Specter of Korea's 'Lost Decade' Looms
2% growth becomes ‘new normal’ for Korea ― Country needs reforms, innovation to rehabilitate economy
By Kim Jae-kyoung
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Resilient growth has become a thing of the past for Korea.
For Asia’s fourth-largest economy, growth below 3 percent has become the “new normal,” a sign the nation has failed to retool the economy in line with industrial and demographic changes. This spawns fears that the economy is heading toward Korea’s “Lost Decade.”
Korea’s economic growth is forecast to remain below 3 percent in 2017 for the third consecutive year. The Ministry of Strategy and Finance (MOSF) lowered its outlook to 2.4 percent from an earlier forecast of 3 percent. The economy grew 2.5 percent in 2016 and 2.6 percent in 2015.
The problem is that this is not just a passing and cyclical downturn but the beginning of a structural long-term low-growth tunnel.
This means Korea will see a gradual decline in GDP growth in the coming decade, following in the footsteps of advanced economies, including Europe and Japan, where a 1 percent level of growth is the norm.
“We expect Korea’s economy will continue to grow below 3 percent over the following years as an aging population limits its growth potential,” Moody’s Analytics economist Emily Dabbs told The Korea Times.
“I believe Korea will likely grow at a slower pace than previous years as it struggles with softer global demand and increasing competition from rivals in China.”
Andy Xie, former Morgan Stanley economist, said Koreans should lower their hopes for growth.
“Korea’s labor force is not growing,” he said. “Deepening capital is difficult. The only source of growth is productivity.
“Two percent growth seems to be the norm for the economy now. Korea has to accept it.”
Xie, an independent economist, is well known for having forecast Asia's financial crisis in 1997 and 1998.
There are two key critical factors behind these downbeat outlooks on the Korean economy ― demographics and debt, the problems that triggered Japan’s “Lost Two Decades.”
Korea is facing growing demographic pressure with its population aging at a rapid pace. The population aged over 65 has been growing fast, while the fertility rate is the lowest among 40 countries tracked by the OECD.
This phenomenon, dubbed the “Demographic Cliff,” is expected to result in a sharp drop in the working population aged between 15 and 64. This will, in turn, reduce production and consumption thus hurting growth potential and crippling the economy.
“Demographics is the most serious problem facing Korea and the problem is worse than many of Korea’s trading partners,” Sohn Sung-won, a professor of economics at California State University, said.
“Without a young and growing labor force, it is difficult to increase an economy. Ideally, productivity gains could pick up the slack, but it is unlikely.”
Debt is another hindrance stymieing economic resilience and vitality.
The government has been using household debt as a means to bolster domestic demand. The low interest rate and loose lending policy have been encouraging people to borrow more. However, with income continuing to fall, the snowballing debt load is depressing people and dampening consumption.
Economists have called for Korea to overhaul its debt strategy.
“Most important is to wean the economy from debt dependency,” Xie said. “Debt should grow in line, not faster, than nominal GDP. Trying to juice up growth with debt will only lead to a crisis down the road.
“The right approach is to accept slower growth and stop using debt to boost the economy. The government should focus on decreasing the cost of living, especially in housing and education.”
To pull the economy out of the low-growth trap, more drastic structural reform and innovation should be in place.
Reflecting a rapidly aging workforce, the government should reform the labor market to improve the nation’s labor productivity, which is much lower than the OECD average.
At the same time, the country needs to reform its growth model, focusing more on service industries, such as education, healthcare and finance, to boost domestic demand and survive in the era of slowing trade growth amid growing U.S. protectionism and the slowdown in China.
Innovation is a key to sustainable growth but Korea is missing in the global wave toward innovative future industries, such as fintech and artificial intelligence.
To encourage more innovation, there should be more incentives for companies to invest in innovative business domains.
“Unless innovation becomes a strong engine of growth across many sectors, Korea could end up in a state similar to many other advanced economies,” Antonio Fatas, professor of economics at INSEAD, said.