Outlooks for the Korean economy have been lowered despite the country’s rally in the midst of a global recession. The Bank of Korea adjusted this year’s growth projection to 3.5% from 3.7%, while the International Monetary Fund kept Korea’s projection at the January figure of 3.5%, even when it slightly elevated its global growth projection. Why did the Bank of Korea change its growth outlook for Korea? That question will be answered by economist Lee Geun-tae of LG Economic Research Institute. First he tells us what led to the Bank of Korea’s decision to adjust the growth figure.
The reason Korea’s central bank lowered its growth rate projection for Korea down to 3.5% is because the global economy still remains shaky. Since the global recession in 2008, Korea has picked up a slack in local demands by showing up strong in exports. The U.S. economy has recently shown signs of recovery and the fiscal troubles in Europe have been addressed. In spite of these encouraging signs, the world economy still appears unstable and far from rebounding, because the anxiety about European fiscal problems has not died down completely. Fiscal austerity is a must for fixing economic woes in Europe, but that means that the real economy in the region would suffer a big setback, which could affect the economies in other regions. Widespread economic hardship means declining exports, which is fatal for an export-driven economy like Korea.
Four months ago the Bank of Korea presented a growth rate projection of 3.7%, but just last Monday the Bank adjusted the figure to 3.5%. The Bank of Korea apparently factored in its concerns for the deepening global recession. In fact, Korea’s central bank has also lowered its global growth projection from 3.6% to 3.4%, and the global trade increase rate from 5.4% to 4%. This means Korea’s export growth would also slow down to 4.8% from the previous 5%, likely reducing the country’s trade surplus, which stood at 26.5 billion dollars last year. In contrast, last Wednesday the International Monetary Fund raised its global growth projection to 3.5%, buoyed by the signs of America’s steady recovery. Why is the Bank of Korea going in the opposite direction of the IMF? One reason could be the soaring oil prices of late.
High oil prices are a serious problem for Korea. The Korean economy was able to climb out of the slump at the end of last year, thanks to the easing of global inflation pressure. But high oil prices could force consumers to spend less worldwide and fuel people’s anxieties, which would likely slow down Korea’s recovery. Before the gas prices began the hike, consumers were willing to spend their money to revive the economy, but more expensive gas could eat away at their disposable income and eventually undermine the country’s economic recovery.
International oil prices are the most important factor for the growth of the Korean economy. Oil imports account for 6.7% of Korea’s total trade volume and a 10% increase in oil prices could bring down Korea’s growth rate from 0.2% to as much as 0.7%. Skyrocketing oil prices also mean Korea has to pay more for the same amount of oil imports, leading to a skewed trade balance. Higher production costs from pricier oil are likely to be passed on to the consumers, who would have to tighten their belts again after relaxing a little from a lower-than-usual 2.6% increase in consumer prices last month. How would the Korean economy fare in the second half of this year given the current prices of crude oils?
Several financial institutes had predicted a better economy in the second half of the year, based on the fact that most of the European fiscal troubles would come to a head in the earlier part of the year, such as the maturation of Italian government bonds in the second quarter. They thought that the economic conditions would improve later in the year once those hurdles were overcome. However, there is still a possibility that the real economy would continue to struggle even if the concerns about the European financial woes were addressed. Even China and other emerging nations, which drove the world economy even while mature economies were contracting, are beginning to show signs of slowing down. I don’t believe the Korean economy will improve much any time soon, but would continue to be swayed by a number of external variables and experience ups and downs for some time.
The IMF had projected that the world economy would bottom out in the first quarter of this year, given the U.S. economy’s improved economic indicators, China’s continued growth in the 8% range, and the second rescue package for Greece. The Bank of Korea has likewise assessed that Korea’s growth rate would gradually hike up to around 3.9% later in the year, after hovering around 3% in the first half. But it is still too risky to be optimistic about the global economy. Turmoil in the Middle East could further raise the oil prices and the fiscal crisis in Europe has not been resolved completely. Additionally, economic slowdowns in the industrialized countries could negatively impact China and other emerging economies. How should Korea respond to the fluctuating economic conditions around the globe?
Uncertainties abound both in the local and world economies. It is imperative, therefore, to quickly identify the problems and their ramifications. If an external risk poses a threat to the Korean economy, the government should quickly modify its policy to absorb the shock and protect the economy. If oil prices continue to go up and cause inflation, Korea should put in place stronger inflation control measures. There are a number of local issues to be resolved, such as confounding household debts, and the government should assess their risk levels and economic impacts and design prompt and appropriate measures.
As uncertainties still haunt the global economy, Korea should find a way to implement rapid and proper countermeasures. In retrospect, Korea had withstood the onslaughts of the global recession and the European fiscal debacles. Generally, a mature economy tends to grow at a lower rate than a developing one. It appears that the time has come for Korea to prepare for the slow growth phase in its economic development.