Serious Money:Turkey is currently enjoying its most sustained economic advance of modern times, writes  Charlie Fell.

Economic growth averaged more than 7 per cent per annum over the past five years, and the inflation rate dropped to single-digits in 2004 for the first time in three decades.

Stock prices have responded accordingly and, following last Sunday's general election, the Turks seem closer than ever to attaining their long-term objective - formal recognition as a European power.

The result represented a vote for the future and not for the country's troubled past.

Turkey is rich in history, an understanding of which is critical to assessing its investment credentials.

The Turcoman tribes fled west from central Asia more than a millennium ago and secured a permanent foothold in the Anatolian peninsula and the eastern realms of the Byzantine empire by the 11th century.

The Ottoman empire flourished and, at its height, stretched from the Arabian Peninsula to the gates of Vienna.

However, defeat at Vienna in 1683 brought an end to its European expansion, and the empire entered a sustained period of decline and disintegrated during the first World War.

The Ottomans' yearning for acceptance as a European power never materialised. Indeed, the political historian, J.A.R. Marriott wrote in 1917 that the Ottoman Turks were an "alien substance embedded in the living flesh of Europe".

Modern Turkey was founded by Mustafa Kemal, the "Father of the Turks" or Ataturk, in 1923 from the Anatolian remnants of the Ottoman empire. Upon assuming power, he moved the country's capital from Istanbul to Ankara, abolished the monarchy and introduced wide-ranging reforms designed to ensure that Turkey would become a secular society.

Religious brotherhoods were declared illegal, Islamic courts were dissolved, polygamy was banned and women were given the right to vote.

Cirrhosis of the liver brought Ataturk's life to a premature end in 1938, and his secular vision was protected for the remainder of the 20th century by the armed forces.

The role of the military as the ultimate arbiter in Turkey's political landscape has led to frequent periods of instability, which have prevented the country from realising its full potential. Multi-party elections were introduced in 1950, but the military intervened three times between 1960 and 1980 to put the country "back on the right path". The military stepped in once again in 1997, and Necmettin Erbakan, the first Islamist prime minister, was removed from power.

The emotional scars from the country's fractious history have yet to heal. A further bout of political instability in 2001 saw Turkey plunge into its deepest economic crisis of modern times. Share prices collapsed and interest rates soared to absurd levels of several thousand per cent. The Turkish lira dropped precipitously against the dollar, contributing to a surge in the rate of inflation to more than 50 per cent. A brutal recession that saw the economy decline by more than 7 per cent.

However, the painful economic rescue package that followed seems to have put the country on a different path.

The Turkish economy has staged a remarkable recovery since the 2001 crisis. Inflation dropped below 10 per cent in 2004 for the first time since 1972. The unemployment rate fell into single digits last year for the first time in five years.

Importantly, the recovery has been driven primarily from strong growth in the private sector, while fiscal prudence has seen the budget deficit drop as a percentage of GDP from almost 16 per cent in 2001 to less than 1 per cent last year.

Additionally, the country weathered strong political tensions as recently as April, and Sunday's election outcome suggests further structural and institutional reforms are likely.

Despite the great strides made in recent years, Turkey's large current account deficit is a cause for concern. The deficit has been rising in recent years as a result of rapid economic growth relative to industrial countries, high energy prices, an overvalued currency and a decline in private savings.

Turkey has been a primary beneficiary of the global carry trade where investors borrow in low interest rate currencies and lend in high interest rate currencies, which has enabled the deficit to be financed quite easily. However, the lire is overvalued and is vulnerable to capital flight should turmoil return to the world's foreign exchange markets.

Turkey has the potential to become a trillion dollar economy in the next decade. However, political instability, a constant feature of the country's past, simmers never too far from the surface. Throw in an overvalued currency and an unsustainable external deficit and the investment case becomes less clear. Turkey remains a high-risk investment.