INSTITUTIONAL REFORM AND REGULATION IN TURKEY

1 INSTITUTIONAL REFORM AND REGULATION IN TURKEY Tamer Çetin Department of Economics Zonguldak Karaelmas University Turkey Fuat Oğuz Department of Economics Baskent University Turkey ABSTRACT The paper analyzes the transition process to IRAs in Turkey and lessons form the Turkish energy industry in this process The main reasons for delegation of the regulatory discretion to IRAs from the institutional perspective are to reduce political transaction costs and to ensure a credible regulatory commitment In this context, the first section of the paper examines what political transaction costs and regulatory commitment in terms of delegation of the regulatory power to IRAs mean Later, the paper scrutinizes the political and legal issues occurring during the transition to IRAs in Turkey Finally, the paper reveals the institutional conflicts in the industry by considering cases between the independent regulatory and the government in the Turkish energy industry Key words: independent regulatory agencies, transaction costs, independence, Energy, Turkey INTRODUCTION Independent regulators have become part of the institutional structure of the regulatory process in recent times The institutional structure of the regulatory process in a country determines the competence of public utilities, investment decisions and economic performance A well designed regulatory governance mechanism reduces governmental opportunism supports a successful sector performance (Spiller and Tommasi, 2005) 2 Regulatory commitment and political transaction costs are the basic tools to evaluate the efficiency of a regulatory process Political and institutional structure of regulation shapes the nature and scope of commitment and interaction among players (mainly the Legislature, the Executive-IRAs, and the Judiciary) The supply process of regulation determines the magnitude of political transaction costs (Levy and Spiller, 1996) Arbitrary interventions to the regulatory process increase transaction costs and reduce regulatory commitment The institutional structure of regulation in a country determines its economic and political environment Each country has a distinctive regulatory-institutional endowment which affects its regulatory-institutional structure (Laffont, 2005) As conflicts of interest between institutions increase political transaction costs, belief in regulatory commitment diminishes If commitment is not credible, the choice of optimal policy or equilibrium becomes difficult However, credible commitment limits the extent to which a party can engage in opportunistic behavior and hence provides reliance to the system When commitment is not fully credible, firms have difficulty in making long-term plans They will also have weaker incentives to make long-term and irreversible investments, and focus on short-term goals instead (Baron, 1995: 16) Delegation of power to IRAs reduces political transaction costs and increase commitment (McCubbins, 1985; Majone, 2001) In countries which have little experience in delegating functions to ‘arm’s length’ institutions, independent regulation is controversial Turkey is not exception to this trend The polity in such environments cannot develop regulatory institutions (Spiller and Tommasi, 2003) Turkey has reshaped its own regulatory institutional structure recently by establishing IRAs The transition from the state-ownership to the regulatory model created high political transaction costs (TUSIAD, 2002) The lack of constitutional protection and legal ambiguity surrounding IRAs create a question of legitimacy The inconsistency of policies between the government and IRAs feeds rent-seeking activities, which contributes to the failure of regulatory reforms (Demir, 2005) This paper discusses these issues in depth with a political economy perspective To begin with, the paper observes the main rationales for delegation of regulatory discretion to IRAs Next, we analyze the political economy of the institutional change in Turkey with a focus on recent governments In the end, we discuss the place of IRAs in the regulatory institutional structure by emphasizing on the issues in transition and lessons from government’s energy policies The paper draws attention to potential dangers of politically ‘consistent’ but economically ‘inconsistent’ attitude toward economic institutions 3 RATIONALE FOR DELEGATION OF DISCRETION TO IRAS: POLITICAL TRANSACTION COSTS AND CREDIBLE COMMITMENT IRAs represent the best examples of delegation of the regulatory policy-making discretion to nonmajoritarian institutions (Majone, 2001b) Most scholars have focused on how and why elected politicians delegated their competencies to IRAs, formal institutional design of IRAs and consequences of creating IRAs (Thatcher, 2002; Majone, 2001a, 2001b; Epstein and O’Halloran, 1999) The main aim of such agencies is to reduce the influence of politicians and private actors in industries such as energy, telecommunications and transport IRAs, are seen as the guarantee for objective and unbiased administration There are a number of theoretical rationales for delegation of discretion to IRAs, ranging from expertise, flexibility, stability to public participation, transparency, and public interest (Thatcher, 2002; Majone, 2001b; Epstein and O’Halloran, 1999) For example, IRAs are closer to the regulated sector than ordinary bureaucracy and can more easily gather relevant information They can easily adapt to technology or technical knowledge and build expertise related to regulatory issues IRAs’ autonomy makes them more able to flexibly adjust regulations to changing conditions IRAs provide a stable and predictable regulatory environment The decision making process of IRAs is more open and transparent than that of ministerial departments and is more sensitive to diffused interests such as those of consumers However, functional advantages are not sufficient to explain delegation of power to IRAs By pursuing Majone (2001a, 2001b) and Levy and Spiller (1996), we directly focus on two much more important rationales; political transaction costs and regulatory commitment Both political transaction costs and regulatory commitment influence each other, and both of them determine efficiency of the regulatory process together Accordingly, the most important function of IRAs is to reduce political transaction costs and to ensure credible commitment in the regulatory process (Thatcher, 2002) 2.1 Political Transaction Costs In real world, transaction costs are always positive The concept can be easily related to regulatory decision making processes The regulatory process means interaction within the institutional endowment or the governmental-politics structure that plays a prominent role particularly in public utility regulation The regulatory institutional endowment consists of political processes that define property rights, redistribute wealth and determine the direction of the economy Transaction costs are usually higher in politics than in the economic sphere Political processes thus create more inefficiencies (North, 1990) Politicians can manipulate regulatory processes for political ends and create governance problems (Williamson, 1999) Establishing credible institutions plays a crucial role in reducing transaction costs (North, 1991) In that case, political transaction costs -the cost of operating the political process and, in particular, the cost of reaching and enforcing political agreements- may be the reason why political principals choose to delegate policy making powers to IRAs rather than making themselves it (Majone, 2001a) The relationship between politicians and regulators are modeled usually a principal-agent problem (Moe, 2006) Thus, the relationship between regulatory institutions playing a role in the regulation game reveals political transaction costs in the regulatory process Economic, political and social institutions exist to reduce transaction costs According to this approach presented by Coase (1937) and developed by Williamson (1975), the reason for the organization of the economic and the political hierarchies like firms, governments and regulatory agencies is the minimization of transaction costs As a result, the level of political transaction costs is one of the foremost factors that shape the design of the regulatory framework (Menard and Shirley, 2005) Interactions among related groups affect the magnitude of political transactions costs (Levy and Spiller, 1996) In this connection, the attitude of the judiciary, the executive and the legislators determine the structure of regulatory institutions A strong government does not tolerate regulators to intervene its policies In such cases, independence of IRAs can be injured and thus, transaction costs of the regulatory process can increase 2.2 A Credible Regulatory Commitment Politicians have to signal the credibility of their proposed reforms, if it is to be successful The absence of credibility weakens any political reform Regulatory reform proposals around the world offer many examples, particularly in utilities Utility investments are long-lived, and the role of credibility becomes more important In this environment, if the commitment for reform is not credible, private investors will stay out of the industry Existing firms will focus on short term profits instead This process creates disappointments in politicians and gives way to resistance against regulatory reform (Spiller, 1996: 477) Credibility in public utility regulation is particularly crucial in developing economies when institutional rules are not well established (Laffont, 2005) Efficiency of regulation depends on regulatory governance and commitment Governments can politicize the pricing and expropriate the firm’s sunk assets by altering rules or regulations (Levy and Spiller, 1996; McChesney, 1987) This possibility discourages firms from making long-term investment commitments 5 Governments tend to use their discretionary power where institutional costs are low and the expected utility of the use of such arbitrary discretion is large Thus, the problem of regulatory commitment in public utility regulation is a consequence of the very nature of the regulatory policy-making processes (Majone, 2001a: 61) Governments send a strong signal to the private sector that it will not interfere in operational affairs related to the market processes for political ends by establishing IRAs In this sense, delegation of the regulatory discretion to IRAs is a feasible and popular method for a credible regulatory commitment However, there are some necessary conditions in order to ensure regulatory commitment in a system with IRAs One of them is the independence of regulatory agencies With this system, the government binds itself and it is in its interest not to bend rules that defines its commitment Procedural and substantial legitimacy of an IRA provide the background for a good institutional design Ill-defined political property rights in the regulatory policy-making process can also impede regulatory commitment Delegation to IRAs changes political property rights and guarantees the independence of the agent The guarantee is particularly strong when the legal basis of the transfer is not a statute but a constitutional provision (Majone, 2001a) The strength of constitutional rules that protect private or political property and contract rights against a governmental intervention does not only ensure the independence of the agent, but can also establish a credible commitment or prevent the political attraction of rent-extraction strategies on returns to private capital (McChesney, 1987) Another argument for credible commitment is the time-inconsistency or the political uncertainty problem in the policy making process (Majone, 2001a; Moe, 1990) In modern democracies, principals are elected for a particular time period at regular intervals While today’s politicians can exercise the political property rights at present, other ones with different and perhaps opposing interests can acquire the right in the next elections Then today’s political preferences are most probably subverted legally by tomorrow’s political authority (Moe, 1990) In such cases, elected politicians cannot ensure a credible commitment in long-run policies and the political property rights amounts to the discretionary powers IRAs can solve such a timeinconsistency problem (Majone, 2001a) 2.3 The Dilemma of Independence and Accountability While there is a consensus over the benefits of delegation, it has also its own problems The major one is known as the ‘delegation problem,’ which refers to the tension between elected politicians and tenured bureaucrats Much of that attention has focused on the ways politicians try to influence agencies indirectly by designing the agency’s environment so as to steer the agency policy into a particular policy direction This creates a trade-off between the independence of an IRA and its accountability over its decisions Independent regulators can pursuit their self-interests rather than public interest (Sigman, 2001; Figueiredo et al., 1999; Niskanen, 1975) They can try to maximize their own budget, get more autonomy, positive recognition and publicity In order to reach these goals, IRAs may use their informational advantages to benefit, including higher transfers and rewards In such cases, private interest groups easily become part of the regulatory agenda (Fiorina, 1986; Stigler, 1971) Or, IRAs can be subject to pressures from politicians (Sigman, 2001) All these considerations support the view that there has to be a balance between independence and accountability Politicians use some tools to establish the balance The best-known version of these tools is the so-called structure and process hypothesis By using structure and process mechanisms, the legislature can control the activities of IRAs But, this method generally injures independence of IRAs, limits accountability and does not solve the deviation problem of IRAs from public interest According to the hypothesis, legislatures exert ex ante influence over decisions of IRAs by imposing on the agency a particular organizational structure and decision-making process (Spence, 1999: 413-14) For instance, politicians can structure IRAs so as to define their regulatory discretions By determining the agency’s mission, establishing its internal organizational structure, and choosing its location within the larger executive branch via the structural arrangements, politicians can control discretionary power of the agency through structural choices and force the agency in favor of a specific policy outcome IRAs cannot be independent when they are subject to continuous political oversight For accountability, instead of direct control or congressional dominance, transparency of an IRA’s activities can be chosen The transparency in the regulatory process means the mandatory disclosure of necessary information by the related regulatory institutions to attain a clear regulatory aim (Weil et al., 2006) If IRAs disclose necessary information concerning their regulatory activities, the democratic process may improve the accountability without political control For that reason, the relevant laws must specify delegated authorities, roles, duties, responsibilities, and decisionmaking processes of IRAs In this sense the Turkish experience provides a good case study on the interrelationships between executive, judiciary and regulatory institutions in a newly established However, active congressional reversal is not necessary; all that is needed is the threat of legislative action (Carrol et al., 1999) Legislative action on the regulatory discretions of the independent agencies is sufficient to injure the independence of IRAs 7 regulatory environment The rest of the paper will take a closer look at the recent Turkish experience THE POLITICAL ECONOMY OF CHANGE IN TURKEY: FROM COALITIONS TO THE CURRENT GOVERNMENT Since the 1980s Turkey followed the path to a more liberal economy, with some success The transition also gave way to a rent-seeking society (Demir, 2005; Heper, 2000), which emboldened the trend to solve economic issues in political markets In the end, political reforms have produced unexpected negative results and remained mostly ineffective The dominance of rent-seeking diverted entrepreneurial incentives unproductive, and sometimes destructive, rents in government rather than productive profits in competitive markets (Akyüz and Boratav, 2003: 1560; Özcan and Çokgezen, 2003: 2064) The institutional structure of the regulatory process evolved within this structure (Onis, 1998) The privatization experience of Turkey provides important lesson in this connection Privatizations turned into a policy game and became part of rent-seeking of political interest groups (Ercan and Onis, 2001) 3.1 The Lost Decade: 1990s Throughout the 1990s, privatization and regulation became part of Turkish development plans The seventh plan, introduced in 1996, recommended the privatization of state monopolies and introduction of competition in network industries It also recommended the establishment of IRAs in those industries The eighth development plan also gave some room to regulatory institutions Similarly, international institutions (IMF, EU, OECD, and World Bank) also encouraged regulatory reform In the political sphere, Turkey lived with coalition governments throughout the 1990s until 2002 The last coalition government took the first crucial steps with its structural reforms in 2001 The transition program prioritized competition and efficiency in the economy and introduced the institutions of market economy However, the same government faced many corruption issues The close ties between the political elites and leading holding companies opened doors to widespread rent seeking and corruption In the absence of a regulatory institution in the banking industry, excessively politicized public banks have emerged as major instruments of rent distribution in the political process Both borrowing and leading operations of these institutions have heavily been politicized in the political processes Public banks helped Turkey’s transition to a more liberal market system has been widely discussed in the literature See, for example, Bugra (1995), Onis (1998), Heper (2000), OECD (2002), and TUSIAD, (2002) 8 governments to transfer public funds to their own constituents including agricultural producers and small and medium sized businesses The duty losses of these banks for 2000 and 2001 are shown in the Table (Alper and Onis, 2002) In the end, Turkey had to counter financial crises, large costs to the economy and a necessity for fundamental change in the banking and other industries (TUSIAD, 2003).3 (Table Here) Not only the banking industry, but also other tightly regulated industries and state monopolies were main targets of rent-extracting and rent-seeking activities As in other developing countries, the state-owned monopolies in Turkey have been inefficient Politicians have manipulated this inefficiency for their own political ends For example, the electricity industry has long been an arena for wealth transfers to the state and an important variable in political games Turkey’s political environment has long been defined by coalition governments The instability of coalitions made bargaining and strategic behavior an important component of the political life The 1990s was particularly unsteady There were eleven short-lived governments As seen on Table 2, seven of them were coalitions Turkey faced three biggest economic crises (1994, 2000, and 2001) during this period There is a positive correlation between economic crises and political instability (Kibritcioglu, 2001) In most cases, coalitions included parties with opposite world views For example, the last coalition government included a leftist (DSP), a nationalist (MHP) and a liberal-conservative party (ANAP) This government, as easily predicted, could not implement any significant policy proposal because of conflicting opinions and beliefs One of the harmful results of the incoherence was the unrelenting budget deficits, which went hand in hand with inflationary pressures (Table Here) Governance by coalitions harms the stability of any regulatory policy No government can take bold steps in this environment and political bargaining dominates the political market The costs of decision-making are relatively higher in coalition governments because of widespread principal-agent problems (Martin and Vanberg, 2004) Interest groups use this system competently to extract rents, as the cost of rent-seeking decreases There are two dominant 34 For example, the banking crisis is estimated to cost around $40 billion to the economy (Pazarbasioglu, 2005; 163) This sum is quite large in comparison to the Turkish GDP 9 channels for the capture On the one hand, campaign financing and other ways of pecuniary gains influence political decision making On the other hand, these groups may provide only beneficial information to politicians to persuade politicians (Figueiredo ve Figueiredo, 2002; 161-162) Coalition governments also increase transaction costs of regulatory procedures Coalitions are usually short-lived So, interest groups spend more resources to get and protect their interests (Olson, 1999) Coalition parties may have conflicting policies toward some industries The divergence among parties weakens the power of the government Allocating regulated industries among coalition parties harms the regulatory process too For example, the last coalition government distributed regulation authorities across parties ANAP controlled the energy industry, MHP dominated telecommunications and the banking sector was mainly controlled by DSP These parties had conflicting views about the role of state in the economy Policy-making costs surged in this environment To give an example, two prominent regulatory institutions, the Banking Regulatory and Supervisory Authority (BRSA) and the Competition Authority (CA), were established under the bargaining of coalition parties The government could not appoint their board members for a long time after their law passed in the parliament because of political haggling Conflicting views of coalition parties delayed the institutionalization of regulation and contributed to the economic crisis in 2001 (TUSIAD, 2001) The economic crisis of 2001 is an important example of conflicting views on the economy among the coalition parties The governing parties had separate control areas and tried to maximize their benefits The regulatory capture was widespread and bureaucrats found ways to seek their own gains within the system This created a fragmented economic system On the one hand, they tried to implement market-based institutions; on the other hand, they had no intention to let go their rent resources The banking industry, because of rent seeking of political elites, was not adequately regulated An ineffective regulatory framework was one of the reasons for problems in the banking sector that helped to trigger the 2001 crisis, causing vast welfare losses (OECD, 2002; 9) 3.2 The Government and IRAs The elections in 2002 were held under these conditions The e lections brought the AKP a majority in the parliament, which took a liberal position on the economy It sought votes from The structure of the effect of interest groups on politicians is controversial Some downplay the power of private lobbies See, for example, (Besley and Coate, 2001) In the context of trade policy, Hoffman (2005) argues that lobbying is not so strong because of inherent commitment problems 10 both conservative and liberal minded citizens, with its expressed priority of the membership to the European Union (EU) (Bacik, 2004; 823-824) In terms of regulatory issues, this meant the continuity of the reform Expectations for a more stable economy replaced the pessimistic picture Economic activity boosted and inflationary pressures lost their strength with the new government.5 One of the key characteristics that distinguish emerging market economies like Turkey from established market economies is not the absence of rules and regulations but weak implementation of such rules and regulations in practice (Alper and Öniş, 2003) For that reason, IRAs are particularly important in Turkey’s regulatory structure, to ensure impartial and effective regulation isolated from political influence (OECD, 2002; 37) As shown in Table 3, IRAs have flourished in the last decade BRSA, Telecommunication Authority, Energy Market Regulatory Authority (EMRA) and Capital Markets Board are the major regulatory authorities in Turkey In particular, the external pressures of international organizations accelerated the regulatory reform in Turkey and the establishment of IRAs (Alper and Onis, 2002; 15) The World Bank and the IMF pushed for reforms following the crises of 2000 and 2001 Another crucial factor was the adaptation to the European Union economic structure Almost all regulations follow the EU guidelines On the other hand, the widespread privatization efforts and the increasing role of regulatory institutions in market economies forced Turkey to implement reforms (Table Here) The government, having a majority in the parliament, preferred to control IRAs for political ends In this sense some of the recent conflicts between the government and EMRA are particularly exemplary For instance, energy policies of the government increased and go on to increase transaction costs of the transition to an IRA tradition specifically in energy markets by injuring independence of IRAs This situation has also impeded realization of the private-sector investments in the electricity distribution and generation markets so far by bruising ensuring a credible regulatory commitment during the reform process of the electricity industry (Cetin and Oguz, 2007a) The lack of a constitutional definition and protection of IRAs gave the government the room to impose its preferences to regulatory agencies The abundance of liquidity and low inflation in the world also helped the government in implementing its economic policies However, in this paper we heavily focus on the energy markets to show public policy toward the regulatory reform more specifically 11 3.3 The Constitutional Legitimacy of IRAs in Turkey The legal structure of independent regulators has been widely debated in recent years in Turkey Although IRAs have been given political, organizational and financial autonomy by related laws, since Turkey does not have long tradition of IRAs like other continental countries such as France and Italy do, the place of these agencies in the Turkish regulatory structure is controversial In Turkey, there are different opinions among law and economics scholars about the place of IRAs in the regulatory structure While some scholars find talking about IRAs in Turkey as unfeasible considering the tradition of the state and bureaucracy, , others see it as the leverage of economic growth and some others try to place these agencies somewhere in current structure (Cetin, et al., 2008; Cetin and Oguz, 2007a, 2007b; Sosay and Zenginobuz, 2006; Karacan, 2002) IRAs were introduced to Turkey’s economy as ad hoc remedies after economic crises, without much discussion of their constitutional place The Constitution does not mention those institutions Governments have preferred not to back these institutions with the constitutional protection so far The vagueness of the legal structure creates many issues around legitimacy and place of IRAs in the bureaucratic structure The current government has also chosen not to deal with constitutional issues IRAs thus are left without any constitutional description The lacunae create room for political maneuvering Rules governing decisions of IRAs are not clearly defined in any legislation Even though, the Constitution (articles 123 and 127) requires central government’s control over all public services and public enterprises (Ulusoy, 2001), the uncertainty over the independence and accountability of IRAs continues Most regulatory institutions are audited by Sayistay, the Supreme Court of Accounts (SCA) However, not all IRAs are audited by Sayistay A second group of IRAs, including EMRA, are audited by the Supreme Supervision Board (SSB) of the Prime Ministry, which was originally created to oversee the activities as well as the financial accounts of the state-owned enterprises in Turkey Neither the founding laws of these three agencies, nor that of the TA specify that their “financial accounts” are overseen by the SSB or SCA, However, based on the fact that the decisions of IRAs are subject to adjudication by administrative courts, review by the SSB and the TA, EMRA, SA, TTPABMRA, and PPA were established after the 2001/2002 crises Radio and Television Supreme Council was established after the 1994 crisis See for detailed information Table As mentioned before, the appointment of the board members of the Competition Authority (established in 1994) and the Turkish Banking Regulatory and Supervision Authority (established in 1998) was delayed until 1997 and 2000, respectively 12 TCA is interpreted as being limited to their budgets and financial issues (Sosay and Zenginobuz, 2006) Another ambiguity is about the appellation procedure for IRAs decisions and regulations The first level appellate court is Danistay, the Council of State, for EMRA, BRSA and CA However, local administrative courts are assigned as the first level of appellation for some IRAs IRAs are not under the authority of any ministry They are related to relevant ministries However, this relation is not like a bureaucratic order They are within the structure of the bureaucratic body and, at the same time, outside the direct control of the political authority This constitutional ambiguity restrains their ability to stay at the arm’s length from the government The uncertainty creates a resistance from the judiciary toward IRAs on many issues Courts cannot find any legal basis for their decisions on cases related to regulatory authorities For example, in a recent and important decision the Constitutional Court has chosen a middle road It recognized their independency, yet confirmed that they are within the public administration structure Naturally, the constitutional vagueness increases the costs of transactions for IRAs and deepens the commitment problems Turkish Constitution gives right and responsibility to fight monopolies and cartels to government (article 167) Judiciary tends to interpret the constitution as a defense of public provision of public services As in the case of electricity, this creates distrust on the side of judiciary to the governments LESSONS FROM THE ENERGY INDUSTRY The previous coalition government had initiated the privatization of many state owned enterprises (SOE) The AKP government took over this framework and promised to improve the previous government’s performance over selling many SOEs in 2002 While the government has succeeded in some privatizations such as TurkTelekom (the State Telecommunications Monopoly) and Tupras (Turkish Petroleum Refineries Company), electricity has been a failure The lack of a consistent regulatory policy in the energy industry between the government and regulator also aggravated the disappointment In this section we will look at four cases where AKP had conflicting attitude in terms of economic policies Moreover, all these examples show the preference for political expediency Energy policy is one of the major areas where AKP’s expressed aims before elections and behavior after election deviate Following the World Bank and IMF guidance, the regulatory O.G August 2006 13 reform had begun in 2001 AKP defended a liberal market in energy in its election programs However, after a very successful election in 2007, it decided to hold EMRA in its grip The Ministry of Energy and Natural Resources (MENR), with the signs from the industry about the excess demand crisis in the future, became more active in the generation segment of the market One reason is that privatization efforts did not go well so far Secondly, EMRA seems to be unsuccessful about managing the market efficiently While, the secondary legislations and regulations are in place, in reality, the industry has not progressed as initially expected The government, against the global trends, wants to push a more state-oriented energy market and restrain the power of EMRA Apparently, it is inconsistent to argue for a more liberal market structure on the one hand, and to become more dominant over the market on the other hand Many opportunities for a better energy market are missed in this political game 4.1 Electricity Strategy Paper The recent regulatory reform in the electricity market began in 2001, with a new electricity market law (EML).9 Privatizations were an important step of the reform EML required generation and distribution companies to be privatized within two years The law gave the authority to the Privatization Administration In 2004, the new government decided to change the path of the regulatory reform despite, EML and the independent regulator In 2004, the government published a strategy paper to express the new policy The new strategy paper, without any legal enforcement changed the course of privatizations This document brings the issue of regulatory commitment to the forefront Political expediency remained as the prominent goal of the government As the literature on regulatory commitment shows (Levy and Spiller 1996; Spiller and Tommasi, 2003), transaction costs rises as regulatory commitment of the political authority weakens The strategy paper reflects the government’s political preferences over electricity markets As a strong government, AKP preferred to control electricity markets For example, EML describes TETAS, the state electric trade company, as a transitory monopoly This company pursues general electricity policy and enters into purchase and sale contracts with producers and consumers According to the law, TETAS has to be a transitory monopoly Yet, the strategy paper makes it permanent in order to continue the government control over the market The government put EML’s articles on distribution and generation aside without annulling them The strategy paper gives priority to privatizations in distribution It required the distribution privatizations to be completed before the end of 2006 However, it was postponed one more time See Atiyas and Dutz (2005) and Cetin and Oguz (2007a) for discussions of the recent reform 14 and uncertainty dominates privatizations at the moment These delays create extra transaction costs for the regulatory process 4.2 Dispute over Regional Pricing Another conflict between the government and the regulator occurred on the issue of regional pricing Cost considerations require regional pricing in Turkey because of illegal and inefficient use of electricity Government subsidizes electricity in regions where costs are relatively high This is related to widespread illegal use in Southeastern Turkey EMRA attempted to introduce regional pricing in 2003 Politicians from this region resisted strongly to regional pricing The government preferred political consistency and supported the existing national pricing While EMRA has the sole authority on pricing issues, it gave up under political pressure There are significant political benefits of following national pricing First, one-price system subsidizes the illegal use, by reflecting its costs to other consumers The current government has a large voter-base in this region The government’s action is politically expedient, even though it encourages illegal use and adds to economic inefficiency It also supports crosssubsidization of households, which have more votes, by charging higher prices to industrial consumers.10 (Table Here) Second, agricultural sector depends on electricity largely AKP was unwilling to delegate its power on pricing to an independent regulator From time to time, all governments cross out farmers’ electricity debts Governments also supply other types of subsidies such as discounted gas to farmers Thus, they not want reduce their political tools to manipulate the electorate As a result, other regions in Turkey continue to subsidize the illegal use in the Southeastern region The illegal use rate is as much as 75% in some parts of this region (Table 4) In this connection, government aims to transfer $2.5 billon to these regions as subsidized electricity until 2011 via the new price equalization mechanism In the new system, the profits of western distribution companies will be transferred to the Eastern and Southeastern distribution companies In ten cities where illegal use is highest, AKP had the highest votes in nine in the last election On the other hand, in western cities with the lowest illegal use rate, AKP could not take the first place Another example is the Turkish Radio and Television Institution’s (TRT) share in electricity bills AKP promised to stop this subsidy too Yet, after the elections, it decided to reduce its share only TRT is a state broadcasting institution No politician wants to cut its easy and free access to national media 10 15 in elections, with the exception of three This reveals the political preference to overlook illegal use and see it as a cross-subsidy tool A major consequence of this policy shift is to make the state company (TETAS) permanent in distribution, wholesale and retail segments of the industry TETAS will be the pool to distribute sources across distribution regions 4.3 The Natural Gas Side of the Story Another case of government-regulator tension occurred in natural gas Natural Gas Market Law (NGML) left authority in natural gas market to EMRA According to the law, the state monopoly in natural gas, BOTAS, was required to reduce its share in the market to 10% by 2009 It also required that no importer or wholesaler in the market would have more than 20 % of the market It also gave the authority to enter natural gas purchase agreements to EMRA However, the incumbent government decided to control the market MENR entered natural gas purchase agreement with Egypt because of political considerations Government sees the contract with Egypt as an important step toward resource diversity and natural gas transfer to Europa EMRA declared that there is not a scarcity of natural gas It sees the contract unnecessary The legal status of the contract is controversial EMRA cannot annul the contract not it can ignore it Government’s move to enter into purchase contracts at its own will weakens the independence and authority of EMRA in the market MENR made BOTAS the authority over the contract with Egypt, which contradicts the current law According to NGML, even if EMRA and MENR reach an agreement, BOTAS cannot be part of the contract Political expediency played a crucial role in this issue as well NGML limits the market share of any importer or wholesaler to 20% of the domestic market This also applies to BOTAS, which cannot make new purchase contracts until its share of imports falls to the required level The earliest possible date for BOTAS’ share to fall to the legally required level is 2009 In short, as in the case of electricity, the government does not want to leave energy policy to a regulatory agency and this reduces the role of EMRA in the natural gas market to a bureaucratic arm of the government The government signals that it has the command over the market (Çetin and Oguz, 2007b) 4.4 Politicians’ Inability or Aversion to Change the Constitution The constitutional ambiguity has two sources for IRAs: constitutional legitimacy and judiciary’s resistance to privatizations Both issues continue to exist because governments not attempt to change the constitution and pursue regulatory reform through indirect methods 16 Privatization efforts are exemplary in this connection Build-Operate-Transfer (BOT) 11 contracts were annulled by the Constitutional Court in recent years consistently The Court reasoned on the basis of public interest notion and required these contracts to stay within the public law rather than private law (Oguz and Cetin, 2005) While the court is widely criticized for its reasoning, the more basic issue of changing the constitution did not come to the forefront The incumbent government has the majority to change the constitution However, it considers that this would damage its political capital More importantly, the constitutional court’s view is harmonious with AKP’s policies on regulatory institutions The legal hurdles around privatizations influence energy industry as well The legal status of energy markets in Turkey is still controversial The conflict of interest between the government and judiciary slows down the process For example, after the 1999 constitutional amendment on international arbitration, Danistay has decided that it is the first court on BOT contracts by reason of public status of these contracts 12 This brings Danistay’s supervision over EMRA on contractual transactions A more important problem originates from the structure of the judicial system Danıstay, the higher court of administrative issues, has the power to restrict the power of EMRA in the market As in many other countries, a separate court is necessary Danistay is not well prepared to deal with regulatory issues More importantly, appellation process may easily be part of a strategic game This process only raises political transaction costs in the industry Another problem with the appellation process is the nature of Danıstay’s decisions When Danıstay makes a decision on a matter, EMRA should consider that decision in the future In terms of Turkish administrative law, this means that Danıstay may, and will, restrict the power of EMRA on the market Now, foreign investors have the right to go to International Tribunal, following a change in the Turkish Constitution in 1999 It is expected that the access to the International Tribunal would encourage foreign investments to the Turkish electricity market Independency needs a constitutional protection to restrict what Danıstay can A specialty court would be a better alternative for the appellation process for all IRAs The law does not define the exact responsibility and accountability of the EMRA There is a need for a criterion to evaluate the performance of EMRA in terms of maximizing social welfare BOT is a type of contract of provision of electric power They include long-term purchasing requirement Producers return the plant to the state at the end of contract period 12 Danıştay 10 Chamber, Decision no 347, (2002) While the constitutional amendment severely restricts the power of Danıştay over electricity contracts, Danıştay’s decision overlooks the 1999 amendment 11 17 It is extensively discussed that EMRA should be under strict governmental control in terms of its incomes and expenditures (Çetin and Oguz, 2007b) However, debates on this issue bypass the issue of costs and benefits of regulatory decisions The lack of this kind of cost and benefit analysis limits the responsibility and accountability of EMRA to a great extent CONCLUSION Regulatory reform in Turkey started as an ambitious project The aim was to increase efficiency and provide a working market environment in network industries However, the political turmoil influenced the path decisively An independent regulatory authority is the ground for regulatory commitment As a contract between economic agents and the state, regulations create an environment for encouraging investments to the industry The recent shifts in regulatory policy in government created an uncertain environment for the energy industry and increased the costs of transactions The incumbent government desires to keep the energy industry in its hands for political reasons and ignores economic costs of the lack of regulatory commitment Main objective of the government is to stay in power The myopic behavior of rational political agents creates incoherent economic policies in key sectors The government intervention to the industry by government signals to market participants that lobbying still pays off and promotes rent-seeking rather than profit-seeking In a sense, all potential culprits have something to with government IRAs tend to be more independent under coalition governments than one-party governments (Spiller, 1996) A supermajority government has political incentives to be in command of regulatory authorities There is a trade-off between the government’s control of the parliament and the regulator’s independency As the government increases its majority in the parliament, it tends to limit the power of all independent institutions This gives way to regulatory commitment issues and increase political costs To establish regulatory commitment, EMRA needs to define the regulatory issues and its agenda clearly The recent natural gas contract with Egypt is an example in point EMRA was against this contract It did not find any economic reason for this deal However, the government decided to go on anyway Nevertheless, giving dates may not be viable, EMRA may provide at what stage what it will do, and thus, keeping itself under control Otherwise, there is a tendency to create another huge government office that commands the market and becomes a predicament before the liberalization itself In short, the main reasons for the transition to IRAs are to ensure regulatory commitment and to minimize transaction costs within the regulatory policy-making processes If the transition does 18 not 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hukuk boyutu, II Bağımsız Kurullar ve Piyasa Ekonomisi Arenası, STEAM, Ankara, 17-18 Aralık 2002 TUSIAD (2001) Türkiye'de Demokratikleşme Perspektifleri ve AB Kopenhag Siyasal Kriterleri, TUSIAD Raporu, Yayin No: TÜSİAD-T/2001-05/3002001 TUSIAD (2002) Bağımsız Düzenleyici Kurumlar ve Türkiye Uygulaması, Yayın No: TuasiadT/2002-12/349, Aralık 2002, İstanbul TUSIAD (2003) Türkiye’de Düzenleyici Reformlar: Yaşamsal Dönüşüme Destek, Yayın No: Tusiad-T/2003/9/359, Eylül 2003, İstanbul Ulusoy, A (2001) Hukuk-Ekonomi Perspektifinden Uluslararası Tahkim ve Kamu Hizmeti, (Liberte, Ankara) Wallsten, S (2003) Of carts and horses: regulation and privatization in telecommunications reforms”, Journal of Economic Policy Reform, 6(4), pp 217-231 21 Table 1: Securities Issued for the Duty Losses of State Banks (TL Trillion) Ziraat Bank Halk Bank Emlak Bank Total 2000 Year-end 2,034 863 2,897 2001 January* 2,333 2,167 4,500 February 1,000 1,000 March 550 1,750 2,300 April 4,500 1,750 6,250 May 4,730 4,130 45 8,905 2001 Total 12,113 10,797 45 22,955 TOTAL 14,148 11,659 45 25,852 (*) USD 750 million securities dominated in foreign currencies were converted by the CBRT exchange rate of issuing day, January 3, 2001 Source: Alper & Onis 2002 22 Table Governments in Turkey (1989-2002) the Name of the Prime Minister Duration and Coalition Members Akbulut 09.11.1989-23.06.1991 Yilmaz 23.06.1991-20.11.1991 Demirel (DYP-SHP) 21.11.1991-25.06.1993 Ciller (DYP-SHP) 25.06.1993-05.10.1995 Ciller 05.10.1995-30.10.1995 Ciller (DYP-CHP) 30.10.1995-06.03.1996 Yilmaz (ANAP-DYP) 06.03.1996-28.06.1996 Erbakan (RP-DYP) 28.06.1996-30.06.1997 Yilmaz (ANAP-DSP-DTP- 30.06.1997-11.01.1999 Bağımsızlar) Ecevit 11.01.1999-28.05.1999 Ecevit (DSP-MHP-ANAP) 28.05.1999 - 18.11.2002 Soruce: http://www.tbmm.gov.tr/hukumetler/hukumetler.htm Description of Government Term 47 48 49 50 51 52 53 54 55 56 57 23 Table Turkey’s Major IRAs IRAs Related Law Law 4054 Competition Authority Banking Regulation Supervision Authority and Law 4389 Founding Related Industry Year 1994 All (operative in 1997 1999 Banking (operative in 2000) Telecommunication Authority Energy Market Regulatory Authority Sugar Authority Law 4502 2000 Laws 4628, 2001 4646, 6326 Law 4634 2001 Tobacco, Tobacco Products and Alcoholic Beverages Market Regulation Authority Capital Markets Authority Radio and Television Supreme Council Public Procurement Authority Source: OECD, 2002; 39-40 Law 4733 2002 Law 2499 Law 3984 1982 1994 Capital Markets Radio and TV Broadcasting Law 4734 2002 All Public Sector Regions Telecommunications Electricity, Natural Gas and Petroleum Sugar, Starch-Based Sweeteners Tobacco, Tobacco Products and Alcoholic Beverages Table Illegal-Inefficient Use Rates in some regions (2005) Cities Illegal-Inefficient use rate Mardin 75,8 AKP’ votes (%) 15,43*(1) 24 East and Southeastern Anatolia (The highest 10 subsidized cities) Van Hakkari cross- Batman Diyarbakir Sanliurfa Sirnak Bitlis Mus Agri 66,2 65,6 65,6 65,2 60,2 59,9 55,1 53,3 50,9 25.86*(1) 6.81 (4) 20.62*(1) 15.96*(1) 22.90 (1) 14.02*(1) 17.67*(1) 16.90*(1) 17.70*(1) Mersin (Akdeniz) 19,9 18.07 (3) Istanbul (Marmara) 13.3 37.20 (1) Other cities 42.85 (1) Kocaeli (Marmara) 12,5 (Cross-subsidizing cities) 13.17 (3) Mugla (Ege) 11,3 17.01 (2) Tekirdag (Marmara) 10.4 Edirne (Marmara) 9.8 8.73 (5) 21.16 (2) Antalya (Akdeniz) 9,5 12.54 (4) Kırklareli (Marmara) 9.0 24.88 (1) Bilecik (Marmara) 7.0 17.17 (3) Izmir (Ege) 6,8 Source: www.tedas.gov.tr and www.belgenet.com * In these cities DEHAP (a regional nationalist-seperatist party) was took the first place but it could not reach national minimum votes, so it could not enter the parliament AKP took the second place in elections, yet it gained the first place in terms of parliamentary seats - Figures in parentheses show AKP’s place in terms of votes  ... regulated industries and state monopolies were main targets of rent-extracting and rent-seeking activities As in other developing countries, the state-owned monopolies in Turkey have been inefficient... pp.1333-1350 Atiyas, I and Dutz, M (2005) Competition and regulatory reform in Turkey? ??s electricity industry, in: B M Hoekman and S Togan (Eds.) Turkey: Economic Reform and Accession to the European... constituents including agricultural producers and small and medium sized businesses The duty losses of these banks for 2000 and 2001 are shown in the Table (Alper and Onis, 2002) In the end, Turkey