Assessing the impact of Covid-19 pandemic in Turkey with a novel economic uncertainty index

Abstract

Purpose This study aims to measure economic uncertainty in Turkey by a novel economic uncertainty index (EUI) employing principal component analysis (PCA). We assess the impact of Covid-19 pandemic in Turkey with our constructed uncertainty index. Design/methodology/approach In order to obtain the EUI, this study employs a dimension reduction method of PCA using 14 macroeconomic indicators that spans from January 2011 to July 2020. The first principal component is picked as a proxy for the economic uncertainty in Turkey which explains 52% of total variation in entire sample. In the second part of our analysis, with our constructed EUI we conduct a structural vector autoregressions (SVAR) analysis simulating the Covid-19-induced uncertainty shock to the real economy. Findings Our EUI sensitively detects important economic/political events in Turkey as well as Covid-19-induced uncertainty rising to extremely high levels during the outbreak. Our SVAR results imply a significant decline in economic activity and in the sub-indices as well. Namely, industrial production drops immediately by 8.2% and cumulative loss over 8 months will be 15% on average. The losses in the capital and intermediate goods are estimated to be 18 and 25% respectively. Forecast error variance decomposition results imply that uncertainty shocks preserve its explanatory power in the long run, and intermediate goods production is more vulnerable to uncertainty shocks than overall industrial production and capital goods production. Practical implications The results indicate that monetary and fiscal policy should aim to decrease uncertainty during Covid-19. Moreover, since investment expenditures are affected severely during the outbreak, policymakers should impose investment subsidies. Originality/value This is the first study constructing a novel EUI which sensitively captures the critical economic/political events in Turkey. Moreover, we assess the impact of Covid-19-driven uncertainty on Turkish Economy with a SVAR model.