The Global Policy Diffusion of Inflation-targeting: Was It a Case of Institutional

Isomorphism in Turkey?

Abstract

Since New Zealand adopted inflation-targeting in 1990, we saw an increasing number of

countries converging towards this policy. Inflation-targeting (IT) which is a type of monetary

policy was described as one of New Zealand’s most successful exports[ CITATION Bol08 \l

1033 ]. Core features of this policy include active communication, transparency and central

bank independence. Coincidentally, these features are also consistent with the characteristics

of liberal democrats, naturally making them early adopters of IT. However, IT later diffused

to a heterogenous group of countries with distinct differences in political and economic

systems such as Turkey. In the first part of this paper, I attribute this global spread of IT to

globalization, international actors and policy learning. Subsequently, I analyze Turkey’s

reason for the untimely adoption of this policy in 2001 just as when it faced a crisis. The

policy’s success in dealing with inflation gives rise to the following policy puzzle;

Was Turkey more concerned about the successful implementation of this policy or merely

legitimizing its action as having followed the perceived gold standard policy? In other

words, was this policy adoption a case of institutional isomorphism in Turkey?

The main finding of this paper finds evidences in Turkey’s incrementalism in its decision-

making process. Recognizing that a direct transition to full-fledged IT might lose credibility

of the central bank and the IT policy itself, the Central Bank of the Republic of Turkey
 2

(CBT) adopted an implicit IT – acting like an inflation targeter but without formally adopting

one – and used this testing period to slowly establish communication, transparency and

institutional independence. These incremental steps were critical to the success of the formal

adoption of the policy in 2006, dismissing any doubt about Turkey seeking political cover

[ CITATION AHa06 \l 1033 ].

The paper is divided into two broad themes; policy diffusion and institutional isomorphism

and is organized as follows; section I explores gaps in the existing literatures which provide

policy implications of analyzing policy diffusion through the lens of institutional

isomorphism. Section II describes the data and methodology used to answer the policy

puzzle. Section III briefly introduces the core features of IT as pre-conditions which early

adopters of IT fulfilled. Section IV discusses the global spread of IT using concepts in policy

diffusion such as globalization, international actors and policy learning under the New Public

Management (NPM). In the second part of the paper, section V focuses on a type of

institutional isomorphism which might be present in Turkey. Section VI presents the main

findings followed by conclusion in section VII, acknowledging some limitations which might

be useful in future studies.

Keywords: policy diffusion, globalization, international actors, policy subsystem, policy

learning, institutional isomorphism, incrementalism, decision-making, central bank

independence and inflation targeting.

 3

Section I: Gaps and Implications of Analyzing Policy Diffusion through the Lens of

Institutional Isomorphism

Although there are numerous literatures on policy diffusion of IT, there is, to the best of my

knowledge, no single paper that analyzes policy diffusion through the lens of institutional

isomorphism, not to mention using Turkey as a case study. Therefore, this paper uniquely

positions itself to fill in this gap within the wider field of public policy. The policy

implication arising from my analysis may provide useful insights for scholars and

practitioners. Similar issues such as policy churn can also be better understood from my

analysis of institutional isomorphism.

The case study of Turkey provides invaluable lessons for many transition and even low-

income countries such as Vietnam who are considering whether to adopt IT. These new

comers typically faced similar issues as Turkey many years ago. While there are studies

which suggest that pre-conditions are not necessary for a successful implementation of IT

[ CITATION Nic06 \l 1033 ], this paper argues it was precisely because Turkey fail to fulfil

these pre-conditions that made the CBT adopt an intermediate regime instead of an abrupt

transition to full-fledged IT. Therefore, new comers who might not be liberal democrats and

lack central bank independence might have higher chances of initiating IT if they were to

take incremental steps as observed in Turkey. This potentially prevents an invaluable policy

such as IT from becoming a policy churn. This happens when policymakers simply search

for new policies without channeling resources to evaluate why the current policies did not

work [ CITATION Jas17 \l 1033 ]. As a result, policy learning or transfer becomes sub-
 4

optimal especially when policymakers learn without transferring or transfer without learning

but just to legitimize their action as having followed the proven policy. While these might be

inherent in the bounded rationality behavior of policymakers, they could be avoided as seen

in this paper.

Section II: Data and Methodology Used to Answer the Policy Puzzle

The paper uses mainly secondary data from books and journal articles in addition to the

author’s working experience in the International Monetary Fund (IMF) on inflation targeting.

The concept which the paper uses to answer the policy puzzle is incrementalism during the

decision-making process in a policy cycle. From the applied problem-solving approach, this

stage is also known as the choice of solution. Quantitative methods include descriptive

statistics analysis of inflation data which was obtained from the Turkish Statistical Institute.

Economic data on monetary policy regime, public debt, inflation expectations, target and

actual inflation rates were taken from the IMF. A total of 42 countries were included in the

sample.1

Part I

1
Albania, Argentina, Armenia, Australia, Brazil, Canada, Chile, Colombia, the Czech Republic, the Dominican
Republic, The Eurozone, Georgia, Ghana, Guatemala, Hungary, Iceland, India, Indonesia, Israel, Japan,
Kazakhstan, South Korea, Mexico, Moldova, New Zealand, Norway, Paraguay, Peru, Philippines, Poland,
Romania, Russia, Serbia, South Africa, Sweden, Switzerland, Thailand, Turkey, Uganda, Ukraine, the United
Kingdom and the United States.
 5

Section III: Core features of IT as Consistent with the Profile of Early Adopters

Inflation targeting (IT) is one of the monetary policies that aims to control inflation by setting

inflation target. [ CITATION Fre01 \l 1033 ] observed that when central bank adopts this

policy, it usually communicates the inflation target clearly to the public to anchor their

inflation expectations. This is usually done through regular press conferences and reports.

Active communication also helps to increase transparency about their monetary policy

operations in terms of how the target is set and what the central bank will do to achieve it. In

an event where actual inflation deviates significant from the target, central bank has to be

accountable to the government in the country. More importantly, the central bank must be

independent from the government and has full autonomy in deciding on the interest rate.

Having said this, it is generally prohibited from financing government. Coincidentally, these

core features of IT are also consistent with the principles of liberal democrats such as

Australia and Canada [ CITATION Was19 \l 1033 ]. This naturally made them early adopters

of IT (Figure 1).

Figure 1: Early Adopters of IT

 6

Source: [ CITATION Was19 \l 1033 ]

Section IV: The Global Spread of IT using Public Policy Concepts

One might think countries which adopted this policy later should also possess these

characteristics such as active communication, transparency and central bank independence,

resulting in a clustering of similar policies. Early work by Jack Walker 1969 encapsulated

this concept as geographical clustering of similar policies because geographical neighboring

countries tend to have similar characteristics in terms of economic and political and similar

states tend to adopt similar policies [ CITATION Jac69 \l 1033 ].

However, a closer look at these countries reveals that IT diffused to a heterogenous group of

countries with distinct differences in their political and economic systems [ CITATION

Was19 \l 1033 ] (Figure 2). Like the global spread of human rights and environmental

standards, IT diffused beyond spatial proximity and clustering of similar policies (Figure 3).

Emerging market (EM) economies in South East Asia and Latin America such as Brazil and

Chile adopted IT in 1999. Even transition countries in Central and Eastern Europe such as
 7

Poland and Czech Started to converge towards this policy. To date, close to 40 countries2

have adopted IT with Russia being the newest member in 2015. Surprisingly, by early 2000s,

the share of EM and transition countries were about equal to the advanced economies (also

the early adopters of IT) and the former has since surpassed the latter these days (Figure 4).

Figure 2: The Global Spread of IT

Source: [ CITATION Was19 \l 1033 ]

Figure 3: Diffusion of IT on a Map

2
For a full list of IT countries, please see Appendix A.1.
 8

Source: IMF´s Annual Report on Exchange Arrangements and Exchange Restrictions

Figure 4: Share of Advanced and Emerging Economies Which Adopted IT

Source: National Bank of Poland

As much as policy making is a domestic affair, involving the government and the citizens, it

is almost impossible to study policy diffusion without considering the international system

within the wider policy subsystem. Globalization and the influential roles of the international

actors are important within the wider policy subsystem[ CITATION Fra94 \l 1033 ].

Contrary to the notion that international system shapes only international policies such as

trade, it sometimes also influences other more domestic policies such as healthcare and
 9

pension [ CITATION Sar05 \l 1033 ]. Many literatures point to the role of globalization in

facilitating the medium which information transfers. For example, the effects of events that

happen in others of the world such as financial crisis and geopolitical risks in the Middle East

transmits much quicker today through telecommunication media, resulting in policy

spillovers [ CITATION Jam69 \l 1033 ].

International actors are also actors (and policy advocates) themselves. When international

organizations such as the International Monetary Fund (IMF) regulates a government under

international agreements, they also generally shape domestic actors’ preferences

[ CITATION GBr96 \l 1033 ]. The traditional aid donor with its 189 member countries, has

largely therefore dominated the agenda setting due to financial resources it has [ CITATION

Mar98 \l 1033 ]. Moreover, they are more likely to intervene if there is already an existing

international regime sanctioning their intervention [ CITATION Tho95 \l 1033 ]. For

example, Turkey had a total of 19 lending arrangements3 with the IMF since its membership

in 1947. These loans were intended to support Turkey’s adjustment program especially

during a crisis. As part of the program, Turkey had to observe specific terms which were

usually austerity measures and was subject to periodic reviews so that the country continued

to have access to the loans. Therefore, Turkey’s history of fragmented policy subsystem

allowed the IMF to exert influence on various domestic policies especially in public debt

sustainability and monetary policy [CITATION Sem \l 1033 ].

Another reason why the IMF was an agent of policy diffusion is the perceived rich repository

of experts[ CITATION Mic99 \l 1033 ]. Many of them have held key positions in major
3
For a full list of Turkey’s lending arrangements with the IMF, please see Appendix A.2.
 10

central banks such as the Federal Reserves (Fed), Bank of Japan (BOJ) and the European

Central Bank (ECB). Hence, many central banks, including the CBT often leverage on this

transnational epistemic (or knowledge-based) communities, giving these international actors

the opportunity to use their country experiences and sell the policy to others. For example,

the IMF is an advocate of IT regime, given how successful it was in bringing down inflation

in many countries. This is evidence in their annual Article IV Consultation4 with country

authorities and through technical assistance in preparing countries to transit to IT from their

existing regimes. Heeding suggestions from the IMF to adopt IT was seen to be following the

internationally-acceptable or even the gold standard in the field of economics. Fabio

Wasserfallen in 2019 tried to estimate the probability of taking up IT if the country is an IMF

member using a probit model. Therefore, the policy universe ensures constant interaction

between the international system and the policy network in the policy subsystem

[ CITATION Ste14 \l 1033 ].

While the international system may be at play, NPM scholars and academia researchers

generally agree that institutions actively learn (and even compete) with one another.

Literatures on policy learning gained traction after Charles Tiebout observed that local

governments offer similar tax policies to residents who will vote according to their preferred

tax rates [ CITATION Cha56 \l 1033 ]. This “race to the bottom” may not necessarily be

beneficial for the governments in the long run. However, most policy learning is welfare-

enhancing especially in the case of IT. Afterall, lessons from dealing with inflation need not

be drawn only from neighboring countries. In fact, many literatures came up with various

4
It refers to the annual IMF visit to assess economic and financial conditions with the respective country
authorities.
 11

reasons why central banks should look beyond their borders when making policy choices

[ CITATION Sar05 \l 1033 ].

However, Paul DiMaggio and Walter Powell argued that not only do governments compete

for resources, but they also vie for political power and institutional legitimacy [ CITATION

Pau83 \l 1033 ]. They concurred with other authors that these electorally-minded politicians

are more concerned about retaining their political power than policy success. Having seen

that IT was unusually successful even when adopted by less liberal democratic countries such

as Kazakhstan, IT was hailed as the gold standard by not just the IMF but also by other

central banks. In the case of Turkey, the government was certainly not a liberal democrat as

shown in their Polity IV score5. Neither did the central bank have transparency,

accountability or independence in their monetary policy. Despite failing to meet most of the

core features (or the pre-conditions) of IT, CBT adopted the policy anyway in 2001 amidst its

banking and public debt crisis. Therefore, its decision to adopt IT could be due to the

institutional isomorphism which was motivated by the need for legitimacy [ CITATION

Isi02 \l 1033 ]. In other words, the CBT might be more concerned about legitimizing its

action as having the followed the gold standard rather than the successful implementation of

the policy. CBT’s decision-making process will be discussed in great details in the second

part of the paper to answer the above policy puzzle.

Part 2

5
Polity IV Scores measure the spectrum of regime authority.
 12

Section V: A Possible Case of Institutional Isomorphism in Turkey

Turkey had not been successful in ensuring price stability under its crawling peg exchange

rate regime which subsequently collapsed in 2001 [CITATION Ism12 \l 1033 ]. The country

went into a crisis with inflation surging to 68% due to the depreciation of the Turkish Lira

(Figure 5). Since the currency was losing value rapidly, the CBT had to drop six zeros from

the Lira denomination [CITATION Has08 \l 1033 ]. Moreover, there were significant

structural changes in the economy in 2001. For example, Turkey overhauled its banking

system by borrowing from the CBT. As a result, Turkey’s public debt increased to an

unsustainable level (Figure 6). Hasan Ersel argued that such fiscal dominance and the lack of

central bank independence were huge obstacles to IT initiation.

Figure 5: Historical Inflation Rates in Turkey

Source: Turkish Statistical Institute

Figure 6: Historical Public Debt/GDP (%) in Turkey

 13

Source: Treasury

However, Turkey clearly needed an alternative monetary policy as the CBT had exhausted all

the available options to keep a lid on inflation. This presented an opportunity to open the

policy window to bring IT onto the government agenda. IT was a natural choice given its

success6 and the fact that policymakers have the tendency to model after institutions whom

they perceived to be more successful or legitimate in the field. This is known as mimetic

isomorphism7 which is likely to happen in a country with ambiguous goals or inconsistent yet

numerous agendas [ CITATION Mel05 \l 1033 ]. As a result, decision-makers are often

constrained by their cognitive inabilities in evaluating an infinite number of policy options.

The decision-making process thus narrows down to a smaller subset which they perceive to

be politically feasible [ CITATION Her55 \l 1033 ]. Such bounded rationality explains why

decision-makers sometimes develop satisficing behavior which influences key decisions.

Martin Lodge concluded that while policy transfers are never random, they are rarely a result

of sound and rational decision-making [ CITATION Mar03 \l 1033 ]. On the surface, Turkey

seemed to be learning from the success of other inflation targeters. However, only their

decision-making process will reveal if they were simply legitimizing their action by

6
To date, no country has turned back its decision after adopting IT according to the National Bank of Poland.
7
While there are three types of isomorphisms; namely coercive, mimetic and normative isomorphism, this
paper focuses on mimetic isomorphism as it is more relevant to Turkey.
 14

searching for a proven template, without caring that the policy will actually work in Turkey

(or hoping that the highly successful policy will work by itself).

Section VI: Main Findings

When the public policy process arrives at the decision-making stage, the number of policy

actors reduces significantly. The CBT was aware that IT transition does not take place

overnight and adopting the policy prematurely without resolving its current issues could do

more harm than good. For example, new or sudden shift in policy could introduce an

irreversible mistake or uncertainty which might confuse the public and signal that the central

bank was seeking political cover. This makes policymakers unlikely to implement disruptive

policies. Direct transition to full-fledged IT could therefore erode the credibility of both the

central bank and the IT policy itself, potentially leading to policy churn.

To work around its problems and signal to its citizens that the CBT was indeed concerned

about the successful implementation of the full-fledged IT one day, the CBT adopted an

intermediate regime known as the ‘implicit IT’ in 2001 (Figure 7). During the implicit IT

period, the CBT was acting like an inflation targeter but without formally adopting it. For

example, the CBT announced inflation target without other details of the policy [ CITATION

Ism12 \l 1033 ]. They still held onto the soft peg due to the fear of floating8 and the fact that

the credibility of implicit IT had not been established yet. The CBT tried not to deviate too

much from the current peg system whose costs and benefits were known to the actors

8
It refers to a central bank’s announcement that it allows its exchange rate to float freely but in reality, it
manages its exchange rate to reduce its volatility.
 15

[ CITATION Mic09 \l 1033 ]. While the status quo played an important role in the decision-

making process, the CBT intended to use the period of implicit IT in 2001 as testbed to

slowly establish communication, transparency, accountability and institutional independence.

When these pre-conditions of IT are met and credibility of IT is established, the CBT will be

ready to adopt full-fledged IT (which it did in 2006).

Figure 7: Transition from Implicit IT to Full-fledged IT under Incrementalism

Source: Author’s Interpretation

The incrementalism which was manifested in Turkey, was dated back to the early work of

Yale University Political Scientist Charles Lindblom as he internalized the ideas of bounded

rationality and satisficing[ CITATION Cha59 \l 1033 ]. Lindblom believed that

incrementalism accurately reflect how decisions are made by most organizations in reality.

Compared to rationalism which involves technical cost-and-benefit analysis, incremental

model centers around learning by trial and error to test willingness to tradeoff between self-

interested decision-makers [ CITATION Dav63 \l 1033 ].

Recognizing that institutional independence and government support were critical in

initiating full-fledged IT, the CBT’s first task during the testing period of implicit IT was to
 16

legalize central bank independence after the crisis in 20019. On 25th April, the Turkish

government and the CBT jointly passed The Central Bank Law, marking a radical

institutional reform in Turkey. The law gave the CBT full autonomy in pursuing its primary

objective of price stability without fiscal dominance. For example, the CBT is prohibited

from financing government deficit10. After the reforms, the CBT was ranked 4th in terms of

central bank independence and 3rd in terms of transparency and accountability among the

nine central banks in the developed countries [ CITATION Can07 \l 1033 ].

The Central Bank Law paved the way to other incremental reforms such as establishing

active communication and accountability. For example, it held various joint press releases

with the government to show coordination between the two parties in setting the inflation

target. Besides conducting regular household survey at the beginning of the implicit IT to

anchor inflation expectations, the CBT also reiterated that inflation was closing in on target,

giving its citizens the much-needed reassurance. Furthermore, Turkey did not cave in to the

pressure of having to increase its interest rate when actual inflation was higher than the target

as suggested by the rule of IT. Instead, the CBT directed its resources to push for fiscal

reforms to bring down the public debt and communicated actively to the public that

fundamentals in the economy were improving. Olivier Blanchard, then an IMF Chief

Economist, commended the CBT on a hindsight for doing the right thing as raising the

interest rate especially when fiscal sustainability was at stake could backfire and increase

inflation expectations even more due to rising default premiums [ CITATION Oli04 \l

1033 ].

9
For a full list of other fully independent countries in the sample, please see Appendix A.3.
10
For a full list of other central banks without fiscal dominance in the sample, please see Appendix A.4.
 17

Since the CBT was well on track to its full-fledged IT adoption with its incremental steps

during these five years, its credibility quickly built up. The period of implicit IT saw the CBT

exceeding expectations in bringing down inflation from 68% in 2001 to just 7.7% in 2005

(Figure 8) and anchoring inflation expectations during the implicit IT (Figure 9). Moreover,

uncertainty around the transition period was fading as the local economy expanded for four

consecutive years.

Figure 8: Inflation Rate in Turkey After Implicit IT

Source: Turkish Statistical Institute

Figure 9: Anchoring Inflation Expectations during Implicit IT

 18

Source: Turkish Statistical Institute

When the CBT eventually adopted full-fledged IT in 2006, Turkey was in a favorable

position to implement the policy successfully, having established all the necessary reforms in

the past five years. Inflation was low and stabilized at 8% while the CBT had fully gained

independence. The CBT had also set up communication channels and formed a credible

Monetary Policy Committee (MPC) who votes11 on interest rate setting and publishes

medium to long term inflation forecasts [ CITATION Nie18 \l 1033 ]. Similar to the Fed’s

dot plot12, the decision of each MPC member is also made known publicly. With the MPC

comprising of both external and internal members that vote, the CBT can capitalize on each

member’s social preference based on their perception of how the economy works (Figure

10). Collective decision-making is also known to reduce idiosyncratic bias associated with

each member’s decision [ CITATION Mic09 \l 1033 ]. Finally, the CBT must submit open

letter to the government if the target is breached. This forces the CBT to be fully accountable

for any unusual deviation from its inflation target. In a nutshell, Turkey’s success story of its

11
Besides voting, other forms of decision-making include consensus and the governor’s decision. For a full list
of countries in the sample, please see Appendix A.5.
12
A dot plot refers to the forecast of interest rate of each member in the Federal Open Market Committee
(FOMC).
 19

transition from an implicit IT to full-fledged IT under the incremental decision-making

model is summarized statistically in Figure 11.

Figure 10: Share of Internal and External Members in the MPC

Source: National Bank of Poland

Figure 11: Descriptive Statistics of Turkey Inflation Rate

Source: (Ismail and Mehmet, 2012)

Section VII: Conclusion, Limitations and Possible Extensions of the Paper

 20

The paper aims to analyze policy diffusion through the lens of institutional isomorphism

using Turkey as a case study. Inflation-targeting policy, which was thought to be conducive

to liberal democrats (who were also the early adopters), diffused to a heterogenous group of

countries with distinct differences in economic and political systems with the aid of

globalization, international actors and policy learning. The adoption of IT in Turkey could

therefore be a result of institutional isomorphism given how the highly politicized country

might be more concerned about legitimizing its action as having followed the gold standard

rather than the successful implementation of the policy itself. This policy puzzle is answered

using incrementalism in the decision-making process of the CBT. During the period of

implicit IT between 2001 and 2005, there were concrete evidences that the CBT was

committed to making IT a successful policy rather than seeking political cover to fight its

inflation crisis. Though the concept of bounded rationality in incrementalism might carry a

negative connotation, this paper proves that it was instrumental in Turkey’s transition to full-

fledged IT in 2006. Finally, policy diffusion and institutional isomorphism will continue to

happen regardless of whether we study it.

One limitation of the paper is the lack of data to analyze the contemporary setting in Turkey.

This comparative analysis would greatly complement this paper as a possible extension. As

Turkey is already a full-fledged inflation targeter and it has worked relatively well (Figure

12), all the reforms and laws are supposed to shield the CBT from fiscal dominance and

government intervention in monetary policy. However, this is not the case in the

contemporary Turkey. The era of the current Turkey’s President, Recep Tayyip Erdogan,

marks a drastic shift away from a parliamentary system, which has formed the foundation of
 21

the modern Turkish 95 years ago. The appointment also gives him the power to appoint

ministers and intervene in the legal system. Within a year, President Erdogan made his son-

in-law, Berat Albayraka, the Finance Minister in the highly controversial cabinet shuffle and

went on to sack the central bank governor, Murat Cetinkaya, earlier this year for defying his

order to cut the interest rate to stimulate the economy. The President’s decisions certainly

have serious repercussions on both economic and political front. For example, Turkish Lira

depreciated by as much as 3% following the dismissal of the CBT head as inflation shot up

above its target (Figure 13). Policymakers and analysts fear that central bank is losing its

independence and nepotism in the country might destroy democracy. Will President Erdogan

undo all the good effort by the CBT in the past 20 years?

Figure 12: Low and Stable Inflation Since Full-fledged IT in 2006

Source: Turkish Statistical Institute

 22

Figure 13: Inflation Surged Following the Dismissal of Central Bank Governor in 2019

Source: Turkish Statistical Institute

Word Count: 4,341 words excluding footnotes, appendices and references

 23

Appendices

A.1: List of Inflation Targeting Countries

Source: IMF´s Annual Report on Exchange Arrangements and Exchange Restrictions

A.2: Turkey’s History of Lending Arrangement with the IMF in Thousands of Special

Drawing Rights (SDR)

 24

Source: IMF

A.3: Fully Independent Central Banks Under Law

Source: National Bank of Poland

A.4: Central Banks that are Prohibited from Financing Public Debt

Source: National Bank of Poland

A.5: Different Types of Decision-making in MPC

 25

Source: National Bank of Poland

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