To make 2026 a year of stability and growth
The importance of political stability to economic stability was strongly reaffirmed by the fallout of the illegal martial law declaration of Dec. 3, 2024. The Korean economy is bottoming out of the trough with political stability restored and two supplementary budgets in the form of consumption coupons, equivalent to approximately 1 percent of the gross domestic product (GDP). Against many headwinds, keeping recovery momentum intact is critical for the Korean economy. The year 2026 should be made a year of stability and growth.
However, recovery will likely be modest, with around 1.8-2 percent growth expected next year due to the impact of the U.S. tariffs, the U.S.-China rivalry, weakening global growth and trade conditions, the sluggishness in the construction sector and delayed restructuring in the chemicals industry, an overheated real estate market, and the depreciating Korean won.
Exports are forecast to grow, despite increased tariffs, on the back of strong global demand for semiconductors. However, uncertainty over tariffs and structural adjustments in global supply chains will likely moderate that growth in the medium term. Consequently, the current account surplus is expected to reduce to 3.9 percent of GDP in 2026 from the estimated 4.8 percent in 2025. However, downward stabilization of the current account surplus has a positive effect, too, as it reduces trade friction with major trading partners.
Domestic demand, another important economic driver, is likely to remain weak despite accommodative fiscal and monetary policy due to high house prices, sluggish construction, and a chemicals sector heavily affected by global oversupply and delayed restructuring. Given that China, already accounting for 40 percent of the global market, is rapidly taking control of the global chemicals supply chain, little time is left for restructuring Korea’s chemicals sector.
Construction investment remains sluggish, not contributing much to jobs creation. The Korea Development Institute forecasts construction investment to fall by 9.1 percent in 2025 but to turn around with an increase of 2.2 percent in 2026, shedding some doldrums. Job creation and labor force participation stimulation are also critical for boosting domestic demand.
Korean households hold about 46 percent of their assets in illiquid real estate. Even young people in their 20s and 30s have jumped on the house-buying craze using loans, resulting in a heavy burden of monthly repayments on principal and interest. High house prices in the Seoul metropolitan area in particular, with its heavy population concentration, have had a direct negative impact on domestic demand. Together with high education prices and cost of living, this has left people with little money to spend regardless of house price appreciation.
Although overall inflation remains and is forecast to remain around 2 percent, the real cost of living of ordinary people has gone up, weighing on their spending. Disposable income continues to shrink.
Rapid Korean won depreciation is another factor to account for in monetary policy, which should move swiftly and independently. Too much liquidity in the market is a strong case for policy rate increase, along with the weakening Korean won, inflation pressure and housing market conditions. The two main mandates of the central bank are financial stability and price stability. Thus, further interest rate cuts should be approached cautiously.
Fiscal policy should be consolidated gradually in tandem with improvements in the economy in order to ensure that fiscal stimulus will not be a fixture of the Korean economy. Currently, the government debt stands at 49.6 percent of GDP and is forecast to increase to 51.6 percent in 2026. Fiscal consolidation should be put on the agenda before it is too late.
Now is the time to harness growth potential. The current government presented a growth potential increase of 3 percent as a national agenda. To boost growth potential investment in R&D and innovation is key. Continued investment in artificial intelligence is a good policy direction. Korea’s R&D success rate is one of the highest in the world, but its effectiveness is low among the OECD members, leading to weak commercialization. . Why do we see this stark contradiction? The goal of the government assistance and audit should be reoriented to enhance the effectiveness of the R&D instead of the success rate. 99% of the R&D investments are doomed to fail if history is any guide. The assessment yardstick for R&D investment should be adjusted to reflect that.
With an intensifying U.S.-China rivalry, and in view of the nonfunctioning WTO, more countries are seeking bilateral, multilateral and regional agreements to reap the benefits of free trade and mitigate adverse impact of tariff increases. Korea and the United Kingdom just agreed an improved trade deal. More countries want to join the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), which currently has 12 member countries. Korea should expedite its entry, and Japan should take a more proactive approach in expanding CPTPP by accepting more like-minded countries such as Korea to help boost the regional and global trade environment.
Song Kyung-jin is senior fellow at Asiatic Research Institute at Korea University.