Fears loom over twin deficits, stagflation
Cargo containers are stacked at a port in Busan, May 31. Yonhap
Concern increases over weak private consumption and shrinking investment
By Lee Min-hyung
The Korean economy is faced with a heightened risk after the country reported a current account deficit this April for the first time in two years.
Coupled with a years-long deficit in the consolidated fiscal balance, these twin deficits are feared to take a heavy toll on the economy.
Other risk factors, such as rising inflationary pressure and the soaring won-dollar exchange rate, will also make it harder for the economy to achieve a post-pandemic recovery.
According to data from the Bank of Korea (BOK), Korea's current account deficit reached $80 million (102.4 billion won) in April, as surging raw material prices augmented imports and local firms increased dividend payouts to overseas investors.
This escalates concerns over the economy falling into a trap of twin deficits, at a time when the nation's consolidated fiscal balance is also widely forecast to report a deficit for the whole of 2022. The figure turned into a deficit in 2019, and failed to achieve a surplus until 2021 due to widened government expenditure after the start of the coronavirus pandemic in early 2020.
The consolidated fiscal balance reported a 33.1 trillion won deficit in the first quarter, according to data from the Ministry of Economy and Finance.
Of particular concern is that the economy is also on a slowdown amid weak private consumption and shrinking investment. The first-quarter GDP grew by only 0.6 percent from the quarter before, according to recent BOK data.
The central bank is also sending repeated hawkish signals to the market, hinting at the possibility of raising the benchmark interest rate further to tame inflation. The BOK has pushed for a series of aggressive rate hikes of 1.25 percent to 1.75 percent within less than a year.
BOK Governor Rhee Chang-yong recently addressed the importance of additionally raising the rate to fight inflation. Korea's consumer prices are on the rapid rise this year, with prices soaring by 5.4 percent in May from the previous year, sparking fears of stagflation caused by rising inflation and weakening economic growth. The central bank revised down its GDP growth forecast for this year recently, to 2.7 percent from an earlier outlook of 3 percent.
“The basic premise of the macroeconomic environment is stagflation in the latter half of this year, but it is up to authorities whether the economy will remain stagnant or be managed properly,” SK Securities economist An Young-jin said.
The BOK also raised the country's 2022 inflation outlook to 4.5 percent from 3.1 percent. Consumer prices in the energy, food and service sectors are increasing sharply, as consumer demand is showing signs of bouncing back amid the gradual transition from pandemic to endemic.
The U.S. also reported its consumer price index increased 8.6 percent last month, the highest rise there in more than four decades due to the soaring energy and food prices. Shocked by the announcement, major Wall Street indexes extended losses. The Nasdaq fell by 3.5 percent on Friday, and the S&P 500 also dropped around 3 percent on the same day.
“More than a quarter of Fitch-rated emerging markets will experience budget and current account deficits of at least 4 percent of GDP in 2022 ― a record proportion,” Fitch Ratings analyst Ed Parker said. “Sizable twin deficits sit against a more challenging financing backdrop of slowing global growth, rising U.S. Federal Reserve interest rates, quantitative tightening, a strong U.S. dollar, heightened risk aversion, high inflation and rising domestic policy rates.”
The won-dollar exchange rate is on a sharp rise this year on growing preference for safer assets, hovering around a decade-high of 1,280 won per U.S. dollar.