Debt, China risks may delay recovery

By Kim Jae-kyoung

SINGAPORE ― Korea will not see a meaningful rebound until the second half of this year due to two major downside risks ― rising debt and the China slowdown, according to Emily Dabbs, an economist with Moody’s Analytics.

“The high level of household and corporate debt poses a downside risk to financial stability in Korea,” she said in an interview. “When rates eventually rise, this could put stress on overstretched borrowers.”

Moody’s Analytics is the research arm of Moody’s Corporation, which runs Moody’s Investors Service, an international sovereign credit ratings agency.

She pointed out that the government’s efforts to restructure consumer debt and reform large firms will put a drag on Asia’s fourth-largest economy in the short term.

“To mitigate the expected fallout from higher interest rates, the government is setting up a committee to oversee corporate restructuring, while regulators put pressure on banks to tighten lending screening,” she said.

“Many large Korean companies are shedding their unprofitable business arms, focusing on core business areas where they have a competitive advantage. While this will improve long-term productivity in Korea, there will likely be some short-term pain as businesses shed jobs.”

Dabbs, who concentrates on the Korean economy, said that China’s shuttering economy will also hold back Korea’s recovery.

“Slower growth in China will likely hurt Korean exporters in the near-term, dragging on economic growth. While the U.S. is growing steadily, and should provide a boost to export demand, it is unlikely to offset the weaker demand from China,” she said.

However, the economist ruled out the possibility of such risks resulting in severe market volatility and a massive capital flight from the country.

“Korea is better placed for increasing U.S. interest rates than many emerging markets in the region. Foreign reserves are high and the risk of capital flight is relatively low, which gives the central bank room to keep rates lower for longer,” she said.

In particular, she expects that Hyundai Motor Company and Kia Motors will struggle to stay competitive in the U.S. market.

“Korean automakers are also likely to lose their competitive advantage over Japanese rivals in the U.S. market as the Trans-Pacific Partnership inches closer to being ratified by participating countries,” she said.

She predicted that the Korean economy will pick up in mid 2016, with inflation ticking up, which will prompt the central bank to start raising rates at a fairly slow pace.

“This will likely see the won appreciate slightly against the U.S. dollar, although it will remain weaker than in previous years,” she said.

The economist said that Korea should come up with measures to counter its graying of population because it presents a number of challenges for the economy in the longer-term.

“Businesses will face worker shortages which will put upward pressure on wages and hurt export competitiveness, while domestic demand will likely wane as the elderly tend to spend less than younger people,” she said.

“Overall, this will likely see Korea’s potential growth rate trend lower. Increasing participation in the labor force and improving labor productivity is key to offsetting the negative effects of Korea’s ageing population.”