Korean Economy to See Ups and Downs in 2011

Korea expects growth to fall to 5 percent

Riding on the steady recovery in the global economy and a rise in domestic consumption, the nation is expected to register around 5 percent growth for next year. The Ministry of Planning and Finance released the data in a recent report on the prospects for the economy next year. During a briefing to President Lee Myung-bak, Minister Yoon Jeung-yeon said that 280,000 jobs will be added while inflation will linger at around 3 percent.
The government is set to focus on strengthening the growth foundation while carrying out practical policies so that ordinary people can feel the benefit of the economic recovery.
In the meantime, Chin Dong-soo, chairman of the Financial Services Commission, stressed the need to take measures to ensure the soundness of the state’s finances from a medium to long-term perspective. The top financial policy maker’s statement drew attention with regard to the move to introduce the so-called bank tax designed to prevent speculative money from undermining the nation’s financial stability.
The Korean economy will likely undergo ups and downs in 2011, affected by multiple variables like foreign exchange rates, exports & imports and inflation. As was in the year 2010, the year will also see changes in accordance with the world economy, largely dominated by the big two powers ― the United States and China.
The Korean economy has come under a growing spotlight in the global community throughout this year, as it has recovered from the economic recession at the fastest pace in the world, outperforming rival economies as well as market predictions. The economy has bounced back impressively in 2010, driven by strong exports and recovering domestic demand. The nation’s gross domestic product (GDP) is expected to expand 6.1 percent this year, the strongest growth since 2002 when it grew 7.2 percent, according to the Bank of Korea (BOK).
However, there are growing signs that the Korean economy will enter a downward path before it sees a full, sustainable recovery, as concerns on the external uncertainties stemming from a slowdown of the major economies has surrounded the nation’s exports.
No one can argue that the Korean economy is on the path to recovery, but at the same time, no one can say with confidence that Asia’s fourth largest economy will undergo a sustainable recovery due to the many challenges ahead. More importantly, not everyone feels an economic upswing. The 6-percent pace of growth in this recovery means no rising tide lifting all boats. The resilience of the Korean economy will be tested in 2011 when global rebalancing will rule the world.

Previously stimulated ― but now self-generating
In 2010, the main driver of the economy shifted from the government-led stimulus to the growth of the private sector, exports and domestic demand, a sign that the economy is back on track.
Exports marked an average increase of 31.3 percent year-on-year in the first three quarters, and surged to a record high in October. Backed by the positive consumer and business sentiment, domestic demand has become a key growth pillar. Private consumption rose 5 percent in the first half, while facility investment surged 30.1 percent.
The problem was that entering the third quarter, economic growth has been losing momentum due to falling external demand, with GDP growing only 0.7 percent from the previous quarter, the slowest pace in a year and a half. With key export markets such as the United States and Europe expected to slow down next year, Korea is forecast to see a further slowdown. The sluggishness in external demand has ignited debate here over whether the ongoing slowdown is a passing hiccup on the path to full recovery or the sign of a double dip.
“I would not say that third-quarter growth data were very astray from expectations. We always have maintained that the unfolding situation of very anemic growth in the U.S. and in Europe, two of the most important markets for Korean goods, was going to affect small open economies, such as Korea,” Natixis economist Luca Silipo told The Korea Times.
“Most notably, the slowing of U.S. and European economic activity in both the second quarter and the third quarter was quite naturally reflected on Korean economic growth in the fall,” he added. “Korea is not the only Asian country having experienced such a development, and by far is not the one in which this slowdown is the largest.”

What are the big risks in 2011?
The global slowdown is likely to test the resilience of the Korean economy as developments will continue to reflect the underlying situation of weak economic activity in important export markets and a slowdown in other Asian economies. The Korean economy is facing four key risks down the road ― inflation, currency fluctuations, uphill competition with rivals from advanced economies and geopolitical conflicts.
First of all, Korea is facing a fast run-up in inflation as a result of protracted credit-easing policies. The central bank expects consumer-price inflation to reach a three-year high of 3.5 percent next year. Core inflation, which excludes volatile oil and food prices, will also likely shoot up to 3.1 percent next year, higher than the 1.8 percent in 2010. “Korea faces some of the strongest inflationary pressure in Asia. Food inflation is in double-digits, and it is sensitive to oil price hikes as Korea is a net oil importer,” Morgan Stanley economists Sharon Lam and Jason Liu wrote in their latest outlook report. “High inflation will pose a downside risk to consumption since households’ savings rates are low, leaving little in the way of a buffer against rising prices.”
Currency fluctuation is another hurdle in the way of full recovery. The Korean won is highly likely to gain more ground against the U.S. dollar due to the weakening of the greenback. The won-dollar rate is forecast to drop to around the 1,000 won level by the end of 2011, eroding the competitiveness of local exporters. It is now trading at around 1,140 won. In addition, global companies from advanced economies, which were hit hard by the financial crisis, are expected to speed up their move to make forays into emerging markets, intensifying competition.
Rising geopolitical risks associated with North Korea’s brinkmanship are also expected to be a major drag on economic recovery. “Tension is likely to remain on the Korean peninsula. We believe military episodes will increase in the next two years due to a power transition in North Korea,” Lam and Liu said.

Bleak outlook dims prospect
In short, the outlook for next year remains bleak. The main theme for the 2011 Korean economy is a “deadly cocktail” of slowing growth and high inflation.
Last week, the Bank of Korea (BOK) forecast that Korea’s GDP growth will slow to 4.5 percent in 2011 after enjoying a 6.1-percent expansion this year. According to the OECD, the Korean economy is cooling off at the fastest pace in the world due to the high base effect.
The OECD composite leading indicators (CLI) fell by 0.5 points to 101.3 in October from the previous month, the largest drop among member nations, indicating that the local economy will face a fast slowdown in the first half of next year. CLI refers to the OECD’s standardized consumer and business confidence indicators, which enable users to analyze in depth the development of business cycles within and across countries.
Economists stressed that the government and the central bank should seek to employ a policy mix to tackle the combination of slowing growth and high inflation.
“With slowing growth and twin imbalances of a large current account surplus and high inflation, policymakers will choose a compromise policy mix,” Nomura Securities economist Kwon Young-sun said.
He recommended the government to implement modest fiscal consolidation, tighten macro-prudential measures further, allow the Korean won to appreciate and to raise policy rates slowly. nw

President Lee Myung-bak receives a policy briefing on the Ministry of Strategy and Finance’s key policy goals for 2011 on Dec.14. (Courtesy on Cheong Wa Dae)