkey rebuilds its shattered regions in the aftermath of the earthquakes could well impact the way it is viewed by foreign investors. Having adequate prediction technologies and policies is key for disaster-prone areas to attract FDI, according to Paula Ferreti, the co-author of a study on the effect of natural disasters on FDI. Incentives for the private and public sectors to ensure reconstruction happens rapidly can also be attractive to investors.

Istanpol’s Demirlap notes that most of the buildings constructed by the Housing Development Administration of the Republic of Türkiye were undamaged after the earthquake. “This shows us that if you follow the building codes, it is possible to resist the earthquakes, even at the massive scale that we have observed,” she says. “Based on this evidence, I would argue that so long as the new buildings are earthquake resistant, there is a convincing case to invest in the area.”

For the state’s investment promotion authority, Invest in Turkiye, the focus is now on a path forward though a new planned investment strategy (the previous strategy focused on the years 2021–23). “We believe that our reconstruction efforts, with a ‘build back better’ approach, will offer new opportunities for investors,” says Dr Bilal İlhan, the head of the research and data management unit at Invest in Turkiye.

Reconstruction – estimated to cost $100bn – is likely to be funded, initially at least, through internal sources, grants and loans. Peach believes it will be some time before FDI potentially picks up into the country.

“Reconstruction is going to be overwhelmingly focused on buildings and some key infrastructure such as bridges and roads,” he says. “For that reason, there isn’t going to be a huge wave of FDI into Turkey for the reconstruction.”

Analysis from Istanpol estimates that one-fifth of construction expenditure needed for Turkey’s rebuilding will involve imported material. As a result, trade and account deficits may increase by 1% in the country. In February, Turkey’s account deficit stood at $8.5bn, with the 2023 deficit projected at $45bn, according to Reuters.

FDI’s role in Turkey’s past and future

Erdoğan has long been sold on the value of FDI to Turkey. It was his administration that, in 2006, created Invest in Turkiye, which reported to Erdoğan when he was prime minister, and then stayed under his remit when he became presdient.

Erdoğan has taken decisive steps to attract FDI, implementing investment for citizenship schemes and attractive investment policies, such as only requiring foreign companies to provide a “post-closing notification”, rather than mandating prior approval.

“It is a story in two halves [when it comes to FDI under Erdoğan],” says Özkural. “In the early 2000s, FDI was flowing into the country, and rightly so. Erdoğan did, and does care, about attracting FDI, but especially after 2016 and 2017, the government has become more isolated and more eastward looking. There is nothing wrong with looking towards the east; however, a country such as Turkey should have a 360-degree view, given the commercial and geostrategic significance of its geography and history, looking west and east, as well as at the global south.”

Increasingly, while the FDI Turkey does attract stems from Asia and the Middle East to some extent, the biggest share still comes from Europe. Data provided by Invest in Turkiye shows that between 2003 and 2012, 74.3% of Turkey’s FDI inflows came from Europe. In the 2013–22 period, that share shrank to 63%, with the figure from Asia standing at 11%.

However, none of this alters the fact that FDI inflows into Turkey over the past few years have been low by the country’s standards, with some analysts blaming Erdoğan’s policies for this slump. In 2022, FDI flows for greenfield projects, announced projects, and mergers and acquisitions are likely to be slightly lower than they were in 2021, but the official data is yet to be released, according to İlhan at Invest in Turkiye. “There is no major change compared to [2021],” he says.

İlhan adds that Invest in Turkiye is sector and geography-agnostic, and his team’s strategy is to promote investments that help the country to reduce imports and increase exports, such as building up the country’s manufacturing sector. “That is why the state came up with the new economic model, to keep the account balance under control,” he says.

This strategy is not dissimilar to that being undertaken by the US and other Western countries, which are looking to reduce their reliance on Chinese manufacturing, and are searching for alternatives.

However, Erdoğan’s political strategy has scared off many Western partners and his monetary policy has driven the country’s economy into the ground, something that the country will need to address. “I expect longer-term sticky FDI to come into the country should Turkey start embracing global market dynamics and traditional monetary policy tools once again,” says Özkural.

A new Turkey with a new president?

The path back to traditional monetary policy could begin on 14 May after Turks vote in the country’s general election. Polls have predicted a record voter turnout, and the race remains tight between Erdoğan and the opposition candidate Kemal Kilicdaroglu, the leader of the Republican People’s Party and presidential nominee for the six-party Nation Alliance bloc.

“The elections [could] be a turning point regarding whether the current system will continue or whether Turkey will adopt orthodox policies, achieve financial stability, implement a disinflation programme with an independent central bank, and turn its face to Western business conventions and rule of law,” says Demiralp. “In that regard, I think the elections would play a major role in shaping FDI decisions.

“In the past, we had seen a major increase in FDI after the 2001 elections when Turkey followed similar steps. I can imagine that a similar wave is possible, especially given the fact that global liquidity is abundant and Turkish asset prices are significantly low given the depreciation in the lira.”

Most of the provinces worst hit by the earthquakes are considered Erdoğan and AKP strongholds. CNN reported that Supreme Election Council chief Ahmet Yener said in April that at least one million voters in those areas are expected not to vote this year as they have been displaced.

There is also a chance that even if the opposition candidate is successful at the polls, Erdogan may not hand over his post without a power struggle. “It is a very stark choice if you are looking at it as a foreign investor, in that this could be a really good opportunity to enter the Turkish economy if Erdoğan loses at the polls,” says Hess.

Brazil and the US have turned their backs on authoritarian, strongman leaders in recent years, and it remains to be seen if Turkey will follow suit. Erdoğan’s popularity with foreign investors seems to have waned in recent years, but the country’s potential and population size means it will never be far from their radars. That said, the country may look a little more attractive to multinationals and the like if Kilicdaroglu prevails after the voting closes on 14 May.