Turkish Economy in Global Competition

1. Turker Hamzaoglu Economist & Strategist, Turkey, MENA Tel: +44 207 996 2417 turker_hamzaoglu@ml.com 28 June 2007 Turkish Economy in Global Competition Merrill Lynch does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Refer to important disclosures at the end of this report. Analyst Certification on page 18. Global Securities Research & Economics Group. Global Fundamental Equity Research Department.

2. Turkish Economy in Global Competition • A window of opportunity has been opened for Turkey to tap its huge potential: • Political stability • EU accession • Economic Program • Tailwinds from global macro backdrop • Period ahead is more challenging • Smaller margins for policy errors • Turning back to headwinds from tailwinds • Turkey lags EM in addressing its macro imbalances • Budget as a fiscal tool for medium term policy making • Infrastructure investments are the next big theme

3. Competitiveness and sustainable growthWhat is the magic formula? • Competitiveness : “ability to create welfare” • investments • entrepreneurship • technological progress • R &D • geographic location • ICT • rule of law • natural resources • freedom of expression • good governance • division of labour • market economy • democratic rights • demographics • macroeconomic stability • human capital • openness • labour market • institutions • FDI • innovation • education • health • macroeconomic stability • infrastructure • market economy

4. Global Competitiveness IndexA Comprehensive Approximation Global Competitiveness Index 2006-2007- The world’s most competitive 50 economies GEM & Select Developed Region Non-Life Penetration: Premiums/Capita - 2003 (USD) Source: Global Competitiveness Index • Global Competitiveness Index covers 125 countries and based on nine main pillars: • Technological readiness • Business sophistication • Innovation • Institutions • Infrastructure • Macroeconomy • Health, primary education • Higher education, training • Market efficiency

5. Global Competitiveness IndexTurkey:Catching up? Global Competitiveness Index – Top movers GEM & Select Developed Region Non-Life Penetration: Premiums/Capita - 2003 (USD) Source: Global Competitiveness Index

6. Global Competitiveness Index A peer comparison A well functioning market economy with business sophistication Lagging in human and physical infrastructure Macroeconomy is the soft spot Source: Global Competitiveness Index Source: Global Competitiveness Index Source: Global Competitiveness Index

7. Turkish Economy in Global CompetitionDiagnosis • EU membership: The single most important long-term anchor. A panacea? • Real convergence • Nominal convergence • Driver of social development and institutional reforms • Democratisation • Economy: Structural weaknesses need to be addressed • Current account deficit • Inflation • Structural reforms • Human capital: Lack of social policies caps demographic window of opportunity • Business sector: Highly competitive despite major setbacks

8. Turkish EconomyTowards a new growth paradigm Sources of GDP Growth (%) Openness (Trade volume, % of GDP) Source: Merrill Lynch estimates, State Planning Organisation Source: Turkstat

9. Turkish EconomyCompeting for FDI Net FDI Inflows (US$ bn) Privatization Receipts (US$ bn) Source: Ministry of Finance, Treasury Source: Privatisation Administration

10. Turkish EconomyFiscal performance – the bright spot Consolidated Public Sector Primary Balance (% of GDP) Public Sector Borrowing Requirement (% of GDP) Source: Ministry of Finance, Treasury Source: Privatisation Administration

11. Turkish EconomyInflation getting sticky? CPI and WPI Inflation (YoY) Real interest rates (%) Source: Turkstat Source: Central Bank of Turkey

12. Turkish EconomyDeficit has stabilised? Trade Balance (% of GDP) Real effective exchange rate (1995=100) Source: Turkstat Source: Privatisation Administration

13. Turkish EconomyCurrent account is the soft spot Current account deficit vs. FX volatility (%) Real rates vs. FX volatility (%) Source: Merrill Lynch, Bloomberg Source: Merrill Lynch, Bloomberg

14. Emerging MarketsBackgrounder Emerging economies as a percentage of total world GEM & Select Developed Region Non-Life Penetration: Premiums/Capita - 2003 (USD) Source: EmergingPortfolio.com

15. Emerging MarketsSurfing the liquidity wave… …with stronger fundamentals Global USD Liquidity EM Credit Quality Source: Merrill Lynch Source: Merrill Lynch

16. Emerging MarketsImproving Fundamentals Current Account as % GDP Total External Debt to Exports (G&S) - Ratio Source: Merrill Lynch Source: Merrill Lynch

17. Emerging MarketsImproving Fundamentals External Debt as % GDP FX Reserves as % of Total Debt Source: Merrill Lynch Source: Merrill Lynch

18. Emerging MarketsTime to spend! Current account balance (US$ bn) Basic Balances in GCC (% of GDP) Source: Merrill Lynch Source: IMF, Merrill Lynch estimates

19. Emerging marketsInvesting in infrastructure Infrastructure spending in the EM to exceed US$ 1tn in the next 3 years Key Drivers: • Underinvestment in infrastructure • Need to improve quality • Easing inflationary bottlenecks • Rising urbanization • Improved funding Key sectors: • Telecom • Power and energy • Transportation • Natural resources • Water, sanitation & environmental services Source: Text

20. Turkish Economy in Global CompetitionRecap • Turkey has been riding the global liquidity wave but… • …has no commodity driven revenue windfalls to spend • The fuel of the strong growth-lower inflation momentum so far pumped by the outstanding improvement in public finances • With a current account deficit above 7 % of GDP and inflation at 9%, Turkey is not out of the woods yet • There’s a growing pent-up demand for infrastructure investments and social projects • Spending out the primary surplus is not a good idea for now, in our view • Privatization, liberalisation of natural monopolies and regaining momentum in structural reforms seems like a more sustainable way • EU accession process not only anchors the expectations but also supplies a valuable know-how for free • A short term trade-off between macroeconomic stability and using the budget as a fiscal policy tool.

21. Important Disclosures & Analyst Certification Analyst Certification I,Turker Hamzaoglu, hereby certify that the views each of us has expressed in this research report accurately reflect each of our respective personal views about the subject securities and issuers. We also certify that no part of our respective compensation was, is, or will be, directly or indirectly, related to the specific recommendations or view expressed in this research report.

22. Important Disclosures