▶ Can Korea achieve 3% growth again this year?

Korea`s economic outlook has changed dramatically in less than a quarter. After achieving GDP growth of 3.1% in 2017, supported by the new administration`s policy measures, as well as the global recovery, the government and many economic forecasters were calling for 3%-plus growth in 2018 as recently as the start of this year. A flurry of recent events, however, have shaken the grounds on which these forecasts were based.

Growing domestic and external headwinds

Beginning with external developments, the Trump administration got its $2 trillion tax cut plan passed at the end of last year and announced a massive $1.5 trillion infrastructure investment plan in January. The OECD has forecast that the fiscal stimulus would lift US GDP by 0.5~0.75 percentage points both this year and next, which would likely raise global growth by 0.2~3 percentage points. Korea, with its high reliance on US-bound exports, would likely benefit significantly as well.

But such optimism no longer seems valid. If anything, there is growing concern that, with the US recovery already in its ninth year, such large-scale US fiscal policy is more likely to push inflation higher than have a meaningful impact in stimulating growth. In particular, growing inflation is a concern as it could potentially damage the US economy by forcing the Fed`s hand in hiking interest rates or normalizing monetary policy at a faster pace. Indeed, history shows that most US recoveries have not faded away gradually, but rather ended suddenly as a result of forceful monetary tightening. Such fears were highlighted in February, for instance, when global financial markets were rocked by a so-called ‘inflation tantrum,’ the after-shocks of which still linger.

Another concern is that the Trump administration`s economic policy has recently been more focused on trade protectionism. After raising tariffs on imports of washing machines and solar panels first, and then on steel and aluminum, the US has stoked international concerns regarding the growing prospect of trade wars. While the stated reason for such measures is protecting the US economy, there is a consensus among economists that such protectionism is not only self-defeating, but also likely to be severely damaging to the global economy overall. Notably, many experts say the Korean economy is one of the economies most vulnerable to US-led trade protectionism, not only because of the potential for direct damage to Korea`s exports to the US, but also the negative fallout that is likely to occur when US measures against China result in China`s countermeasures.

In additional to external concerns, the situation on the domestic front is not particularly promising either. While it appears that the Korean economy was buttressed for a while by positive expectations surrounding the government`s ‘income-driven growth’ policy, such optimism was dashed in February when jobs growth data fell to only one-hundred thousand, the lowest level in ninety-seven months, and likely the result of the administration`s minimum-wage hike. To be sure, the government also set aside a supplementary budget of 4 trillion, after having done so last year as well, but there are concerns that, given its focus on creating jobs for young people, it might not be effective in stimulating the economy. Further, there are fears that the global trend toward monetary policy normalization will raise the chances of Bank of Korea rate hikes, thereby aggravating the difficulties of managing Korea`s record levels of household debt.

Focus on economic stability over the growth rate

Against the current backdrop, Korean growth above 3% this year will not be easy. While private consumption is likely to remain robust and grow at a faster pace than last year, buoyed by minimum wage hikes and the supplementary budget aimed at job creation, it will likely be constrained by increased household debt burdens resulting from domestic rate hikes, as well as the drag of a rapidly aging population. As for Korea`s exports, the current data look reasonably favorable, owing to ongoing strength in semiconductors, rising commodity prices, and the ongoing global recovery, but the growing potential of a global trade war or limited prospects for additional growth in semiconductors or other leading industries could produce headwinds going forward. Moreover, given the ongoing weakness in real estate, construction investment could contract, while the gradual contraction in facilities utilization rates make a slowdown in facilities investment more likely.

Thus, even though consumption or exports may boost growth somewhat, growth in investment will likely fall to near zero, making it unlikely that Korea`s GDP this year will exceed last year`s. In fact, it is likely that the 3%-plus growth achieved last year was based on temporary factors, reflecting improved external conditions and domestic sentiment, as opposed to the fundamental strength of the Korean economy. Further, given that the Bank of Korea and many other domestic and foreign institutions estimate Korea`s potential growth rate in the high-2% range, growth above 3% could be considered overheating.

Economic stability, not the growth rate, is where our focus should lie. From the beginning, the focus of the new administration`s income-driven growth policy has been less on accelerating growth than on resolving economic imbalances. In other words, its main objective is to shift Korea`s economy away from its long-held dependence on exports, investment and manufacturing, toward consumption, domestic demand and services. In so doing, it hopes to wean the economy off of its dependence on an economic model that sacrificed the well-being of many citizens for the sake of the export sector and large conglomerates, toward one that focuses on balanced and stable growth. Put another way, the objective is for the Korean economy to move beyond a recurring cycle in which it is periodically shaken by the negative side effects of internal imbalances or external shocks, while moving toward a more sustainable growth model.

Now that the Korean economy has moved beyond emerging-economy status and taken its place among advanced economies, the focus should be less on the pace of growth and more on alleviating imbalances and achieving greater stability. Even if its growth rate does not reach 3% this year, success should be measured in terms of the progress the economy has made in easing accumulated imbalances, such as the household debt problem, or solving issues stemming from Korea`s rapid aging. Indeed, it might be best to look for new drivers of growth within the mood of peace that has resulted from thawing tensions on the Korean peninsula.



By Bohyeong Jang, Chief Economist, Hana Institute of Finance, KEB Hana Bank

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