2005 INVESTMENT CLIMATE STATEMENT FOR TURKEY

UNCLAS SECTION 01 OF 06 ANKARA 000254

SIPDIS

STATE FOR EB/IFD/OIA
TREASURY FOR OASIA
DEPT PLEASE PASS USTR
FAS FOR ITP/PAUL SPENCER
USDOC FOR ITA/MAC/DDEFALCO

E.O. 12958: N/A
TAGS: EINV KTDB EFIN TU
SUBJECT: 2005 INVESTMENT CLIMATE STATEMENT FOR TURKEY

Ref: STATE 250356

This is the second of two cables transmitting the 2005
Investment Climate Statement for Turkey:


9. EFFICIENT CAPITAL MARKETS AND PORTFOLIO INVESTMENT

The government has taken a number of important steps in
recent years to strengthen and better regulate the banking
system, whose weaknesses had contributed to macroeconomic
instability over the previous decade and played an important
role in the 2000-2001 financial crisis.

A 1999 banking law established an independent Banking and
Regulation and Supervision Agency (BRSA) to monitor and
supervise Turkey's banks. The BRSA, which began functioning
in 2000, is headed by a board whose seven members are
appointed by the cabinet for six-year terms. The law's
provision's also toughened conditions for establishing new
banks or branches, set credit limits to protect bank
solvency, and strengthen regulatory and sanctioning powers,
including authorizing the board to merge weak banks with
stronger ones.

The law also created an independent deposit insurance
agency, the State Deposit Insurance Fund (SDIF). Until
2004, BRSA and SDIF had the same board and shared staff and
offices, though they were separate legal entities. Since
the beginning of 2004, BRSA and SDIF's boards and staffing
have been separated and SDIF's headquarters moved to
Istanbul.

During and after the 2000-2001 financial crisis, many
Turkish banks became insolvent or undercapitalized, and
SDIF, in coordination with BRSA, took over 21 financial
institutions. This includes Imar Bank, which was taken over
on July 4, 2003. The SDIF has recapitalized these banks,
and has been selling or liquidating them, at the same time
as it is negotiating repayment agreements from the banks'
former owners covering these banks' portfolio of credits to
affiliated companies. The BRSA also has issued a regulation
limiting the extent of connected lending (between a bank and
related corporate entities) and requiring frequent BRSA on-
site monitoring.

In early 2005, the government is preparing a new banking law
that helps to bring the bank regulatory framework in line
with European Union norms. Once enacted, the new law is
expected to further tighten bank regulation, notably by
broadening the range of expertise inspectors can draw on
when conducting on-site inspections.

Following the 2001 crisis, the government restructured state-
owned banks, minimizing the scope for political
interference, liquidating one of the banks, and slating
these banks for eventual privatization. However, the
process of privatizing the three remaining state-owned banks
has stalled.

Because of high local borrowing costs and short repayment
periods, both foreign and local firms frequently seek credit
from international markets to finance their activities. As
of end-2004, there were 48 commercial banks (including 12
foreign banks) and 14 development or investment banks
operating in Turkey. Total sectoral assets were
approximately USD 184 billion, or about 70 percent of GNP,
as of July 2004 according to data from the Banking
Regulation and Supervision Board. The three state-owned
commercial banks and the top 4 privately-capitalized banks
hold approximately 74 percent of total assets.

There is a regulatory system established to encourage and
facilitate portfolio investments, though it needs
improvements in transparency, accounting, and enforcement
provisions to bring it up to EU and U.S. standards. The
Istanbul Stock Exchange (ISE),formed in 1986, is becoming a
significant emerging market stock exchange. As of January
2005, 276 companies were listed on the exchange. However,
Turkey has yet to develop other capital markets. The
Capital Markets Board is responsible for overseeing the
activities of capital markets, including activities of ISE-
quoted companies, and securities and investment houses. A
new Capital Markets Law is under consideration.

The Turkish private sector is dominated by a number of large
holding companies, whose upper management is family-
controlled. Most large businesses continue to float
publicly only a minority portion of company shares in order
to limit outside interference in company management. There
has been no attempt at a hostile takeover by either
international or domestic parties in recent memory.

There are no laws or regulations that specifically authorize
private firms to adopt articles of incorporation or
association in order to limit or prohibit foreign
investment, participation, or control. Neither is there any
attempt by the private sector or government to restrict
foreign participation in industry standard-setting consortia
or organizations.


10. POLITICAL VIOLENCE

Terrorist bombings -- some with significant numbers of
casualties -- over the past two years have struck religious,
political, and business targets in a variety of locations in
Turkey. The potential remains throughout Turkey for violence
and terrorist actions against U.S. citizens and interests,
both by transnational and indigenous terrorist
organizations.
In November 2003 the Al-Qa'ida network was responsible for
four large suicide bombings in Istanbul that, among other
targets, hit western interests. Indigenous terrorist groups
also continue to target Turkish as well as U.S. and Western
interests. In June 2004 the indigenous terrorist group
PKK/KADEK/KONGRA GEL announced an end to their "unilateral
ceasefire." Since the announcement, there have been
repeated attacks against Turkish targets in the southeast
region of Turkey, where the group has traditionally
concentrated its activities. In addition, there have been
bombings and other incidents in Istanbul, Bodrum, Antalya,
and Mersin. Other terrorist groups, including the Turkish
group Revolutionary People's Liberation Party/Front
(DHKP/C),continue to target Turkish officials and various
civilian facilities and may use terrorist activity to make
political statements. In 2002, 2003, and 2004, civilian
venues such as courthouses and fast food restaurants were
the targets of minor bomb attacks, which have resulted in
small numbers of casualties among bystanders. Similar,
random bombings are likely to continue in unpredictable
locations. Americans traveling to Southeastern Turkey, the
site of PKK/KADEK/KONGRA GEL actions, should exercise
caution.

Although the Turkish government takes air safety seriously
and maintains strict controls, particularly on international
flights, hijacking attempts have occurred as recently as

2003. For the latest security information on Turkey and
throughout the world, travelers should monitor the State
Department web site http://travel.state.gov, where the
current Worldwide Caution Public Announcement, Travel
Warnings, and Public Announcements can be found.


11. CORRUPTION

CORRUPTION IS PERCEIVED TO BE A MAJOR PROBLEM IN
TURKEY BY PRIVATE ENTERPRISE AND THE PUBLIC AT LARGE,
PARTICULARLY IN GOVERNMENT PROCUREMENT. AMERICAN
COMPANIES OPERATING IN TURKEY HAVE COMPLAINED ABOUT
BEING SOLICITED, WITH VARYING DEGREES OF PRESSURE, BY
MUNICIPAL OR LOCAL AUTHORITIES FOR "CONTRIBUTIONS TO
THE COMMUNITY". PARLIAMENT CONTINUES TO PROBE
CORRUPTION ALLEGATIONS INVOLVING SENIOR OFFICIALS IN
PREVIOUS GOVERNMENTS, PARTICULARLY IN CONNECTION WITH
ENERGY PROJECTS. IN 2003, AFTER THE GOVERNMENT
INTERVENED IN A BANK OWNED BY THE UZAN GROUP,
EVIDENCE OF CORRUPT PRACTICES AT THE BANK EMERGED.
Recent public procurement reforms were designed to make
procurement more transparent and less susceptible to
political interference, including through the establishment
of an independent public procurement board with the power to
void contracts. The judicial system is also perceived to be
susceptible to external influence and to be biased against
outsiders to some degree.

Turkish legislation outlaws bribery and some prosecutions of
government officials for corruption have taken place, but
enforcement is uneven. Turkey ratified the OECD Convention
on Combating Bribery of Public Officials, and passed
implementing legislation in January 2003 to provide that
bribes of foreign officials, as well as domestic, are
illegal and not tax deductible. In 2003, Turkey signed the
UN Convention Against Corruption.
The Prime Ministry's Inspection Board, which advises a new
Corruption Investigations Committee, is responsible for
investigating major corruption cases. Nearly every state
agency has its own inspector corps responsible for
investigating internal corruption. The National Assembly
can establish investigative commissions to examine
corruption allegations concerning Cabinet Ministers for the
Prime Minister; a majority vote in the parliament is needed
to send these cases to the Supreme Court for further action.

Transparency International has an affiliated NGO in
Istanbul.


12. BILATERAL INVESTMENT AGREEMENTS

Since 1985, Turkey has been negotiating and signing
agreements for the reciprocal promotion and protection of
investments. Turkey has signed or initiated negotiations on
bilateral investment treaties with 69 countries. Fifty-two
of these agreements are now in force, including with the
United States, United Kingdom, Germany, the Netherlands,
Belgium, Luxembourg, Denmark, Austria, Sweden, Switzerland,
Spain, Finland, Italy, Portugal, Hungary, Poland, Romania,
Tunisia, Kuwait, Bangladesh, China, Japan, South Korea,
Indonesia, Croatia, Cuba, the Czech Republic, Estonia,
Russian Federation, Azerbaijan, Kazakhstan, Georgia,
Tajikistan, Ukraine, Uzbekistan, Belarus, Lithuania, Latvia,
Slovakia, Macedonia, Pakistan, Turkmenistan, Moldova,
Kyrgyzstan, Albania, Bulgaria, Argentina, Bosnia, Malaysia,
Egypt, Mongolia, Greece and Israel.

Turkey's bilateral investment treaty with the United States
came into effect on May 18, 1990. A bilateral tax treaty
between the two countries took effect on January 1, 1998.
Turkey has signed avoidance of double taxation agreements
with 59 countries; 39 of these are in force.


13. OPIC AND OTHER INVESTMENT INSURANCE PROGRAMS

The Overseas Private Investment Corporation (OPIC) offers a
full range of programs in Turkey, including political risk
insurance for U.S. investors, under its bilateral agreement
with Turkey. OPIC is also active in financing private
investment projects implemented by U.S. investors in Turkey.
OPIC-supported direct equity funds, including the USD 200
million Soros Private Equity Fund can make direct equity
investments in private sector projects in Turkey. Small-
and medium-sized U.S. investors in Turkey are also eligible
to utilize the new Small Business Center facility at OPIC,
offering OPIC finance and insurance support on an expedited
basis for loans from USD 100,000 to USD 10 million. In
1987, Turkey became a member of the Multinational Investment
Guarantee Agency (MIGA).

The U.S. Government annually purchases approximately USD 24
million of local currency. Embassy purchases are made at
prevailing market rates, which fluctuate in accordance with
Turkey's free floating exchange rate regime.


14. LABOR

The Turkish labor force numbers 25.3 million (22.9 million
employed and 2.4 million unemployed); 35.9 percent of the
workforce is in agriculture. The official unemployment rate
was 9.5 in the third quarter of 2004.

Students are required to complete eight years of schooling
and to remain in school until they are 15 years old. Turkey
has an abundance of unskilled and semi-skilled labor.
However, there is a shortage of qualified workers for highly
automated high-tech industries. Individual high-tech firms,
both local and foreign-owned, have generally conducted their
own training programs for such job categories. Vocational
training schools for some commercial and industrial skills
exist in Turkey at the high school level. Apprenticeship
programs, both formal and informal, remain in place,
although they are dying out in some traditional occupations.
Turkey's labor force has a reputation for being hardworking,
productive and dependable.

Labor-management relations have been generally good in
recent years. Employers are obliged by law to negotiate in
good faith with unions that have been certified as
bargaining agents. Strikes are usually of short duration
and almost always peaceful. Since 1980 Turkey has faced
criticism by the ILO, particularly for shortcomings in
enforcement of ILO Convention 87 (Convention concerning
Freedom of Association and Protection of the Right to
Organize) and Convention 98 (Convention concerning the
Application of the Principles of the Right to Organize and
to Bargain Collectively).

IN 2002, PARLIAMENT APPROVED A JOB SECURITY BILL, PROVIDING
BASIC JOB SECURITY FOR WORKERS AND REQUIRING A VALID REASON
FOR THE TERMINATION OF THE LABOR CONTRACT AT THE INITIATIVE
OF THE EMPLOYER. THE LAW CAME INTO EFFECT ON 15 MARCH 2003.
IN 2003, THE LABOR LAW OF 1971 (NO.1475) WAS REPLACED BY A
NEW LABOR LAW (NO.4857),WHICH PROVIDED EMPLOYERS WITH
GREATER FLEXIBILITY IN THE ORGANIZATION OF WORK AND WEAKENED
TO A CERTAIN EXTENT THE JOB SECURITY PROVIDED BY THE 2002
LAW.

In 1995 and 2001, constitutional amendments reduced
restrictions on freedom of association and political
activity of trade unions. However, the restrictions on the
right to strike under Article 54 of the Constitution were
preserved intact. Under the Law on Collective Labor
Agreements, Strikes and Lockouts, some restrictions on the
right to strike were repealed in 1988. Civil servants
(defined broadly as all employees of central government
ministries, including teachers) are allowed to form trade
unions and to engage in limited collective negotiations, but
are prohibited from striking.


15. FOREIGN TRADE ZONES/FREE PORTS

Firms operating in Turkey's free zones have historically
enjoyed many advantages, but these will be limited in the
future by recent legislation. Twenty-one zones have been
established since passage of the Turkish law on free zones
in 1985. The zones are open to a wide range of activities,
including manufacturing, storage, packaging, trading,
banking, and insurance. Foreign products enter and leave
the free zones without payment of any customs or duties.
Income generated in the zones is exempt from corporate and
individual income taxation and from the value-added tax, but
firms are required to make social security contributions for
their employees. Additionally, standardization regulations
in Turkey do not apply to the activities in the free zones,
unless the products are imported into Turkey. Sales to the
Turkish domestic market are allowed, with goods and revenues
transported from the zones into Turkey subject to all
relevant import regulations. There are no restrictions on
foreign firms operations in the free zones. Indeed, the
operator of one of Turkey's most successful free zones
located in Izmir is an American firm.

Law 5084 revised the free zones law to effectively eliminate
certain income and corporate tax immunities for the zones.
Under the new rules, taxpayers who possessed an operating
license as of February 6, 2004 will not have to pay income
or corporate tax on their earnings in the zone for the
duration of their license. Earnings based on sale of goods
manufacturing in a zone will be exempt from income and
corporate tax until the end of the year in which Turkey
becomes a member of the European Union. Earnings secured in
a free zone under corporate tax immunity and paid as
dividends to real person shareholders in Turkey or to real
person or legal-entity shareholders abroad will be subject
to 10 percent withholding tax. The tax immunity of the wage
and salary income earned by persons employed in the zones by
taxpayers possessing an operating license as of February 6,
2004 will remain in effect until December 31, 2008, or the
expiration date of the operating license, whichever is
earlier. The implications of the new rules are complex, and
interested parties may want to consult with a tax advisor
and/or the Foreign Trade Undersecretariat (web site:
www.dtm.gov.tr).


16. FOREIGN DIRECT INVESTMENT STATISTICS
With the foreign investment permit requirement in place
until 2003, the Turkish Treasury collected detailed sectoral
and country of origin data for authorized FDI. Data
collected since the abolition of the permit requirement, by
the Central Bank and other entities, may not be directly
comparable to data collected prior to 2003.

According to Turkish Treasury data, as of June 2003, there
are 6,511 foreign firms invested and are operating in
Turkey. The Turkish government has provided permits for
foreign capital since 1980 amounting to USD 35.2 billion,
and aggregate actual inflows reached USD 16.4 billion. In
2003, EU countries accounted for 74.3 percent of authorized
new foreign investment, OECD countries accounted for 93.7
percent, and Islamic countries for 3.7 percent. Over the
past two decades, France (16.4 percent) has been the top
source of foreign investment, followed by the Netherlands
(15.8 percent),Germany (13.0 percent) and the U.S. (11.5
percent) (Note that these figures are based on the amount
of authorized investment, not on actual capital inflows.)
Because of the absence of a bilateral tax treaty until 1998,
much U.S.-origin capital was invested in Turkey through
third-country subsidiaries. According to U.S. Commerce
Department data, U.S. company investment amounted to about
USD 2 billion in 2003. By unofficial estimates, the U.S.
may be one of the largest sources of foreign investment in
Turkey.

In 2003, about 58.9 percent of authorized foreign investment
took place in manufacturing, 30.23 percent in services, 10.3
percent in mining and 0.6 percent in agriculture. The sub-
sectors with the greatest amount of authorized foreign
investment include banking (10.6 percent); communications
(9.4 percent); food, beverage and tobacco processing (8.0
percent); and trade (6.5 percent). Between 1980 and June
2003, 53.0 percent of actual capital inflows were invested
in manufacturing, 44.0 percent in services, 1.8 percent in
agriculture, and 1.2 percent in mining. The finance and
communications sectors received the highest share of
increased foreign direct investment permits in 2003.

FDI Inflow by Years (million USD)

Year Actual Inflow/GDP No firms
Inflow (Cumulative)
1980-1988 1,172
1989 663 0.80 1,525
1990 684 0.67 1,856
1991 907 0.69 2,123
1992 911 0.78 2,330
1993 746 0.56 2,554
1994 636 0.64 2,830
1995 934 0.66 3,163
1996 914 0.53 3,582
1997 852 0.54 4,068
1998 953 0.49 4,533
1999 813 0.41 4,950
2000 1,707 0.85 5,328
2001 3,288 2.21 5,841
2002 1,042 0.48 6,280
2003 1,702 0.71 6,511
2004(*) 2,216 1.02 N/A

TOTAL 20,140 6,511

Source: Central Bank of Turkey, State Institute of
Statistics,
(*)January through November 2004.
(**) Includes capital inflows, foreign loans and real estate
investment.

FDI Inflow by Source Country (1999-2002/ million USD)

Country Cumulative Value Share (percent)

Italy 1,968 30.9
Netherlands 962 15.1
U.S.A. 793 12.4
United Kingdom 647 10.1
Germany 514 8.1
Bahrain 323 5.1
Japan 267 4.2
France 263 4.1
Switzerland 104 1.6
Belgium-Luxemburg 25 0.4
Spain 23 0.4
Others 488 7.7
Total 6,377 100.0

Source: Turkish Treasury Undersecretariat, General
Directorate of Foreign Investment. Updated information has
not been issued for the period following 2002.
Sectoral Breakdown of FDI Permits (1980-2003*/ million USD)
Sector Cumulative Value Share (percent)

Manufacturing 18,641 53.0
Services 15,453 44.0
Agriculture 616 1.8
Mining 442 1.2

Total 35,152 100.0

Source: General Directorate of Foreign Capital
(*) as of June 2003


Main Manufacturing Industry Sub-Sectors Receiving FDI
Permits

Industry Sub-Sector Share in Manufacturing
Industry (percent)*

Chemical Products 18.3
Food 14.7
Transport Equipment 12.3
Electrical Machinery 5.8
Garment Industry 3.9
Iron and Steel 3.4

Source: General Directorate of Foreign Capital
(*) as of June 2003

Turkey's External Investment by Country (As of December
2004)

Country Amount Share
(USD millions)
Netherlands 2,248.8 34.8
Azerbaijan 1,043.6 16.1
United Kingdom 524.2 8.1
Germany 472.1 7.2
Kazakhstan 434.5 6.7
Luxembourg 248.7 3.9
United States 179.8 2.8
Russia 159.7 2.5
France 93.4 1.4
Switzerland 84.9 1.3
Others 976.5 15.1

Total 6,466.2 100.0

Source: General Directorate of Banking and Foreign Exchange,
Treasury

Major foreign investors

Turkey's foreign investors include Telecom Italia, Renault,
Toyota, Fiat, Castrol, Enron Power, Citibank, Pirelli Tire,
Unilever, RJR Nabisco, Philip Morris, United Defense, Honda,
Hyundai, Bosch, Siemens, DaimlerChrysler, Chase Manhattan,
AEG, Bridgestone-Firestone, Cargill, Novartis, Coca Cola,
Colgate-Palmolive, General Electric, ITT, Ford Motor Co.,
Lockheed Martin, Goodyear, Aventis, McDonald's, Nestle,
Mobil, Pepsi, Pfizer, Procter and Gamble, InterGen, Abbot
Laboratories, Aria, Bechtel, Shell, Delphi-Packard,
Toreador/Madison Oil, AES, GE, NRG, Normandy Mining, Marsa-
Kraft-Jacobs Suchard, ESBAS A.S., Archer Daniels Midland,
Merck, Sharp Dohme, Bunge, and Bausch and Lomb.
Edelman