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An economic precipice

Sept 23,2019
이미지뷰
이미지뷰
Lee Chul-ho
The author is a columnist at the JoongAng Ilbo.

President Moon Jae-in last week announced that the Korean economy was moving in the “right direction” despite multiple headwinds. Thanks to the job-first policies over the last two years, job conditions have significantly improved in both quality and quantity, he said. His blind optimism and confidence is not just bewildering, but demoralizing. If he only looked outside, he would see battered households and businesses everywhere. Economic institutions at home and abroad have turned more and more pessimistic about the Korean economy for the near and long-term.

State think tank, the Korea Development Institute (KDI), judged the economy to be in an overall slump due to sluggish demand at home and abroad for six months in a row. Demand refers to corporate investment and consumer spending at home and exports. Exports have been in a downward spiral for the ninth straight month against the same period a year ago. Facility investment fell 4.7 percent on year. The consumer sentiment index has been under the neutral 100 threshold, hitting 92.5 by August to suggest consumers won’t likely spend in the near future. The Bank of Korea (BOK)’s estimate for growth this year has been downgraded to 2.2 percent in the second quarter from 2.5 percent for the previous three months and again to 2.0 percent in the third quarter. No data shows an upside.

Moreover, the consumer price index in August slipped to sub-zero territory for the first time ever by edging down 0.04 percent from a year-ago last month. The government refused to call it a deflationary sign, claiming the phenomenon won’t last as it was triggered by the softening in vegetable and oil prices. But that’s like hiding one’s head in the sand. Low growth and prices have become a new normal across the world. Korea cannot be an exception, especially when it is caught in the crossfire of a trade war between the United States and China and with export barriers from Japan.

Recession and deflation, terms that sounded foreign to Koreans, are now mentioned regularly. BOK Governor Lee Ju-yeol has ordered each division at the central bank to come up with a contingency plan against the “worst-case scenario.” Experts warn the looming crisis poses greater danger to the economy for several reasons.

First of all, the low prices and growth do not stem from a mere cyclical correction. The phenomenon is caused by multiple structural problems — industrial migration, fast aging and a thinning working population, global supply glut and colossal pileup in public and private debt. In short, the economy has lost vitality after its growth closed off. The economy that has been singularly expanding for nearly 60 years has entered a contraction phase for the first time.

Past crises came from overseas, but this time, internal fissures and weaknesses aggravate the condition. The economy has lost the drive to move on with a depletion in growth, investment and consumption. Astronomical fiscal spending has worked little to ease the contraction. Many are worried that Korea is going down the doomed path of Japan as the symptoms of fast deterioration in growth and fast aging resemble Japan 20 years ago.

Japan struggled with triple lows in growth, interest rates and consumer prices during recent decades. Low prices harm the economy more than slow growth. When prices fall, no profit is left from investment. People won’t take out money even with interest rates at ultra-low levels. Sluggish investment causes deterioration in corporate finance, reduced wages and a slump in consumption to feed the vicious cycle in low or zero growth. Once an economy slips into the triple slump, there is no way out. No tax spending can help.

During the crisis of 1997-1998 that mostly hit Korea and Southeast Asian markets, major economies like the U.S., Japan, Europe and China fared well. Although the gold donations from the people have often been cited as Korea’s feat in combating the bailout crisis, the real credit should go to the surge in exports to the U.S. and Europe. During the 2008-2009 crisis, the U.S. and European markets shook. But Korea suffered relatively lightly thanks to the Chinese economy which went expanding from a colossal 18 trillion yuan ($2.5 trillion) spending from the central and regional governments. Korea-U.S. currency swap also helped. But what cushioned the shock for Korea was robust Chinese demand.

This time, there are no protections in sight. The entire global economy is stumbling or withering. Beijing declared that China can no longer expect to keep annual growth above 6 percent due to the protracted trade war with the United States. Noble Prize-winning economist Paul Krugman projected that China could face a tipping point in economy and encounter a crisis if trade tensions worsen. The European Union has also turned wobbly due to Brexit. The U.S. economy also has been showing signs of easing after five years of good employment, growth in wages and income. The inversion in the debt yield curve with the long-dated papers yielding higher rates than short maturities that often suggests a recession in the making has alarmed Trump, who fears a slowed economy will hurt his chance of winning a second term. He went as far as outright threatening the Federal Reserve chief to cut the policy rate to 1.0 percent if he does not want to lose his job.

The wave of protectionism also threatened the multilateral trade and financing order by challenging the status of the World Trade Organization and International Monetary Fund. The foreign exchange market is also volatile due to fears of the weaponization of currencies. A small open economy like Korea must find its own survival techniques. Yet it has gone reckless by declaring a trade war with Japan.

President Moon has stuck to his anti-market and corporate-unfriendly policies of income-led growth, shortened work hours and a phase-out from nuclear fuel since he took office in May 2017. His policies have worsened income inequalities and jobs.

The economy has gone astray because measures to address structural weaknesses through innovations and deregulation have been relatively slow. The president disagrees with the claim that the economy is in a crisis and slams such talk as fake news, assuring himself that the economy is going in the right direction after enduring some transitional pains.

The government thinks public finance is a panacea. It has packaged record-sized budgets for two years in a row. The effectiveness of fiscal spending has waned. According to the National Assembly Budget Office, a 1 trillion won increase in fiscal spending used to add to GDP by 800 billion won ($670.5 million) in 2014, but has now stopped at 560 billion won. Job additions that hovered at 12,700 in 2014 were reduced to 8,300 in 2017. Experts noted that in the past, fiscal spending helped to stimulate domestic demand. These days, much of the capital is taken out of the country. Japan also ended up in colossal debt after increasing fiscal spending with little efforts on restructuring and structural reforms.

Moon boasted that the employment rate in August was an all-time high. But of 450,000 newly hired in August, 390,000 were aged 60 or older. The job creation mostly ended up making part-time jobs for senior citizens. The job data in August also goes against the worst-ever number in the year-ago period. Kim Kwang-doo, professor of emeritus at Sogang University, accused the government of “deception” by pitching data selectively to the public.

A crisis can only be avoided with full vigilance. The government, however, remains overly casual. It must raise its guard and face the music. If public policies lose confidence from the market, they will no longer work at times of crisis.

The solutions have long been laid out. State institutions like the KDI and BOK have repeatedly argued for an improvement in productivity through structural reforms for future growth. The regulations and entry barriers must be removed and labor market should become more flexible. The government must cast away policies that are unfriendly toward the market and bolster market strength and free competition. The problem is that authorities refuse to admit the issue and act on it.