Financial crisis severity and reform efficiency indices and their effect on economic growth: evidence from Turkey using PCA and ARDL

Purpose The purpose of this study is to develop composite indices for Turkey that measure the severity of financial crises and the effectiveness of financial reforms. These indices were constructed by holistically considering the financial crises and reform episodes experienced between 1988 and 2024. Furthermore, the direction and magnitude of the effects of these composite indices on economic growth were examined in both the short and long run. Principal component analysis (PCA) was employed in the development of the indices, accommodating both stationary and nonstationary data. The short- and long-term effects of the indices on economic growth were estimated using the autoregressive distributed lag (ARDL) bounds testing approach. The Financial Crisis Severity Index (FCSI) indicates that financial crises of varying magnitudes occurred during the analyzed period. However, following the 2001 crisis, the severity of crises showed a noticeable decline. The Financial Reform Effectiveness Index (FREI), on the other hand, reveals that financial reforms have become increasingly effective over time. The findings suggest that financial reforms mitigated the adverse effects of financial crises during the study period. Moreover, while financial crises exerted a negative impact on economic growth, the implementation of reforms was found to be essential for fostering long-term economic expansion. In the short run, financial reforms did not exhibit a statistically significant effect on growth; however, their interaction with crisis dynamics enhanced the economy’s capacity for recovery through structural improvements. Design methodology approach In this study, indices were developed for Türkiye that measured the severity of the financial crisis and the efficiency of financial reforms. These indices were developed by considering the financial crises and financial reforms experienced between 1988 and 2024 holistically. Furthermore, the direction and magnitude of the effect of these composite indices on economic growth in the short and long run are determined. In the development of the indices, principal component analysis was used for both stationary and non-stationary data. The short- and long-run effects of the indices on economic growth are estimated using the autoregressive lag distributed bound test approach. the FCSI series demonstrates that financial crises of varying severity occurred during the specified period. Findings This study introduces the FCSI to measure the intensity of financial crises in Türkiye since 1980, showing that the 2001 crisis was the most severe. The index can aid in informed policymaking. The research also analyses the short- and long-term impacts of crises on economic growth, revealing that such crises can cause lasting harm. To mitigate future risks, the study emphasises the need for early warning systems, macroprudential policies and robust financial oversight. In addition, while reforms are vital for long-term growth, their effectiveness depends on institutional capacity and short-term growth impacts should not be overestimated. Originality Value The best of the author’s knowledge, no study has hitherto examined both financial crises and financial reform dimensions simultaneously and for the same period. The present study proposes the development of two indices: a FCSI and a financial reform efficiency index for Türkiye. These indices span the period from 1990 to 2024, and their purpose is to reveal the effects of financial crises on long-term economic growth.