Relative productivity increases and the appreciation of the Turkish lira

- This paper studies the Balassa-Samuelson hypothesis between Turkey and the EU-27.
- Kejriwal and Perron (2010) structural break tests are employed.
- The study also uses Arai and Kurozumi (2007) structural break cointegration tests.
- Results of the study do not support the Balassa-Samuelson hypothesis for Turkey.

This paper studies the Balassa-Samuelson hypothesis between Turkey and 27 members of the European Union. More specifically, using recently developed cointegration techniques with multiple breaks, we test the relationship between the real effective exchange rate and inter-country differences in the relative productivity of the tradable and non-tradable sectors over the period 1990:Q1-2011:Q2. In recent years, the Central Bank of the Republic of Turkey (CBRT) has emphasized the importance of the B-S hypothesis for Turkey. Our findings, however, suggest that changes in relative productivity have played a limited role in explaining the real effective exchange rate appreciation. In particular, the relationship between the real effective exchange rate and productivity indicated by the Balassa-Samuelson hypothesis is not supported for the post 2001 era in Turkey.