Document of The World Bank

FOR OFFICIAL USE ONLY

Report No. 65996-TR

INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT

PROGRAM DOCUMENT

FOR A

PROPOSED LOAN IN THE AMOUNT OF EURO 455.4 MILLION (US$600 MILLION EQUIVALENT)

TO

THE REPUBLIC OF TURKEY

FOR A

THIRD PROGRAMMATIC ENVIRONMENTAL SUSTAINABILITY AND ENERGY SECTOR DEVELOPMENT POLICY LOAN (ESES DPL3)

FEBRUARY 29, 2012

Sustainable Development Department Turkey Country Management Unit Europe and Central Asia Region

This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.

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TURKEY - GOVERNMENT FISCAL YEAR

January 1 – December 31

CURRENCY EQUIVALENTS

(Exchange Rate Effective as of January 31, 2011)

Currency Unit: Turkish Lira US$1.00 = TL1.76

WEIGHTS AND MEASURES

Metric System

ABBREVIATIONS AND ACRONYMS

AAA Analytical and Advisory Activities AFD Agence Francaise de Dévelopment AKP Justice and Development Party BOTAŞ Pipeline Corporation of Turkey CBRT Central Bank of the Republic of Turkey CBCC Coordination Board on Climate Change CDC Caspian Development Corporation CEM Country Economic Memorandum CPS Country Partnership Strategy COP Conference of Parties CTF Clean Technology Fund DPL Development Policy Loan EBRD European Bank for Reconstruction and Development EIB European Investment Bank EIE Electrical Power Resources Survey and Development Administration EMBI Emerging Markets Bond Index EMRA Energy Market Regulatory Authority ESES Environmental Sustainability and Energy Sector EU European Union EÜAŞ Electricity Generation Corporation of Turkey FNC First National Communication on Climate Change GASB Government Accounting Standards Board GDP Gross Domestic Product GDPA General Directorate of Public Accounts IBRD International Bank for Reconstruction and Development IFC International Finance Corporation IMF International Monetary Fund IFC International Finance Corporation ISE Istanbul Stock Exchange KfW Kreditanstalt für Wiederaufbau (KfW Development Bank) LULUCF Land Use and Land Use Change and Forestry M&A Monitoring and Evaluation MDGs Millennium Development Goals MENR Ministry of Energy and Natural Resources MfEU Ministry for EU Affairs MoD Ministry of Development MoEU Ministry of Environment and Urbanization

MoFW Ministry of Forestry and Water Affairs MOF Ministry of Finance MTP Medium-Term Program PA Privatization Administration PEDPL Programmatic Electricity Development Policy Loan PFM Public Financial Management PFMC Public Financial Management and Control PFMP Public Financial Management Performance PMR Partnership for Market Readiness PMUM Electricity Market Financial Reconciliation Center PPIAF Public Private Infrastructure Advisory Facility REGE Restoring Equitable Growth and Employment DPL SOE State Owned Enterprise TCA Turkish Court of Accounts TEDAŞ Electricity Distribution Corporation of Turkey TEIAŞ Electricity Transmission Corporation of Turkey TETAŞ Electricity Trading Corporation of Turkey TL Turkish Lira UNCITRAL United Nations Commission on International Standards UNDP United Nations Development Program UNFCCC United Nations Framework Convention on Climate Change

Vice President:

Country Director: Sector Director: Sector Manager:

Task Team Leader:

Philippe Le Houerou Martin Raiser Laszlo Lovei Ranjit Lamech Kari Nyman

 

REPUBLIC OF TURKEY

THIRD PROGRAMMATIC ENVIRONMENTAL SUSTAINABILITY AND ENERGY SECTOR DEVELOPMENT POLICY LOAN (ESES DPL3)

TABLE OF CONTENTS

I.  INTRODUCTION.................................................................................................................. 1 

II.  COUNTRY CONTEXT......................................................................................................... 3 

POLITICAL CONTEXT ......................................................................................................... 3 RECENT ECONOMIC DEVELOPMENTS ........................................................................... 3 MEDIUM-TERM ECONOMIC PROSPECTS ....................................................................... 7 

III.  THE GOVERNMENT’S PROGRAM ............................................................................... 12 

IV.  BANK SUPPORT TO THE GOVERNMENT’S PROGRAM ........................................ 25 

LINK TO THE COUNTRY PARTNERSHIP STRATEGY ................................................. 25 COLLABORATION WITH THE IMF AND OTHER DEVELOPMENT PARTNERS ..... 25 RELATIONSHIP TO OTHER BANK OPERATIONS ........................................................ 26 LESSONS LEARNED........................................................................................................... 28 ANALYTICAL UNDERPINNINGS .................................................................................... 29 

V.  THE PROPOSED THIRD PROGRAMMATIC ENVIRONMENTAL SUSTAINABILITY AND ENERGY SECTOR DEVELOPMENT POLICY LOAN ... 31 

OPERATION DESCRIPTION .............................................................................................. 31 POLICY AREAS ................................................................................................................... 35 

VI.  OPERATION IMPLEMENTATION ................................................................................ 42 

POVERTY AND SOCIAL IMPACT .................................................................................... 42 ENVIRONMENTAL ASPECTS ........................................................................................... 50 IMPLEMENTATION, MONITORING AND EVALUATION ........................................... 52 FIDUCIARY ASPECTS ........................................................................................................ 53 DISBURSEMENT AND AUDITING ................................................................................... 55 RISKS AND RISK MITIGATION ....................................................................................... 55 

ANNEXES

ANNEX 1: LETTER OF DEVELOPMENT POLICY 

ANNEX 2: OPERATION POLICY MATRIX 

ANNEX 3: ENERGY SECTOR CHALLENGES AND REFORMS 

ANNEX 4: IMF PUBLIC INFORMATION NOTICE 

ANNEX 5: POVERTY AND SOCIAL ANALYSIS 

ANNEX 6: COUNTRY AT A GLANCE (includes country map) 

The Third Programmatic Environmental Sustainability and Energy Sector Development Policy Loan was prepared by an IBRD team consisting of Mediha Ağar, Yesim Akcollu, Esra Arikan, Seda Aroymak, Adriana Damianova, Sergio Gonzales, Ruxandra Floroiu, Joseph Formoso, Salih Kalyoncu, Selma Karaman, Ulker Karamullaoglu, Shinya Nishimura, Kari Nyman, Margaret Png, Carlos Pinerua, Cristobal Ridao-Cano, Sameer Shukla, Yukari Tsuchiya, Carolyn Turk, Cevdet Cagdas Unal, Jari Vayrynen, Mara Warwick, Marina Wes, Fan Zhang and Kamer Karakurum Özdemir. Peer reviewers are Kseniya Lvovsky (ECCAL), Muthukumara Mani (SASDI), Jordan Schwartz (LCSSD) and Katalin Zaim (Programme Manager, Environment & Sustainable Development, UNDP Turkey).

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LOAN AND PROGRAM SUMMARY REPUBLIC OF TURKEY

THIRD PROGRAMMATIC ENVIRONMENTAL SUSTAINABILITY AND ENERGY SECTOR DEVELOPMENT POLICY LOAN (ESES DPL3)

Borrower Republic of Turkey Implementing Agency Undersecretariat of Treasury

Financing Data

IBRD Flexible Loan in Euro Terms: interest rate equal to 6 months EURIBOR for Euro, plus a variable spread, with a final maturity of 15.5 years, including a 8.0 year grace period, commitment linked and with a level repayment pattern. Amount: Euro 455.4 million (US$600 million equivalent).

Operation Type

Programmatic Development Policy Loan – third in a series of three following the Programmatic Electricity DPL approved on June 11, 2009 and the Second Environmental Sustainability and Energy Sector Development DPL approved on June 15, 2010.

Main Policy Areas Energy, Climate Change, Environmental Management

Key Outcome Indicators

Key outcome indicators for the program’s main policy areas follow below. Energy Sector: (i) day-ahead electricity market launched and operates effectively; (ii) cost–reflective tariffs maintained; (iii) improved financial performance of power companies, with loss for TEDAŞ and receivables for TEIAŞ and EÜAŞ reduced; (iv) private investment in the power sector; (v) rate of electricity demand growth contained; and (vi) a new gas import contract signed by BOTAŞ or a private gas importer.

Climate Change: (i) An inter-ministerial Climate Change Coordination Board and a Climate Change Department at the Ministry of Environment and Urbanization are working to coordinate and ensure complementarity between sector specific climate actions; and (ii) a framework established for monitoring the implementation of the National Climate Change Strategy and Action Plan agreed. Sustainable Environmental Management: (i) An integrated system for environmental “e-permits” is operational; (ii) Increased transparency, accountability and public participation in the environmental consent process; (iii) increased share of population served by sanitary landfills; (iv) Clean Air Center in Marmara fully functioning and staffed to implement the Clean Air Action Plan; and (v) at least 15 of the 25 river basins have developed watershed protection action plans.

Program Development Objective(s) and Contribution to CPS

The ongoing ESES DPL program is grounded in the development goals articulated in Turkey’s Ninth Development Plan. The development objective of the Government’s program proposed to be supported by ESES DPL3 is to help: (a) enhance energy security by promoting private sector clean technology investments and operations; (b) integrate principles of

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environmental sustainability, including climate change considerations, in key sectoral policies and programs; and (c) improve the effectiveness and efficiency of environmental management processes. The program supported by this ongoing DPL series has a focus on the energy sector and greenhouse gas emissions. This focus is consistent with the energy, climate and environmental goals of the European Union (EU) and effectively contributes to Turkey's EU accession process.

Risks and Risk Mitigation

There are four main risks to the program’s outcomes: (i) economic risks; (ii) political risks; (iii) implementation and social risks in the energy sector; and (iv) program and implementation risks in the climate change and environmental management areas.

Economic Risks. A combination of external and domestic factors pose significant risks going forward, including from the spillovers of the European debt crisis. With low domestic savings, Turkey’s economic growth relies on capital inflows to finance investments and growth. The country’s large current account deficit and the composition of its financing remain concerns. A weak outlook for global activity and more severe international funding strains have the potential to spill over to Turkey. Turkey’s dependence on external financing has left the country prone to boom-bust cycles, and the key challenge going forward in Turkey is to deliver a soft landing, from the very high growth rates in 2010 and 2011.

Political risks. Turkey has had a stable government since 2002 under the Justice and Development Party (AKP), facilitating the implementation of major reforms. Social consensus on the reform program and institutional capacity are needed for the implementation of the reform program. One key risk is that a prolonged focus on Turkey’s constitutional reform agenda could narrow the coverage and scope of the economic reform agenda or lead to delays in its implementation. The EU accession anchor continues to mitigate political risks.

Energy sector risks: implementation risks and social risks.

Turkey’s Electricity Market and Supply Security Strategy emphasizes private sector participation – both in the new areas of renewable energy and energy efficiency where substantial barriers have to be overcome as well as in the mainstream energy production and distribution areas where the investment needs are very high. The envisioned privatization and implementation schedules could not be realized as global market conditions worsened. Implementation risks are mitigated by the energy regulator EMRA’s and the Privatization Administration’s strong track records and the Government’s continued commitment; however, additional delays may occur if global market conditions do not improve.

The 2008-2009 recession increased the financial burden of electricity prices increases on the poorest households. Available data suggest that past

iii

electricity privatizations have not had a large adverse impact on the poor. However, two privatizations to be completed within 2012 are in areas where payment rates are low and the imperative to raise collection rates may generate more difficulties at the household level than previous privatizations. The energy regulator EMRA monitors the performance of the privatized companies on a quarterly basis, including collections and disconnections. In addition, a joint monitoring program by the Ministry of Development, UNDP and the World Bank will be implemented in 2012-2014. Effective monitoring will help inform and plan mitigation measures, if necessary, for low-income households.

The successful implementation of Turkey’s climate action agenda requires the broadening and deepening of Government ownership and public support in Turkey and maintaining momentum of the international negotiation process—especially as the issues of emission reduction and finance have not yet been resolved in the UNFCCC process. Turkey’s climate action agenda is long term and its implementation has only recently started. These risks are mitigated by a growing public awareness of the implications of climate change for Turkey; by the recognition that climate action is in Turkey’s own national interest.

Turkey’s environment agenda is long term and challenging, and implementation capacity risks are high. While there is strong Government ownership of environmental management reforms, Turkey’s experience and capacity in public environmental management and enforcement remain limited. This risk is mitigated by projects currently targeted toward the institutional strengthening of the Ministries of Environment and Urbanization and Forestry and Water Affairs, supported under the EU pre-accession financial and technical assistance programs. The European Union opened the negotiations on the Environment Chapter in December 2009. The mid-2011 merger of environment and urban ministries into a single ministry has raised a concern that the urban construction agenda will prevail over the environment. The Government is aware of this concern and is determined to implement its environmental strategy and program.

Operation ID P121651

 

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THE REPUBLIC OF TURKEY PROPOSED THIRD PROGRAMMATIC ENVIRONMENTAL SUSTAINABILITY AND

ENERGY SECTOR DEVELOPMENT POLICY LOAN (ESES DPL3)

I. INTRODUCTION

1. The proposed Third Programmatic Environmental Sustainability and Energy Sector Development Policy Loan (ESES DPL3) is the third operation in a series of three energy/environment DPLs. The DPL series supports the Government’s policies for long-term sustainable growth across the economy and in the energy sector in particular: (a) The ESES DPL3 program continues to support the Government’s program for energy security, energy efficiency and clean energy supported earlier under the 2009 Programmatic Electricity Development Policy Loan (PEDPL1)1 and the 2010 Second Environmental Sustainability and Energy Sector Development Policy Loan (ESES DPL2)2; and (b) at the request of the Government, DPL2 and DPL3 also support policies, strategies and specific measures related to climate change and environmental management. The Government has concluded that energy efficiency, energy security and environmental issues are most effectively addressed in an integrated program. Such an integrated approach is consistent with the energy, climate and environmental goals of the European Union (EU) and contributes to Turkey's EU accession process. A parallel Restoring Equitable Growth and Employment DPL (REGE DPL) program supported Turkey’s transition from crisis management to growth in the recovery. 3

2. The design of the ESES DPL series and recent operations in the Bank’s Turkey energy program are aligned with the Strategic Framework of the World Bank Group for Development and Climate Change.4 There are mutually reinforcing complementarities among the three pillars of the ESES DPL program. They are summarized in Box 3 in Section V. Energy sector actions to promote energy efficiency and renewable energy generation have a positive global, national and local environmental impact. The National Climate Change Strategy and Action Plan are comprehensive; with initial implementation action focused on the energy sector. National and local environmental actions have synergies with climate change actions and support climate change mitigation and adaption.

3. The Government’s energy program — a core part of the broader program underpinning the ESES DPL series — has achieved impressive results: (a) A day-ahead electricity market (a power exchange) has been established and trading currently accounts for over one quarter of Turkey’s electricity supply; (b) financial recovery has been achieved in the power sector. Main state-owned utilities have paid their arrears to private sector generators. Remaining cross-payables and receivables between public sector companies are being cleaned-up through a special legislation enacted by the Parliament in February 2011; (c) a large volume of private investment has been attracted, including the development of about 11,200 MW

1 Programmatic Electricity Development Policy Loan (PEDPL1), Report No. 46050-TR, May 18, 2009. 2 Second Environmental Sustainability and Energy Sector Development Policy Loan (ESES DPL2), Report No. 54497-TR, May 14, 2010. 3 Restoring Equitable Growth and Employment DPL1, Report No. 51062-TR, February 23, 2010 and DPL2, Report No. 59629-TR, April 7, 2011. 4 Details for each of the six action areas in the Strategic Framework are available in Box 6 (page 36) in the Program Document of ESES DPL2.

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generation capacity in the 2008-2011 period and about US$5.4 billion so far in the ongoing electricity distribution privatization program. However, the closing of the latest privatizations slipped to 2012 and most may require rebidding; and (d) agreements for the purchase of gas for Turkey’s gas market and transit to Europe have been signed between the Governments of Azerbaijan and Turkey and their gas companies SOCAR and BOTAŞ. In addition to the DPL series, the Bank supports Turkey’s electricity and gas utilities TEIAŞ, TEDAŞ and BOTAŞ under investment loans as summarized in Section IV.

4. Since 2009, Turkey has stepped up its engagement on climate change and has requested World Bank development policy and investment lending support for its climate change program: (a) Turkey ratified the Kyoto Protocol in February 2009 and became a party to the Protocol in August 2009, declaring that within the framework of its special circumstances, it shall contribute to the effort of tackling climate change; (b) The Government approved a National Climate Change Strategy in May 2010 and published a National Climate Change Action Plan in July 2011; (c) Turkey submitted one of the first Investment Plans to the Clean Technology Fund (CTF), prepared in coordination with the World Bank Group and the European Bank for Reconstruction and Development (EBRD). The CTF Trust Fund Committee endorsed the US$250 million phase I of Turkey’s plan in January 2009; (d) The CTF approved US$100 million in March 2009 and the Bank US$500 million in May 2009 to help finance the Private Sector Renewable Energy and Energy Efficiency Project. This was the first investment project approved by the CTF. Implementation progress has exceeded expectations and additional Bank financing of US$500 million was approved in November 2011; and (e) Turkey has also joined the Partnership for (carbon) Market Readiness (PMR) launched by the World Bank at COP-16 in Cancun in December 2010. Turkey was awarded a US$350,000 PMR Preparation Grant in May 2011 by the PMR Partnership Assembly. The Preparation Grant Agreement was signed in December 2011.

5. Turkey and the EU have an intensive engagement, including negotiating the Environment Chapter as part of Turkey’s EU accession process. The impact of the EU acquis on policy making is currently strong in national and local environmental policy areas: (a) Turkey has already made a considerable effort in harmonizing its environmental laws with those of the EU, including environmental prior actions supported under DPL2 and DPL3 as detailed in Section V. Harmonization with EU environmental regulations will generate greater environmental gains especially in the industrial sector by improved management of waste and effluents and overall emission reduction of large combustion plants; and (b) The new e-environment permitting system, combining all the licenses and permits required by industrial installations into a single e-environment permit, is an important step towards implementing the EU’s Integrated Pollution Prevention and Control (IPPC) Directive.

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II. COUNTRY CONTEXT

POLITICAL CONTEXT

6. Turkey’s political situation is stable. Turkey is governed by the Justice and Development (AK) Party, which has an overall majority in Parliament since 2002 and was most recently reelected in June 2011. Turkey is a candidate country for EU membership. Accession negotiations started in October 2005. Turkey views the accession process as her own, fundamental “modernization project”. After the June 2011 elections, the Government upgraded the institution overseeing all EU accession matters into a new Ministry for EU Affairs.

RECENT ECONOMIC DEVELOPMENTS

7. After a banking crisis in 2001, when GDP contracted by 5.7 percent, and an expensive recapitalization of its banks, Turkey embarked on a path of concerted structural reforms. Reforms were wide-spanning and aimed at improving fiscal and public financial management, strengthening banking supervision, introducing a comprehensive social security reform, and revamping the framework for macroeconomic management, within which an independent central bank is responsible for inflation-targeting.

8. Turkey’s macroeconomic policies and structural reforms over the past decade have yielded robust economic growth. Real GDP increased by 50 percent between 2001 and 2010 and the average growth rate was nearly 7 percent during 2003-07, up from an average of 4 percent during the 1990s. Growth resumed rapidly after the 2008-2009 global crisis, at 9 percent in 2010 and 10.2 percent in the first half of 2011. Per capita income now stands at US$10,067. Primary fiscal surpluses averaged about 4.6 percent of GDP over 2004-10, and gross public debt as a percentage of GDP fell from 73.4 percent in 2002 to 45 percent in 2010, in spite of an increase during the 2008-09 global crisis. Inflation came down from a high of around 70 percent to under 10 percent. Healthy export growth (13 percent per year over 2004-10) contributed to limiting external vulnerability.

9. The credibility built with consumers, investors, and financial markets over several years allowed the Government to adopt expansionary macroeconomic policies during the 2008-2009 global crisis. Turkey suffered from a short but sharp fall in GDP (4.8 percent) in 2009 reflecting a strong deterioration of investor and consumer confidence and a drop in external demand and capital inflows. The current account deficit narrowed significantly as imports reacted strongly to the sharp slow-down in domestic demand while exports were less affected. The authorities’ response combined monetary easing with foreign exchange liquidity- and confidence-building measures in the financial sector, a set of employment measures, as well as fiscal stimuli. Between October 2008 and November 2009, the overnight interest rate was cut by a cumulative 10.25 percentage points. The fiscal deficit increased sharply from 1.6 percent in 2008 to 5.5 percent of GDP in 2009, due mainly to the operation of automatic stabilizers (such as the increase of approximately 1.8 percentage points of GDP in budgetary transfer to the Social Security Institution (SSI)). Facilitated by expansionary policies, unemployment peaked by mid-2009 – at around 16 percent - and output began to recover by the last quarter of 2009.

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10. Turkey recovered from the 2009 recession quickly, with a GDP growth of 9 percent in 2010 and 9.6 percent during the first three quarters of 2011. The strong growth was facilitated by rapid credit growth5 and high capital inflows (supported global liquidity and healthy Turkish balance sheets). Real output is now almost ten percent higher than its pre-crisis peak. During the past two years, growth has been driven by domestic consumption and investment demand from the private sector, fueled by historically low interest rates. In 2010, private consumption and private investment accounted for about 5 percentage points each to the 9 percent overall growth rate, while net exports made a negative contribution; Table 1).

11. The reforms undertaken after the 2001 crisis allowed the Turkish financial system to come through the global crisis relatively unscathed. In recent years, the system built capital buffers which, complemented with strengthened banking regulation and supervision efforts, has led to the emergence of a more resilient, stable and profitable banking sector. The system has historically relied mostly on a stable domestic deposit base for funding and remains liquid. While vulnerabilities have increased, mostly on account of a significant expansion in bank lending increasingly funded through short-term capital inflows, there are recent signs of a slowdown in credit growth which, coupled with still strong capital and profitability positions, should help the system weather a reduction in economic activity.

12. Unemployment has fallen below pre-crisis levels, notwithstanding an increase in labor force participation. After peaking at above 16 percent in February 2009, seasonally adjusted unemployment has decreased steadily falling to 9.1 percent by October 2011, improving upon pre-crisis levels. Nonetheless, open unemployment in Turkey remains high in absolute terms, and the Turkish labor market is characterized by low activity rates and high job informality. The employment rate of working age (15-64) women is the lowest among OECD and Europe and Central Asia countries. And about 40 percent of those employed are working in the informal sector, although job informality has been decreasing somewhat.

5 Annualized weekly credit growth peaked at 50 percent in January 2011.

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Table 1: Selected Macroeconomic Indicators (2005-2011) 2005 2006 2007 2008 2009 2010 2011

Est. Growth (%) 8.4 6.9 4.7 0.7 -4.8 9.0 8.0 Contributions to Growth (percent)

Consumption 5.8 4.1 4.4 0.0 -0.8 5.0 6.3 o/w Private 5.6 3.3 3.8 -0.2 -1.6 4.7 5.5 Gross Fixed Capital Formation 3.9 3.2 0.8 -1.5 -4.5 6.0 4.8 o/w Private 3.1 3.1 0.6 -2.0 -4.4 5.4 4.4 Net Exports -1.4 -0.3 -1.2 1.9 2.7 -4.4 -3.0 Exports 1.9 1.6 1.8 0.7 -1.3 0.9 1.4 Imports -3.3 -1.9 -3.0 1.2 4.0 -5.2 -4.4 Change in Inventories 0.1 -0.1 0.6 0.3 -2.3 2.4 -0.1 GDP (billion USD) 481.5 526.4 648.6 742.1 616.7 734.9 791.5 Consumption (as % of GDP) 83.1 82.5 83.8 82.3 85.8 85.3 86.2Investment (as % of GDP) 20.4 22.4 21.4 22.1 15.3 20.2 23.0Domestic Savings (as % of GDP) 15.9 16.6 15.5 16.8 13.2 13.9 13.3Credit Growth (%) 56.8 40.2 27.9 29.8 7.1 33.7 29.5Unemployment rate (%) 10.6 10.2 10.3 11.0 14.0 11.9 9.8* CPI Inflation (%) (end-of-period) 7.7 9.7 8.4 10.1 6.5 6.4 10.5* General Govt. Rev./GDP, % 32.9 34.8 33.6 32.9 34.6 35.5 36.9 General Govt. Exp./GDP, % 33.0 33.4 33.8 34.6 40.1 38.4 38.1 General Govt. Bal./GDP, % -0.1 1.4 -0.2 -1.6 -5.5 -2.9 -1.2 Public Sector Primary Balance/GDP, % 5.0 4.5 3.2 1.6 -1.0 0.8 1.2 Gross Public Debt/GDP1 54.1 48.2 42.2 42.9 48.9 45.0 40.2 Gross External Debt/GDP 35.3 39.5 38.5 37.8 43.6 39.5 41.3 Export Growth (f.o.b.) 16.3 16.4 25.4 23.1 -22.6 11.5 18.5* Import Growth (c.i.f.) 19.7 19.5 21.8 18.8 -30.2 31.7 29.8* CAD (billion USD) 22.3 32.2 38.4 42.0 14.0 47.1 77.2* CAD/GDP (%) 4.6 6.1 5.8 5.7 2.3 6.4 9.8 Reserves (billion USD) (including gold)

50.2 60.7 74.7 72.9 74.8 86.0 88.2*

Reserves (as months of imports) 5.2 5.2 5.3 4.3 6.4 5.6 4.4*

Source: Undersecretariat of Treasury, Ministry of Development, CBRT, TURKSTAT, Bank estimates for selected 2011 variables. 1 Gross public debt as defined by the Undersecretariat of Treasury varies from the EU defined general government debt stock definition. The difference arises from the following adjustment items for EU defined debt: (i) recording of zero coupon securities at face value; (ii) inclusion of inflation variation for CPI indexed bonds; (iii) inclusion of coins in circulation issued by Treasury; and, exclusion of the government securities held by different public sector institutions, (iv) exclusion of debt stocks of SOEs. *actualized

13. High growth has translated into continuing improvements in the headline fiscal balance. The general government fiscal deficit declined from 5.5 percent of GDP in 2009 to an estimated 1.2 percent in 2011 and, after a crisis-related increase in 2008, the public debt to GDP ratio has resumed its downward trend. The decline in the fiscal deficit reflects the strong cyclical nature of tax revenues, but a comprehensive tax restructuring program and a reduction

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in the interest bill have also contributed. Primary spending remains significantly above the pre-crisis level, primarily due to higher capital investment, wage and pension spending. There has been significant structural loosening in recent years, from a structural primary surplus equivalent to 1.3 percent of GDP in 2007 to an estimated deficit of around one percent of GDP in 2011.

14. High growth of imports (in particular of capital and intermediate goods) has led to a rapid rise in Turkey’s current account deficit (CAD), from an 8-year low in 2009 to historic highs during 2011. The CAD widened from US$ 14 billion (2.3 percent of GDP) in 2009 to US$ 47.1 billion (6.4 percent of GDP) in 2010 77.8 billion as of November 2011 (9.8 percent of GDP) on a 12-month rolling basis; imports grew by 35 percent while exports increased by 17.5 percent. Furthermore, the composition of the CAD financing deteriorated with the share of FDI in total inflows falling from 43 percent in 2007 to 15 percent in 2011 (Figure 1). Although energy accounts for a large share of the trade deficit (nearly 5 percent of GDP on average in recent years), the non-energy balance contributed significantly to the deterioration. The private sector accounted for the bulk of the CAD, and private external indebtedness increased correspondingly, from US$ 188 billion in 2008 to US$ 202.2 billion in 2011.

Figure 1. Composition of Capital Inflows

Source: CBRT

15. Facing difficult policy trade-offs, the Central Bank has implemented an “unorthodox” policy, moving to a tightening stance in late 2011. A weak global economy, and the transition from large capital inflows and upward pressure on the lira in 2010 to declining inflows and lira depreciation pressures in 2011 have created difficult economic policy trade-offs. In late 2010, in response to surging capital inflows, the Central Bank adopted an “unorthodox” monetary policy cutting overnight interest rates in an effort to discourage portfolio investors from taking short-term “carry trade” positions in lira assets, while at the same time increasing reserve requirements to curtail domestic credit. The lira weakened significantly as a result, while credit growth began to slow following the introduction of macro-

‐10000

0

10000

20000

30000

40000

50000

60000

70000

80000

2006 2007 2008 2009 2010 2011 (Jan‐Oct)

million $

Short Term and Portfolio Inflows FDI Medium and Long Term  Inflows and N.E.O

7

prudential measures by the Banking Regulation and Supervision Authority only in June 2011. Prompted by concerns about the global economy and early indications of a domestic slowdown, the Central Bank reduced the policy rate by 50 bps in early August 2011.

16. Since mid-October 2011, responding to an increase in inflation (primarily reflecting pass-through of the cumulative 30 percent nominal depreciation since November 2010), the Central Bank has tightened monetary policy. It has inter alia increased overnight lending rates and engaged in large-sale foreign exchange selling auctions and direct interventions. As a result, the interbank overnight rate increased from 6.5 percent in December 2010 to 11.2 percent in December 2011, and the benchmark government bond yield rose from 7.11 to 11.04 percent during the same period.

MEDIUM-TERM ECONOMIC PROSPECTS

17. While Turkey benefits from strong private and public sector balance sheets, an externally-financed demand boom has recently weakened Turkey’s resilience. Strong growth over the 2010-11 period has led to a fast widening current account deficit and Turkey’s main vulnerability is its high current account deficit and the short-term nature of its financing. The weakening global economic outlook and increasingly severe international funding strains have the potential to spill over to Turkey. If the crisis in the Euro-zone deepens further, Turkey will be hit primarily by a decline or stop of capital inflows, as well as through the trade channel.

18. Rising inflationary pressures and the possibility of further depreciation of the lira constitute a risk for price stability in the medium-term. Inflation targeting policy has been hampered by tax hikes and increases in administered prices as well as increases in food prices due to adverse weather conditions and pass-through from exchange-rate depreciation. As a result, 2011 year end inflation came in at 10.45 percent, overshooting the target of 5.5 percent for the first time since 2008. As of mid-January 2012, the end-year inflation expectation for is 7.2 percent, compared to the 5.0 percent official target.

19. Growth is expected to slow down significantly in 2012, before recovering to about five percent per annum in the medium-term. Slower credit growth (the adjusted annualized weekly credit growth rate declined to 23 percent in mid-December 2011, less than half its peak of 50 percent in January 2011) and falling domestic and foreign demand is estimated to have slowed down growth already in the last quarter of 2011, bringing the growth rate for the year to around eight percent. Real GDP growth is expected to slow down to about three percent in 2012. The macroeconomic outlook beyond 2012 is more favorable and, in line with Government’s Medium-Term Program (MTP), projects a GDP growth rate of around five percent per annum, driven largely by strong private-sector led domestic demand, in combination with slowly recovering exports. The projected growth is predicated on capital inflows financing a current account deficit of 5-6 percent over the medium term (Table 2).

20. This growth path is predicated on continued progress on Turkey’s unfinished structural reform agenda. Such reforms include the implementation of the new commercial code and code of obligations, the labor market reform, and measures to bolster long-term fiscal savings and reduce the dependency on imports of fuel through an expansion of renewable energy use in electricity generation and improvements in energy efficiency. The current account deficit

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is projected to narrow in the outer years (supported by structural reforms and enhanced competitiveness as well as a recovery in global growth) and supported by higher domestic savings.

Table 2: Medium-Term Macroeconomic Projections and Targets

2012 2013 2014 2015 2016 Growth (%) 2.9 4 5 5 5 Contributions to Growth (percent) Consumption 2.5 3.2 3.6 3.4 3.3 o/w Private 2.3 2.9 3.3 3.3 3.2Gross Capital Formation 1.0 1.7 2.2 2.3 2.3 o/w Private 0.8 1.2 1.9 2.1 2.2Net Exports -0.5 -0.9 -0.8 -0.7 -0.6 Exports 1.7 1.5 2 2.1 2.4 Imports -2.2 -2.4 -2.8 -2.8 -3CPI Inflation (%) (end-of-period) 7 5.2 5 5 5General Govt. Rev./GDP, % 36.4 36.5 36.3 36 36General Govt. Exp./GDP, % 37.4 37.2 36.8 36.5 36.4General Govt. Bal./GDP, % -1 -0.7 -0.5 -0.5 -0.4Public Sector Primary Balance/GDP, % 1.3 1.1 1.4 1.7 1.9Gross Public Debt/GDP2 38.4 37.0 35.2 33.2 31.2Gross External Debt/GDP 42.6 43.0 42.6 41.8 41.1CAD (billion US$) 63.7 66.0 66.4 64.9 61.1CAD/GDP (%) 7.6 7.3 6.9 6.3 5.6Reserves (billion US$) (including gold) 90.4 91.9 95.1 97.1 100.81 World Bank staff estimates for total public debt stock (consistent with EU defined general government debt stock reported in MTP) and gross external debt stock. Source: World Bank Staff Projections 1 World Bank staff estimates for total public debt stock (consistent with EU defined general government debt stock reported in MTP) and gross external debt stock.

21. The MTP envisages gradual improvements in fiscal balances. On the public sector side, Table 2 shows a shift from a 1.1 percent public sector primary deficit in 2009 to a 2.1 percent surplus by 2014, with the general government balance shifting correspondingly from a 5.5 percent deficit in 2009 to a 0.5 percent deficit in 2014. Given current global economic uncertainties, the Authorities need to remain vigilant and avoid fiscal policy slippages. This will help limit risks, which can rapidly increase in the current volatile environment, strengthen investor confidence, and moderate aggregate demand.

The fiscal adjustment over 2012-14 will come mainly from expenditure measures. General government expenditures as a share of GDP are projected to decline, from the 2009 level of about 40 percent, to about 36.8 percent by 2014, leading to a declining borrowing requirement. The decrease in spending over the MTP period is driven by a decline in current expenditures, mainly cuts in goods and services spending, and a decrease in current transfers to the Social Security Institutions (because of the improvements in its balance). The composition of taxation and spending still pose longer-term challenges however. Tax revenues rely heavily on value added and special consumption taxes, and there remains scope to improve collection of income tax. More generally, it will be important to leave room in the budget for growth-enhancing public investment by controlling current spending.

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22. The energy sector is a net contributor to public finances, most importantly through taxes on petroleum fuels. In 2011, Turkey raised US$16.6 billion in petroleum special consumption tax (SCT) and oil-tax revenues account for more than 13 percent of total tax revenues. Turkey’s gasoline taxes are high internationally and in addition to boosting government revenue they promote energy savings. Still, despite this contribution, the energy sector is also a source of fiscal losses. Revenue shortfalls (inadequate tariffs) and collection problems have led to tax arrears in utilities, in particular BOTAŞ. The receivables of BOTAŞ from state-owned utilities amount to about US$4 billion and BOTAŞ in turn has accumulated payables on custom duty. The program supported by the ongoing ESES DPL program addresses this including through sustained implementation of cost-based pricing. As BOTAŞ’s collections from generators improve, so will its ability to pay tax. Financial recovery in the power sector has enabled the payment of current bills and the elimination of arrears to private sector generators – electricity trading company TETAŞ cleared its arrears during 2009 and electricity market operator TEİAŞ PMUM cleared its arrears in 2010. Remaining cross-payables and receivables between public sector companies are to be cleaned-up through a legislation which was enacted in December 2010.

23. The environmental investments that Turkey would have to make to implement the EU Environmental Acquis come at significant cost over the next two decades. Investments will be required to be in compliance with some 200 laws and regulations covering water and air pollution, waste and chemicals management, biotechnology, radiation protection and nature conservation. The EU Integrated Environmental Approximation Strategy estimates the cost to be about Euro 59 billion. Turkey’s current capital investment spending on the environment is estimated to be below 0.5 percent of GDP and has not been affected by credit constraints. This share will increase gradually and may reach 2 percent of GDP in a few peak investment years.

24. External financing needs will remain high in 2012-16 (Table 3). Turkey should be in a position to attract further FDI given privatization efforts and the potential for mergers and acquisitions. The baseline net FDI inflows are projected to rise from US$13 billion in 2012 to US$18.1 billion in 2016. Similarly, net portfolio flows are assumed to be positive, consistent with continued Eurobond issuance and the potential of the domestic capital market to raise financing. However, higher oil prices than assumed here (US$100/barrel), for a sustained period, would create additional external financing requirements - a risk that needs to be closely monitored going forward. A US$10/barrel increase in oil prices would increase the CAD by an estimated 0.4-0.5 percentage points of GDP, and would shave around 0.2-0.3 percentage points of growth.

25. The reliance on external financing will likely continue in the near future, with the associated risks of a significant growth slowdown if financing dries up. With low domestic savings, Turkey’s economic growth relies on capital inflows to finance imports. The country’s large current account deficit and the composition of its financing remain critical concerns. Under a deepened crisis scenario in the Euro zone and a corresponding sudden stop of capital inflows to emerging markets driven by a flight to safety, Turkey could possibly face a renewed recession.

26. External debt dynamics are vulnerable to a severe unfavorable shock. After declining considerably from 56 percent in 2002 to 35.3 percent in 2005, external debt stood at 41.3 percent at end-2011 and is forecast to increase to 42.6 percent by end-2012 before easing to

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41.1 percent by end-2016 in a baseline scenario. However, external debt sustainability analysis shows that, in the event of a sudden stop of capital flows, the external debt to GDP ratio would rise from 41.3 percent to almost 48 percent in 2014, while the pace of the increase would slow down thereafter.

Table 3: External Financing Projections (US$ billion)

2008 2009 2010 2011 2012 2013 2014 2015 2016

Gross financing requirement 82.9 61.2 92.9 118.6 102.5 102.3 101.3 95.8 89.9

Current account deficit 42.0 14.0 47.1 77.2 63.7 66.0 66.4 64.9 61.1

Eurobond repayments 3.4 1.9 2.6 1.7 2.5 1.6 3.3 3.8 4.6

Medium and long-term debt amortization

37.5 45.3 43.2 39.7 36.3 34.7 31.6 27.0 24.3

Public sector 5.4 3.9 5.3 5.7 5.2 4.0 3.9 3.3 3.2

Private non-bank sector 24.9 33.8 31.2 27.1 20.1 22.7 20.8 16.9 14.8

Banks 7.2 7.6 6.7 6.9 11.0 8.0 6.9 6.8 6.3

Capital Inflows 81.9 61.3 105.7 116.7 103.1 103.8 102.0 96.9 92.9

FDI (net) 17.0 6.9 7.6 13.4 13.0 16.5 17.1 17.8 18.1

Portfolio (net) -5.0 0.2 16.1 22.2 17.1 22.3 25.4 29.5 33.9

General Government 8.9 4.8 6.7 4.9 6.2 4.8 4.7 4.0 3.8

Private Non-Bank Sector (Medium Long Term)

47.7 24.4 25.1 29.7 25.1 29.5 27.0 22.0 19.2

Banks (Medium and Long Term) 8.1 6.0 7.6 12.3 17.0 12.0 10.4 10.2 9.5

Net Error and Omissions 4.1 4.1 2.7 12.2 0.8 0.0 0.0 0.0 0.0

Short-term inflows (net) 1.1 14.9 39.8 22.1 23.8 18.7 17.4 13.4 8.4

Change in Reserves 1.1 -0.1 -12.8 1.8 -0.5 -1.5 -0.7 -1.1 -3.0

Rollover Ratios (%) Assumptions

Central Government 163.3 123.6 127.2 85.3 120.0 120.0 120.0 120.0 120.0

Corporate (MLT) 191.4 72.2 80.5 109.6 125.0 130.0 130.0 130.0 130.0

Banks (MLT) 112.9 78.6 114.1 177.6 155.0 150.0 150.0 150.0 150.0

Source: Undersecretariat of Treasury and CBRT (until 2011), World Bank Staff Projections

Figure 2. External Debt Sustainability

30

35

40

45

50

2011 2012 2013 2014 2015 2016Baseline  Downside 

% of GDP

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27. The public debt sustainability analysis suggests that the risks to the sustainability of Turkey’s debt burden are moderate. As shown in Table 3, gross public debt is forecast to decline from 45 percent of GDP at end-2010 to 33.2 percent of GDP by 2015 (Figure 3). However, in an extreme downside scenario the interest rate would go up, the exchange rate would depreciate, GDP would contract, and fiscal performance would deteriorate.

Figure 3. Public Debt Sustainability

28. Overall, Turkey’s macroeconomic framework is adequate for the proposed operation. Turkey remains vulnerable to a slowdown of capital inflows due to its high reliance on external financing. Turkey’s key structural strengths, primarily its resilient banking sector, dynamic private sector and favorable public and external debt dynamics mitigate risks to the economy and suggest a favorable medium-term outlook for Turkey’s growth performance. Based on future progress in the structural reform agenda and strong macroeconomic and fiscal management, Turkey is likely to maintain growth rates around its potential.

25.0

30.0

35.0

40.0

45.0

2011 2012 2013 2014 2015 2016

Baseline Downside 

% of GDP

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III. THE GOVERNMENT’S PROGRAM

29. The Government of Turkey has set itself ambitious development goals. Turkey intends to be one of the world’s 10 largest economies by 2023, the 100th anniversary of the founding of the Turkish Republic. The Government’s 2023 vision 6 aims for gross domestic product to reach US$2 trillion, the foreign trade volume to exceed US$1 trillion; per capita income to reach US$25,000; and, unemployment to decline to 5 percent. Turkey also aims to complete full membership negotiations with the EU; further develop Istanbul as a leading international financial hub, and become the leading manufacturing and service provider both in the region and beyond. To achieve Turkey’s development goals and realize sustainable shared growth, the Government is pursuing a wide range of economic policies and structural reforms, set out in its Ninth Development Plan for 2007-2013),7 2012-2014 Medium-Term Program, and annual programs. Top priorities include: (a) sound macroeconomic and related structural fiscal policies to maintain stability and reduce short and medium term vulnerabilities; (b) investment climate, labor market, and skills reforms to increase competitiveness and create jobs, especially for women and youth; (c) fundamental education reforms and continuing health and social welfare reform to increase productivity and help share the gains from growth through equal opportunities; and (d) continuing energy and water sector reforms and investments to further increase energy efficiency, the use of renewable energy, and energy security and help reduce greenhouse gas emissions and mitigate and adapt to climate change.

30. The Ninth Development Plan links growth and sustainable development focusing inter alia on energy, mining, environment, water and natural resources. Two factors play a major role in shaping Turkey’s sustainable development agenda:

National “development axes” defined in the Ninth Development Plan are key drivers of Turkey’s short and medium term social and economic development priorities; and

The EU Sustainable Development Strategy articulates the principles of sustainable development. Turkey projects these European principles in national development policies and investment priorities.

Energy Sector Challenges and Reforms

31. Building on successful fundamental energy sector reforms over the last decade, Turkey is moving decisively to develop an increasingly reliable and efficient energy supply, while also mitigating climate change. Impressive results have been achieved during the 2008-2011 period of the Government’s program supported under the ESES DPL series. They are summarized in para. 3 and discussed in Annex 3. In addition to the DPL series, the Bank supports Turkey’s electricity and gas utilities TEIAŞ, TEDAŞ and BOTAŞ under investment loans - Bank investment lending and advisory support for Turkey is summarized in Section IV.

6 Part of Prime Minister Erdoğan’s Justice and Development Party’s (AK Party) election manifesto for 2011, called “Target 2023”. 7 The Government is currently preparing Turkey’s Tenth Development Plan.

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Market Liberalization

32. Turkey continues the liberalization and development of its electricity market. Electricity market liberalization was launched and has been progressively implemented under the Electricity Market Law of 2001. Consumers whose annual consumption exceeds 25 MWh are currently eligible (i.e., they can choose their own supplier) - this represents over 77 percent of the total Turkish electricity market. A balancing and settlement system called PMUM – the abbreviation of electricity market financial reconciliation center in Turkish - is being operated by the transmission system and electricity market operator TEİAŞ. Although originally designed for system balancing, PMUM evolved into a power exchange (an electricity trading platform). The 2009 Electricity Strategy set out the main transitory steps and targets for the further development of Turkey’s electricity market. Accordingly, a Day-ahead Market (DAM) has been developed by TEİAŞ and was launched in December 2011. Over 25 percent of monthly electricity consumption in Turkey is transacted through the PMUM power exchange by more than 500 market participants.

Private Investment

33. Turkey has chosen private sector participation - through new investment and privatization of existing facilities - as the best available means to achieve a sustainable long-term solution to energy security, competitiveness and operational efficiency in the power sector. Power sector ownership and generation fuel mix are changing from public to private and towards environmentally friendlier fuels. Turkey opened the power sector for private investment in 1984 but progress remained limited until the enactment of the build, operate and transfer (BOT) law in 1994 to provide a legal basis for Government guarantees to attract private investment to complement public electricity generation investment in meeting rapidly increasing demand for electricity. In 2001 the Government moved from guarantees to promote market-based bilateral contracts and sales to Turkey’s electricity market. The market-based approach has been remarkably successful in attracting private generation investment. The target of adding 10,000 MW generation capacity in the 2008-2011 period has been achieved. The share of private sector generation in Turkey’s electricity supply now exceeds 50 percent and will continue to grow with new investment and generation privatization (details are available in Annex 3).

34. Ownership change in electricity distribution is even more dramatic, from a minor private sector role before 2008 to about 50% in 2011 and towards 100 percent private ownership by the end of 2012. One of Turkey’s 21 distribution regions/companies, Kcetaş in Kayseri has been under private management for over eight decades. The Ministry of Energy and Natural Resources (MENR) transferred the operating rights of two distribution companies in 1998. The Privatization Administration (PA) offered for sale and determined the winning bidders for the other 18 distribution companies in 2008-2010 (completing four tenders in 2008, three in 2009 and eleven in 2010). Privatization proceeds from already closed transactions amount to about US$5.4 billion. However, the closing of seven of the 2010 privatizations is delayed, as many of the ranked bidders have not fulfilled the obligations of Tender Specifications for these companies (details are available in para. 84). PA will retender companies for which the original bid processes have to be canceled.

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Renewable Energy Development

35. Renewable Energy Development is a key component in Turkey’s Electricity and National Climate Change Strategies. The Government has taken several major measures to promote private sector renewable energy development, including the enactment of a Renewable Energy Law in 2005, the development of a functioning electricity market and the introduction and implementation of the 2008 electricity pricing mechanism (Annex 3). Renewable energy generation, in particular hydro and wind, has taken off, and will make an increasing contribution into Turkey's power system. Several hydro and wind projects are viable with the current electricity prices in Turkey's electricity market – feed-in tariffs provided under the Renewable Energy Law serve as a floor price. The Parliament in December 2010 approved an amendment of the Renewable Energy Law in order to provide prospective investors enhanced predictability about Turkey's support framework, including: (a) technology-based feed-in tariffs; and (b) firm off-take arrangements, which were launched on December 1, 2011 as a complement to the new Day-Ahead Market (para. 32). Approved feed-in tariffs for biomass and solar power, though significantly higher than current prices in PMUM, are nevertheless lower than some investors had expected. The impact of these higher solar and biomass feed-in tariffs on generation capacity, electricity supply and consumer prices of electricity is going to remain low in the short-term, as the share of biomass and solar electricity is expected to remain low in the short-term.

Energy Efficiency

36. Energy efficiency is critical to Turkey’s energy security and a key component in Turkey’s National Climate Change Strategy. The legal, regulatory/pricing and institutional set-up to promote energy efficiency, discussed in Annex 3, includes a comprehensive set of energy efficiency regulations issued in 2008 under the 2007 Energy Efficiency Law. The Government has also taken measures to support specialized credit lines, including the use of the Clean Technology Fund (para. 45). In an effort to accelerate the realization of Turkey’s potential, the Government approved a new Energy Efficiency Strategy in February 2012. A related new energy efficiency regulation was issued in October 2011. The new Strategy sets an overall target of reducing Turkey’s energy intensity (energy consumption of energy per unit of GDP) by 20 percent by the year 2023 from the year 2011 level. This is a realistic target but not an ambitious objective, as Turkey’s economy is still relatively energy intensive. Turkey required 0.26 ton of oil equivalent (toe) for every US$ 1,000 of GDP, compared with the OECD average of 0.18 in 2008. Turkey’s nominal GDP/unit of energy consumption is well below OECD Europe and the United States (Table 4). The Strategy identifies the following main activities to improve Turkey’s energy efficiency: (a) promote energy efficiency in the industries and services sectors; (b) reduce energy demand of buildings; (c) promote energy efficient appliances and products; (d) improve the efficiency of electricity generation, transmission and distribution; and (e) building capacity, market and financing for energy efficiency products, investments and services.

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Natural Gas

37. In the medium-term, the adequacy of natural gas supply may become a bottleneck for energy security and environmental goals. Gas imports have grown rapidly, driven by Turkey’s growing demand for energy and related environmental considerations. In electricity supply, the share of gas has increased from about 20 percent in 1995 to 48 percent in 2009. Complementing this shift to gas in the power sector, EMRA has administered a nation-wide gasification program. In 2002, only nine Turkish provinces had access to gas; by the end of 2012, 72 provinces are expected to be connected to the gas network. The share of gas in Turkey’s primary energy mix has reached 32 percent. The reliance on gas now subjects the country to a gas supply security risk. A review has been carried out and an amendment to the Gas Market Law is expected to be enacted in 2012.

European/Regional Dimension in Electricity and Gas

38. The process of harmonizing and integrating Turkey’s electricity and gas sectors and networks to the European networks is underway ahead of the opening the energy chapter of EU accession negotiations and the signing of the Energy Community Treaty8. The Energy Community has three levels of ambition: national, regional and pan-European:

In the short term, the Energy Community aims at creating open and transparent national energy markets based on stable regulatory and market frameworks capable of attracting investments in power generation and networks (security of energy supply being essential for economic development and social stability). As discussed in the previous paragraphs, Turkey has put in place regulatory and market frameworks capable of attracting significant private investment in line with the objectives of the Energy Community;

In the medium term, an integrated regional energy market should be in place which allows for cross-border trade in energy, guarantees energy supply and takes into consideration climate and social aspects. Turkey’s actions are summarized below; and

In the long term, the regional market should be fully integrated in the European Union's internal energy market. Turkey is currently involved in large gas projects which are designed to supply not only Turkey’s but also the European gas market.

39. In an effort to secure future gas supplies, the Government (assisted by public sector oil and gas companies) is conducting a high-level dialogue with Turkey’s largest gas supplier (Russia/Gazprom) as well as Turkey’s current and prospective suppliers of gas in the Caspian and the Middle East region including Azerbaijan, Iran, Iraq, Kazakhstan, and Turkmenistan. In October 2011, Turkey and Azerbaijan and their respective gas companies BOTAŞ and SOCAR signed agreements for Turkey to purchase six billion cubic meters (bcm) of gas annually and to transit another 10 bcm to Europe. BOTAŞ is a member of the consortium that plans to build the Nabucco gas pipeline from Turkey through Bulgaria, Romania and

8 Current signatories of the Treaty which formally established the Energy Community in July 2006 are Albania, Bosnia and Herzegovina, Croatia, Former Yugoslav Republic of Macedonia, Moldova, Montenegro, Serbia, Ukraine and UNMIK for Kosovo pursuant to UN Security Council Resolution 1244. Original signatories Bulgaria and Romania joined the EU in January 2007.

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Hungary to Austria, for which the concerned countries including Turkey signed an Inter-Governmental Agreement in July 2009. Turkey’s Parliament ratified the agreement in March 2010. Turkey also supports Gazprom’s proposed SouthStream gas pipeline from Russia to South East Europe.

40. Turkey’s synchronous 400 kV interconnection with the European electricity grid is in the final testing phase, with limited commercial operation already allowed. Full commercial operation is expected by the end of 2012. After the full commercial operation starts, Turkey will also become a member of the European Network of Transmission System Operators for Electricity (ENTSO-E) which is supervising the ongoing testing program. An asynchronous direct current (DC) interconnection between Turkey and Georgia is under construction. TEIAŞ is studying DC interconnections with its other neighbors including Iran and Syria.

Climate Change 41. Turkey is stepping up its engagement on climate change internationally and domestically and has requested Bank development policy and investment lending support for its new climate change program. This reflects the realization that climate change is a threat to Turkey – Turkey is one of the three countries in the ECA region most likely to experience the greatest increases in climate extremes – and the high level of awareness and concern among Turkey’s population (para. 60). The proposed ESES DPL3 supports policies, strategies and specific measures related to climate change and environmental management.

42. The growth in total Greenhouse Gas (GHG) emissions has been rapid. Turkey’s GDP (in 2005 PPP US$) per unit of energy use (in kg oil equivalent) at 8.9 compares favorably with all comparators shown in Table 4. Turkey’s nominal GDP per unit of energy use shows that Turkey’s energy intensity is higher than in OECD Europe and the United States. Turkey’s energy use at 1,333 kg oil equivalent/capita and emission intensity at 4.0 tCO2/capita are much lower than in these countries. Emission growth in the 1990-2009 period has been modest in the United States and emissions have declined slightly in the OECD Europe area and significantly in Eastern Europe and Central Asia (in part reflecting the collapse of the Soviet Union and the resulting transition in Russia and across the Eastern Europe). In contrast, Turkey’s emissions doubled in the 1990-2009 period (emission growth was faster only in China and India) and are projected to continue to rise. The growth is caused by the rising energy demand (driven by Turkey’s rapid economic growth, industrialization and steady population growth) and reliance on fossil fuels and would have been even greater without the shift from coal to natural gas in electricity generation.

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Table 4: Energy and Emission Indicators Energy/

Capita

(PPP) GDP/

energy

use

(nom.) GDP/

energy

use

CO2/

Capita

CO2/

(PPP) GDP

CO2/

(nom.) GDP

CO2

Growth %

1990-2009

Turkey 1,333 8.9 3.6 4.0 0.3 0.7 102

Upper Middle-income Countries

2,177 5.2 n/d 5.3 0.5 n/d n/d

Euro area / OECD Europe 3,763 8.2 5.6 8.4 0.3 0.4 -5

Eastern Europe and Central Asia

3,030 3.6 0.7 7.2 0.7 3.3 -38

World 1,835 5.5 3.3 4.6 0.5 0.7 38

Brazil 1,295 7.4 3.6 1.9 0.2 0.4 74

China 1,598 3.6 1.4 5.0 0.9 2.2 207

India 545 5.1 1.3 1.4 0.5 1.8 172

Mexico 1,698 7.9 4.1 4.5 0.3 0.6 51

Russia 4,838 3.1 0.6 10.8 0.8 3.9 -30

United States 7,503 5.8 5.3 19.3 0.4 0.5 7 Sources: “World Development Indicators”, 2011 edition, the World Bank; GDP in 2005 PPP US dollar; except nominal GDP/energy use, CO2/nominal GDP and CO2 growth percent 1990-2009 (sectoral approach) from “CO2 Emissions From Fuel Combustion”, 2011 edition, the International Energy Agency; GDP in 2000 US dollar. WB figures /Euro area, IEA figures/OECD Europe.

43. The Government approved a National Climate Change Strategy in May 2010 and a National Climate Change Action Plan was issued in July 2011. The Strategy and the Action Plan (Box 1) identified national priorities for mitigating Greenhouse Gas (GHG) emissions and building resilience through managing impacts and encouraging mitigation and adaptation to climate change. They build upon Turkey’s First National Communication on Climate Change (FNC) to the UNFCCC and subsequent work including the Electricity Strategy, studies by the MoEF, MoD, UNDP, and Turkey’s Investment Plan submitted to the CTF. The Strategy establishes Turkey’s national vision as a country which has “integrated its climate change policies into the development policies, has let the energy efficiency become widespread, has increased the use of clean and renewable energy resources, actively participates in the efforts for tackling climate change within the framework of its “special circumstances”, and can provide all of its citizens with a high quality of life and welfare with low-carbon strategies.”

44. The use of a phased approach to major reforms—from strategy to action plan to the implementation of measures—has proven effective across a range of reform areas in Turkey, from the investment climate reforms to public finance to the energy sector. The National Climate Change Action Plan covers key sectors in line with national development priorities: energy, transport, industry, waste, land use, and agriculture and forestry. The National Climate Change Strategy and Action Plan are grounded in baseline conditions and incorporate existing plans to develop medium and long-term targets in these sectors. The broad National Climate Change Strategy and Action Plan gain further in significance, when considered in

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combination with the concrete implementation actions in the energy sector, which have strong climate change co-benefits (paras. 78/Box 3 and 128).

45. The focus of Turkey’s Investment Plan for the Clean Technology Fund (CTF) is on renewable energy development and energy efficiency, to accelerate the implementation of Turkey’s strategy and related laws and supporting regulation. The CTF Trust Fund Committee endorsed Turkey’s US$250 million Investment Plan in January 2009.9 CTF approved a US$100 million allocation from Turkey’s US$250 million Investment Plan in March 2009 to help finance the Private Sector Renewable Energy and Energy Efficiency Project. The Bank supported the project with a US$500 million loan approved in May 2009. Implementation progress has exceeded expectations and additional Bank financing of US$500 million was approved in November 2011.

Box 1: National Climate Change Action Plan

The National Climate Change Strategy of 2010 established the following broad strategies for the implementation of Turkey’s national vision for climate change:

(a) Negotiations. Actively participate in the negotiations carried out to establish a comprehensive and functional international cooperation mechanism in combating and adapting to global climate change;

(b) Action Plan. Develop a National Climate Change Action Plan with a dynamic approach in line with the National Climate Change Strategy and the Ninth Development Program;

(c) Organization. Climate Change Coordination Board for inter-ministerial coordination and a Climate Change Department within the Ministry of Environment and Urbanization; and

(d) Information Management. Adapt information management and exchange approach and methodology and to establish a national portal.

The National Climate Change Action Plan established an overall implementation plan and sectoral plans for key sectors in accordance with the priority areas set out in the Strategy:

(a) Mitigation. Greenhouse gas emission control covering all main sectors - energy, buildings, industry, transport, waste, agriculture, and land use and forestry – and cross-cutting issues; and

(b) Adaptation. Measures to increase the adaptive capacity and adaptive measures covering main areas – management of water resources; agriculture and food security; ecosystem services, biodiversity and forestry; natural disaster risk management; and public health – and cross-cutting issues.

The Action Plan targets to reduce Turkey’s energy intensity by 10 percent by 2015 compared to 2008, and the new Energy Efficiency Strategy targets a reduction by 20 percent by 2023 compared to 2011.

The Action Plan is available on: http://iklim.cob.gov.tr/iklim/Files/IDEP/%C4%B0DEPENG.pdf.

[The National Climate Change Strategy is available in the program document for ESES DPL2, as an attachment to the Government’s Letter of Development Policy.]

9 Information about the Clean Technology Fund, Turkey’s CTF Investment Plan and other CTF investment plans is available at http://www.climateinvestmentfunds.org/cif/.

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46. A formal organizational structure has been established for climate change as called for in the Climate Change Strategy, including for the coordination of the preparation and implementation of the National Climate Change Action Plan. The former Ministry of Environment and Forestry was responsible for the preparation of the Strategy and the Action Plan. Its successor, the new Ministry of Environment and Urbanization (MoEU), issued the Action Plan in July 2011 and will be responsible for their implementation and updating. A Climate Change Department was established in 2009 to coordinate the expanding work program. The Coordination Board on Climate Change (CBCC), chaired by the Minister of Environment and Urbanization, is responsible for inter-ministerial coordination. Following the January 2012 reconstitution, this board is composed of high level representatives (Undersecretary and President) from the Ministry of Environment and Urbanization, Ministry of Forestry and Water Affairs, Ministry of Foreign Affairs, Ministry of Transport, Maritime Affairs and Communications, Ministry of Food, Agriculture and Animal Husbandry, Ministry of Science, Industry and Technology, Ministry of Energy and Natural Resources, Ministry of Health, Ministry of Finance, the Ministry of Development (formerly the Undersecretariat of the State Planning Organization), Ministry of Economics, Undersecretariat of the Treasury, the Union of Chambers and Commodity Exchanges of Turkey, and Turkey’s Industrialists’ and Businessmen’s Association. Several technical Working Groups are working under this Board.

47. Turkey has joined the Partnership for (carbon) Market Readiness launched by the World Bank at COP-16 in Cancun in December 2010. Participation provides Turkey an opportunity to exchange views and learn from the experience of 14 other middle-income countries 10. The PMR is aimed at providing support to countries that are planning to use market based instruments to mitigate greenhouse gas (GHG) emissions. The establishment of a carbon market is one of the main pillars of the Istanbul Financial Center Strategy and Action Plan, which aims to transform Istanbul into a regional financial center in the Middle East, North Africa and Eurasia regions. A working group of the MoEU, the Capital Markets Board of Turkey, Istanbul Stock Exchange (ISE), Istanbul Gold Exchange, Turkish Derivatives Exchange, and ISE Clearing and Settlement Bank has been established to work on the technical issues and submit recommendations to the Government in order to establish the market.

48. Turkey has indicated its PMR activities would focus on implementation of a robust monitoring, reporting and verification (MRV) system for GHG emissions in the key sectors, and they may also include designing a pilot phase for the market mechanism, and other related institutional and legal capacity building. Turkey was awarded a US$350,000 PMR Preparation Grant in May 2011 by the PMR Partnership Assembly. The Preparation Grant Agreement was prepared and finalized in December 2011. It was the first to be signed under the PMR. The Preparation Grants are primarily intended for preparing a proposal for PMR Implementation Grants, which are expected to range from US$3-10 million. In addition to preparing the PMR Implementation Grant proposal, the MoEU will utilize the initial Preparation Grant to organize consultation meetings, training events and outreach to stakeholders, undertake background studies needed to prepare the Implementation Grant proposal, and to establish effective project management capacity.

10 The 15 Implementing Countries of the PMR are Brazil, Chile, China, Costa Rica, Colombia, India, Indonesia, Jordan, Mexico, Morocco, South Africa, Thailand, Turkey, Ukraine and Vietnam.

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Sustainable Environmental Management

49. Turkey has embarked on a comprehensive long-term reform process in environmental management using the EU Environmental Acquis (Box 2) as an important anchor. Turkey’s strategy outlines for key sectors (water, air, industrial pollution control, and chemicals): (i) the environmental challenges currently faced by the country; (ii) the timetable for legislative harmonization; (iii) the sectoral goals, objectives, and strategies; (iv) plans for strengthening institutional capacity, both at the national and local levels; and (v) investment needs. The cost for Turkey to comply with the Environmental Acquis will be substantial. The EU Integrated Environmental Approximation Strategy estimates the cost at about Euro 59 billion for 2007-2023 with average annual investments of about Euro 4 billion. Turkey’s current spending on environment is estimated to be below 0.5 percent of GDP. This share will increase gradually and may reach 2 percent of GDP in a few peak investment years.

Box 2. The European Union Environmental Acquis and the ESES DPL support for Turkey’s Environmental Reforms

The EU Environmental Acquis and Turkey’s Progress on the Environmental Chapter

The environmental Acquis Communautaire (acquis) aims to promote sustainable development and protect the environment for present and future generations. It is based on preventive action, the polluter pays principle, fighting environmental damage at the source, shared responsibility and the integration of environmental protection into other EU policies. The environment acquis comprises over 200 major legal acts covering horizontal legislation (e.g., environmental impact assessment (EIA), access to information), water and air quality, waste management, nature protection, industrial pollution control and risk management, chemicals and genetically modified organisms (GMOs), noise and forestry.

According to the latest progress report of the European Commission (dated October 2011), the area where Turkey is mostly in line with EU environmental legislation are environmental impact assessment (EIA) and waste management. The revision of the waste legislation, largely in line with the provisions of the new EU Waste Framework Directive, has begun with the adoption of legislation on solid waste, waste water tariffs, waste incineration, packaging waste and the inspection of end-of-life vehicles. Progress has been also achieved on air quality and industrial pollution control. Turkey completed the transposition of Directive 2001/80/EC on Large Combustion Plants. A regulation on reducing the emission levels of light trucks and passenger vehicles has been adopted. Turkey also enacted a regulation on the control of major industrial accidents (involving dangerous substances) in August 2010. MoFW has adopted a basin level approach for the preparation of river basin protection plans and river basin management plans.

ESES DPL Support to Turkey for Harmonization with the EU Environmental Acquis

The ongoing ESES DPL program supports actions that are among the most critical for Turkey’s transposition of its environmental legislation with the EU environment acquis, based on the Government’s EU Integrated Environmental Approximately Strategy (2007-2023). The ESES DPL2 supported the transposition into law of the EIA Directive. The ESES DPL3 supports the Government in moving toward harmonization with EU air and water quality legislation (the Large Combustion Plant Directive), industrial pollution control (Point Sourced Soil Pollution Control Regulation), and a system of “e-permit” for environmental permitting, monitoring and inspection (Regulation on Environmental Permits and Licenses, which is an important step towards implementing the EU’s Integrated Pollution Prevention and Control (IPPC) Directive).

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50. Turkey has put in place a number of legislative and institutional reforms to protect the environment. Environmental policies11 encourage the use of economic instruments and incentives such emissions and pollution charges and market-based mechanisms including carbon trading, to stem the rising tide of carbon emissions and other air pollutants. Turkey has recognized the need to integrate environmental concerns into economic policies and the significance of environmental policies. The MoEU and the Ministry of Forestry and Water Affairs (MoFW) lead the work to reform and implement the national environmental legislation. Turkey has increased its efforts to promote technology transformation and the adoption of environmental management systems supporting transition to sustainable production and consumption in the industry. In the medium-term, the institutional roles for environmental management will be delineated to closely reflect EU practice including greater delegation of implementation and enforcement to local institutions.

51. In the EU and OECD countries integrated environmental permits are key command and control instruments. Turkey introduced administrative simplification of the system of environmental permits and licenses by Regulation on Permits and Licenses to be taken in Accordance with the Environmental Law (published in the Official Gazette on April 29, 2009 and became effective on April 1, 2010), and amended on February 24, 2010, April 25, 2010 and on August 16, 2011, which inter alia combine all environmental licenses and permits required for an industrial installation into a single “e-permit”12. Under the new system13, the environmental permit and license procedures are processed electronically by a specialized department - an important step towards implementing the EU’s Integrated Pollution Prevention and Control (IPPC) Directive14. Next, Turkey plans to continue the principles of integrated pollution prevention and control through strategy work, enterprise-based pilot projects on best available technologies (BATs), and an inventory of IPPC installations. Currently, MoEU is implementing its third IPPC project financed under Turkey’s EU program Instrument for Pre-Accession Assistance (IPA). It is expected that the draft IPPC regulation would be ready by end of 2013 and the implementation would start in 2015.

52. Implementing the provisions of the EU legislation on Industrial Emissions Directive will be a long-term endeavor as it requires substantial investments for industrial facilities to further reduce the pollutant concentration of their emissions. All new industrial plants, including thermal power plants (TTPs), must be equipped with state-of-the-art technology so they achieve the limit values set forth in the Law on Air Quality Assessment and Management. Investments by TPPs in abatement technology are also needed for compliance with the Large Combustion Plant Directive as part of the EU harmonization. In addition to the gradual reduction

11 As most formally stated in the 2006 amendment of the Law on Environment. 12 For SMEs and other enterprises not covered by the Integrated Pollution Prevention and Control (IPPC) Directive, EU and OECD countries have introduced integration and administrative simplification of the process, notably through General Binding Rules and standard permit conditions for distinct categories of installations. 13 The legal basis for this system is established by the Regulation on Permits and Licenses Required to be Obtained Pursuant to the Environment Law, April 2009, with amendments in February and April 2010 and finally in August 2011 to reach its final scope. 14 The IPPC Directive brings a new approach to the permitting process, where the industry has to carry out a self-assessment and needs to look into areas that are traditionally not regulated in most countries—such as energy efficiency, or having an environmental management system. In addition, the Directive itself has flexible elements leaving room for interpretation and taking into account the economic situation and special local conditions in which the industrial activity is taking place.

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of annual emission (NOx, SO2, and dust) ceilings, this Directive also set requirements for monitoring and reporting for all plants. These actions are consistent with the National Climate Change Strategy, which aim to introduce incentive mechanisms for the “promotion of the use of clean production technologies and climate-friendly and innovative technologies”.

53. Turkey has advanced its integrated pollution prevention and control agenda through recent policy analysis on competitiveness and challenges to comply with the EU environmental Acquis for specific industrial sectors. The analysis on cement manufacturing industry as well as recent work on the household appliances sector to comply with the Waste Electrical and Electronic Equipment (WEEE) Directive contribute to meeting national sustainable development goals and expand the Government’s knowledge on implementation of key environmental Directives. Furthermore, Turkey completed the transposition of Directive 2001/80/EC on Large Combustion Plants for licensing of new installations in June 2010. Other directives relevant to the broader context of EU air legislation and regulations is the Fuel Quality Directive relating to the sulfur content of certain liquid fuels (fuel oils) as well as the Incineration Directive that regulates emissions from waste incineration plants. Currently, the legislation relating to the sulfur content of certain liquid fuels has been fully aligned with the acquis and the current decrease in sulfur content of fuel oil is expected to reach 1 percent in 2012 (versus 1.5 percent from 2009 baseline data).

54. Implementation of waste management directives is challenging and expensive. Turkey adopted its national waste management plan for 2009-2013 and became a party to the Stockholm Convention15 on persistent organic pollutants (POPs). Consequently, Turkey had prepared a draft National Implementation Plan (NIP) under the Stockholm Convention on POPs which currently is in the process to be updated. The number of solid waste disposal facilities put into operation has reached 59 and the population served by sanitary landfills has increased from 20 million to 41 million. 40 more landfill sites are being developed and project preparation is underway for 35 disposal sites. The EU Waste Catalogue which classifies 839 different types of waste has been transposed and an online database has been established by the MoEU for Hazardous Waste and Packing Waste.

55. As a part of the harmonization process, the Government has transposed into law EU’s Environmental Impact Directive 85/337/EEC as amended with 97/11/EC and 2003/35/EC. The legislation further strengthens the country’s public participation processes, transparency and accountability in environmental consent process and has become closely harmonized with the EU’s EIA Directive. However, Turkey is not yet a party to the Aarhus Convention which requires further strengthening of access to environmental information. In addition, Turkey has launched several capacity improvement projects for transposition of the Directive on Strategic Environmental Assessment, including a project to “Strengthen Institutional Capacity for Implementation of Strategic Environmental Assessment. A Regulation on Strategic Environmental Assessment (SEA) is expected to be finalized and become effective in 2014. The MoEU has launched an IPA project with the goal of creating institutional capacity and raising awareness of the implementation, with assistance for preparation of four pilot SEAs. The MoEU is also working on the SEA competency certificate, which will include criteria for licensing firms to prepare SEAs, similar to the accreditation required for EIA companies.

15 Turkey signed the Stockholm Convention in May 2001 and ratified it in January 2010

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56. The Ministry of Environment and Urbanization’s Clean Air Action Plan calls for the establishment of Regional Air Quality Centers for implementing the Law on Air Quality Assessment and Management and conducting air quality assessments. A significant part of Turkey’s air quality legislation16 has been harmonized with the acquis. A National Air Quality Monitoring Network (NAQMN) with eight regional air quality monitoring centers has been established and disseminated to 81 provinces by MoEU with the participation of private organizations. The locations of 39 fixed air quality monitoring stations17 have been identified in line with the Clean Air Action Plan. The Marmara Clean Air Center has been established and is now fully operational. The Center will maintain a database including main air quality indicators defined as per Air Quality Directives, and information will be shared publicly at national level. All legal permits for the locations of the other proposed 38 air quality stations have been obtained and the tender document for the establishment of these stations has been finalized.

57. The Government has advanced the work on the transposition of the Water Framework (WF) Directive. The institutional framework for water management is in the process to be organized at river basin level. The Directive’s provisions regarding the sensitive and less sensitive water areas concerning water quality and water resources management have been transposed in the national legislation. Five sensitive areas have been determined and for 25 river basins and River Basin Protection Action Plans are under preparation. Currently, there are 15 river basin protection action plans in place in line with the principles of WF Directive. Preparation work on the development of final 10 plans is on-going with the goal to be finalized by the end of 2012 with the goal to be ultimately converted into river basin management plans. Ongoing preparatory work for the National Basis Management Strategy (NBMS) stresses the need for an integrated approach to economic planning at a river basin level to help ensure service delivery while assuring the sustainability of the natural resource base and the services it provides. Implementation of the NBMS—including sustainable hydro development, irrigation, and flood management—will be a major challenge in Turkey, yet will be critical for successful climate change adaptation.

Participatory Processes

58. Turkey has its own participatory processes underpinning policy formulation. The energy actions originate from the Government’s 2004 and 2009 electricity strategies. The preparation of the Electricity Reform and Privatization Strategy of 2004 and the updating of the 2004 strategy, resulting in the Electricity Market and Security of Supply Strategy of 2009, were informed by conferences, seminars and workshops. The final draft of the 2009 strategy was prepared in the fall of 2008 and then became the subject of an in-depth and lengthy inter-ministerial review before its approval in May 2009. The launch of the electricity privatization program in 2008 was preceded by over two decades of review and debate since the 1980s when the power sector was opened for private investment. The Privatization Administration (PA) has consulted extensively and will continue to consult with prospective investors and the electricity sector employees and their labor union on electricity privatizations. The PA announces 16 The regulation on Ambient Air Quality Assessment and Management (BAQAM) sets the air quality standards. It also sets the implementation time line for 13 different pollutants, as well as the timeline for strengthening monitoring, enforcement and capacity for air quality and pollution control. 17 The number of monitoring stations will gradually increase as well as the measurable parameters, including from traffic, industrial pollution and district heating.

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forthcoming privatizations on its web-site and press releases. Final bidding rounds are conducted in public auctions and broadcast on television. EMRA consults stakeholders as part of its regulatory processes for the formulation of regulations and their major amendments. MENR has posted a draft electricity law (replacement of the current Electricity Market Law) on its web-site for public comments.

59. The preparation the National Climate Change Action Plan was led by the Ministry of Environment and Urbanization through a multi-sectoral and multi-stakeholder approach, with the participation of public and private sector institutions, nongovernmental organizations and universities. Stakeholder meetings were conducted focusing on seven main sectors (energy, waste, buildings, forestry, industry, agriculture, and transportation). Several roundtable meetings were conducted with all relevant parties for each sector. The draft Action Plan was shared with all relevant institutions (government, NGOs, private sector associations, etc.) for their review and comments. The final draft was published on the web-site of the Climate Change Department for over three months to receive comments from public. Turkey’s delegations presented a complete draft of the Strategy at the Copenhagen COP-15 meeting and Turkey’s approach to its implementation including the Action Plan at the Cancun COP-16 meeting. The Government has transposed into law EU’s Environmental Impact Directive 85/337/EEC as amended with 97/11/EC and 2003/35/EC. The legislation further strengthens the country’s public participation processes which have become closely harmonized with the EU’s EIA Directive.

60. Awareness and concern about climate change are relatively high in Turkey. In a global attitude survey of 48 countries, about 59 percent of those interviewed considered climate change to be a serious problem. In Turkey, the figure was 70 percent - the highest among the seven ECA countries covered in the survey. Awareness and concern do not necessarily lead to action or behavioral change but they are nevertheless clear signals and encouraging signs of support for the Government faced with the climate change mitigation and adaptation challenge.

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IV. BANK SUPPORT TO THE GOVERNMENT’S PROGRAM

LINK TO THE COUNTRY PARTNERSHIP STRATEGY

61. A Country Partnership Strategy (CPS) for the FY12-15 period is scheduled to be considered by the World Bank’s Executive Board on March 27, 2012. The proposed CPS has three main strategic objectives and pillars: Strategic Objective 1 - enhanced competitiveness and employment; Strategic Objective 2 - improved equity and public services; and Strategic Objective 3 - deepened sustainable development. Highlights of planned activities under Deepened Sustainable Development are: (a) policy advice and financing to address energy, environmental and climate change challenges in an integrated manner, (b) support for the completion of a water basin management strategy, and (c) supporting the Sustainable Cities Program by using the Integrated Urban Development Strategy and Action Plan 2010-2023 through AAA and investment financing including IFC. The proposed operation is the third installment of a series of three DPLs launched under the CPS FY2008-11. DPL1 was approved in June 2009. In the CPS Progress Report, endorsed by the Executive Board on January 7, 2010, Turkey and the Bank adjusted the Partnership Strategy and inter alia agreed to broaden the energy DPL program to include climate change and key environmental sustainability reforms in the re-named new ESES DPL program. This design provided an integrated approach to the energy security - energy efficiency - environment nexus and is consistent with the EU’s energy, climate and environmental goals. ESES DPL2 was approved in June 2010 as a part of the FY10 financing program. The proposed operation is expected to be the first policy-based operation in the financing program of the new CPS FY12-15 period.

COLLABORATION WITH THE IMF AND OTHER DEVELOPMENT PARTNERS

62. The Bank and the IMF are coordinating and working together closely on Turkey. The IMF’s most recent Stand-By Arrangement for Turkey was completed successfully in May 2008. Topics on which Bank and Fund staff have collaborated include assessment of developments in the health and social security systems, energy pricing, and local administration finance. Bank staff provided the fund team with inputs in the form of the analysis of social and employment impacts of the crisis, social security actuarial analysis, health policy analysis, and poverty simulations. IMF staff regularly share macroeconomic files and the detailed fiscal assessments of Fund staff have informed the Bank’s own views of the new MTP. The IMF’s Public Information Notice issued on December 7, 2011 following the 2011 Article IV consultation with Turkey, is attached as Annex 4.

63. The European Commission and the World Bank launched in December 2010 a new initiative seeking to increase opportunities for synergies in working with the Turkish authorities. Possible areas for collaboration include food safety, energy sector reforms, and public administrative reform. In October 2011, the Government submitted a proposal to the Commission to include under EU’s Instrument for Pre-Accession Assistance (IPA) program for Turkey a large multi-year EU/IPA-financed World Bank-managed technical assistance program for the energy sector. The proposal is under review and a Euro 11.8 million allocation has been included to start the program under Turkey’s 2012 IPA program, for which the Financing Agreement is expected to be finalized in the summer/fall of 2012.

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64. Collaboration with Other Development Partners. Bank staff also holds regular consultations with staff from the European Investment Bank (EIB) and the European Bank of Reconstruction and Development (EBRD), which have active portfolios in Turkey including areas of common interest such as energy. The Bank and UNDP work together on climate issues. UNDP in general and its Turkey office in particular coordinate the support from the United Nations to the Government in this area. UNDP has received funding for this work inter alia from the Government of Turkey, the Governments of Spain and the United Kingdom, and the Global Environment Facility (GEF). The Bank is working with the French Development Bank, AFD (France: Agence Francaise de Dévelopment), German Development Bank, KfW (Germany: Kreditanstalt für Wiederaufbau Bankengruppe) and UNDP in providing assistance to industry and financial intermediaries for energy efficiency investments. AFD and EIB recently approved loans of euro 150 million each for a project to support the Ministry of Forestry and Water Affairs in its forest management, fire fighting and afforestation efforts. While supporting the national forestry policy, the project also contributes to climate change mitigation in Turkey. WB, IFC and EBRD work together in supporting Turkey’s CTF Investment Plan. The Undersecretariat of Treasury plays an active role in donor coordination.

65. Within the World Bank Group, the Bank and the IFC maintain a close dialogue and collaboration including in the energy sector, transport and municipal sectors. IFC’s infrastructure strategy in Turkey aims to create attractive private sector investment opportunities in the sector by achieving three main developmental objectives: (a) supporting the Government’s ambitious privatization program across various infrastructure sectors, including electricity and transport; (b) maximizing its demonstration effect by supporting early high-profile transactions, particularly those which will set a benchmark for future privatizations and public private partnerships or with an energy efficiency component; (c) mobilizing funds from commercial banks and IFIs where necessary; (d) supporting long-term strategic players in the sector. IFC’s support to the privatization process is particularly critical at present given investors’ and lenders’ increased risk-averseness in view of the global financial crisis; and (e) increasing access to finance for underserved segments including municipalities, with the goal of accelerating the completion of essential public infrastructure projects. Highlights of IFC’s recent electricity projects and ongoing energy work are given in para. 69.

RELATIONSHIP TO OTHER BANK OPERATIONS

66. The proposed operation is the third installment in a series of three DPLs to support the implementation of the Government's program for the energy sector and the second DPL to explicitly support climate change and sustainable environmental management. The first loan in this series was approved in June 2009, the second in June 2010. A parallel DPL series supported Turkey’s transition from crisis management to growth in the recovery. The first Restoring Equitable Growth and Employment (REGE) DPL was approved in March 2010 and the second DPL in May 2011.

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67. The ESES DPL complements related energy investment lending. Projects supported by World Bank financing include:

Renewable Energy Project (2004), which provided a line of credit for private sector investments in renewable energy. The implementation of the project was completed, with highly satisfactory results, in 2009;

ECSEE APL2 (2005), which financed investments in the SCADA system and transmission, and provided investment and technical assistance support for the development of the wholesale electricity market and ECSEE APL3 (2006), which financed investments in transmission strengthening. The implementation of these projects was completed, with satisfactory results, in 2010;

Gas Sector Development Project (2006), which finances a gas storage facility. After long procurement delays, main contracts were awarded and implementation started in 2011;

Electricity Generation Rehabilitation and Restructuring Project (2006), which aimed at improving the reliability and efficiency of one of the largest generating plants in Turkey. Bank loan for this project was cancelled in November 2009 due to intractable procurement issues. The plant has since been included in the Privatization Administration’s strategy for privatization;

Electricity Distribution Rehabilitation Project (2008), which finances investments in strengthening of the distribution network. Implementation of some of the components has fallen behind schedule;

The Private Sector Renewable Energy and Energy Efficiency Project (2009) including financing from the Clean Technology Fund (para. 45). Project implementation has exceeded expectations and an Additional Loan for the Project has been approved (2011); and

ECSEE APL6 (2010), which finances investments in transmission system strengthening and a program of technical assistance for institutional development. Implementation started in a generally satisfactory manner but some components have fallen behind schedule. This project and the already completed ECSEE APL2 and APL3 projects are financed under the Bank’s regional US$1 billion adaptable program lending (APL) facility supporting the development of the Energy Community (para. 38).

68. Turkey’s CTF Investment Plan envisioned a future TEIAŞ transmission project with support from the Clean Technology Fund. Turkey’s CTF Investment Plan also envisioned another credit line for energy efficiency for small and medium sized industries (SMEs) and the public sector, which is dependent inter alia on additional CTF availability. Both projects are subject to the ongoing CPS process and the IBRD financing envelope for Turkey.

69. The IFC has in recent years mobilized financing for several high priority private sector electricity and energy efficiency projects in Turkey and is working on several others:

In 2011, IFC mobilized an additional US$1.0 billion for Enerjisa (IFC A Loan: US$90 million), in a follow on transaction which involved development of a portfolio of generation projects of 1,027 MW including 2 small hydros, one wind and one combined cycle gas plant in addition to 1,881 MW including 9 small hydros, one wind and one combined cycle gas plant that was financed in 2008. Enerjisa was Turkey’s first major

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power generation financing on a merchant basis and the success of the first transaction resulted in significant demand from international banks for this follow on transaction;

In 2010, IFC mobilized US$325 million for SEDAS (IFC A Loan: US$75 million), one of the first two privatized electricity distribution companies together with Baskent which was acquired by Enerjisa. SEDAS, operating in the distribution and sales of electricity, provides services within the provinces of Sakarya, Bolu, Düzce and Kocaeli in northwest Turkey, which is home to about 4.1 per cent of Turkey’s population. IFC’s share of the syndication was US$75 million. SEDAS was the first internationally financed distribution privatization in Turkey.

In 2009, IFC mobilized US$200 million for Rotor Elektrik (IFC A Loan: US$75 million), a 135 MW wind generation park. Also in 2009 IFC mobilized US$120 million for the Izgaz transaction, a landmark local-currency transaction in the Turkish gas distribution sector;

Presently, IFC is selectively looking at investing in additional new generation capacity with several private groups and closely following the developments on the privatization front to provide long term financing where IFC can play a strong role; and

IFC is also working on providing loans by utilizing the CTF (US$21.7 million, complemented by about US$80 million by IFC in the first phase of IFC’s CTF program) to Turkish financial intermediaries to support renewable energy and energy efficiency investments in the Turkish market that could also encourage local manufacturing capacity for renewable energy generation equipment (including solar and geothermal technologies). In 2010, IFC provided US$50 million loan to Finans Leasing including US$10 million of CTF funds and US$25 million loan to Yapi Kredi Leasing including US$5 million of CTF funds as part of this program.

LESSONS LEARNED

70. Major policy and legislative reforms can take time to implement; therefore flexibility and patience are critical for ensuring good results. To increase success, the full integration of combined analytical work and policy financing into national development plans and medium-term programs is critical. The programmatic structuring of work, in the form of modular interventions which build on each other sequentially, has been particularly effective. These lessons learned have been reflected in the design of the ESES program, which has been designed on the basis of a substantial amount of analytical and advisory work undertaken over the years for the energy sector in Turkey. The ESES program, analytical work and policy dialogue focus specifically on the policy aspects underpinning the sector’s reform program, whereas the parallel investment loans focus on key investment needs in support of the overall policy agenda. This approach enables the Bank to support Turkey’s energy sector strategy with sufficient flexibility and provide development policy and investment financing on a timely basis, in support for the Government’s own strategies and action plans, presented in Section III.

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71. The new engagement on environment and climate change started during the CPS FY2008-11 period illustrates the importance and value of carefully identifying strategic entry points and seizing opportunities as country priorities evolve. Turkey and the World Bank Group had originally agreed not to use the environment as a pillar in CPS FY08-11, reflecting limited advancement of the environmental agenda during 2004-2007 and a decision to consider a possible re-engagement, at Turkey’s initiative, during the 2008-2011 CPS period. Turkey’s accession to the Kyoto protocol and the opening of the Environmental Chapter of the EU acquis in 2009 provided the opportunity and strategic entry point for a new engagement on this topic. This opportunity grew out of the Turkey-World Bank Group partnership on energy. The electricity DPL series was broadened into the Environmental Sustainability and Energy Security (ESES) DPL series, with three components: energy, climate change, and environmental sustainability. This work led to collaboration in preparation for the 2012 UN Sustainable Development Conference (Rio+20). IFC used its support for Turkey’s liberalization program to secure low carbon solutions to meet growing electricity demand.

ANALYTICAL UNDERPINNINGS

72. The Bank has been providing analytical support through its advisory support program. Completed and ongoing work in energy, climate change and sustainable environmental management dimensions includes:

regular high-level advice by an independent expert panel of leading international specialists on critical sector issues including supply security, market implementation, regulation and privatization;

provision of expert advisory services on sustainable wind energy development;

report on the security of electricity supply;

studies related to a gas sector strategy and to greenfield gas distribution;

preparation of a study on incentives that would be provided to private investors through a capacity mechanism in conjunction with a better functioning electricity market, with additional measures to add new generation capacity to be installed by private investors under long-term contracts with the distribution companies;

analytical work on demand-side energy efficiency potential and opportunities in Turkey – including a report “Turkey: Tapping Energy Savings Potential in Industry and Buildings” published in November 2010;

an assessment of options for improving the operational effectiveness of TEIAŞ; and

Programmatic Non Lending Technical Assistance (NLTA), focusing the Government policies for balancing development, sector competitiveness and challenges of complying with the EU Environmental Acquis, and work on preparation of the National Watershed Management Strategy.

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73. Assistance has also been provided for the design and implementation of the power sector reform program through the Bank’s investment operations, including:

support for the design and implementation of the electricity market including the balancing and settlement system and the day-ahead market;

training and capacity building support to the system and market operator TEIAŞ; and

financing of key market infrastructure: market models, software and hardware, system dispatch and control tools, metering systems, and market management system.

74. The preparation of the ESES DPL has also benefitted from a number of energy, environment and poverty-related analytical studies and policy notes by other parties. Some of the key analytical work includes:

Integrating Poverty in Utilities Governance (UNDP, 2009). This review carried out by the Ministry of Development, UNDP and Ankara-based universities used both quantitative data and qualitative field techniques to analyze the impacts of tariff changes in the electricity, natural gas and water sectors and inter alia its field survey results informed the poverty and social analysis of the project;

Turkey OECD Environmental Performance Review (OECD, 2008). This review examines the extent to which Turkey has met its national objectives and international commitments regarding environmental management. In addition, it offers specific recommendations to strengthen the country’s efforts in managing air, water and nature assets and in building environmental infrastructure (e.g., for waste and wastewater treatment), in an effort to reduce pollution and energy and resource intensities and address environmentally-related health problems; and

Sustainable Development Analysis Report (UNDP, 2008). This report assesses the integration of sustainable development principles in Turkey’s sectoral policies, and provides recommendations, in particular, for strengthening environmental mainstreaming on energy, fisheries, science and technology, and urbanization.

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V. THE PROPOSED THIRD PROGRAMMATIC ENVIRONMENTAL SUSTAINABILITY AND ENERGY SECTOR DEVELOPMENT POLICY LOAN

OPERATION DESCRIPTION

75. The ongoing ESES DPL series is grounded in the development goals articulated in Turkey’s Ninth Development Plan (Section III) while strengthening the framework for long-term sustainable growth across the economy and in the energy sector in particular. The development objective of the Government’s program proposed to be supported by ESES DPL3 is to help: (a) enhance energy security by promoting private sector clean technology investments and operations; (b) integrate principles of environmental sustainability, including climate change considerations, in key sectoral policies and programs; and (c) improve the effectiveness and efficiency of environmental management processes. The program supported by this ongoing DPL series has a focus on the energy sector because of both the tightening electricity and gas supply/demand balances and the sizeable contribution of the energy sector to Turkey's greenhouse gas emissions. At the request of the Government for the Bank to provide broader support to the Government’s sustainability agenda, the ESES DPL2 and the proposed ESES DPL3 also support policies, strategies and specific measures related to climate change and environmental management. The Government has concluded that energy efficiency, energy security and environmental issues are most effectively addressed in an integrated program. Furthermore, this energy security - energy efficiency - environment nexus is consistent with the EU’s energy, climate and environmental goals and effectively contributes to Turkey's EU accession process.

76. The ESES DPL program is structured under three pillars18:

Pillar I - Energy Sector; Pillar II - Climate Change; and Pillar III - Sustainable Environment Management.

77. Pillar I continues the energy program originally supported under PEDPL1, covering energy pricing, electricity markets, renewable energy, energy efficiency, electricity distribution and generation privatization, and gas supply security and wholesale gas market development. Pillar II supports Turkey's National Climate Change Strategy following the ratification of the Kyoto Protocol in February 2009. Pillar III supports sustainable environmental management and is focused on the transposition of EU Environmental Acquis and sectors/sub-sectors where environmental degradation could hamper sustainable development.

78. There are strong mutually reinforcing links and complementarities among the three pillars of the expanded ESES DPL program. The energy pillar yields significant national and local environmental co-benefits. The energy and environmental management pillars yield significant climate change co-benefits as summarized in Box 3. National and local environmental actions have strong synergies with climate change actions and support climate

18 The ESES DPL series and recent operations in the Bank’s Turkey energy program are aligned with the Strategic Framework of the World Bank Group for Development and Climate Change. Details for each of the six action areas in the Strategic Framework are available in Box 6 (page 36) in the Program Document of ESES DPL2.

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change mitigation and adaption. Harmonization with EU environmental regulations will generate greater environmental gains especially in the industry by improved management of waste and effluents and overall emission reduction of large combustion plants. The impact of EU acquis on policy making is currently the strongest in national and local environmental areas where Turkey has embarked on a comprehensive long-term reform process using the EU Environmental Acquis as an important anchor.

Box 3. Reinforcing Links and Complementarities in the ESES DPL Program

(PEDPL1, ESES DPL2 and the proposed ESES DPL3)

Policy action Climate Change Co-benefit Environmental Co-benefit

Electricity market helps attract increased renewable energy investments.

Control of greenhouse gas (GHG) emissions through renewable energy.

Improvement in air quality.

Cost-based electricity pricing promotes investments in and financial viability of the power sector, and efficiency in supply and use of electricity.

GHG emission control through efficiency improvements.

Improvement in air quality. Reduction in waste water and solid waste in power generation.

Electricity distribution and generation privatization improve energy security and efficiency.

GHG emission control through rehabilitation investments and efficiency improvements.

Improvement in air quality. Reduction in waste water and solid waste in power generation.

Harmonization of legislation with the EU Environmental Acquis in terms of air quality.

GHG emissions control from actions linked to the Large Combustion Plant Directive and the Clean Air Action Plan.

Harmonization of legislation with the EU Environmental Acquis in terms of water quality and water resources management.

GHG emissions control through effective urban wastewater treatment. Strengthened climate resilience through effective river basin protection action plans.

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79. Specific actions that the ESES DPL3 supports draw from and build on the Government’s strategies and action plans and actions. The proposed prior actions of the ESES DPL3 are summarized in Box 4. The full range of policy actions in the ESES DPL program are presented in the policy matrix (Annex 2). The scope has changed since the approval of ESES DPL2 but as summarized in Box 5 and discussed below, the revised program overall is stronger and the overall objectives of ESES DPL3 and the ESES DPL program will be achieved.

 

Box 4. Proposed Prior Actions for ESES DPL3 The Government has agreed upon and implemented the following prior actions before the presentation of the loan/credit to the Executive Board:

Policy Area I – Energy Sector:

Launching of the day-ahead wholesale electricity market by the transmission system and electricity market operator TEIAŞ.

Enactment of an Amendment of the Renewable Energy Law.

Government approval of an Energy Efficiency Strategy.

Policy Area II – Climate Change:

Government’s Climate Change Coordination Board approval of a National Climate Change Action Plan (including sectoral actions for at least three key sectors).

Policy Area III – Sustainable Environmental Management:

Issuance by the Ministry of Environment and Urbanization of a Regulation transposing Directive 2001/80/EC on Large Combustion Plants (for licensing of new installations).

Issuance by the Ministry of Environment and Urbanization of a Regulation, and amendments to the Regulation, on Permits and Licenses in Accordance with the Environmental Law.

Issuance by the Ministry of Environment and Urbanization of an amendment to the Regulation on Industrial Air Pollution Control.

Issuance by the Ministry of Environment and Urbanization of a Regulation on the Control of Soil Pollution and Contaminated Sites by Point Sources. 

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Box 5: Summary of Developments on Proposed Triggers since ESES DPL2 ESES DPL3 Trigger at the Time of ESES DPL2 Approval (June 2010)

ESES DPL3 Prior Action (January 2012)

Explanation/ Status

Policy Area I – Energy Sector:

Implementation of the energy regulator EMRA’s wholesale electricity market regulation by the transmission system and electricity market operator TEIAŞ.

Included as a prior action. Completed. A clearer formulation of the action adopted as “Launching of the day-ahead wholesale electricity market by the transmission system and electricity market operator TEIAŞ”.

Study of options and a program of measures for increasing the operational capacity and financial strength of TEIAŞ.

Not included as a prior action. Completed.

Amendment of the Renewable Energy Law.

Included as a prior action. Completed.

Amendment of the Natural Gas Market Law.

Not included as a prior action. Amendment expected in 2012.

Privatization of electricity distribution and generation plants by the Privatization Administration in line with the Government’s electricity sector strategy and market conditions.

Not included as a prior action. Seven distribution companies offered for sale by the Privatization Administration and the winning bidders determined. However, as many of the ranked bidders have not fulfilled the obligations of Tender Specifications, the process continues and most companies may have to rebid.

Government approval of an Energy Efficiency Strategy.

New prior action. Approved in February 2012.

Policy Area II – Climate Change:

Government’s Climate Change Coordination Board approval of a Climate Change Action Plan (including sectoral actions for at least three key sectors.

Included as a prior action. Completed.

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ESES DPL3 Trigger at the Time of ESES DPL2 Approval (June 2010)

ESES DPL3 Prior Action (December 2011)

Explanation/ Status

Policy Area III – Sustainable Environmental Management:

Issuance by the Ministry of Environment and Urbanization of a Regulation transposing Directive 2001/80/EC on Large Combustion Plants (for licensing of new installations).

Included as a prior action. Completed.

Transposition of Directive 2001/42/EC on Strategic Environmental Assessment into regulation.

Not included as a prior action. Draft regulation prepared. Issuance and effectiveness expected in 2014.

Transposition of Directive 2006/11/EC on Dangerous Substances into law.

Not included as a prior action. Draft regulation prepared but further processing discontinued; instead the measure is being merged into a much broader water regulation. Issuance expected in 2015.

Issuance by the Ministry of Environment and Urbanization of a Regulation, and amendments to the Regulation, on Permits and Licenses in Accordance with the Environmental Law.

New prior action. Completed.

Issuance by the Ministry of Environment and Urbanization of an amendment to the Regulation on Industrial Air Pollution Control.

New prior action. Completed.

Issuance by the Ministry of Environment and Urbanization of a Regulation on the Control of Soil Pollution and Contaminated Sites by Point Sources.

New prior action. Completed.

POLICY AREAS

PILLAR 1: Energy Sector - Supply Security, Climate Change & Enhanced Private Investment 80. Turkey is implementing an ambitious energy sector program with a view to meeting the country’s growing energy demand in an efficient and sustainable manner. Turkey’s program is presented in Section III and Annex 3. The program was supported under PEDPL1 and ESES DPL2 and further support is proposed under the ESES DPL3 as summarized in the following paragraphs.

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81. The specific policy measures for the proposed ESES DPL3 in energy security, climate change and enhanced private investment are as follows:

Launching of the day-ahead wholesale electricity market by the transmission system and electricity market operator TEIAŞ;

Enactment of an Amendment of the Renewable Energy Law; and Government approval of an Energy Efficiency Strategy.

82. The key energy sector outcome indicators of the ESES DPL Program are: (a) day-ahead electricity market launched and operating effectively; (b) cost–reflective tariffs maintained; (c) improved financial performance of power companies, with loss for TEDAŞ and receivables for TEIAŞ and EÜAŞ reduced; (d) private investment in the power sector; (e) rate of electricity demand growth contained; and (f) a new gas import contract signed. Results indicators are presented in Annex 2. Implementation progress is generally satisfactory and objectives and results are being achieved as discussed below.

83. The ESES DPL Program is on track to achieve its energy sector objectives and results:

A day-ahead electricity market (a power exchange) has been launched and operates effectively: trading currently accounts for over one quarter of Turkey’s electricity supply, and earlier major collection and payment issues have been resolved;

Financial recovery has been achieved in the power sector. Up to 2008, prices did not cover costs and collection was less than 100 percent, and large arrears were accumulated. With the implementation of the cost-based pricing mechanism, electricity tariffs have reflected costs since 2008. (Reasonable costs as accepted by EMRA). Collections started to improve through 2009. Collections reached 100 percent in 2010 (some privatized discoms collected more than 100 percent, i.e. also recovered past arrears). Main state-owned utilities achieved profitability – EUAŞ from 2009, TEIAŞ from 2010 and TEDAŞ from 2011 - and have paid their arrears to private sector generators. Cross-payables and receivables between public sector companies are being cleaned-up through a special legislation enacted by the Parliament;

A large volume of private investment has been attracted, including the development of about 11,200 MW generation capacity in the 2008-2011 period and about US$5.4 billion so far in the ongoing electricity distribution privatization program. The closing of the latest privatizations slipped to 2012 and most may require rebidding;

Agreements for the purchase of gas for Turkey’s gas market and transit to Europe have been signed between the Governments of Azerbaijan and Turkey and their gas companies SOCAR and BOTAŞ; and

Turkey’s electricity and gas supply security have improved. The projected electricity supply imbalances in 2010 and 2011 were avoided. Rate of electricity demand growth in the 2008-2011 period at about 4.9 percent/annum was well below the target 7 percent/annum. This result was in part facilitated by the economic slowdown in 2009 caused by the global crisis.

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84. The completion of Turkey’s electricity distribution privatization program has slipped to 2012 and has not been included as a prior action of DPL3. The Privatization Administration has offered for sale and determined the winning bidders for all 18 discoms included in the program, completing four tenders in 2008, three in 2009 and eleven in 2010. Privatization proceeds from already closed transactions amount to about US$5.4 billion. However, the closing of seven of the 2010 privatizations has slipped to 2012 and some may require rebidding. Their completion is delayed, as many of the ranked bidders have not fulfilled the obligations of Tender Specifications for these companies (which comprise the third phase of PA’s distribution privatization program supported under the ESES DPL series). Winning bids for these seven companies amounted to about US$11 billion. PA granted the winning bidders more time but requested that additional letters of guarantee – higher bid bonds - be submitted. One of the seven submitted (Dicle Electricity Distribution Company) and has been invited to execute the agreement. For the other six companies, PA invited the second-ranked bidders to execute the agreements. One of these six second-ranked bidders executed the agreement and the company (Trakya Electricity Distribution Company) has been transferred. The tender for Gediz Electricity Distribution Company was cancelled as the second-ranked bidder did not fulfill the obligations of Tender Specifications. For the other four companies, as the second-ranked bidders did not fulfill obligations of the Tender Specifications, PA invited the third-ranked bidders to execute the agreements. As the third-ranked bidders did not fulfill obligations of the Tender Specifications, tenders for Akdeniz and Boğaziçi Electricity Distribution Companies have been cancelled and the fourth-ranked bidders have been invited to execute the agreements for two companies (Istanbul Anadolu and Toroslav Electricity Distribution Companies). PA will retender companies for which the original bid processes have to be canceled.

85. A program of measures for increasing the operational capacity and financial strength of TEIAŞ has been prepared, but is not included as a prior action. An ESMAP-financed WB-managed study – Assessment of Options for Improving the Operational Effectiveness of TEIAŞ – identified a number of options for consideration. The highlights include: (a) restructuring of TEIAŞ into separate transmission system and electricity market operators; and (b) processing a special law to provide TEIAŞ with sufficient autonomy. The Bank has suggested private sector participation in the new electricity market operator, the listing of TEIAŞ at the Istanbul Stock Exchange and progressive reduction of Government ownership as effective means for addressing TEIAŞ’ constraints. The originally envisioned trigger was not included as a prior action of DPL3 in view of the interim/process-nature of the action. An amendment to the Electricity Market Law would be required for the restructuring of TEIAŞ and establishment of a separate electricity market operator. MENR has posted a draft electricity law (replacement of the current Electricity Market Law) on its web-site for public comments. An inter-ministerial working group is examining related issues in TEIAŞ. The Bank has an ongoing lending relationship with TEIAŞ and the dialogue will continue.

86. An amendment to the Gas Market Law is included in the Government program, but its adoption has slipped to 2012 and has not been included as a prior action of DPL3. The restructuring of BOTAŞ to separate the gas import and trading functions and the gas network and storage functions of BOTAŞ into two companies is expected. The Bank has suggested that the listing of the two unbundled companies in the Istanbul Stock Exchange be also considered. Not including the amendment of the Gas Market Law as a prior action does not to affect the immediate results of the ESES DPL program: In October 2011, Turkey and Azerbaijan and their

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respective gas companies BOTAŞ and SOCAR signed agreements for Turkey to purchase six billion cubic meters (bcm) of gas annually and to transit another 10 bcm to Europe. The signing of such a gas purchase contract is the gas sector results indicator of the energy pillar of the DPL program. The amendment is expected to be enacted during 2012. The Bank has an ongoing lending relationship with BOTAŞ and the dialogue will continue.

87. A new prior action on energy efficiency has been added into the scope of the energy pillar of DPL3. A new Energy Efficiency Strategy has been finalized by the Ministry of Energy and Natural Resources and was approved by the High Planning Council in February 2012. A new related Regulation on Energy Efficiency was issued on October 27, 2011. The Strategy is an important milestone in Turkey’s development and implementation of its energy efficiency agenda. It cuts across all three pillars (energy security, climate change mitigation and environmental sustainability) of the program supported by ESES DPL3 and its inclusion further strengthens the program. The National Climate Change Action Plan targets to reduce Turkey’s energy intensity by 10 percent by 2015 compared to 2008, and the new Energy Efficiency Strategy targets a reduction by 20 percent by 2023 compared to 2011.

88. Final review of the results of the program will be carried out in 2013 as a part of the Implementation Completion and Results Review (ICR). The ICR will also review the following 2012 actions:

The day-ahead electricity market continues to function in a satisfactory manner, in terms of liquidity/volume of trading and receivables/payables;

the power sector is financially viable, including that: (a) EMRA continues to apply the cost-based pricing mechanism; (b) main utilities maintain profitability in 2012; and (c) cross-payables and receivables between public sector companies have been cleaned-up in accordance with the February 2011 legislation;

Private sector generation investments continue (target for the five-year 2008-2012 period is 12,500 MW) and the distribution privatization program has been substantially completed (subject to market conditions); and

A new electricity law (replacing the Electricity Market Law) and an amendment of the Gas Market Law have been approved by the Parliament.

PILLAR II: Climate Change

89. The specific policy measure proposed to be supported under Pillar II – Climate Change – of ESES DPL3 is:

Government’s Climate Change Coordination Board approval of a National Climate Change Action Plan (including sectoral actions for at least three key sectors).

90. The key climate change pillar outcome indicators are: (1) An inter-ministerial Climate Change Coordination Board and a Climate Change Department at the MoEU are working to coordinate and ensure complementarity between sector specific climate actions; and (2) a framework established for monitoring the implementation of the National Climate Change

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Strategy and Action Plan agreed. (Ultimate results are very long-term. Intermediate monitoring indicators have been developed and included in the National Climate Change Action Plan.)

91. The ESES DPL Program is on track to achieve its climate change objectives and results. A National Climate Change Strategy was approved in May 2010 and a National Climate Change Action Plan was approved in May and issued in July 2011. An inter-ministerial Climate Change Coordination Board and a Climate Change Department at the MoEU have been established. They are active/operational and working to coordinate and ensure complementarity between sector specific climate actions. The progress and the change in Turkey’s approach and attention to climate issues during the program period has been significant, when compared to the preceding a long period of limited attention: (a) Turkey ratified and became a party to the Kyoto Protocol in 2009 and stepped up its participation in international fora, including the Copenhagen, Cancun and Durban climate summits (Conference of Parties); and (b) as far as collaboration with the Bank is concerned, Turkey joined the Clean Technology Fund and the Partnership for Market Readiness and has requested and received investment project financing for energy efficiency, renewable energy and related transmission system and electricity market development with CTF financing and three Bank loans approved in the 2009-2011 period. Turkey’s international engagement and participation, collaboration with the Bank, as well as the National Climate Change Strategy and Action Plan, are grounded upon studies and analyses carried out by the MoEU, the Ministry of Development and several line ministries including the Ministry of Energy and Natural Resources on renewable energy and energy efficiency. Going forward this progress enables inter alia Turkey’s effective participation in the international effort, which aims to prepare and agree a new climate change regime by 2015.

92. MoEU has prepared a regulation on the monitoring, reporting and verification (MRV) of greenhouse gas emissions. MoEU announced the regulation at the PMR meeting in Istanbul in October 2011. The regulation is modeled on a similar regulation in place under in the EU and would initially cover over 1,000 installations. The Ministry is working with the Turkish accreditation and standards institutes to deliver training to auditors (part of which is likely to be funded by the PMR).

PILLAR 3: Sustainable Environmental Management

93. The specific policy measures proposed to be supported under Pillar III - Sustainable Environmental Management – of ESES DPL3 are:

Issuance by the Ministry of Environment and Urbanization of a Regulation transposing Directive 2001/80/EC on Large Combustion Plants (for licensing of new installations);

Issuance by the Ministry of Environment and Urbanization of a Regulation, and amendments to the Regulation, on Permits and Licenses in Accordance with the Environmental Law;

Issuance by the Ministry of Environment and Urbanization of an amendment to the Regulation on Industrial Air Pollution Control by the Ministry of Environment and Urbanization; and

Issuance by the Ministry of Environment and Urbanization of a Regulation on the Control of Soil Pollution and Contaminated Sites by Point Sources.

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94. The key outcome indicators in the Sustainable Environmental Management are: (a) An integrated system for environmental “e-permits” is operational; (b) increased transparency, accountability and public participation in the environmental consent process; (c) increased percentage of population served by sanitary landfills; (d) Clean Air Center in Marmara fully functioning and staffed to implement the Clean Air Action Plan; and (e) at least 15 of the 25 river basins have developed river basin protection action plans. Results indicators are presented in Annex 2. Implementation progress is generally satisfactory and objectives and results are being achieved as discussed in the next paragraphs.

95. The ESES DPL Program is on track to achieve its sustainable environmental management objectives and results: (a) institutional and policy framework in support of harmonization with EU Environmental Acquis and improved inter-sectoral coordination in environmental management has been strengthened; (b) increased public participation in environmental decision-making is facilitated by the new EIA process; (c) the institutional framework for environmental monitoring and regulation has been improved with the new e-environment system for permits and licensing; (d) waste management (including the management of hazardous substances and chemicals and associated risks) has improved through improved regulatory framework and commitment to international conventions; and (e) the management of air quality and water resources and water quality has improved.

96. Two originally envisioned prior actions have been removed from the scope of ESES DPL3 and three regulations issued by the Ministry of Environment and Urbanization have been included as new prior actions for DPL3. Taken together these changes – discussed in the next three paragraphs - in the scope of DPL3 will strengthen the Environment Pillar of DPL3 compared to its original design.

97. A Regulation (and three amendments) on Permits and Licenses to be taken in Accordance with the Environmental Law has been issued by the MoEU and has been included as a prior action of DPL3. This regulation combines all the licenses and permits required by the industrial installations into a single “e-permit”. The objective of the regulation is to streamline the application process for the applicants and to make the licensing and permitting, monitoring/inspection and enforcement by the MoEU more effective. Moreover, the former separate environmental permits used to have different validity periods which made it difficult for both the companies and the governmental officials to monitor compliance. Within the re-structured MoEU, the General Directorate of EIA, Permitting and Inspection has become the responsible authority both for issuing these e-permits and also for their monitoring/inspection and enforcement. In addition, MoEU is establishing permitting, monitoring and inspection departments in provincial directorates, to strengthen the environmental monitoring and inspection practices. The MoEU has reportedly reduced the number of official documents from 199 to 16, by implementation of this regulation and enacted a related regulation on requirements for accreditation of “environmental official” or and environmental consultancy company involved in the process of applying for the e-permits. This is an important improvement towards environmental compliance of industrial sector since these officials will be also responsible for environmental compliance of the companies.

98. An amendment to the Regulation on Industrial Air Pollution Control has been issued by the MoEU and has been included as a prior action of DPL3. The Government’s

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strategy for generation privatization (supported under DPL2) stipulates that the sales agreements with the successful winning bidders will require them, inter alia, to renovate the plants within a stipulated timeframe after privatization as needed to meet the applicable environmental standards. Privatization is regarded as the best if not the only effective means for upgrading all plants to meet applicable standards, including past liabilities. The new regulatory framework resulting from this amendment provides winning bidders in generation privatizations a grace period - adequate time to upgrade those plants that do not currently meet applicable environmental standards - and requires them to meet applicable standards after the grace period.

99. Regulation on Control of Soil Pollution and Contaminated Sites by Point Sources has been issued by the MoEU and has been included as a prior action of DPL3. This regulation was issued on June 8, 2010 and is to become effective from June 8, 2012. This grace period for implementation is being used by the MoEU for capacity building and accreditation of decentralized staff, responsible to conduct the inventory and rehabilitation plans of contaminated industrial lands. The regulation inter alia covers technical and administrative principles and methods for prevention of soil contamination and identification, recording; cleaning-up and monitoring of already contaminated or potentially contaminated sites. This is the first regulation which supports the preparation of the contaminated land inventory and also describes the requirements for sustainable disposal of land contaminated by chemicals, and any other hazardous materials/waste. In addition to the regulation, MoEU has also issued four guidelines which will support the implementation of this regulation. The guidelines are: (a) a technical handbook on surveying polluted sites; (b) risk assessment of polluted areas; (c) rehabilitation and monitoring of polluted sites; and (d) management system for polluted sites.

100. The transposition of EU’s Strategic Environmental Assessment (SEA) Directive 2001/42/EU is delayed and has not been included as a prior action of ESES DPL3. The SEA regulation, transposing the EU’s SEA Directive 2001/42/EC, had been prepared but had not been formally approved prior to the reorganization of the structure of ministries following the June 2011 national elections. Following the reorganization of the ministries, within the new structure, the draft SEA regulation has been reviewed and revised by the EIA, Permitting and Inspection General Directorate of the MoEU. It is expected to be finalized and published in the Official Gazette and become effective in 2014. Capacity building and preparations for implementation of SEA are already underway (para. 55).

101. The process of transposition of Directive 2006/11/EC on Dangerous Substances– an originally intended trigger for DPL3 – has been incorporated into the preparation of a more comprehensive water regulation. The organizational restructuring affected the responsibilities of the departments working on the water management issues in the former Ministry of Environment and Forestry. Regulations related to water management are being prepared under the new MoFW’s Water Management General Directorate. MoFW is focusing on drafting a new Regulation on Management of Surface Water Quality, Classification and Monitoring. MoFW is planning to transpose the dangerous substances part of Water Framework Directive and 2008/105/EC Environmental Quality Standards Directive. Within the scope of this subject, MoFW is executing a national project on dangerous substances in water and has proposed a research project on protecting substances in water to TUBİTAK (The Scientific and Technological Research Council of Turkey).

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VI. OPERATION IMPLEMENTATION

POVERTY AND SOCIAL IMPACT

102. The social impact of the program expected to be supported by ESES DPL series is significant and overall positive. Long-term benefits far outweigh potential short-team impacts. The actions and reforms under the program are expected to help: (a) sustain economic growth, which in turn will increase employment generation and reduce poverty; (b) improve the environment, which in turn will improve the quality of life and health; and (c) improve the quality of electricity supply and service to consumers through privatization, infrastructure investment and increased competition. The program strengthens the framework for long-term sustainable growth across the economy and in the energy sector in particular. This will increase employment generation and reduce poverty. However, while helping to ensure access, some of the energy reforms (pricing and privatization) are also expected to affect the affordability of energy services for the poor.

103. The social impact of inaction would exceed the social impact of energy reforms. Should sizeable electricity shortages develop – the likely scenario without the reforms supported under the DPL series - they would have an especially severe adverse impact on the poor. In terms of direct impact, other consumers (industrial, commercial and non-poor domestic consumers) will be better able to mitigate the impact of inadequate supply either by directly reducing their energy consumption19 or by resorting to more expensive options that the poor cannot afford (e.g. diesel generators). Improving energy security will help to ensure that such adverse impacts are reduced or even avoided and that energy services to households are maintained at acceptable levels. In terms of indirect impact, electricity shortages would contain economic growth, investment and employment generation and poverty reduction, and improvements in the quality of life and health from environmental improvements would not materialize.

104. Electricity pricing reform coincided with the economic crisis that caused unemployment and disproportionally affected the poor. After constant tariffs in the 2003-07 period, electricity prices were adjusted significantly in the course of 2008 under the new cost-based pricing mechanism. These adjustments were necessary but they came at the same time as the economic crisis reached Turkey and as the country’s economic growth first slowed down and then turned into negative rates of -6.5, -14.3 and -7.0 percent in the fourth quarter of 2008 and the first and second quarter of 2009, respectively (y/y). Unemployment rose sharply, with the three-month moving-average open unemployment rate peaking at 16.1 percent in January–March, 2009. The impact through the labor market translated into an increase in the poverty rate of about 1 percentage point (from 17.1 percent to 18.1 percent).

105. Although poorer households were disproportionally affected by the 2008 electricity price increases, overall the impact on households, including poor households, was limited. Figure 4 illustrates the share of electricity expenditure in household disposable income by income quintile from 2003 to 2009. After tariff increases in 2008, the budget share of electricity

19 Electricity demand elasticity of the non-poor is higher than that of the poor, mainly because the poor use electricity for basic consumption needs and have little room to adjust. (See Annex 4 for details).

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expenditure increased for all income groups, but was still close to (for the bottom quintile) or lower (for the other four quintiles) than the 2003 levels. In addition, at 2008 price level, average electricity consumption of the poorest income group was still well above the electricity poverty threshold of 1200 kWh per year; and the average budget share of electricity of the bottom income quintile remained below the 10-percent affordability benchmark (Figure 5). Details are provided in Annex 4. It is notable that the household budget share of electricity in Turkey in 2008 was also the eighth lowest in the European and Central Asia region.

Figure 4: Share of Household Disposable Income on Electricity (%) (2003-2009)

Sources: Turkish Household Budget Surveys, 2003-09.

Figure 5: Budget share of electricity of the poorest income quintile in 2008 and 2009

Source: Turkish Household Budget Surveys, 2008-09

106. Actions to increase payments for usage may affect the poor more than other groups. Each year about one third of those in the poorest quintile who participated in the household budget survey did not report electricity expenditures. A series of test reveals that these households were statistically poorer and were more likely living in rural areas than other

0

2

4

6

8

10

Bottom 20%

2

3

4

Top 20%

Total

0.00

2.00

4.00

6.00

8.00

10.00

12.00

08‐1

08‐2

08‐3

08‐4

08‐5

08‐6

08‐7

08‐8

08‐9

08‐10

08‐11

08‐12

09‐1

09‐2

09‐3

09‐4

09‐5

09‐7

09‐8

09‐9

09‐10

09‐11

09‐12

Budget Shrae of Electricity 

Expenditure of the Bottom In

come 

Quintile (%)

Month 

Share of Disposable Income Share of Total Expenditure

Affodability Benchmark

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households in the bottom quintile. If non-reporting was related to non-payment or illegal connections, if proper payments were fully collected the poorer would face a higher effective tariff and would consume proportionally less. However, electricity would still be affordable: for those who did not report expenditures on electricity, the share of electricity in their budget is estimated to be at around 6.2 percent of disposable income or 5.1 percent of total expenditures in 2008, and 8.1 percent of income or 6.2 percent of total expenditure in 2009. Details are provided in Annex 4.

107. The share of electricity in household disposable income increased in 2009, particularly among the poor, although this was more the result of reduced income caused by the crisis rather than the price increase. In 2009, the share of electricity in disposable income of the poorest households spiked to 8.5 percent, while the average budget share of electricity was a much lower 4.0 percent. Analysis suggests that the hardships of the poor were more likely to be attributable to higher income reduction related to the economic crisis than to price increases 20. Details are provided in Annex 4. As soon as 2010 data becomes available, the analyses in Annex 4 will be updated.

108. Work carried out by the Ministry of Development (formerly the State Planning Office), UNDP and Ankara-based universities involved focus group discussions with poor households in four sites (UNDP, 2009). Focus group discussions suggested that price increases had caused some hardship and, in some cases, households were responding to increases in tariffs by restricting basic consumption. The Government is aware of the impact of price increases and has emphasized that: (a) the energy price adjustments were necessary to restore the financial viability of the sector; and (b) the Government prefers mitigation through general social assistance programs rather than sector-specific measures.

109. Using past and current market data and trends, the welfare impact of projected future electricity tariff adjustments is currently expected to be modest. Significant changes in electricity prices are presently not expected, due to a number of reasons: (1) the prices for natural gas – the dominant generation fuel and the main determinant of electricity prices - are projected to remain flat throughout this decade; (2) electricity prices under the BOT and BOO contracts signed in the 1990s were frontloaded and will be declining throughout this decade; and (3) Prospects for an increasingly competitive electricity market are good, given the large size of the Turkish power system; the large number and diversity of generating companies, plants and fuels; and the current and planned interconnections with neighboring countries enabling electricity sales into Turkey’s market. Future price paths will critically depend on EMRA’s expected continued ability to withstand expected pressures by private companies for EMRA to adjust tariff parameters in distribution tariffs to help raise additional revenue and recover their bid prices faster. Another future cost factor is the internalization of carbon prices. The welfare cost of any future price increases can be reduced as households adjust their consumption patterns and take advantage of energy saving opportunities including more efficient lighting and appliances.

20 Poverty decreased from 28.1 percent in 2003 to 17.1 percent in 2008, but increased by 1 percentage point to 18.1 percent in 2009 as a result of the crisis. Poverty is expected to have fallen since then as labor markets, the main channel through which the crisis affected households, recovered quickly, with seasonally adjusted unemployment at 9.1 percent and the employment rate at 45.4 percent in October 2011, improving on pre-crisis levels.

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Electricity Privatization

110. The Government has recognized and has set out to deal with the potential impact of electricity privatizations. The Government is committed to making the privatization program a long-term success. The Government has decisively and repeatedly assured current and prospective investors that the new private owners of privatized electricity companies will have the full backing of the Government. The strong response of the private sector to the PA’s privatization offerings demonstrates the credibility of the Government’s commitment and the strength of the overall legal, regulatory and institutional framework (Annex 3). The key features related to the social dimensions of privatization are highlighted in the following paragraphs. The summary Stakeholder Analysis (Box 6) describes short and longer term effects of the privatization process on different groups.

111. Privatization transactions in the electricity sector have had little negative impact on employment. The PA’s privatization agreements for electricity distribution requires companies to commit to preserving employment at the minimum at 95 percent of the number of employees employed under the Labor Law no. 4857 as of the date of transfer for a period of three years from the date of takeover. Companies are required to provide an irrevocable and unconditional US$1 million performance bond and report to the PA every six months on their compliance. The personnel subject to the Law on Civil Servants no. 657 and personnel under contract are subject to transfer to other public sector organizations. Laid-off workers, if any, are entitled under the Labor Law to compensation by the companies. Workers laid off during the first six months can be employed in other public sector companies though usually under lower pay scales. Discussions with earlier privatized distribution companies indicate that staff reductions have been achieved without involuntary lay-offs. Discussions with the PA indicate that the electricity privatization process has experienced substantially less challenges than some of its other processes and layoffs are unlikely to become an issue. The PA attributes this success to its framework agreement with the trade union and more fundamentally to the bright growth prospects, including employment prospects, in the electricity sector; compared to some privatizations of companies facing declining markets and even bankruptcy.

112. The energy regulator EMRA supports the Government’s electricity privatization program and recognizes the challenges facing distribution companies in their efforts to reduce technical and commercial losses including theft and improve bill collection. Accordingly, when setting its regulatory performance targets EMRA aims to balance the need for continued improvement and prevailing conditions in the distribution area of each company, including the two companies with unusually high loss/theft rates (Vangolu and Dicle). A large majority of the regulated companies have achieved EMRA’s targets. EMRA emphasized that it will continue to set realistic targets also in the future, so as to avoid forcing the companies having to resort to large-scale disconnections.

113. EMRA monitors the performance of the privatized companies on a quarterly basis. Close quarterly monitoring of already privatized companies will continue and will extend to cover other private companies as soon as the privatization transactions reach financial closure in 2012 and TEDAŞ transfers the companies to the private operators. This includes monitoring collection and disconnection rates. EMRA has the option to approach the MENR if in its judgment public support measures are required for some companies and/or consumers.

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Box 6: Stakeholder Analysis

Key Groups

Impacts

Short term

Longer Term

STATE [primarily Treasury, the Ministries of Energy and Development, and the Privatization Administration]

Improved fiscal flows; Moving towards meeting energy security goals; Monitoring role will increase but loss of direct control

Greater macroeconomic stability and growth; increased fiscal space for public spending in other sectors Focus more on strategy/policy making and less on operations; Improved investment climate for the sector

UTILITY TEDAŞ, TEIAŞ

Improved financial position for both; Increased demand on TEIAŞ for timely decision-making and investment; TEDAŞ becomes an asset holding company

Same as short-term, except pressure on TEIAŞ will continue to intensify

PRIVATE SECTOR Private Distribution Companies

New business opportunities; Short-term losses possible

Profit in longer term

REGULATOR EMRA

Increase of influence, scope and role; Increased responsibility to monitor the performance of the privatized companies; Increased lobbying pressures

Capacity built; Independence from Government and regulated industry; Increased oversight and accountability of the sector

EMPLOYEES Civil servants, Workers

The personnel subject to the Law on Civil Servants no. 657 and personnel under contract are subject to transfer to other public sector organizations. ; At the minimum 95 percent of the personnel employed under the Labor Law will be preserved for the first three years from privatization; laid-off workers, if any, are entitled under the Labor Law to compensation by the companies. Workers laid off within the first six months of privatization can be employed by other public sector companies though usually under lower pay scales

Improved employment opportunities as the sector grows and companies compete to attract and retain qualified staff; Pressure for continued upgrading of skills

CONSUMERS Residential , Non-residential

Increased energy security for most; Some consumers may lose from increase in tariffs and collections, but gain in service quality; Disconnections possible in areas where payment rates are currently low; Some households may have to reduce electricity consumption, with household level impacts

Better quality of service; Benefits from sustained economic growth; Gain from increased public spending in other sectors

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114. The Electricity Market Law provides for “cases where consumers in certain regions and/or in line with certain objectives need to be supported”, in the form of direct cash to consumers without affecting electricity prices. The amount, procedure and principles of the support are determined by the Council of Ministers upon the proposal by the MENR. The Government prefers mitigation through general social assistance programs rather than sector-specific measures. However, exceptions have been made, recently most notably in the electricity sector when the Government introduced a new mechanism for the payment of electricity bills for street lighting (a prior action of PEDPL1; the mechanism is fully functional).

115. Available information suggests that past electricity privatizations have not affected the poor significantly. One of Turkey’s 21 distribution regions/companies, Kcetaş in Kayseri has been under private management for over eight decades. The Ministry of Energy and Natural Resources transferred the operating rights of two distribution companies in 1998. The Privatization Administration (PA) privatized three companies in 2009, six in 2010 and one in 2011. According to discussions with the Government, the PA, EMRA and privatized companies, adverse impacts on the poor from the privatizations and private distribution company operations have been negligible. The closing of the 2010 privatizations has slipped to 2012.

116. Companies taking over privatized distribution companies are expected to reduce both technical and commercial losses including theft. Improvements are expected to cover the full range of activities from metering and meter reading to billing and collection, including making it easier to make the payments. The Government holds the view that: (a) the main issue is theft and a habit of not paying (made possible by the absence of credible collection efforts by the public companies) rather than poverty or affordability; and (b) privatized distribution companies will have the full backing of the Government in their efforts to reduce electricity theft and achieve financial viability over time. This is necessary to encourage investment and improvements in electricity and customer service, which are core objectives of Government’s electricity privatization program. The strong interest and competition by prospective investors, even for the two companies with the highest loss/theft rates, suggests that the companies share the Government’s view and find its commitment to be credible.

117. For public and private distribution companies alike, disconnections are the last resort for enforcing payment discipline. Companies have used disconnections when other measures to persuade defaulters to pay have failed. However up until now, companies have been able to improve collections to highly satisfactory levels without having to resort to large-scale disconnections. Collections started to improve in some cases even ahead of the private company taking over – consumers’ awareness about privatization prompted a change in behavior.

118. The Government recognizes that the lack of impacts in the past does not guarantee lack of problems in the future as the privatization program progresses notwithstanding the measures and monitoring discussed above. The experience from the 2008-2009 privatizations shows increased payments by consumers without large-scale disconnections. However, the combination of a pre-existing environment of low payment rates and some socio-economic disadvantage may increase the incidence of disconnections in certain ongoing privatizations. The two companies with unusually high loss/theft rates, Vangolu Elektrik Dagitim and Dicle Elektrik Dagitim, have been sold but not yet transferred to the winning bidders. Transfers are

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expected in 2012. These two companies operate in regions towards the bottom of Government’s Socio-Economic Development Ranking presented in the 2010 Annual Plan (MoD, 2009).

119. Tracking the impact of electricity sector reforms on consumers, drawing on various data sources, can help inform effective implementation of reforms over time, increase their benefits and reduce their costs to consumers over time, and contribute to their long-term sustainability. Such monitoring has begun in Turkey and is expected to continue:

EMRA monitors the performance of the privatized companies on a quarterly basis;

In March 2009, the Ministry of Development, UNDP and Ankara-based universities published a review that monitored the household level effects of and responses to utility reform. The review used both quantitative data and qualitative research techniques to analyze the impact on households of tariff changes in the electricity, natural gas and water sectors; and

The Ministry of Development and UNDP have agreed to continue this work in collaboration with the Bank as privatization progresses and companies including Vangolu and Dicle are transferred to the winning bidders. The activity is included in UNDP's Country Program Action Plan for 2012. As the completion of the distribution privatization program has slipped, the work plan for the proposed monitoring has been adjusted. The current plan is to start with a preparatory phase in 2012. This would include an inception workshop, analysis of quantitative data and literature desk review, design of methodology, field testing of methodology, possible insertion of tested questions in the HBS and preparation of all tender documents for the research team. The field research would follow in two rounds, in 2013 and 2014, assuming the privatization program has been substantially completed within 2012.

120. Research using qualitative techniques can be helpful to complement quantitative data and to monitor the effects of electricity pricing and privatization reforms on consumers in more detail and depth, especially in challenging environments where collections are currently lower and the possibility of disconnections is higher. The qualitative research techniques provide useful feedback from electricity consumers on; (a) household level experiences of electricity distribution after privatization, including improvements in electricity supply, customer service, and strengthened collection; (b) the extent to which groups of households may or may not have difficulties in paying their electricity bills; and (c) households' coping strategies for adjusting to price increases over time and their access to both formal and informal assistance programs.

121. No major social problems are expected in the generation privatization program. The key elements of the generation privatization strategy are discussed in Annex 3. No major social issues are envisioned: (a) The PA expects that the generation privatization agreements will limit layoffs along the lines of those in the distribution privatization agreements for the first 3-5 years from privatization and the civil service and worker safeguards apply as well (para. 111). (b) The clients of the generation companies include the distribution companies, TETAŞ and other electricity traders, and large electricity consumers, buying directly from the generators or indirectly through Turkey’s electricity market PMUM. Households will continue to buy their

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electricity from the distribution companies until 2015. From January 2015, households are scheduled to become eligible, i.e. they will have the freedom to choose their electricity supplier. International experience shows that most households are likely to stay with their distribution company. Most fundamentally, (c) significant changes in electricity prices are not expected based on projected gas prices, contracted BOT/BOO prices, transition arrangements, electricity market development and EMRA’s expected ability to withstand price pressures (para. 109).

Social Assistance Programs

122. Turkey is stepping up its efforts to support the poor and vulnerable through social assistance. Social assistance spending has been increasing rapidly in recent times, although it remains low by international standards (1.2 percent of GDP in 2010). The three largest programs include the Conditional Cash Transfer program, which provides benefits to poor children conditional on health and educational investments, the Green Card Program, which provides health insurance to poor people not covered by social security, and payments to the elderly and handicapped. Some smaller programs exist, among them those executed at the provincial and district levels. Social assistance to support the payment of electricity bills of the poor is not systematically available, although electricity distribution companies reported that some of their consumers have been able to obtain assistance for the payment of their electricity bills from such provincial and local level general social programs, in some cases based on their eligibility for the Green Card Program. The Government is taking important steps to develop an integrated social assistance system to ‘promote’ welfare recipients out of poverty: (a) all central government benefits are now under the new Ministry of Family and Social Policies21; (b) a new Integrated Social Assistance Information System has been developed; and (c) all beneficiaries who are able to work are now required to register with ISKUR.

Renewable Energy and Energy Efficiency

123. Social impact of renewable energy development and energy efficiency improvements is positive. In addition to energy security and global greenhouse gas reduction benefits, renewable energy development and energy efficiency improvements have significant national/local level environment benefits through other emission reductions, leading to improved air quality and contributing to improved health and better quality of life. Employment benefits are also significant, particularly in biomass production and utilization, and also in other renewable projects compared to the alternatives in Turkey. Energy efficiency projects are typically small and decentralized, and labor-intensive compared to their alternatives in Turkey, the construction of large coal and gas fired power stations. Finally, Turkish companies will account for the major part of the construction and installation works and are also expected to be able to compete for equipment supplies. The exports of renewable energy and energy conservation equipment and project services have the potential to become a source of employment and export revenue.

21 The social assistance budget under this Ministry will increase by 40 percent in 2012.

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Environment

124. The climate change and environment management components of the ESES DPL program are expected to have significant positive impacts. The adoption of EU-equivalent environmental policies and standards will result in significant reduction of local pollution which will have a significant impact on human health in Turkey’s urban centers. Adoption of the EU principles of sustainable development and protection of the environment for present and future generation, based on preventive action, the polluter pays principle, and fighting environmental damage at the source, is major step towards environmental sustainability in Turkey. While it is difficult to quantify the effects of the particular actions, improvements in environmental sustainability are expected to benefit the poor, as this segment is most at risk from the impacts of climate change and environmental degradation. Water and air pollution result in ill health. Likewise, stronger emphasis on environmental monitoring (e.g air quality) will support implementation and more effective enforcement of national environmental legislation and bring about better compliance from industry.

ENVIRONMENTAL ASPECTS

125. The program supported by the ESES DPL series is likely to have significant positive effects on the environment and natural resources. There are strong mutually reinforcing links and complementarities among the three pillars of the expanded ESES DPL program. The energy pillar yields significant national and local environmental co-benefits. The energy and environmental management pillars yield significant climate change co-benefits as summarized in Box 3. National and local environmental actions have strong synergies with climate change actions and support climate change mitigation and adaption. The implementation of policy and regulatory action is supported by capacity building programs undertaken with the assistance of the EU, bilateral donors and the Bank. By supporting the Government’s national climate change strategy and environmental management and energy sector policies, laws and regulations, the ESES DPL series supports Turkey’s efforts to strengthen the policy foundations for: (a) contributing to the global effort and addressing climate change challenges and mainstreaming climate change considerations in sector policies; (b) mainstreaming sustainable development principles and reducing environmental degradation and better management of environmental risks; and (c) enhancing energy security by promoting private sector clean technology investments and operations. Overall, the program enhances Turkey’s ability to develop and implement environmental policy more effectively.

126. The ESES DPL program helps mainstream environmental considerations in key sectors (including water, energy, industry and waste management) and in the country’s overall approach to development. The design of the DPL series is proactive with respect to internalizing environmental concerns. This occurs at several levels. At the sectoral level, reforms in the air quality management (including establishment of clean air centers, issuance of the amendment on the industrial pollution control regulation), water and waste management (including basin protection plans, regulation on hazardous substances, regulation on soil pollution), and industrial sectors support the integration of environmental concerns by helping to better manage environmental impacts and environmental legacy. These reforms are aligned with EU Directives and their provisions, and as such, are intended to not only prevent pollution but also mitigate public health hazards. Other positive environmental impacts are expected to derive

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from improved institutional framework for environmental management at the national and local levels (including the issuance of environmental e-permits, which places particular emphasis in assuring improved accountability and transparency).

Sustainability Actions in the Energy Sector

127. Faced with rising demand for energy in general and electricity in particular, high oil and gas prices, and increasing emissions, Turkey is implementing a wide range of measures to moderate the demand growth rate, contain emissions, increase efficiencies in the supply and consumption of electricity, and diversify the fuel base for the additional generation capacity to be added. The Government is committed to containing the adverse consequences for the environment and the Ninth Development Plan calls for minimal environmental damage while meeting the energy demand. One concrete manifestation of that commitment was the Government’s request to expand the scope of the PEDPL program into climate change and sustainable environmental management in DPL2 and DPL3.

128. The following actions taken or being taken by the Government in the energy sector have significant sustainability and environmental benefits - local, national and global (climate change mitigation):

The enactment and the amendment of the Renewable Energy Law, the setting of highly ambitious targets for renewable energy development in the new Electricity Strategy, and the provision of targeted financial support including the use of CTF resources to accelerate development;

The enactment of the Energy Efficiency Law, the Energy Efficiency Strategy, and issuance of related regulations, the implementation of a cost-based energy pricing mechanism, and the provision of targeted financial support including the use of CTF resources to accelerate development;

Investments to increase supply-side efficiency in generation, transmission and distribution. In the case of generation and distribution, mostly by the private sector with limited public participation by EÜAŞ and TEDAŞ; in the case of transmission, by the public sector transmission system and electricity market operator TEIAŞ;

The issuance of EU-equivalent environmental standards for the construction of new energy facilities, in particular thermal power stations, and the amendment of the Law on Environment to include significantly large administrative fines against noncompliance (2007). The ESES DPL program supports the transposition of the EU Directive on Environmental Impact Assessment and the transposition into law of Directive 2001/80/EC on Large Combustion Plants;

The upgrading of the environmental performance of existing power stations: (i) Several existing coal-fired plants are being retrofitted with flue-gas desulphurization facilities (FGDs), electrostatic precipitators, improvements in ash-handling, etc. despite the high investment requirements; and (ii) Six existing coal-fired plants do not yet have FGDs; one of the six will be retrofitted by the end of 2012. All of these plants will be offered for sale in the generation privatization program. The new owners will be required to

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carry out specified environmental upgrades (including installation of FGDs) within a stipulated timeframe after privatization and then continue to comply with Turkey’s environmental standards; and

Measures to secure future gas imports, in bilateral discussions with producer countries and in cooperation with others through joint gas purchasing and infrastructure development.

129. Cumulative impact of hydropower development is receiving increased attention. Owing to a rapid and significant increase in the number of hydro projects in Turkey in recent years, the possible cumulative impact of multiple hydro plants on river basins is an issue of growing concern in the country. While current regulations do not include a specific framework or explicit provisions for undertaking cumulative impact assessments, the General Directorate of State Hydraulic Works (DSI) is carrying out an assessment of the potential environmental effects of existing and planned hydro projects in Iyidere (Rize Province) and Solaklidere (Trabzon Province) river basins. This study is expected to provide guidance on how to address cumulative effects of hydro projects in these basins. In addition, the MoEU has strengthened its procedures for Environmental Impact Assessment (EIA) of new hydro projects. Since January 2011, MoEU has required ecosystem evaluation analysis to be conducted for all newly proposed hydro projects. Such analysis, while not a replacement for cumulative impact assessment, provides the basis for a deeper understanding of potential downstream and cumulative effects of proposed projects. A technical assistance program is also being prepared by the Bank to provide assistance for the preparation of guidelines on cumulative impact assessment methodology, which will take into account the outputs from above case studies.

IMPLEMENTATION, MONITORING AND EVALUATION

130. The Undersecretariat of the Treasury will be responsible for coordinating actions among other concerned ministries and agencies. A number of other agencies are involved in the implementation of the program being supported by the ESES DPL series including the Ministry of Development (MoD); the Ministries of Energy and Natural Resources, Environment and Urbanization, and Forestry and Water Affairs, energy regulator EMRA, the Privatization Administration, and the energy utilities.

131. The MoD and the Treasury emphasize the importance of the results agenda, and more specifically to increase the monitoring and evaluation (M&E) capacity in key line agencies including energy and environment. A significant part of the Bank’s dialogue with the Government has been geared towards strengthening M&E capacity through three separate vehicles: the Programmatic Public Expenditure Review (PER), the Joint Portfolio Performance Review (JPPR), and an Institutional Development Fund (IDF) grant. Under the PER program and JPPR, a series of M&E workshops were organized in 2009 and 2010. In addition, an IDF grant provided finance to MoD and pilot agencies to develop result-based monitoring and evaluation systems to measure the achievement of National Development Plans, Medium-Term Programs, and Annual Programs, and to design M&E frameworks for strategic plans in three pilot ministries, including Environment.

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132. The Bank will also review the progress of the program and identify and discuss adjustments that may need to be made as it evolves, to take into account the latest country developments, stakeholder support, and feasible options for realizing the intended development objectives. The review will focus on the impacts of the various prior actions and be largely based on the monitoring indicators (Annex 2) and the goals of the program. At the same time, the overall status of the Government’s program will be monitored to determine whether country conditions and the specific conditions of the proposed operation have been met. Bank staff will monitor the progress of privatization and related issues including disconnections. Visits to privatized companies will continue. The Bank’s monitoring work of the impacts of and recovery from the global crisis in Turkey will also continue.

FIDUCIARY ASPECTS

133. Public financial management (PFM) in Turkey has strengthened considerably and is adequate for the proposed operation. After 2001, modernization of Turkey’s system of public financial accountability in line with international standards was an urgent PFM priority. Enactment of the Public Financial Management and Control (PFMC) Law in 2003 marked a defining moment in this process. The Law defines new principles, rules and structures for Turkish PFM systems including budget formulation and execution, financial and internal control systems, and internal and external audit structures. Each year, budgets and indicative proposals for the following two years are prepared according to the functional, economic and institutional classifications defined under the PFMC Law. The Government Finance Statistics (GFS) analytical budget classification and the accrual based accounting systems have been expanded to all general government institutions, including local administrations. The MOF is thus able to consolidate the budget realization for all general government institutions. Periodic financial statements are prepared regularly and on time. General Directorate of Public Accounts (GDPA) prepares aggregated financial reports for the central government, which are published as a monthly bulletin. The PFMC Law has transferred the authority to incur expenditures and provide other approvals for expenditures above predetermined thresholds (internal control over budget expenditures) to the Strategy Development Units established within each public administration. The most important positive feature of the PFMC Law is that it combines duties and responsibilities in a single spending authority that incurs expenditures and is kept accountable. The PFMC Law has also introduced a modern internal audit framework, an important step given increased devolution of spending authority to line agencies.

134. Accounting. An automated online accounting system has been implemented. The MOF developed in-house an automated online public accounting system (Say2000i) has been up and running since 2002. The system captures receipts and payments from more than 1,500 sites of the MOF’s GDPA across Turkey as they are made and can produce financial statements and covers all general budgetary institutions except the Office of the President and the accounting office for State Debt within the Undersecretariat of Treasury. A uniform chart of accounts that is harmonized with budget classification has been implemented. The GDPA has issued a new framework for the accrual-based chart of accounts, harmonized with the economic classification of the newly adopted GFS budget classification system. Article 49 of the PFMC Law mandates that accounting be harmonized with international standards, and that standards be issued by a Government Accounting Standards Board (GASB), which has been operating since June 2006.

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The GASB is under the MOF, comprised of representatives from the Turkey’s Court of Accounts (TCA), MoD, MOF, Undersecretariat of Treasury, and other agencies.

135. Procurement. Turkey has moved decisively to upgrade its public procurement legislation and practices in line with international standards. The current Public Procurement Law was enacted in 2002. The Law is based on the United Nations Commission on International Standards (UNCITRAL) Model and moves Turkey in the direction of compliance with EU standards. The independent Public Procurement Agency (PPA) established by law to oversee public procurement and ensure enforcement of the new procurement standards is fully operational. The Government is working on new procurement legislation for SOEs in the public utilities sectors consistent with the relevant EU directive in order to improve operational efficiency of the SOEs. Benchmarking of Turkey’s public procurement system against an internationally recognized baseline of best practice in procurement was carried out jointly by the World Bank and the Turkish PPA in February 2006 and updated in October 2007. The benchmarking included analysis of four main pillars: legislative and regulatory framework (Pillar I); institutional framework and institutional capacity (Pillar II); procurement operations and market practices (Pillar III); and the integrity of procurement systems (Pillar IV). It showed that the country achieved greatest progress in the legislative and regulatory framework (Pillar I), and in the integrity of the national public procurement system (Pillar IV). Further improvements in public procurement are important in: (a) eliminating restrictions in the form of thresholds for participation by international bidders; (b) reducing the frequency of use of exclusions and direct procurements; and (c) simplifying the dispute resolution system. Finally, selection of consulting services procedures would benefit from use of quality-and-cost based selection system, particularly for the assignments that require high competence and relevant experience.

136. Auditing. Effective financial accountability requires extensive modernization of Turkey’s public audit system. The objectives are twofold: (a) clarify institutional responsibilities, promote improvements in audit quality in line with international standards and support the shift from ex-ante controls to ex-post monitoring in harmony with the efforts to improve operational performance; and (b) expand the scope of TCA audits to cover the entire general government including local administrations, autonomous agencies, social security institutions, remaining extra-budgetary funds and revolving funds, with the overall objective of transforming the TCA into an effective state audit institution. These objectives were facilitated by the enactment of the PFMC Law and will be further pursued through the TCA Law that was enacted in December 2010. The new law requires regularity and performance audits and significantly broadens the audit space of the TCA to include all institutions using public funds irrespective of the public share in their capital. The TCA is committed to undertake internal reforms to align its institutional structure with international standards for state audit institutions, to upgrade its audit capabilities, and to reach consensus with other government audit bodies on the implementation of the new law.

137. Foreign Exchange Control Environment. The latest safeguards assessment of the Central Bank of Turkey (CBRT) was conducted by the IMF in June 2005. The safeguards assessment uncovered no material weaknesses in the CBRT`s safeguard framework. The audit reports by independent auditors on the financial statements of the CBRT for 2008-2010 provided clean audit opinions. Past audits and generally positive assessment by the IMF indicate that there are no strong reasons for asking additional safeguards such as audit of deposit account.

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DISBURSEMENT AND AUDITING

138. Disbursement and Implementation Arrangements. The proposed loan will follow the Bank’s disbursement procedures for DPLs. The untied finances will be disbursed against satisfactory implementation of the program and not tied to any specific purchases and no procurement requirements will be needed. Upon approval of the loan and notification by the Bank of Loan effectiveness, the Government will submit a withdrawal application. At the request of the Undersecretary of Treasury, the IBRD will deposit the proceeds of the loan in the Treasury’s account at the CBRT which will form part of the official Foreign Exchange reserves of the country. The Government will utilize the proceeds of the loan in foreign currency for either foreign debt servicing or for crediting the local currency equivalent into the treasury single account for financing budgeted expenses. Prior to that, the Borrower will pay a front-end fee amounting to 0.25 percent of the loan amount from its own resources. If, after deposit in this CBRT account, the proceeds of the loan are used for ineligible purposes (for example, for financing items imported from non-member countries or goods or services on the IBRD standard negative list), the IBRD will require the Borrower to refund the amount directly to the IBRD, and the IBRD will cancel an equivalent undisbursed amount of the loan.

139. Accounts, Auditing and Closing Date. The administration of this loan will be the responsibility of the Undersecretariat of Treasury. The government will maintain accounts and records, or ensure that such items are maintained, showing that loan disbursements were in accordance with provision of the Loan Agreement. Given the IMF`s positive assessment of the CBRT, an audit of the deposit account for the proceeds of the loan is not considered necessary. The Undersecretariat of Treasury will provide the Bank within 30 days a confirmation letter stating that the DPL funds have been received and deposited in the Treasury’s account assigned by the Borrower that forms part of the Borrower`s budget management system. The closing date of the loan will be June 30, 2013. This allows the Implementation Completion and Result Review to examine the results for the full year 2012.

RISKS AND RISK MITIGATION

140. There are four main risks to the program’s outcomes: (i) economic risks; (ii) political risks; (iii) implementation and social risks in the energy sector; and (iv) program and implementation risks in the climate change and environmental management areas.

141. Economic Risks. A combination of external and domestic factors pose significant risks going forward, including from the spillovers of the European debt crisis. With low domestic savings, Turkey’s economic growth relies on capital inflows to finance investments and growth. The country’s large current account deficit and the composition of its financing remain concerns. A weak outlook for global activity and more severe international funding strains have the potential to spill over to Turkey. Turkey’s dependence on external financing has left the country prone to boom-bust cycles, and the key challenge going forward in Turkey is to deliver a soft landing, from the very high growth rates in 2010 and 2011.

142. Political risks. Turkey has had a stable government since 2002 under the Justice and Development Party (AKP), facilitating the implementation of major reforms. Social consensus on the reform program and institutional capacity are needed for the implementation of the reform

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program. One key risk is that a prolonged focus on Turkey’s constitutional reform agenda could narrow the coverage and scope of the economic reform agenda or lead to delays in its implementation. The EU accession anchor continues to mitigate political risks.

143. Energy sector risks. Turkey’s strategy to achieve and maintain energy security faces significant implementation risks. The strategy emphasizes private sector participation – both in the new areas of renewable energy and energy efficiency where substantial barriers have to be overcome as well as in the mainstream energy production and distribution areas where the investment needs are very high. The envisioned privatization and implementation schedules could not be realized as global market conditions worsened. Implementation risks are mitigated by the energy regulator EMRA’s and the Privatization Administration’s strong track records and the Government’s continued commitment; however, additional delays may occur if global market conditions do not improve. The 2008-2009 recession increased the financial burden of electricity prices increases on the poorest households. Available data suggest that past electricity privatizations have not had a large adverse impact on the poor. However, two privatizations to be completed within 2012 are in areas where payment rates are low and the imperative to raise collection rates may generate more difficulties at the household level than previous privatizations. The energy regulator EMRA monitors the performance of the privatized companies on a quarterly basis, including collections and disconnections. In addition, a joint monitoring program by the Ministry of Development, UNDP and the World Bank will be implemented in 2012-2014. Effective monitoring will help inform and plan mitigation measures, if necessary, for low-income households.

144. The successful implementation of Turkey’s climate action agenda requires the broadening and deepening of Government ownership and public support in Turkey and maintaining momentum of the international negotiation process—especially as the issues of emission reduction obligations and finance have not yet been resolved in the UNFCCC process. Turkey’s climate action agenda is long term and its implementation has only recently started. These risks are mitigated by a growing public awareness of the implications of climate change for Turkey; by the recognition that climate action is in Turkey’s own national interest.

145. Turkey’s environment agenda is long term and challenging, and implementation capacity risks are high. While there is strong Government ownership of environmental management reforms, Turkey’s experience and capacity in public environmental management and enforcement remain limited. This risk is mitigated by projects currently targeted toward the institutional strengthening of the MoEU and the MoFW, supported under the EU pre-accession financial and technical assistance programs. The European Union opened the negotiations on the Environment Chapter in December 2009. The mid-2011 merger of environment and urban ministries into a single ministry has raised a concern that the urban construction agenda will prevail over the environment. The Government is aware of this concern and is determined to implement its environmental strategy and program.

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ANNEX 1: LETTER OF DEVELOPMENT POLICY

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Annex 2

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ANNEX 2: OPERATION POLICY MATRIX

Notes: (1) As with all Development Policy Operations, an appropriate macroeconomic framework as determined by the World Bank staff and Executive Board is a prerequisite and therefore not included as a prior action.

(2) PEDPL1 (=ESES DPL1) included only energy – Pillar I in the expanded series ESES DPL2 and DPL3.

OBJECTIVES / GOALS

PEDPL1 (=ESES DPL1) PRIOR ACTIONS

ESES DPL2 PRIOR ACTIONS

ESES DPL3 PRIOR ACTIONS RESULTS INDICATORS

Pillar I. Energy Sector

(a) Improving Electricity and Gas Supply Security

Improving Electricity and Gas Supply Security.

An updated electricity sector strategy that addresses the crucial challenge of meeting Turkey’s growing electricity demand in an efficient and sustainable manner has been approved by the High Planning Council on May 18, 2009.

Amendments to the Electricity Market Law to monitor, evaluate and take measures to ensure security of electricity supply have been enacted - Law No. 5784 of July 26, 2008.

Modified balancing and settlement regulations to improve the functioning of the wholesale market publicly issued by EMRA - April 2009.

Implementation of energy regulator EMRA’s wholesale electricity market regulations by the transmission system and electricity market operator TEIAŞ.

Launching of a day-ahead wholesale electricity market by the transmission system and electricity market operator TEIAŞ.

(1) Baseline projection of imbalance (as of June 2008, prior to implementation of most of the measures supported by DPL1):

2010: -3.0% and 2011: -4.2%

(2) Target: positive imbalance indicators for 2010-2012 (=shortage avoided).

Status as of end-2011: shortages avoided, negative imbalance projected at the earliest in 2016.

Indicators: (a) Launching of hourly metering and settlement; (b) launching and effective operation of a Day-ahead Electricity Market, with satisfactory payment performance for transactions. (1) baseline

Annex 2

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OBJECTIVES / GOALS

PEDPL1 (=ESES DPL1) PRIOR ACTIONS

ESES DPL2 PRIOR ACTIONS

ESES DPL3 PRIOR ACTIONS RESULTS INDICATORS

A decision to provide on a priority basis the necessary budgetary allocations in line with approved transmission system investment plans – covered by approval of the updated electricity sector strategy that contains relevant provisions (see above).

data: percentage of financial value of electricity market transactions paid on time in July-Dec 2008: 37%. (2) Targets: 2010: at least 60% ; 2011: at least 90% and 2012: at least 95%.

Status: Day-ahead market launched; on-time payments have reached over 99%.

Sufficient resources secured by TEIAŞ for the transmission network. (1) Baseline data for 2007: TL 295 million. (2) Target for TEIAŞ investment program in 2011: at least TL 600 million and 2012: at least TL 650 million.

Status: targets achieved.

New gas import contract signed by BOTAŞ or a private gas importer by the end of 2011.

Status: contracts for the purchase of 6 bcm and transit of 10 bcm to Europe signed in 2011.

(b) Promoting Financial Viability of the Electricity Sector and Improving Efficiency in the Consumption of Energy

Promoting Financial Viability of the Electricity Sector and Improving Efficiency in the Consumption of

Revisions to retail electricity prices to offset the impact of increases in the cost of supply approved in January 2008, July 2008 and

Sustained implementation of the cost-based pricing mechanism by the energy regulator EMRA.

Government approval of an Energy Efficiency Strategy

Cost-reflective tariffs achieved and maintained. Improved financial performance of the power companies.

Baseline: tariffs do not cover

Annex 2

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OBJECTIVES / GOALS

PEDPL1 (=ESES DPL1) PRIOR ACTIONS

ESES DPL2 PRIOR ACTIONS

ESES DPL3 PRIOR ACTIONS RESULTS INDICATORS

Energy.

October 2008.

A cost-based pricing mechanism that automatically covers future increases in costs incurred by the Turkish Lignite Company, TETAŞ, EÜAŞ, TEDAŞ and BOTAŞ, including the costs of electricity obtained on the wholesale market, and provides for periodic mandatory filings approved by the High Planning Council in March 2008, and became effective from July 1, 2008.

Legislative amendments to improve the payment for street lighting - done in July 2008 through Law No. 5784.

The first (of two) set of secondary regulations covering authorizations for provision of training and research and development services; support to companies to augment their energy efficiency efforts and implementation of projects under voluntary agreements; implementation covering supply side management; measures to increase efficiency in electricity generation, transmission and distribution systems; measures to increase energy efficiency in the public sector; and energy efficiency in the transport sector

costs; bill collection inadequate at less than 90%; large arrears to private generators.

Targets:

tariffs cover costs (reasonable costs as approved by EMRA) – achieved in 2008, to be maintained through 2012;

Improved bill collection: at least 90% in 2008, 95% in 2009 and thereafter.

Status: 96% in 2009, about 100% in 2010, at least 95% in 2011 (preliminary)

Payments to private generators: make current payments from 2009 and settle arrears.

Status: payments current, arrears eliminated in 2009 (TETAŞ) and 2010 (PMUM).

Improve energy efficiency:

Baseline: An Energy Efficiency Law was passed in 2007.

Effective implementation of the Law and the regulations will gradually serve to enhance efficient consumption and slow the rate of demand growth. Indicator: Rate of electricity demand (GWh) growth contained: (1) baseline data: 2005: 7.2 %, 2006: 8.6 % and 2007: 8.8 %;

Annex 2

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OBJECTIVES / GOALS

PEDPL1 (=ESES DPL1) PRIOR ACTIONS

ESES DPL2 PRIOR ACTIONS

ESES DPL3 PRIOR ACTIONS RESULTS INDICATORS

issued - July-October 2008. and (2) Target: average demand growth rate in the 2008-2012 period less than 7%/annum.

Status: 2008-2011 (preliminary) estimated at 4.9%.

(c) Attracting Private Investment

Attract private investments by:

(a) implementing a program to privatize distribution companies;

(b) initiating steps for the privatization of selected generation plants; and

(c) promoting renewable energy development more aggressively.

The bidding process for the first two lots of distribution companies launched by the Privatization Administration, with winning bidders for the first two distribution companies determined in July 2008 and for the next two distribution companies in September 2008.

Launching of the bidding process and determination of the winning bidders for seven distribution companies by the Privatization Administration.

Determination of the strategy for electricity generation privatization by the Privatization Administration, EMRA and the Ministry of Energy and Natural Resources.

Enactment of an Amendment of the Renewable Energy Law No. 5346.

Attract private sector investment in distribution.

Baseline: 18 companies to be privatized

Target: at least 12 of the 18 companies in PA’s privatization program sold by the end of 2012.

Status: all 18 offered for sale; of which 10 completed, 2 in process, and 6 likely to require rebidding and therefore completion after 2012.

Attract private sector investments in new generation. Target for private generation capacity additions: 10,000 MW in the 2008-2011 period and 12,500 MW in 2008-2012.

Status: about 11,200 MW in 2008-2011.

Pillar II. Climate Change Put in place a National Government approval of a Government’s Climate (1) An inter-ministerial Climate

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OBJECTIVES / GOALS

PEDPL1 (=ESES DPL1) PRIOR ACTIONS

ESES DPL2 PRIOR ACTIONS

ESES DPL3 PRIOR ACTIONS RESULTS INDICATORS

Climate Change Strategy and sector specific action plans to implement Turkey’s climate change objectives as articulated in the Strategy.

National Climate Change Strategy and an assessment of clean technology options for the energy sector.

Change Coordination Board approval of Climate Change Action Plan (including sectoral actions for at least three key sectors).

Change Coordination Board and a Climate Change Department at the Ministry of Environment and Urbanization are working to coordinate and ensure complementarity between sector specific climate actions; and (2) a framework for monitoring the implementation of the National Climate Change Strategy and Action Plan agreed.

Status: completed.

Implementation of the 2012 program of the National Climate Change Action Plan.

Status: underway.

Including financial assistance for implementation received from the World Bank/IFC, EIB and EBRD (renewable energy and energy efficiency); AFD and EIB (forest management)

Pillar III. Sustainable Environmental Management

(a) Improving the effectiveness and efficiency of environmental management processes in support of the implementation of EU environmental acquis

Strengthened institutional and policy framework, supporting harmonization with EU Environmental Acquis and improved

Government approval of an EU Integrated Environmental Approximation Strategy.

Environmental Chapter opened for negotiation with the European Union.

Status: negotiations underway

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OBJECTIVES / GOALS

PEDPL1 (=ESES DPL1) PRIOR ACTIONS

ESES DPL2 PRIOR ACTIONS

ESES DPL3 PRIOR ACTIONS RESULTS INDICATORS

inter-sectoral coordination in environmental management.

after the Environment Chapter was opened in December 2009.

Increased public participation in environmental decision-making.

Improved environmental monitoring and regulation.

Transposition of Directive 85/337/EEC as amended with 97/11/EC and 2003/35/EC on Environmental Impact Assessments into law.

Issuance by the Ministry of Environment and Urbanization of a Regulation, and amendments to the Regulation, on Permits and Licenses in Accordance with the Environmental Law.

Increased transparency, accountability and public participation in the environmental consent process.

Status: being achieved with the implementation of the EIA law.

Integrated environmental permitting, monitoring and inspection.

Baseline: Permitting, monitoring and inspection conducted by different units of the MoEU; provincial directorates lacking standard rules for environment permits and compliance checks

Targets: An integrated system for environmental permits and licensing is place at MoEU by 2011 – status: achieved - and the establishment of permitting, monitoring and inspection departments in MoEU’s provincial directorates and certification of more than 5,000 environmental officials by end-2012.

(b) Mainstreaming sustainable development principles and reducing environmental degradation

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OBJECTIVES / GOALS

PEDPL1 (=ESES DPL1) PRIOR ACTIONS

ESES DPL2 PRIOR ACTIONS

ESES DPL3 PRIOR ACTIONS RESULTS INDICATORS

Improving waste management including the management of hazardous substances and chemicals and associated risks through improved regulatory framework.

Publication of regulation on landfill of waste.

Issuance by the Ministry of Environment and Urbanization of a Regulation on the Control of Soil Pollution and Contaminated Sites by Point Sources.

Increase in percentage of population served by sanitary landfills (Baseline: 47% in 2009; Target: at least 55% by 2012).

Status: 50% in 2011.

Improving air quality management.

Approval of a Clean Air Action Plan by the Ministry of Environment and Forestry.

Issuance by the Ministry of Environment and Urbanization of a Regulation transposing Directive 2001/80/EC on Large Combustion Plants (for new installations).

Issuance by the Ministry of Environment and Urbanization of an amendment on Regulation on Industrial Air Pollution Control.

Clean Air Centers.

Baseline: no centers

Target: Center in Marmara is fully functioning and staffed to implement the Clean Air Action Plan.

Status: achieved in 2011.

Decrease in sulfur content of fuel oil (Baseline in 2009: 1.5% of fuel content; Target: 1% in 2012).

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OBJECTIVES / GOALS

PEDPL1 (=ESES DPL1) PRIOR ACTIONS

ESES DPL2 PRIOR ACTIONS

ESES DPL3 PRIOR ACTIONS RESULTS INDICATORS

Improving management of water resources and water quality.

Designation and publication by the Government of sensitive and less sensitive areas for the improved management of water resources and water quality.

Protection action plans prepared for Turkey’s 25 river basins, taking into account principles of the Water Framework Directive. Baseline: 4 in 2009; Target: at least 20 by end-2012. Status: 15 at the end of 2011.

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ANNEX 3: ENERGY SECTOR CHALLENGES AND REFORMS

Overview of Turkey’s Energy Supply and Consumption

1. Turkey’s energy import dependence is high at over 70 percent. At the same time, Turkey has an important strategic role, as it is located on an increasingly important oil and gas transit route from the Caspian Sea and the Middle East to Europe. Turkey lacks significant domestic energy resources and depends on imports (primarily natural gas, oil, and some coal) for over 70 percent of its energy needs. The major domestic resources are coal (largely lignite), hydropower (which currently supplies almost 23 percent of total electricity consumption, percentage varies annually with hydrological conditions) and oil deposits (which supply about 5 percent of total oil consumption). In 2010, natural gas accounts for the largest single share, about 32 percent in Turkey’s primary energy mix, followed by oil at about 27 percent, coal at about 15 percent and lignite at about 14 percent. Renewable sources accounted for about 10 percent.

2. Natural gas accounts for almost a half of electricity generated. As of February 2012, total installed generation capacity was about 53,235. The share of gas is expected to decline as Turkey projects an increase in generation from renewable sources to grow from about 26 percent in 2010 to at least 30 percent by 2023 and the introduction of nuclear power. The share of private sector has increased steadily since the 1990s, reached 50 percent of electricity generation in 2007 (para. 18) and is expected to reach 75-80 percent in the next 5-7 years with generation privatization (para. 21).

3. Industries account for almost one half of total electricity consumption, households about one quarter, and the commercial sector about 15 percent. Transmission and distribution losses are about 17 percent - transmission losses at below 3 percent are in line with best international practice, distribution loss at an average of about 14 percent are about twice as a high as best international practice. The role of the private sector in electricity distribution was minor until the first major privatizations in 2008 but is currently increasing rapidly, towards 100 percent by the end of 2012 (paras. 19-20).

Macro/Fiscal and Energy Sector Linkages

4. Energy imports (mostly oil and gas) account for over 20 percent of Turkey’s imports and about 50 percent of the current account deficit. The Government’s program, supported under the ESES DPL program, will alleviate this burden through two broad means as discussed below: (a) the development of Turkey’s renewable energy sources (paras. 25-26), in particularly hydro and wind in the near term and also biomass and solar in the longer term, will help reduce reliance on gas and coal imports; and (b) improvements in the efficiency of energy use (paras. 29-37), in production processes (electricity generation in particular), transmission, and in the consumption of energy across the economy, will also help contain the imports of energy. Turkey is also expected to earn higher transit fees in the coming years as proposed major pipeline projects are built and commissioned (para. 28). However, energy imports will remain a major component of Turkey’s imports in the foreseeable future; higher oil and gas therefore prices pose an external financing risk.

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5. The energy sector is a net contributor to the public finances, through various taxes, most importantly through taxes on petroleum fuels. In 2011, Turkey raised US$16.6 billion in petroleum special consumption tax (SCT) and oil-tax revenues account for more than 13 percent of total tax revenues. Turkey’s gasoline taxes are high by international comparison and, along with boosting government revenue; they effectively promote energy savings (through the choice of vehicles and commuting and driving practices). Energy privatization revenue has become an important source of budget revenue. The Privatization Administration (PA) has so far raised about US$5.4 billion from its electricity distribution privatizations. Energy privatizations will expand into generation over the next 5-7 years under the program announced in March 2010. The proceeds from these sales are expected to be even greater than from distribution, though mostly beyond the current MTP period. It should be emphasized that Turkey’s energy security and environmental management goals are also among major drivers of the Government’s energy privatization program, along with raising government revenue. Electricity privatizations are discussed in paras. 19-22.

6. Despite its net contribution to Government revenue, the energy sector has also been a source of major fiscal shortfalls. Earlier tariff shortfalls (corrected in 2008) and bill collection problems (substantially corrected by 2010) led to delays and arrears in tax payments in the utilities, in particular BOTAŞ. The receivables of BOTAŞ from state-owned enterprises, mostly electricity generator EUAŞ, amounted to over US$4 billion (TL 8.1 billion) in 2010. BOTAŞ in response accumulated payables on custom duty, over US$2 billion (TL 4.0 billion) in 2010. The Government’s program, supported under the ESES DPL program, is addressing this issue through two broad means: (a) the introduction (in 2008) and sustained implementation of a cost-based pricing mechanism (para. 16); and (b) the privatization of electricity distribution (paras. 19-20), which is expected to significantly improve bill collection from final consumers and thereby increase payments to suppliers, including private generators, TETAŞ and EUAŞ, which in turn can then pay BOTAŞ. As BOTAŞ’ collections from electricity generators improve its ability to pay its tax bills to the Government will accordingly improve. Financial recovery in the power sector has enabled the payment of current bills and the elimination of arrears to private sector generators – electricity trading company TETAŞ cleared its arrears during 2009 and electricity market operator TEİAŞ PMUM cleared its arrears in 2010 (para. 17). Remaining cross-payables and receivables between public sector companies are being cleaned-up through a legislation which was enacted by the Parliament in December 2010. Accumulated losses will not be recovered even with 100 percent collection and while matching write-offs of payables and receivables within the public sector can help clean up balance sheets, an injection of funds would help to complete the process (some privatization proceeds may be used for this purpose).

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Institutional and Legal Framework

7. Institutions and Public Sector Energy Companies. The Ministry of Energy and Natural Resources (MENR) is responsible for sector strategy and policy formulation. Sectoral policies are implemented by the Energy Market Regulatory Authority EMRA as well as the various state owned energy companies including the transmission system and electricity market operator TEIAŞ, the electricity trading and contracting company TETAŞ, the electricity generator EUAŞ, the electricity distributor TEDAŞ, the gas purchaser and pipeline company BOTAŞ, the hydrocarbon exploration company TPAO and the lignite mining company TKI. They work with the Treasury, the Ministry of Development (former State Planning Organization), the Ministry of Environment and Urbanization (MoEU, which is also the lead agency for climate policy) and the Privatization Administration (PA, the executive body for the Government’s privatization programs).

8. Legal and Regulatory Framework. Turkey has taken a proactive stance to address issues of energy security, alignment with EU directives and environmental management through a number of strategies, laws and regulations that have been issued since 2001:

The Electricity Market Law was enacted in 2001. It liberalized the electricity market, restructured (unbundled) the national power utility and established an electricity market regulatory authority EMRA (paras. 9-10);

The Gas Market Law was also enacted in 2001. It liberalized the domestic gas market and extended EMRA’s scope to the gas sector, thus amending the electricity law. The Gas Market Law enabled EMRA to administer a nation-wide gasification program;

An Electricity Reform and Privatization Strategy was approved in 2004. It set out the approach for the privatization of electricity generation and distribution following market reforms and restructuring of state-owned electricity enterprises under the Electricity Market Law. Legal and institutional framework for privatization was already in place, under Turkey’s Privatization Law enacted in 1994 (para. 12);

The Renewable Energy Law was enacted in 2005 and amended in 2010 to help reduce risk perceptions of potential investors in generation and enhance the attractiveness of the Turkish electricity market for renewable energy generators;

The Energy Efficiency Law was enacted in 2007 to promote efficient energy use, loss prevention, lessening the burden of energy costs on the economy, increased yield in the use of energy resources and environmental protection;

The Electricity Market Law was substantially amended in 2008 and an updated Electricity Market and Supply Security Strategy was approved in 2009, primarily to promote the security of supply; and

A new Energy Efficiency Strategy was approved in 2012 (para. 34).

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9. The Energy Market Regulatory Authority EMRA was established in 2001 as an independent, administratively and financially autonomous public institution. EMRA’s scope was extended from electricity and gas to petroleum in 2003 and liquefied petroleum gas (LPG) in 2005 through new legislation and amendment of the Electricity Market Law. EMRA performs its duties and exercises its rights arising from the law through the Energy Market Regulatory Board. The Board is the representative and decision making body of the Authority. It consists of nine members including a President and two Vice Presidents. They are appointed to six-year terms by the Council of Ministers and to provide for EMRA’s operational autonomy they can be dismissed before the expiry of their terms of office only as provided for in the Law. EMRA has a total of about 370 staff. The Law also provides for EMRA’s financial autonomy from the Government by empowering it to fund its activities through fees charged to the energy industry.

10. EMRA has issued a comprehensive set of electricity, gas, petroleum and LPG regulations and has built up a solid track record as an effective regulator through their implementation. One of EMRA’s major accomplishments has been the successful administration of a nation-wide gasification program: in 2002, only nine Turkish provinces had access to gas; by 2010 63 provinces were connected to the gas network with over 50 private gas distributors licensed by EMRA now in operation, and the program is expected to cover 72 provinces by 2012. This experience in private gas distribution put EMRA in a good position to cooperate with the Privatization Administration for the electricity distribution privatization and in the subsequent regulation of the privatized companies.

11. In the electricity power sector, EMRA is responsible for electricity market regulation and monitoring; licensing; transmission, distribution and retail electricity tariff regulation; and performance monitoring. To facilitate distribution and generation privatization, amendments to the Electricity Market Law established and empowered EMRA to implement: (a) an equalization mechanism to maintain national uniform tariffs while recognizing cost differences among the distribution companies; (b) cross-subsidies in the national uniform tariffs between consumer categories; and (c) distribution tariffs for each distribution company proposed by TEDAŞ and reviewed and approved by EMRA. Power purchase cost regulations issued by EMRA take into consideration purchase costs in the electricity market and from renewable energy generators. A new cost-based pricing mechanism was approved by the Council of Ministers in March 2008 and operationalized by EMRA from July 2008 (para. 16). EMRA’s tariff regulations provide incentives for investment and loss reduction and support the successful distribution privatization program.

12. The principles, procedures, authorised agencies and various other issues regarding privatization are set out in the Privatization Law enacted in 1994. The law provided the framework, funds and mechanisms to speed up the privatization and restructuring processes in Turkey. It established the Privatization High Council and the Privatization Administration to facilitate the decision making process and execution of the Government’s privatization programs in various sectors. Energy sector was added to the scope of privatizations through the 2004 Electricity Reform and Privatization Strategy. TEDAŞ was taken into the privatization program in April 2004.

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Electricity Supply, Market and Pricing

13. Electricity supply shortages threaten to constrain Turkey’s growth. Turkey is implementing an ambitious electricity sector program with a view to meeting the country’s growing electricity demand in an efficient and sustainable manner. The 2009 national electricity strategy - Electricity Market and Security of Supply Strategy of May 2009 (PEDPL1 prior action) - focuses on accelerating measures to address the electricity supply-demand imbalance in a market-driven manner including (a) reducing demand growth rates; (b) increasing efficiency in the supply and use of electricity, and (c) attracting enhanced private sector investments, so as to minimize the need for sovereign-guarantees and public investments. The Electricity Strategy also supports Turkey’s climate change and environmental goals and informed the preparation of the National Climate Change Strategy and Action Plan.

14. The decline in electricity demand in late 2008 and most of 2009 provided Turkey extra time, a window of opportunity to attract investment in generation capacity and electricity efficiency. Electricity demand growth resumed in October 2009 and continued into 2010 and beyond. MENR’s “base case” assessment projected almost 1,000 MW in 2008 and about 2,800 MW capacity additions for 2009, another 2,000 MW for 2010, then slowing to an average of about 1,500 MW/annum for the following three years, for a total of about 7,300 MW capacity additions in the 2008-2011 period. Turkey has substantially exceeded this “base case” and even the 10,000 MW ESES DPL program target, as the latest estimate for total capacity additions in the 2008-2011 period is about 11,400 MW. However, Turkey will have to continue to attract investment and improve electricity efficiency to continue to mitigate the risk of electricity supply-demand imbalances as economic growth and electricity demand growth continue.

15. Turkey continues the liberalization and development of its electricity market. Electricity market liberalization was launched and progressively implemented under the Electricity Market Law of 2001. Consumers whose annual consumption exceeds 25 MWh are currently eligible (i.e., they can choose their own supplier) - this represents over 77 percent of the total Turkish electricity market. A balancing and settlement system called PMUM – the abbreviation of electricity market financial reconciliation center in Turkish - is being operated by the transmission system and electricity market operator TEİAŞ. Although originally designed for system balancing, PMUM evolved into an electricity trading platform. Over 25 percent of monthly electricity consumption in Turkey is transacted through the PMUM market by more than 500 market participants. The 2009 Electricity Strategy confirms the main transitory steps and targets for Turkey’s ongoing program to develop its electricity market. Accordingly, a Day-ahead Market (DAM) has been developed by TEİAŞ and was launched in December 2011.

16. Electricity Pricing Reforms. Constant retail electricity prices during 2003-07, despite a significant increase in imported gas prices and in generation costs, and limited improvements in reducing network losses and increasing collection levels, caused a severe deterioration in the financial viability of the sector - limiting available funding for maintenance of the existing infrastructure and for new investments as well as sending incorrect price signals for energy consumers about the use and conservation of energy. Fully cost-reflective electricity pricing is critical for promoting efficient investments and securing a reliable electricity supply. A new cost-based pricing mechanism was approved by the Council of Ministers in March 2008 and

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established effective from July 2008 (PEDPL1 prior action). It provides for quarterly adjustments of electricity prices to cover the (justified) increases in costs incurred by the Turkish Lignite Company, TETAŞ, EÜAŞ, TEDAŞ and BOTAŞ22, including the costs of electricity obtained on the wholesale market, through mandatory filings and necessary (justified) tariff adjustments by EMRA. The pricing mechanism has been applied since July 2008. Sustained implementation (ESES DPL2 prior action) is a prerequisite to the financial viability of the electricity power sector and the implementation of the Government’s program to privatize electricity distribution. Impressive results have been achieved: (a) Tariffs were brought to cost-recovery level in 2008; (b) Collections started to improve through 2009 and reached 100 percent in 2010; (c) with cost reflective tariffs and improved bill collection, financial recovery has been achieved in the power sector; (d) Financial recovery enabled the payment of current bills and the elimination of arrears to private sector generators by 2010. Remaining cross-payables and receivables between public sector companies are being cleaned-up through a special legislation enacted by the Parliament in February 2011; and (e) Turkey’s ambitious distribution privatization program could finally be launched in 2008 once the Electricity Tariff Mechanism had been put into effective implementation).

17. Electricity Bill Collection and TEDAŞ Payments. With the sustained implementation of the cost-based pricing mechanism, electricity tariffs overall now reflect costs. (Justified costs as accepted by EMRA – system losses currently exceed EMRA’s target). Up to 2008, prices did not cover costs and collection was less than 100 percent - large arrears were accumulated. From 2008, prices cover costs but collection at 91 percent was much below 100 percent and payment arrears continued to accumulate in TEDAŞ (the main distributor) but at a much reduced rate. TEDAŞ' payables had resulted in receivables to electricity and fuel suppliers and TEIAŞ (both as the TSO and as PMUM the market operator) and initially undermined the full impact of the continued implementation of the quarterly pricing mechanism. In 2009 TEDAŞ intensified bill collection (with Government support) and additional complementary measures were also taken, including the operationalization of the mechanism (approval of which was a PEDPL1 prior action) for the Treasury to pay for street lighting directly to the utilities on behalf of the municipalities. As a result TEDAŞ collections reached about 94 percent (including payments under the new mechanism for street lighting supported under PEDPL1) in 2009. Collections reached 100 percent in 2010 (some privatized discoms collected more than 100 percent, i.e. also recovered past arrears).

22 The Government (not EMRA) regulates the prices that BOTAŞ is allowed to charge for gas to its customers. Since 2010 these prices have not been adjusted in a timely manner to reflect increases in import prices including the impact of the depreciation of the Turkish Lira. As a result the financial position of BOTAŞ has been deteriorating.

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Private Sector Participation and Privatization – Means for Investment, Energy Security and Efficiency

18. Turkey opened the power sector for private investment in 1984 but progress remained limited until the enactment of the build, operate and transfer (BOT) law in 1994 to provide the legal basis to attract private investment to complement public electricity generation investment in meeting rapidly increasing demand for electricity. The Government attracted independent power producers (IPPs) under the 1994 BOT law and the subsequent 1997 build, own and operate (BOO) law with contracts signed by the Turkish Electricity Generation and Transmission Company TEAŞ and guaranteed by the Government. TEAŞ contracted over 8,500 MW; mostly gas-fired capacity, but also coal, lignite and almost 1,000 MW hydro generation. Initially, TEAŞ negotiated BOT contracts with the IPPs and later moved to competitively bid BOO contracts. These contracts led to (temporary) electricity surpluses and revealed the high costs of negotiated BOT contracts and other BOO/BOT risks to public purchasers (TEAŞ and effectively the Government which backstops the contracts). The Government stopped providing guaranteed BOO/BOT contracts and through the 2001 Electricity Market Law moved to promote market-based bilateral contracts and sales to Turkey’s electricity market. Contracts signed by TEAŞ were transferred to one of its successor entities upon its unbundling, the Turkish Electricity Trading and Contracting Company TETAŞ. The market-based approach has been remarkably successful in attracting investment, with market-based private generation capacity reaching 5,000 MW in 2008 and growing. Generation capacity of auto-producers (industrial power generators) amount to another 3,500 MW of private generation capacity. The share of private sector generation (BOO/BOT, market-based and auto-generation) in Turkey’s electricity supply has increased steadily and reached 50 percent in 2008. The share will continue to grow in the coming years with new private investment and the planned major generation privatization program (para. 21) and is expected to reach 75-80 percent in the next 5-7 years.

Distribution Privatization

19. Distribution privatization – launched in 2008 and expected to be completed in 2012 - was adopted as the best available means to achieve a sustainable long-term solution to satisfactory bill collection and distribution network efficiency. The Privatization Administration has offered for sale and determined the winning bidders for all 18 discoms included in the program, completing four tenders in 2008, three in 2009 and eleven in 2010. Privatization proceeds from already closed transactions amount to about US$5.4 billion. However, the closing of seven of the 2010 privatizations has slipped to 2012 and some may require rebidding. Their completion is delayed, as many of the ranked bidders have not fulfilled the obligations of Tender Specifications for these companies (which comprise the third phase of PA’s distribution privatization program supported under the ESES DPLseries). Winning bids for these seven companies amounted to about US$11 billion. PA granted the winning bidders more time but requested that additional letters of guarantee – higher bid bonds - be submitted. One of the seven submitted (Dicle Electricity Distribution Company) and has been invited to execute the agreement. For the other six companies, PA invited the second-ranked bidders to execute the agreements. One of these six second-ranked bidders executed the agreement and the company (Trakya Electricity Distribution Company) has been transferred. The tender for Gediz Electricity Distribution Company was cancelled as the second-ranked bidder did not fulfill the obligations

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of Tender Specifications. For the other four companies, as the second-ranked bidders did not fulfill obligations of the Tender Specifications, PA invited the third-ranked bidders to execute the agreements. As the third-ranked bidders did not fulfill obligations of the Tender Specifications, tenders for Akdeniz and Boğaziçi Electricity Distribution Companies have been cancelled and the fourth-ranked bidders have been invited to execute the agreements for two companies (Istanbul Anadolu and Toroslav Electricity Distribution Companies). PA will retender companies for which the original bid processes have to be canceled..

20. A combination of several factors and cooperation of several agencies underpins the remarkable success of Turkey’s distribution privatization program in a period of crisis and turmoil in the local and international financial markets. The Government is committed to making the privatization program a long-term success. The Government has decisively and repeatedly assured current and prospective investors that the new private owners of privatized electricity companies will have the full backing of the Government. The strong response of the private sector to the PA’s privatization offerings demonstrates the credibility of the Government’s commitment and the overall legal and regulatory framework. Turkey’s legal and regulatory framework facilitates privatization and the administrators - the Ministry of Energy and Resources and the energy regulator EMRA on the energy side and the Ministry of Finance and the PA and its privatization advisors on the transaction side - support privatization and effectively work together to implement the privatization program. The cost-based tariff mechanism provides for sustainable operations as long as the companies meet or exceed EMRA’s performance targets. Finally, Turkey’s overall favorable long-term growth prospects attract and encourage both local and foreign investors.

Generation Privatization

21. A generation privatization program, matching the level of ambition of the soon complete distribution privatization program, has been launched. The Privatization Administration (PA) started generation privatizations with the sale of a large number of small hydro plants (with the total capacity of about 282 MW) of the state generation company EÜAŞ raising almost US$1 billion. Next the privatization program moves to the major EÜAŞ plants. An ambitious strategy for their privatization was published by the PA and announced by the Minister of Finance in March 2010. The state owned power generator EÜAŞ owns and operates about 20,147 MW, of which about 11,456 MW in thermal and about 8,691 MW in hydro plants. The privatization program covers all of EÜAŞ thermal and about one half of its hydro capacity. The generation privatization strategy envisions that 17 thermal generation plants and 27 hydro plants – amounting to about 16,000 MW - would be offered for sale, most of them in nine portfolio groups and 3,074 MW in four priority plants independently. The nine portfolio groups include three thermal-only groups, four hydro-only groups and two mixed thermal-hydro portfolios. They range in size from 356 MW to 2,795 MW. The groups were formed to balance different interests and attract a wide variety of prospective investors. Hydro plants in each portfolio group are along the same river to exploit operational synergies and avoid conflicts between investors.

22. The strategy stipulates that the sales agreements with the successful winning bidders will require them, inter alia, to renovate the plants within a stipulated timeframe after privatization as needed to meet the applicable environmental standards - which will be in

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line with applicable EU environmental standards as the harmonization of Turkey’s environmental policies, laws and regulations with the EU Environmental Acquis progresses. The implementation was initially planned to start immediately in 2010 but PA deferred the launch to mid-2011 as further preparatory work was required. Among that work was the preparation of an amendment of the Regulation on Industrial Air Pollution Control. The amendment was issued in the Official Gazette and became effective on October 10, 2011. The new regulatory framework resulting from the October 2011 amendment provides winning bidders in generation privatizations a grace period - adequate time to upgrade those plants that do not currently meet applicable environmental standards - and requires them to meet applicable standards after the grace period. It was earlier concluded that the success of the first generation privatization offerings will critically depend on the implementation of the cost-based tariff mechanism and satisfactory bill collection, progress of distribution privatization, and PMUM’s continued development. Progress in all four areas has been impressive and the generation program is expected to attract strong investor interest.

Transmission Services

23. The national transmission system and electricity market operator TEIAŞ is the backbone of the power system and is under severe and increasing stress to respond to the demands of private generators and load changes. Increasing private investment is projected in both the generation side and the distribution side, leaving TEIAŞ in an increasingly challenging position in the middle. Government's State-owned enterprise (SOE) investment review process had contributed to delays in TEIAŞ investments in the past. This issue was addressed in the 2009 electricity strategy and action was taken accordingly: Ministry of Development (formerly SPO) approved for TEIAŞ a three-year program of TL 550 million for 2010, TL 600 million for 2011 and TL 650 million for 2012. This put TEIAŞ in a much better position to prepare its investments for implementation. These provisions, taking into account an approved multi-year transmission investment plan, were approved as part of the Government’s annual budgets.

24. TEIAŞ operational capacity and financial strength need attention - the implementation and borrowing capacity of TEIAŞ have emerged as the main constraints after that the investment ceiling issue was addressed as discussed above. TEIAS investment budget realization was about 67% in 2010 and about 61% in 2011. The biggest challenge facing TEIAŞ is the projected rapid build-up of wind generation – wind generation is decentralized and has a short construction period, in sharp contrast centralized (large-scale) thermal plants with longer construction periods providing TEIAŞ much more time to respond. The current institutional set-up of TEIAŞ may not be sustainable in the medium-to-long term. There is a broad agreement about the diagnosis of TEIAŞ constraints (in recruiting and retaining staff, finance, procurement, timely decision-making, etc.) and emerging interest to consider options for increasing TEIAŞ operational capacity and financial strength. An ESMAP-financed WB-managed study – Assessment of Options for Improving the Operational Effectiveness of TEIAŞ – identified a number of options for consideration. The highlights include: (a) restructuring of TEIAŞ into separate transmission system and electricity market operators; and (b) processing a special law to provide TEIAŞ with sufficient autonomy. The Bank has suggested private sector participation in the new electricity market operator, the listing of TEIAŞ at the Istanbul Stock Exchange and progressive reduction of Government ownership as effective means for addressing

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TEIAŞ’ constraints. An amendment to the Electricity Market Law would be required for the restructuring of TEIAŞ and establishment of a separate electricity market operator. MENR has posted a draft electricity law (replacement of the current Electricity Market Law) on its web-site for public comments. An inter-ministerial working group is examining related issues in TEIAŞ. The Bank has an ongoing lending relationship with TEIAŞ. The dialogue on these program will continue with the Government, TEIAŞ, and other concerned agencies.

Renewable Energy Development

25. Renewable Energy Development is a key component in Turkey’s Electricity and National Climate Change Strategies. The Government has taken several major measures to promote private sector renewable energy development, including the enactment of a Renewable Energy Law, the development of a functioning electricity market and the introduction and implementation of the quarterly cost-based pricing mechanism. The Renewable energy Law triggered great interest in hydro and wind development in particular. DSI and EMRA developed a successful framework for licensing private hydropower generators. However, prior to the Renewable Energy Project supported by the Bank in 2004 there was very little financing of renewable energy generation by banks. That project successfully established the template for such investments while the Renewable Energy Law reduced the risks and currently most of the major Turkish commercial and development banks invest in renewable energy projects. A road map for receiving and evaluating applications for wind power plants and issuing the related licenses has been issued by EMRA, and a wind energy grid code has been finalized.

26. Renewable energy generation, in particular hydro and wind, has taken off, and the major contribution of renewable energy into Turkey's power system is expected to come from hydro and wind in the foreseeable future. Several hydro and wind projects are viable with the current electricity prices in Turkey's electricity market. Support prices provided under the Renewable Energy Law serve as a floor/back-up. The Government has prepared and the Parliament in December 2010 approved an amendment of the Renewable Energy Law in order to provide prospective investors enhanced predictability about Turkey's support framework, including technology-based support prices and firm off-take arrangements. Approved support prices for biomass and especially solar power, though significantly higher than current prices in PMUM, are nevertheless lower than some investors had expected. The impact of these higher solar and biomass prices on generation capacity, electricity supply and consumer prices of electricity is going to remain low in the short-term, as the share of biomass and solar electricity is expected to remain low in the short-term – the amendment is a measure for the medium-to-long-term.

Natural Gas

27. In the medium-term, the adequacy of natural gas supply may become a bottleneck for energy security and environmental goals. The Gas Market Law of 2001 and EMRA provide the legal and regulatory framework for the gas sector. Gas imports have grown rapidly, driven by Turkey’s growing demand for energy and related environmental considerations. In the electricity supply, the share of gas has increased from about 20 percent in 1995 to 48 percent in

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2009. Complementing this shift to gas in the power sector, EMRA has administered a nation-wide gasification program. In 2002, only nine Turkish provinces had access to gas; by the end of 2012, 72 provinces are expected to be connected to the gas network. The share of gas in Turkey’s primary energy mix has reached 32 percent. The Government has recognized that while the increased use of gas has brought major benefits, the reliance of gas now subjects the country to a gas supply security risk. A review has been carried out and an amendment to the Gas Market Law is included in the Government program. The restructuring of BOTAŞ to separate the gas import and trading functions and the gas network and storage functions of BOTAŞ into two companies is expected. The Bank has suggested that the listing of the two unbundled companies in the Istanbul Stock Exchange be also considered. The amendment is expected to be enacted during 2012. Bank has an ongoing lending relationship with BOTAŞ. The dialogue on the amendment will continue with the Government, BOTAŞ, and other concerned agencies.

28. In October 2011, Turkey and Azerbaijan and their respective gas companies BOTAŞ and SOCAR signed agreements for Turkey to purchase six billion cubic meters (bcm) of gas annually and to transit another 10 bcm to Europe. BOTAŞ is a member of the consortium that plans to build the Nabucco gas pipeline from Turkey through Bulgaria, Romania and Hungary to Austria, for which the concerned countries including Turkey signed an Inter-Governmental Agreement in July 2009. Turkey’s Parliament ratified the agreement in March 2010. Turkey also supports Gazprom’s proposed SouthStream gas pipeline from Russia to South East Europe.

Energy Efficiency

29. Energy efficiency is critical to Turkey’s energy security and a key component in Turkey’s National Climate Change Strategy. Significant efficiency improvements and emission cuts are feasible, subject to strong financial and implementation support. This is a long-term vision and the large-scale utilization and full impact of these measures would be realized progressively over time. The legal, regulatory/pricing and institutional set-up is now in place as discussed below, including a comprehensive set of energy efficiency regulations issued in 2008 (a PEDPL1 prior action) under the 2007 Energy Efficiency Law. The Government has also taken measures to support specialized targeted credit lines, with the support of the Bank, other IFIs and donors, and the Clean Technology Fund.

30. The Energy Efficiency Law targets industrial facilities, building and services sectors, as well as the power sector (generation, transmission and distribution networks). The Law has four pillars: establish an administrative structure and tasks for delivering energy efficiency services across sectors; promote training and awareness; implement penalties for misconduct; and provide incentives to increase energy efficiency and renewable energy use.

31. Energy efficiency regulations were issued in 2008. The issuance of the regulations was a PEDPL1 prior action. They cover:

Supply side management including measures to improve efficiency in electricity generation, transmission and distribution;

Increased energy efficiency in the public and transport sectors;

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Support to businesses to augment ongoing energy efficiency efforts including implementation of voluntary measures;

Training, research and development; and Energy performance in buildings.

32. Household appliances, commercial and other end-use equipment are covered by the European Union labeling and product information requirements; national regulations were updated by the Ministry of Industry and Trade with effect from January 2008. Producers and importers are required to include energy efficiency information in a separate section of related operating manuals.

33. An Energy Conservation Coordination Board has been established for the coordination of energy efficiency policy and strategy. The General Directorate of Electrical Power Resources Survey and Development Administration (EIE) has been integrated into the Ministry of Energy and Natural Resources as a new General Directorate. It will continue working to establish a more systematic and coordinated system of energy efficiency data collection and evaluation across sectors. It is also continue EIE’s program of providing capacity building of energy efficiency professionals (managers and auditors) through training and certification.

34. In an effort to accelerate the realization of Turkey’s potential, the Government approved a new Energy Efficiency Strategy in February 2012. A related new energy efficiency regulation was issued in October 2011. The new Strategy sets an overall target as 20 percent for the reduction of Turkey’s energy intensity (energy consumption of energy per unit of GDP) by the year 2023 from the year 2011 level. This is a realistic target but not an ambitious objective, as Turkey’s economy is still relatively energy intensive. Turkey required 0.26 ton of oil equivalent (toe) for every US$ 1,000 of GDP, compared with the OECD average of 0.18 in 2008. Turkey’s nominal GDP/unit of energy consumption is well below OECD Europe and the United States (Table 4). The Strategy identifies the following main activities to improve Turkey’s energy efficiency: (a) promote energy efficiency in the industries and services sectors; (b) reduce energy demand of buildings; (c) promote energy efficient appliances and products; (d) improve the efficiency of electricity generation, transmission and distribution; and (e) building capacity, market and financing for energy efficiency products, investments and services.

35. The law and the regulations, the 2009 electricity strategy and the new Energy Efficiency Strategy, complemented by the pricing and bill collection measures discussed above, provide a strong basis and incentives for improving the efficiency in the consumption of energy. Market/commercial incentives for industries to invest in energy efficiency and to improve their energy utilization have strengthened: (a) energy price adjustments, resulting from international oil and gas price developments and the quarterly cost-reflecting pricing mechanism introduced in 2008, provide strong price signals; and (b) slowdown of the economy has shifted attention from capacity expansion to competitiveness and cost-effectiveness, including in the use of energy.

36. Energy Efficiency is a Long-term Challenge. Turkey’s energy efficiency agenda is long term and its implementation has only recently started. The legal, regulatory/pricing and institutional set-up is now in place as summarized above. Much remains to be implemented in

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the energy sector as well as elsewhere. If greater financial and related implementation support is available, further emission cuts are feasible. Turkey would eventually need to accomplish more to stop the growth of emissions and start reducing emissions back towards current levels. This is a long-term vision and the large-scale utilization and full impact of these measures would be realized only beyond 2020.

37. Financial Support for Renewable Energy and Energy Efficiency. Turkey is a functioning market economy. Since 2002, domestic and external factors have allowed Turkey to maintain fast, stable economic growth averaging nearly 7 percent in the period 2003-07. Given the difficult global economic conditions in 2008-09, Turkey experienced a temporary slowdown but returned to growth in the last quarter of 2009. In the Government’s fundamentally market-oriented management of the economy, its renewable energy and energy efficiency objectives are to be achieved primarily through market-based mechanisms, relying on market liberalization, functioning electricity market, and cost-reflective pricing mechanism in regulated areas. As discussed above, a comprehensive series of energy efficiency regulations has nevertheless been issued to accelerate efficiency improvements across the economy. The Government has also taken measures to support specialized targeted credit lines, first for renewable energy in 2004 and then extending its support to energy efficiency financing, including the support of the Clean Technology Fund (CTF). Implementation progress has exceeded expectations and additional Bank financing of US$500 million was approved in November 2011. Significant efficiency improvements and emission cuts are feasible, subject to strong financial and implementation support. This is a long-term vision and the large-scale utilization and full impact of these measures would be realized progressively over time.

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ANNEX 4: IMF PUBLIC INFORMATION NOTICE

IMF Public Information Notice (PIN) No. 11/150

December 7, 2011

IMF Executive Board Concludes 2011 Article IV Consultation with Turkey On November 28, 2011, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Turkey.

Background

The Turkish economy continued to grow strongly through the first half of 2011, reaping the benefits of institutional reforms and revamped policy frameworks implemented in the previous decade. However, growth became increasingly fueled by domestic demand andimports. This was supported by strong credit growth, reflecting an appreciated currencycombined with low interest rates and a surge in short-term capital inflows. The current account deficit widened sharply to near 10 percent of GDP. Inflation is rising quickly, reflecting pass-through from a large nominal depreciation since late 2010, numerous taxand regulated-price increases, and underpinned by tight domestic supply conditions, and is forecast to reach 9½ percent at end 2011, well above the point target of 5½ percent.

The externally-financed demand boom has weakened Turkey’s resilience in some areas.Capital inflows are dominated by potentially-volatile financing, and short-term external debt has climbed sharply. With banks absorbing much of these inflows, an external fundingshortfall will slow down credit. Nonfinancial corporates’ net FX liabilities increasedsubstantially, exposing them to currency depreciation. While the headline fiscal balancecontinues to improve and the public debt-to-GDP ratio is declining, fiscal performance has been supported by benign economic conditions at home and abroad.

Policy responses were insufficient to prevent the development of a large current accountdeficit and high inflation. Monetary policy shifted to an unconventional mix of reserverequirements, the interest rate corridor, and the policy rate, which has not demonstrated itcan deliver price- or financial–stability. Numerous prudential measures aimed at slowingcredit growth and building buffers were introduced but, from a macroprudentialperspective, were sometimes delayed. The primary balance of the nonfinancial publicsector continued to improve, largely reflecting buoyant—but transient—tax revenue from the boom in output and imports and proceeds from a tax restructuring scheme, whichmasked a relaxed fiscal stance.

Growth is expected to slow sharply to 2 percent in 2012 due to weaker capital inflows, reflecting in part concerns about Turkey’s large current account deficit. More limitedforeign financing would constrain the current account deficit to about 8 percent of GDP and compresses imports. In line with Turkey’s previous capital flow-driven corrections, with fewer imports of key raw materials and intermediates, GDP growth is forecast to be sharply

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scaled down. Inflation is projected to decline to a still-elevated 6½ percent, eroding external competitiveness.

Executive Board Assessment

Executive Directors commended the Turkish authorities for their agile economicmanagement during the global crisis, which, together with structural reforms undertakenearlier, had contributed to a rapid recovery. Going forward, Directors urged the authoritiesto rebalance the policy mix to ensure a soft landing, in view of volatile capital flows, awidening current account deficit, and an externally financed credit boom. Tightening thestructural fiscal position and gearing macroprudential policies to preventing systemic risk would allow monetary policy to focus on price stability, helping to preserve the credibilityof the inflation-targeting framework and strengthen Turkey’s resilience to changes in globalliquidity conditions. It will also be important to accelerate structural reforms to reverse eroding competitiveness and improve the business climate, facilitating current accountadjustment.

Directors welcomed the decline in public debt and the fiscal deficit. They encouraged theauthorities to tighten fiscal policy, with a view to stemming domestic demand, supportingdisinflation, while also providing a fiscal buffer in the event capital flows reverse. Directorsrecommended front loading the adjustment as much as feasible, and establishing fiscaltargets in structural terms. They emphasized in particular the need to restrain currentspending, expand the tax base to ensure sustainable revenues, and strengthen the oversightof public-private partnerships.

Directors acknowledged the difficult environment under which monetary policy operates. With a tighter fiscal stance and appropriate macroprudential policies in place, they sawscope for cautiously raising the single policy interest rate, taking into consideration thepossible impact on economic growth and capital flows. Directors recommended moving toward a more transparent and consistent monetary policy framework to re-anchor inflation expectations and avoid excessively rapid disintermediation. Narrowing the inflationtolerance band and gradually lowering the inflation target will help moderate the impact of future capital flow cycles.

Directors noted the strong performance of the banking sector, but encouraged furtherefforts to address weaknesses in the financial sector, in particular its vulnerability to anexternal funding shock and possible deleveraging by banks in the region. They urgedcaution in implementing near-term measures to bolster banks’ resilience so as to avoid asharp drop in credit. Timely detection and response to future emerging systemic risk iscrucial, along with further strengthening of financial sector oversight and regulation, asrecommended in the Financial Sector Stability Assessment. Directors saw an important rolefor the recently established Financial Stability Committee in this regard. They underscored the importance of Turkey bringing its Anti-Money Laundering/Combating the Financing of Terrorism legislation into line with international standards.

Directors endorsed labor and product market reforms to enhance competitiveness and socialequity. They recommended measures to enhance labor market flexibility, tailor training to

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employers’ skill needs, and better align employment costs—including the minimum wage—with regional peers. Timely adjustment of regulated energy prices to movements inthe domestic cost of imports would help lower Turkey’s energy trade deficit.

IMF Staff report, published on January 27, 2012, is available at: http://www.imf.org/external/pubs/cat/longres.aspx?sk=25684.0

 

Turkey: Selected Economic Indicators, 2006−12 

  

   2006  2007  2008  2009  2010  2011  2012 

            Proj. 

   (Percent) 

  

Real sector                      

Real GDP growth rate  6.9  4.7  0.7  ‐4.8  9.0  7.5  2.0 

Private consumption growth rate  4.6  5.5  ‐0.3  ‐2.3  6.7  6 8  0.5 

Priv te gross fixed investment growth rate  15.0  2.6  ‐9.0  ‐22.5  33.5  25.2  0.6 

Contributions to GDP growth                      

Private domestic demand  6.3  5.0  ‐1.8  ‐8.3  12.6  9.4  0.6 

Public spending  0.9  0.8  0.6  0.8  0.8  0.7  0.4 

Net exports  ‐0.3  ‐1.2  1.9  2.7  ‐4.4  ‐2.6  1.0 

GDP deflator growth rate  9.3  6.2  12.0  5.3  6.3  8.6  8.6 

Nominal GDP growth rate  16.9  11.2  12.7  0.2  15.9  16.7  10.8 

CPI inflation (12‐month; end‐of period)  9.7  8.4  10.1  6.5  6.4  9.5  6.4 

PPI inflation (12‐month; end‐of‐period)  11.6  5.9  8.1  5.9  8.9  11.3  6.6 

Unemployment rate  10.2  10.3  11.0  14.0  11.9  …  … 

                       

Average nominal treasury bill interest rate  18.4  18.1  19.2  11.4  8.1  ...  ... 

Average ex‐ante real interest rate  8.6  6.9  12.2  2.6  1.9  ...  ... 

   (Percent of GDP) 

Nonfinancial public sector    

Primary balance  4.5  3.2  1.6  ‐1.0  0.8  1.8  1.5 

Net interest payments  5.1  4.9  4.4  4.6  3.7  2.6  2.6 

Overall balance  ‐0.6  ‐1.8  ‐2.8  ‐5.6  ‐2.9  ‐0.8  ‐1.1 

Structural balance  3.0  1.5  0.3  ‐0.1  ‐0.1  ‐1.1  ‐0.1 

Debt of the public sector    

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General government gross debt (EU definition) 

46.5  39.9  40.0  46.1  42.2  39.1  36.2 

Nonfinancial public sector net debt  40.1  34.4  34.5  39.5  36.6  33.5  30.8 

External sector                      

Current account balance  ‐6.1  ‐5.9  ‐5.7  ‐2.3  ‐6.5  ‐10.2  ‐7.8 

Nonfuel current account balance  ‐1.3  ‐1.5  ‐0.2  2.0  ‐1.9  ‐4.1  ‐1.8 

Gross financing requirement  21.1  18.7  18.9  17.4  18.9  22.2  23.1 

Foreign direct investment (net)  3.6  3.1  2.3  1.1  1.1  1.6  2.0 

Gross external debt 1/  39.3  38.4  38.4  43.7  39.5  42.9  44.7 

Net external debt  21.0  21.0  21.5  24.7  24.0  27.8  30.9 

Short‐term external debt (by remaining maturity) 

15.0  11.7  16.0  15.2  16.1  17.9  17.2 

Monetary aggregates                      

Nominal growth of M2 broad money (percent) 

22.2  15.2  24.8  12.7  18.3  …  … 

GDP (billions of U.S. dollars) 2/  529.2  649.1  730.3  614.4  734.6  …  … 

GDP (billions of Turkish lira)  758.4  843.2  950.5  952.6  1,103.7  1,288.3  1,427.4 

Per capita GDP (2010): $10,297 (WEO)                      

Quota (As of October 31, 2011): SDR 1,455.8 million. 

  

Sources: Turkish authorities; and IMF staff estimates and projections. 1/ The external debt ratio is calculated by dividing external debt numbers in U.S. dollars based on official Treasury figures by GDP in U.S. dollars calculated by staff using the average exchange rate (consolidated from daily data published by the CBT). 2/ GDP in U.S. dollars is derived using the average exchange rate (consolidated from daily data published by the CBT). 

 

 

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ANNEX 5: POVERTY AND SOCIAL ANALYSIS

I. Overview

1. Turkey has applied a national system of residential electricity tariffs, with a small discount for priority provinces. Despite increasing fuel costs, electricity tariffs remained constant during 2002-07, with an average residential retail tariff around 0.120 TL/kWh. In 2008, a cost-based pricing mechanism was approved to ensure automatic price adjustment to cover future increases in the costs incurred by the electricity sector on a quarterly basis. As a result, three substantial tariff increases were implemented in January, July and October 2008, raising the average retail tariff by about 15, 24 and 9 percent, respectively. Electricity tariff was further increased by another 10 percent in nominal terms in October 2009.

2. The pricing reform is one of the key measures of the electricity market reform and restructuring launched in Turkey in 2001. A cost-based pricing mechanism is considered essential for encouraging more efficient consumption, improving private investment, and strengthening the financial position of the state owned electric utilities. However, significant tariff increases, especially when they coincided with the economic crisis, clearly carries the risk of increasing economic stress, particularly for poor households. 3. The purpose of this annex is to present a partial equilibrium analysis of the poverty and welfare impact of raising electricity tariffs during 2008-09 on households in Turkey.23 Expenditures on electricity have been a moderate component of the total budget of the Turkish households; they represented 2.9 percent of the household’s disposable income in 2007 and increased to 3.5 and 4.0 percent after the significant price increase in 2008 and 2009. Although the impact of tariff increase on electricity affordability for households and consumer welfare overall has been limited, low-income households have experienced a more significant welfare loss than higher-income households. The hardships of the poor were particularly acute in 2009, but were mainly attributable to income reduction than rising electricity charges. 4. Continued monitoring efforts on electricity consumers will help track the impact of electricity pricing and privatization reforms and make informed decisions on whether additional efforts to protect the poor and vulnerable population are needed. Thus ensuring the effective implementation of reforms over time and ensuring their long-term sustainability.

5. The remainder of this annex is structured as follows. Section II introduces data and methodology. Section III reviews expenditure patterns and consumption levels and discusses the poverty impact of raising tariffs, particularly on the poor. Section IV estimates a residential demand function for electricity and considers the welfare effects of the pricing reform. Section V addresses the coverage of and targeting performance of existing social assistance programs in Turkey.

23 The impact of electricity tariff increases on the prices of other commodities is not considered. It should also be noted that although electricity reform may result in price increases, it also provides opportunities that would not otherwise exist to improve quality and reliability, and to re-direct public resources more transparently to the poor. Analyzing the broader impact of electricity pricing reform is beyond the scope of the note.

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II. Data and Methodology 6. To estimate the potential welfare impact of electricity tariff increases on the poor, both descriptive and inferential analyses are presented based on the Turkish Household Budget Survey (HBS) data from 2003 through 2009. An explanation of HBS survey methodology is included at the end of the Annex.

7. For descriptive analysis, the share of electricity expenditure in household budgets is used to measure the economic burden of electricity expenditure on households. The budget share of electricity is described as both the percent of household disposable income and as the percent of total household expenditure. To measure the impact of rising tariffs, 2008 and 2009 electricity budget shares are benchmarked against the shares in years preceding the tariff increase and against those in other European and Central Asia countries. It is also compared with the benchmark electricity affordability levels and electricity consumption poverty lines suggested in the literature (Silva et al. [2008], Bagdadioglu et al. [2009]). In addition, a Lorenz curve analysis is conducted to analyze the gap of electricity consumption between the poor and the non-poor. Finally, household electricity consumption patterns are compared across regions and between rural and urban areas.

8. For inferential analyses, a short-run household electricity demand function is estimated based on two different samples, the HBS data in 2008 and the combined HBS sample in 2008 and 2009, which yield conforming results. Furthermore, the 2008 model performed satisfactorily when applied to out-of-sample forecast of 2009 electricity consumption. In the demand model, electricity consumption depends on the tariff, household disposable income, the household’s access to alternative energy sources (natural gas, central heating), the season, the utilized area of the dwelling, the household’s stock of electronic appliances (air conditioner, refrigerator, computer, mobile phones, and so on), household size and other household characteristics. The model assumes different price elasticities for different income quintiles to capture the difference in households’ capability to adjust consumption in response to price change. The estimated price and income elasticities are then used to estimate the welfare effect of raising tariffs for different income groups. The consumer surplus change is used to approximate the change in welfare.

III. Electricity Expenditure Pattern and the Poverty Implications of Tariff Increase 9. The budget share of electricity is inversely related to income. Figures 1 and 2 illustrate household electricity expenditure as a share of household disposable income and total expenditure across per-capita income quintiles from 2003 to 2009.

10. Prior to the tariff increases, Turkish households on average spent 3.5 percent of disposable income, or 3.7 percent of total expenditure on electricity during 2003-07. These shares declined over the period, with the share of electricity in household disposable income falling from 4.4 to 2.9 percent and the share of electricity in total expenditures falling from 4.7 to 3.1 percent. Shares of electricity expenditures in disposable income and total expenditures were greater for households in the lowest quintile, on average 6.7 percent and 5.2 percent, respectively.

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Figure 1 Share of Household Disposable Income on Electricity (%) (2003-2009)

Sources: Calculation based on HBS 2003, 04, 05, 06, 07, 08, 09 Figure 2 Share of Household Total Expenditure on Electricity (%) (2003-2008)

Sources: Calculation based on HBS 2003, 04, 05, 06, 07, 08, 09 11. After electricity tariff increase in 2008, the budget share of electricity expenditure increased for all income groups, but was still close to (the bottom quintile) or lower (the other

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Total

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2009 2009 Oct. ‐Dec.

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four quintiles) than 2003 levels (Figures 1 and 2). For the poorest quintile, however, the share of electricity in household disposable income and total expenditure increased from 5.4 percent to 6.3 percent and from 4.5 to 4.7 percent respectively between 2007 and 2008. The share of electricity expenditures in household total expenditures (excluding expenditures on health, durables and rents) in Turkey in 2008 was the eighth lowest among the European and Central Asian (ECA) countries (Figure 3).

Figure 3 Share of electricity in total expenditures in ECA countries in 2008.

        

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Source: World Bank staff calculation Note: Total expenditure excludes expenditures on health, durables and rents. 12. The share of electricity expenditures in disposable income is significantly higher after the most significant price increase in August 2008 than before August. This difference is significant at the 1% level for the bottom 4 income groups (0-80%) (Table 1). The difference between the two groups of the top quintile is not statistically significant. The change in the share of electricity in total expenditures is less conspicuous and is significant only for the bottom income quintile. In addition, the difference in electricity shares of the two groups decreases as income increases. Similar tests were conducted on HBS data from 2003 to 2007 to investigate the possibility of seasonal factors driving these patterns. No difference was observed between before August and after August consumption in other years.

13. The above observation indicates that the poor may have experienced higher increase in financial burdens due to electricity price increase and income decrease caused by the financial crisis. Nonetheless, the magnitude of the impact, even for the bottom quintile, seem to be limited - the share of electricity expenditures in household income and expenditure of the poorest group increased by 1.8, and 0.6 percentage points, respectively, after August 2008.

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Table 1 Share of Income and Expenditure on Electricity before and after August 2008 Share of Electricity in

Disposable Income Share of Electricity in Total Expenditure

% of Missing Data on Electricity Expenditure

Income Quintiles (per capita)

Before August

After August

Before August

After August

Before August

After August

Bottom 20% 5.58 7.41*** 4.47 5.07*** 37.62 36.53 2 3.96 4.60*** 3.74 3.94 21.62 19.88 3 3.20 3.45*** 3.44 3.39 15.10 14.70 4 2.62 2.70*** 3.09 2.91 10.71 13.25 Top 20% 1.81 1.91 2.53 2.49 8.01 8.52 All 3.31 3.67 3.40 3.40 18.42 19.80 Sample Size 5000 3572 5000 3572 5000 3572 Source: Calculation based on HBS 2008 Note: *** indicates the difference between before and after August group for the same income quintile is statistically significant at the 1% level. 14. In the backdrop of economic crisis in 2009, household budget share of electricity expenses continued climbing from 2008, with the poorest experienced the highest jump. On average, electricity expenditure shares were still below 2003 levels. However, for the bottom quintile, the share of electricity in household disposable income increased to 8.5 percent in 2009, compared with 7.8 percent in 2003. On the other side, the share of electricity in total expenditure of the poorest group was still below 2003 level - 6.0 percent in 2009 vs. 6.2 percent in 2003. 15. Negative income shocks during the economic crisis (particularly in 2009) may potentially compound the impact of rising tariffs. A crisis impact survey fielded in five urban areas by the World Bank, UNICEF and the Turkish think-tank TEPAV suggested the economic crisis was transmitted to households through reduced labor incomes, which disproportionately affected the poor; the poorest 20 percent suffer an average per capita income loss of about 22.8 percent between May 2009 and December 2009, compared with 21.6 percent for the entire population. The HBS data also suggest that the poorest population had suffered the largest income decline in 2009 from a year earlier (Table 3).

16. More detailed examination reveals that the spike in electricity budget share in 2009 was more likely attributable to income shocks than to price increases. Table 2 compares the budget share of electricity expenditure of households surveyed before and after October 2009, during which month the only major tariff increase of the year was implemented. The share of electricity increased by merely 0.17 percentage points in total household expenditure for the bottom quintile, and by 0.2 percentage points in income for the general population from before October. No statistically significant difference was observed in other comparisons. These results

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suggest that substantial budget share increases was not coincided with tariff increases and may have occurred through income reduction during the early period of the year. Table 2 Share of Income and Expenditure on Electricity before and after October 2009 Share of Electricity in

Disposable Income Share of Electricity in Total Expenditure

% of Missing Data on Electricity Expenditure

Income Quintiles (per capita)

Before October

After October

Before October

After October

Before October

After October

Bottom 20% 8.32 8.73 5.93 6.10*** 45.3 47.8 2 4.65 4.89** 4.45 4.41 27.0 25.6 3 3.80 3.94 4.11 4.01 20.6 18.1 4 3.08 2.97 3.51 3.14 13.3 13.7 Top 20% 2.02 1.95 2.78 2.51** 9.8 10.2 All 3.97 4.17*** 3.96 3.87 23.7 24.1 Sample Size 7574 2525 7574 2525 7574 2525 Source: Calculation based on HBS 2009 Note: ** indicates the difference between before and after October group for the same income quintile is statistically significant at the 5% level. *** indicates the difference is statistically significant at the 1% level. 17. Arrears or disconnections might not have increased after major tariff increases in 2008 and 2009 when compared within the same year. Although the electricity tariff was further increased by 24 and 9 percent after August in 2008, and by 10 percent after October in 2009, the ratio of households who did not report electricity consumption is similar across the two groups for within year comparison, suggesting that arrears might not have increased after price increases.24 However, across-year comparison shows that the ratio of missing data on electricity expenditure increased from 19 percent in 2008 to 24 percent in 2009, again, plausibly reflecting the fixed-year impact of the economic crisis. 18. The average household electricity expenditure was well below the benchmark affordability level of 10 percent of the household income or total expenditure in 2008 and 2009 (Silva et al. [2008], Reynaud [2007], Lee, [2007]). However, these numbers were on an increasing trend for the poorest households over the two years, with electricity share in disposable income surpassed the 10-percent threshold for the first time in December 2009. In addition, the proportion of households who reported spending more than 10-percent of budget share on electricity rose to 6.1 percent in 2009 from 4.4 percent in 2008. Figure 4 compares the

24 An UNDP study (Bagdadlioglu etc. 2009) suggests that missing data were likely due to (i) arrears or illegal connections, or (ii) households’ limited usage of electricity during the survey month. Detailed discussion on missing data is provided in paragraph 17.

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budget share of electricity of the bottom income quintile against the 10-percent affordability line in each month of 2008 and 2009. 19. Average electricity consumption in Turkey is well above the basic minimum needs (Table 3). In 2008, 3.6 percent of the population fell below the electricity poverty line of 1,200 kWh of annual consumption, compared with 3.2 percent in 2007. However, electricity poverty rate jumped to 7.1 percent in 2009, almost doubled from 2008. Average electricity consumption of the top four income groups in 2009 slightly declined compare with 2008. On the other hand, no statistically significant reduction in mean households electricity consumption was observed for the bottom quintile, suggesting inelastic price and income demand of the poorest households (Table 3).

Figure 4 Budget share of electricity of the poorest income quintile in 2008 and 2009

Sources: Calculation based on HBS 2008 and 2009

0.00

2.00

4.00

6.00

8.00

10.00

12.00

Budget Shrae of Electricity Expenditure of 

the Bottom In

come Quintile (%)

Month 

Share of Disposable Income Share of Total Expenditure Affodability Benchmark

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97

Table 3 Household Income and Electricity Consumption in 2008 and 2009 Year 2008 2009 Income Quintiles (per capita)

Household per capita annual disposable income (TL)

Household monthly consumption of electricity (kWh)

Household per capita annual disposable income (TL)

Household monthly consumption of electricity (kWh)

Bottom 20% 2960 (933)

239 (182)

3068 (1035)

246 (234)

2 5504 (670)

279 (233)

5836 (675)

254** (184)

3 7913 (730)

306 (224)

8267 (760)

280*** (199)

4 11041 (1165)

326 (242)

11662 (1292)

292*** (203)

Top 20% 22302 (12564)

380 (276)

25280 (18637)

338*** (262)

All 9947 (8805)

312 (241)

10834 (11432)

286*** (221)

Number of Observations

8572 6924 10099 7696

Sources: Calculation based on HBS 2008 and 2009 Note: Standard deviations are in brackets. Income data are not comparable across year without inflation adjustment. *** indicates the difference in electricity consumption between 2008 and 2009 of the income group is statistically significant at 1% level. ** indicates the difference in electricity consumption between 2008 and 2009 of the income group is statistically significant at 5% level. 20. The electricity consumption gap between rich and poor households was less than the income gap, but had been slightly widened since 2007. The Lorenz curve plots the cumulative share of electricity consumption against the cumulative share of households (ranked by income). The further the Lorenz curve lies below the 45 degree line, the line of perfect equality, the more unequal is the distribution of consumption and income. Figure 4 indicates that the electricity consumption and income were skewed towards the non-poor, however, electricity consumption gap only slightly increased from 2007 to 2008 and 2009, while the electricity consumption gap between the poor and non-poor was lower than the income gap in all years.

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Figure 4 Household Income and Electricity Consumption Lorenz Curves (2007, 2008 and 2009)

Sources: Calculation based on HBS 2007, 2008, 2009 Note: The Lorenz curve plots the cumulative share of electricity consumption against the cumulative share of households (ranked by income). The further the Lorenz curve lies below the 45 degree line, the line of perfect equality, the more unequal is the distribution of consumption and income. 21. Poorer households were more likely not to report electricity expenditures. The above results are conditional on the households reporting positive expenditures on electricity. However, in 2007, around 20 percent of the households who participated in the HBS did not report any expenditure on electricity in the past month. The percentage of households who did not report electricity expenditure increases as per capita income decreases, with 38 percent of the households in the lowest quintile and 8 percent of the households in the top quintile having non-positive expenditures. Similar missing-data patterns were also observed in 2003 (Bagdadiogl etc. 2009), 2008 (Table 1) and 2009 (Table 2). A series of test reveals that households who did not report electricity expenditure were systematically different from other households in the bottom quintile: they had lower per capita income and lower per capita total expenditure. Figure 5 depicts the distribution of per capita disposal income and total expenditure for households who did not report electricity expenditures vs. those who reported. As illustrated by the Graph and in more details in Table 4, households who had positive electricity expenditures had higher income and total expenditure at all points of the distribution.

0.2

.4.6

.81

Cum

ulat

ive

shar

e of

inco

me

and

elec

tric

ity c

onsu

mpt

ion

0 .2 .4 .6 .8 1Cumulative population share

Income 2007 Income 2008

Electricity 2007 Electricity 2008

2007 and 2008

0.2

.4.6

.81

Cum

ulat

ive

shar

e of

inco

me

and

elec

tric

ity c

onsu

mpt

ion

0 .2 .4 .6 .8 1Cumulative population share

Income 2007 Income 2009

Electricity 2007 Electricity 2009

2007 and 2009

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Figure 5 Disposable Income and Total Expenditure Distribution: Households with non-positive electricity expenditure vs. Households with positive electricity expenditure

Source: Calculation based on HBS 2008 and 2009 Table 4 Poorer households were more likely to have non-positive electricity expenditures Per Capita Disposable Income Per Capita Total Expenditure

Income Quintiles (per capita)

Households missing Electricity Expenditure Data

Households Reporting Electricity Expenditure

Households missing Electricity Expenditure Data

Households reporting Electricity Expenditure

Bottom 20% 2720*** 3101 157*** 206 2 5413* 5527 286*** 331 3 7902 7915 417 427 4 10948 11052 539 555 Top 20% 19589*** 22490 820*** 954 Sample Size 1648 6924 1648 6924 Sources: Calculation based on HBS 2008 Note: *** indicates the difference between households who did not report electricity expenditure and the households who reported electricity expenditure within the same income quintile is statistically significant at the 1% level. * indicates the difference is significant at the 10% level.

0.2

.4.6

.8D

ensi

ty

0 5 10 15log(total expenditure) log(disposable income)

ln(income) non-positive electrictiy expenditure ln(income) of postive electricity expenditure

ln(expenditure) of non-positive electricity expenditure ln(expenditure) of positive electricity expenditure

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22. Independent of income level, heads of households who did not report electricity expenditures are significantly less educated. Controlling for income and education, households with non-positive electricity expenditure are significantly more likely to live in rural areas; the heads of households are significantly more likely to be out of job during the survey month, without health insurance, with more children, and to be female. Table 5 shows the correlation between the non-reporting behavior and characteristics measuring vulnerability of the poorest households.

Table 5 Correlations of non-reporting behavior with household characteristics Rural

location Having a job

Having Health Insurance

Education Number of children

Gender

Not reporting electricity expenditure

-0.22*** 0.05** -0.04*** -0.11*** .09*** .03***

Source: Calculation based on HBS 2008 and 2009 Note: *** indicates significant at 1% level. ** indicates significant at 5% level. The value of households characteristics are Rural Location: 1 = rural, 2= urban. Having a job (during the survey month): 1 = Yes 2 = No; Having Health Insurance: 0 = No, 1= Yes. Education: lowest value corresponding to illiteracy and highest value corresponding to with a master and doctorate degree. Gender 1 = Male 2 = Female. 23. A UNDP field study on four provinces (Istanbul in both sides of the Bosporus, Cankiri, Kars and Urfa) (Bagdadiogl etc. 2009) suggests the following reasons for households’ not reporting electricity expenditure: (i) households did not pay electricity bills during the survey month due to arrears or illegal connections, and (ii) households had only minimal consumption of electricity. If explanation (i) is generalizable, it means that the poorer and more vulnerable would face a higher effective tariff and would consume proportionally less than they did if proper payments were fully collected. If explanation (ii) is more generalizable, it means that the proportion of households not meeting the basic consumption needs (paragraph 18) was underestimated. 24. However, electricity expenditures might still be affordable for those households who did not report electricity consumption. Assuming consumption level is the same across the groups with positive and non-positive expenditures within the same income quintile, the share of electricity expenditure would be around 6.2 percent of income or 5.1 percent of total expenditure of the poorest households with missing expenditure data in 2008, and 8.1 percent of income or 6.2 percent of total expenditure in 2009. 25. The economic burden of electricity consumption varies among regions. For regional comparison, a combined dataset containing HBS 2007, 2008 and 2009 was obtained from the Turkish Statistic Institute.25 Two regional identifiers are included in the dataset to categorize the

25 Regional identification is only available at the 3-year combined dataset level. In the combined dataset, expenditure values in 2007 and 2008 were inflated to 2009 prices on a monthly basis.

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location of sample households into two regional levels – 12 level-1 regions and 26 level-2 sub-regions. Details of the classification of level 1 and 2 regional units are at the end of the Annex. 26. Table 6 summarizes the household disposable income and electricity consumption pattern on level-1 region level. In Istanbul (TR1) where households had the nation’s highest disposable income, the budget share of electricity was also the lowest, on average 2.6 percent of total household expenditure during 2007-09. Doğu Karadeniz (TR9) region had the highest electricity to total household expenditure ratio – 5.3 percent on average. Following the same pattern, electricity poverty rate ranges between 5.7 percent in Doğu Karadeniz to 0.9 percent in Istanbul. 27. Regional difference is even more striking when comparing the percentage of households who did not report electricity expenses. Almost half of the population in Güneydoğu Anadolu (including Gaziantep, Adıyaman, Kilis, Şanlıurfa, Diyarbakır, Mardin, Batman, Şırnak, Siirt) did not report any electricity spending, compared with 0.9 percent in Istanbul. If missing electricity consumption data is indeed related to arrear or illegal connection as discussed in paragraph 23, cost recovery in the form of improving collections and increasing tariffs will significantly affect some regions more than the others. 28. Within the same region, electricity budget share differs between rural and urban households. The left panel of Figure 6 shows the distribution of electricity budget share across 12 level-1 regions. The cap of each spike indicates average electricity budget share of rural (upper cap) and urban (lower cap) households in each region. Therefore, the height of a spike corresponds to the difference in the ratio of electricity spending in household budget between rural and urban areas. In all regions, rural households had spent a larger share of total expenditure on electricity than urban households. The urban-rural gap was the widest in Batı Anadolu (TR5) and Ortadoğu Anadolu (TRB), where the budget share of rural households was almost twice that of urban households over 2007-09. 29. There is large poor and non-poor gap in electricity budget share within each sub-region. The right panel of Figure 5 shows the value of electricity budget share of households in the bottom (upper cap) and top (lower cap) income quintile in 26 sub-regions. 26 In general, households at the bottom of the income distribution spent larger share of income on electricity than the top income quintile. For example, the poorest households in Malatya, Elazığ, Bingöl, Tunceli(TRB1) and Samsun, Tokat, Çorum, Amasya (TR83), spent between 7.0 to 7.5 percent of total expenditure on electricity, compared with 2.2 percent of the most well-off households in the same sub-region. Overall, poor households in rural areas spend the largest share of income on electricity and are most venerable to rising tariffs.

26 The only exception is seen in Mardin, Batman, Şırnak, and Siirt, where poor households spent 4.8 percent of total expenditure on electricity, compared with 6.2 percent of the rich households. However, this sub-region also had the highest percentage of households who did not respond to inquiries about electricity expenditure.

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Table 4 Household disposable income and electricity consumption patterns by region (2007-09) Level-1 Region

Household per capita annual disposable income (TL)

Household per capita monthly expenditure (TL)

Share of electricity in total expenditure (%)

Electricity poverty rate (%)

% of households missing electricity consumption data

Number of observations

TR1 13856 (9878)

685 (546)

2.6 (1.9)

0.9 7.9 2,977

TR2 10736 (9867)

520 (410)

3.8 (3.2)

3.9 23.0 1,598

TR3 10392 (8133)

522 (400)

3.8 (2.9)

2.6 18.7 4,204

TR4 10560 (8535)

509 (375)

3.4 (2.6)

2.3 14.7 2,529

TR5 13014 (15000)

586 (505)

3.0 (2.3)

1.9 15.4 3,063

TR6 10235 (11727)

490 (465)

3.8 (2.9)

3 17.3 3,252

TR7 8275 (6766)

422 (347)

4.7 (3.4)

3.4 31.4 1,764

TR8 9338 (8188)

428 (346)

4.0 (3.4)

3.4 18.8 2,198

TR9 9668 (8230)

421 (330)

5.3 (4.7)

5.7 19.6 930

TRA 7324 (7935)

351 (385)

4.0 (3.3)

2.8 29.3 1,170

TRB 7457 (7830)

384 (542)

3.9 (3.7)

2.8 34.2 1,261

TRC 5759 (6784)

283 (277)

3.9 (3.6)

2.5 45.2 2,197

Source: Calculation based on combined dataset of HBS 2007, 2008 and 2009 Note: Numbers in this table represent three-year average income, expenditure, budget share and non-response rate of that region during 2007-09. Standard deviations are in brackets. Definition of the regional identification code can be found at the end of the note.

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Figure 6 Distribution of electricity budget share across and within regions

Sources: Calculation based on combined dataset of HBS 2007, 2008 and 2009 Note: In the left panel of the graph, the upper cap of a spike indicates average electricity budget share of rural households in that region, while the lower cap indicates that of urban households. In the right panel of the graph, the upper cap of a spike indicates the share of electricity in total expenditure of the lowest income quintile in that sub-region, while the lower cap indicates that of the top income quintile. The red dot indicates the mean value of electricity budget share in that (sub) region. Definition of (sub) regional identification code can be found at the end of the note. IV. Residential Electricity Demand and Welfare Implications of Pricing Reform 30. The poor were less flexible in adjusting electricity consumption in response to price increases than the non-poor. The 2008 HBS data, and the 2008 and 2009 pooled data were used, respectively, to estimate household electricity demand functions using multivariate regression techniques.27 (Refer to Zhang [2011] for details of estimating the conditional demand model). The model revealed strong differences in the price elasticity of demand across income groups,28 with the poor having lower price elasticity of demand for electricity than the non-poor. 27 There is insufficient variation in electricity prices in 2009 to explore price demand elasticities based solely on 2009 HBS data. 28 Alternative specification considering heterogeneous income elasticities by income quintiles did not reveal significant difference in income elasticieis of different income groups.

0.0

25.0

5.0

75.1

Share

of ele

ctrici

ty in

tota

l house

hold

exp

enditu

re

TR1TR2

TR3TR4

TR5TR6

TR7TR8

TR9TRA

TRBTRC

level-1 region

rural/urban mean

0.0

25.0

5.0

75.1

TR10

TR33

TR61

TR81

TRA2

TRC3

level-2 region

bottom/top mean

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104

A possible explanation is that the poor are more likely to be close to their minimum electricity consumption level and have fewer options for switching to other types of fuel. 31. Analysis of alternative sample data produces stable estimates of demand function. Table 6 summarizes and compares the various estimators of demand determinants obtained by estimating the model using 2008 data and 2008 and 2009 combined data (coefficients of the log of electricity tariff are in the first two columns of Table 8). The comparison suggests that the demand estimators as a group enjoy strong conformity. 32. Out-of-sample forecast suggests that the estimates are also reliable. The demand model from 2008 data is applied to out-of-sample forecasts of electricity consumption in 2009. To evaluate the prediction performance, the root mean square error (RMSEs)29 is calculated for the resulting prediction. For comparison, the regression RMSE on 2008 data is 0.515. The RMSE of the 2009 forecast is 0.548, indicating a fairly good fit of 2008 model to 2009 data. 33. Regression residual analysis further confirms disparate price elasticities of the poor and rich households. Figure 7 is the month-to-month changes of electricity consumption (%) of the bottom and top income quintiles in 2008. They are residual values from estimating demand functions excluding the electricity tariff level and the month. As shown in Figure 7, the percentage change in electricity consumption of the top income quintile was in general much larger than that of the bottom income group, especially during the months of August, October and November. Table 5 Determinants of Log of Household Electricity Demand (kWh) Independent Variables 

Ln(Income)  Air Conditioner 

Rural  Utilized Area  Mobile Phone 

Computer 

2008 Data  0.104** (0.042) 

0.098** (0.027) 

‐0.131*** (0.015) 

0.002*** (0.0002) 

0.045** (0.009) 

0.104*** (0.018) 

2008 and 2009 Pooled Data  

0.107*** (0.017) 

0.079** (0.018) 

‐0.169*** (0.025) 

0.002*** (0.0002) 

0.038** (0.006) 

0.089*** (0.013) 

Independent Variables 

Refrigerator  

Access  to Gas 

Electricity for Central Heating 

Household Size  Constant   

2008 Data  0.177** (0.089) 

‐0.039 (0.032) 

0.346 (0.205) 

0.047*** (0.007) 

3.412*** (0.327) 

 

2008 and 2009 Pooled Data 

0.121** (0.043) 

‐0.045 (0.027) 

0.400** (0.082) 

0.058*** (0.006) 

3.466*** (0.281) 

 

R2  0.2367 / 0.2330#  

Observations  6924 / 14620 # 

Note: Standard errors clustered by price are reported in parentheses. *** indicates significant at the 1% level, ** indicates significant at the 5% level. Reported R2 is the adjusted R2 for OLS. The coefficients of the log of electricity tariff for different income groups are reported in Table 5 and are omitted from this

29 The prediction RMSE is the square root of the variance of the differences between the predicted and the actual 2009 electricity consumption. The regression RMSE is the square root of the variance of the residuals.

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105

table. # indicates adjusted R2 and number of observations of the regression based on 2008 and 2009 pooled Data.

34. As discussed in paragraph 21 poorer households were more likely to have non-positive electricity expenditures, suggesting that the sample selected in the above analysis is not random. The Heckman selection model is used to test for the selection bias. The Heckman selection model yield nearly identical results as those presented in Table 7. Furthermore, both Wald and likelihood ratio tests suggest that the unobserved variables influencing the reporting decision are statistically independent of unobserved factors of the electricity demand. Therefore, sample selection can be ignored conditional on observable household characteristics (See Zhang[2011] for details). 35. Based on the above regression results, all else equal, a 10 percent increase in income will cause electricity consumption to increase by 1.04–1.07 percent. A 10 percent increase in electricity tariff will cause an average household in the bottom income quintile to reduce electricity consumption by 1.83–1.69 percent, and an average household in the top income quintile to reduce electricity consumption by 5.38-3.87 percent. These estimates of income and price elasticities are in the range of elasticities suggested in the literature (World Bank, 2004). However, it should be noted that because of the missing data issue discussed in paragraph 16, the estimated income elasticity and price elasticities of the poorer households are likely to be biased. Specifically, the price elasticities are likely to be underestimated. Figure 7 Month-to-month Electricity Consumption Change (%) of the Bottom and Top Income Quntiles in 2008

-0.2

-0.15

-0.1

-0.05

0

0.05

0.1

0.15

0.2

0.25

1 2 3 4 5 6 7 8 9 10 11 12

Reg

ress

ion

Res

idua

lM

onth

-by-

mon

th C

onsu

mti

on C

hang

e (%

)

Month (Year 2008)

Bottom 20%

Top 20%

Note: The y-axis represents the estimated month-to-month changes of electricity consumption (%). They are residual values for bottom and top income quintiles from estimating demand functions excluding the electricity tariff level and the month.

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36. Low-income households experienced a greater welfare loss than higher-income households. Based on price elasticities estimated from 2008 sample, the welfare loss from the price increases in 2008, approximated by consumer surplus change, is estimated to be 164 TL for an average bottom income quintile household, or 2.16 percent of household disposable income, compared with 330 TL, or 0.75 percent of disposable income for the top quintile. Based on results using the pooled sample, in 2009, the welfare loss of households given an accumulative 10 percent price increase is 42 TL for an average bottom quintile households, or 0.55 percent of household disposable income, and 82 TL for an average top quintile household, or 0.17 percent of the household disposable income. Table 8 summarizes the estimated welfare loss across income groups. It is to be noted that consumer surplus change is greater than financial loss, because it also captures the welfare loss from reduced consumption. Table 8 Consumer Surplus Change from 2008 and 2009 Tariff Increase Income Quintile  (per capita) 

Price Elasticities  Financial Loss  Consumer Surplus  Change (TL) 

Welfare  loss  as  a %  of  Household Income 

2008 Sample 

Pooled Sample 

2008  2009  2008  2009  2008  2009 

Bottom 20% ‐0.183 (0.076) 

‐0.169 (0.082) 

158  41.9  164  42.3  2.16  0.55 

2 ‐0.174 (0.104) 

‐0.266 (0.072) 

161  34.7  167  35.1  1.32  0.26 

3 ‐0.305 (0.204) 

‐0.224 (0.159) 

216  51.7  231  52.2  1.30  0.29 

4 ‐0.379 (0.170) 

‐0.333 (0.144) 

260  63.8  282  64.7  1.19  0.26 

Top 20% ‐0.538 (0.218) 

‐0.387 (0.179) 

295  80.1  330  81.5  0.75  0.17 

Note: Standard errors clustered by price are reported in parentheses. Financial loss and consumer surplus change are estimated results for a representative household in the relevant income quintile.

37. The expected welfare impact of future electricity tariff adjustments is low. Significant changes in electricity prices are not expected, due to a number of reasons: (1) the prices for natural gas – the dominant generation fuel and the main determinant of electricity prices - are projected to remain flat throughout this decade (WB projection, Figure 8); (2) electricity prices under the BOT and BOO contracts signed in the 1990s were frontloaded and will be declining throughout this decade; (3) generation privatizations may include multi-year electricity sale agreements under which the bulk of the electricity generated will initially be purchased by TETAŞ and the distribution companies. Move to fully market-based pricing and sales to the electricity market PMUM will take place progressively over time as the volume under the electricity sales agreements declines. This approach is designed to facilitate a smooth

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107

transition from EUAŞ to market. In addition, the welfare cost of future price increases would be further reduced in the long term as households are more flexible in adjusting their consumption patterns and taking advantage of energy saving opportunities including more efficient lighting and appliances. Figure 8 Real Average Natural Gas Border Price, Europe (2000 $) ($/mmbtu)

0.00

2.00

4.00

6.00

8.00

10.00

12.0020

03

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

Rea

l Ave

rage

Nat

ural

Gas

Pri

ce,

Eu

rope

(20

00 $

/mm

btu

)

Year

Source: World Bank DECPG Commodity Price Forecast, January 2010. V. Social Assistance Programs in Turkey 38. To mitigate the potential welfare impact of pricing reform, the Government is relying on general social assistance programs, rather than sector-specific measures. This section evaluates the coverage and targeting performance of existing social assistance programs, especially their effects on the poor, and those that are most vulnerable to future tariff increases and improved collection. 39. There are four major social assistance programs in Turkey: old-age/disability benefits, conditional cash transfer, family and children’s benefits, and the Green Card program. The Green Card program, which covers medical expenses of the poor who are not registered with social security institutions, is the largest social assistance program, accounting for about 85 percent of the social assistance budget. (Aran and Hentschel, 2008). 40. The Green Card Program is effective at reaching the vulnerable. Figure 5 shows the share of households in different income segment that benefit from the Green Card Program. Figure 5 also compares the coverage among households who reported electricity expenditure vs. those who did not. About 75 percent households in the bottom 40 percent income distribution receive Green Card during 2008-09. Furthermore, households who did not have positive

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electricity expenditures are consistently better covered across all income quintiles. As discussed in paragraphs 21-23, non-reporting households are likely to be more vulnerable to the tariff reform. 41. Social assistance transfers benefit the poor and vulnerable more than the non-poor. Figure 10 illustrates the percentage of households receiving income transfer under other social assistance programs. The size of the bubble is proportional to the share of social assistance transfer in household disposable income. Calculation suggests that the social transfers are being allocated progressively – the poorer received higher social benefits in absolute terms and with higher coverage. Additionally, the more vulnerable group, plotted on the left side of Figure 10, have higher percentage of beneficiaries and higher level of benefits than their peers in the same income group who reported electricity expenditure.

Figure 9. Coverage of Green Card Program

Source: Calculation based on HBS 2008 and 2009 Figure 10 Targeting and Coverage of other Social Assistance Programs

0%

5%

10%

15%

20%

25%

30%

35%

40%

1 2 3 4 5 Total

Coverage

 (%

 of population covered by Green Card 

Program)

Income Quintile (1 = Bottom , 5 = Top)

Reporting HH

Non‐reporting HH

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109

Source: Calculation based on HBS 2008 and 2009 Note: The size of the bubble is proportional to the average share of social assistance transfer in household disposable income. Light blue indicates households who did not report positive electricity expenditures. Based on data available, the social assistance transfers considered include old-age benefits, transfer in cash-scholarship from government, direct transfer/electricity, gas, water payment from government, income-in-kind from government. Data Description The 2008 HBS was conducted on a total of monthly 720 and annually 8640 sample households for a year period between 1 January – 31 December 2008. The survey followed different sample households alternately each month. That is, information about consumption expenditures and income of the first 720 households were collected in January. In February, the survey was carried out on a different set of 720 households. This rotation continued until the end of December and totally 8640 households were interviewed. The 2009 HBS followed the same methodology but the size of the survey was expanded to contain monthly 1050 and annually 12600 sample households. Classification of Statistical Regional Units Level - 1 Level -2

TR1 İstanbul TR10

"İstanbul"

TR2 Batı Marmara TR21 Tekirdağ, Edirne, Kırklareli TR22 Balıkesir, Çanakkale

TR3 Ege TR31 İzmir TR32 Aydın, Denizli, Muğla TR33 Manisa, Afyonkarahisar, Kütahya, Uşak

TR4 Doğu Marmara TR41 Bursa, Eskişehir, Bilecik TR42 Kocaeli, Sakarya, Düzce, Bolu, Yalova

TR5 Batı Anadolu TR51 Ankara

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110

TR52 Konya, Karaman

TR6 Akdeniz TR61 Antalya, Isparta, Burdur TR62 Adana, Mersin TR63 Hatay, K.Maraş, Osmaniye

TR7 Orta Anadolu TR71 Kırıkkale, Aksaray, Niğde, Nevşehir, Kırşehir TR72 Kayseri, Sivas, Yozgat

TR8 Batı Karadeniz TR81 Zonguldak, Karabük, Bartın TR82 Kastamonu, Çankırı, Sinop TR83 Samsun, Tokat, Çorum, Amasya

TR9 Doğu Karadeniz TR90 Trabzon, Ordu, Giresun, Rize, Artvin, Gümüşhane

TRA Kuzeydoğu Anadolu TRA1 Erzurum, Erzincan, Bayburt TRA2 Ağrı, Kars, Iğdır, Ardahan

TRB Ortadoğu Anadolu TRB1 Malatya, Elazığ, Bingöl, Tunceli TRB2 Van, Muş, Bitlis, Hakkari

TRC Güneydoğu Anadolu TRC1 Gaziantep, Adıyaman, Kilis TRC2 Şanlıurfa, Diyarbakır TRC3 Mardin, Batman, Şırnak, Siirt

References Aran M. and Hentschel, J. 2008. Household level health expenditures and health insurance coverage of the poor in Turkey. Mimeo. World Bank Washington DC. Bagdadlioglu, N., Basaran, A., Kalaycioglu, S., and Pinar, A. 2009. Integrating Poverty in Utilities Governance. United Nations Development Programme Report. Ankara Turkey. Silva, P., Klytchniova, I., Radevic, D. 2009. “Poverty and environmental impacts of electricity price reforms in Montenegro.” Utilities Policy, 17 (1): 102–113 World Bank. 2004. Azerbaijan Raising Rates: Short-Term Implications of Residential Electricity Tariff Rebalancing. World Bank Publication Report No. 30749-AZ. Washington DC. Zhang, F. 2011. Distributional Impact Analysis of the Energy Price Reform in Turkey. World Bank Policy Research Working Paper 5831. Washington DC.

111

ANNEX 6: COUNTRY AT A GLANCE (includes country map)

112

113

TuzTuzGölüGölü

HoyranHoyranGölüGölü

BaysehirBaysehirGölüGölü

AksehirAksehirGölüGölü

Çoruh

Murat

Kura

Firat

Sakarya

Devrez

Kizil

Cekerek

Kizil

Seyh

an

Göksu Ceyh

an

Kelkit

Kuzey Anadolu Daglari

Toros Daglari KaramanKaraman

KonyaKonya

AksarayAksaray

NigdeNigde

NevsehirNevsehir KayseriKayseri

MalatyaMalatya

AdiyamanAdiyaman

ElazigElazig

TunceliTunceli

ErzincanErzincan

BingölBingölMusMus

BitlisBitlis

DiyarbakirDiyarbakir BatmanBatman SiirtSiirt

SirnakSirnakMardinMardin

HakkariHakkari

VanVan

AgriAgriIgdirIgdir

ErzurumErzurum

KarsKars

ArtvinArtvin

RizeRize

GümüshaneGümüshaneBayburtBayburt

GiresunGiresun

TokatTokat

SivasSivas

AmasyaAmasya

KastamonouKastamonou

ÇankiriÇankiri

KarabükKarabük

BoluBoluSakaryaSakarya(Adapazari)(Adapazari)

KocaeliKocaeli(Izmit)(Izmit)

BilecikBilecik

EskisehirEskisehir

KütahyaKütahya

BursaBursa

YalovaYalova

IstanbulIstanbulTekirdagTekirdag

EdirneEdirneKirklareliKirklareli

ÇanakkaleÇanakkale

BalikesirBalikesir

ManisaManisaIzmirIzmir UsakUsak

AydinAydin

DenizliDenizliBurdurBurdur

IspartaIsparta

AfyonAfyon

AntalyaAntalya

MuglaMugla

KirikkaleKirikkale

ÇorumÇorum

YozgatYozgat

KirsehirKirsehir

AdanaAdana

OsmaniyeOsmaniye

KahramanKahraman Maras Maras

GaziantepGaziantep

KilisKilis

SanliurfaSanliurfa

ArdahanArdahan

ANKARAANKARA

Aras

DüzceDüzce

SYRIAN ARABSYRIAN ARABREPUBLICREPUBLIC

IRAQIRAQ

ARMENIAARMENIA

GEORGIAGEORGIA

BULGARIABULGARIARUSSIAN FEDERATIONRUSSIAN FEDERATION

AZER-AZER-BAIJANBAIJAN

AZER.AZER.

To To BatumiBatumi

To To KirovakanKirovakan

ToToMakuMaku

ToToSalmasSalmas

ToToOroumiehOroumieh

ToToDahukDahuk

To DamirTo DamirKabuKabu

ToToAl HasakahAl Hasakah

ToToAleppoAleppo

ToToBurgasBurgasToTo

KurdzhaliKurdzhali

Karaman

Konya

Aksaray

Nigde

Nevsehir Kayseri

Malatya

Adiyaman

Elazig

Tunceli

Erzincan

BingölMus

Bitlis

Diyarbakir Batman Siirt

SirnakMardin

Hakkari

Van

AgriIgdir

Erzurum

Kars

Artvin

RizeTrabzon

GümüshaneBayburt

Giresun

Ordu

Tokat

Sivas

Amasya

Samsun

Sinop

Kastamonou

Çankiri

Karabük

BartinZonguldak

Bolu

Düzce

Sakarya(Adapazari)

Kocaeli(Izmit)

Bilecik

Eskisehir

Kütahya

Bursa

Yalova

IstanbulTekirdag

EdirneKirklareli

Çanakkale

Balikesir

ManisaIzmir Usak

Aydin

DenizliBurdur

Isparta

Afyon

Antalya

Mugla

Kirikkale

Çorum

Yozgat

Kirsehir

Icel(Mersin)

Adana

Hatay (Antakya)

Osmaniye

Kahraman Maras

Gaziantep

Kilis

Sanliurfa

Ardahan

ANKARA

SYRIAN ARABREPUBLIC

IRAQ

ISLAMICREP. OFIRAN

ARMENIA

GEORGIA

BULGARIARUSSIAN FEDERATION

AZER-BAIJAN

AZER.

GRE

ECE

GREECE

TuzGölü

HoyranGölü

BaysehirGölü

AksehirGölü

Lake Van

Çoruh

Murat

Kura

Aras

Firat

Tigris

Euphrates

Sakarya

Devrez

Kizil

Cekerek

Kizil

Seyh

an

Göksu Ceyh

an

Kelkit

B lack Sea

Medi terranean Sea

Sea ofMarmara

Gulf ofAntalya

Istanbul Strait(Bosphorus)

ÇanakkaleStrait

(Dardanelles)

To Batumi

To Kirovakan

ToMaku

ToSalmas

ToOroumieh

ToDahuk

To DamirKabu

ToAl Hasakah

ToAleppo

To Ladhiqiyah

ToBurgasTo

Kurdzhali

ToKomatini

Kuzey Anadolu Daglari

Toros Daglari

Agri Dagi(5166 m)

26°E 28°E 30°E 32°E 34°E 36°E 38°E

42°E 44°E30°E28°E 32°E 34°E

36°N

38°N

40°N

42°N

40°N

42°N

TURKEY

This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other informationshown on this map do not imply, on the part of The World BankGroup, any judgment on the legal status of any territory, or anyendorsement or acceptance of such boundaries.

0 50 150100

0 50 100 150 Miles

200 Kilometers

IBRD 33501R2

JULY 2008

TURKEYPROVINCE CAPITALS*

NATIONAL CAPITAL

RIVERS

MAIN ROADS

RAILROADS

PROVINCE BOUNDARIES*

INTERNATIONAL BOUNDARIES

*Province names are the same as their capitals.