By John Burton
This past weekend marked the 20th anniversary of Seoul’s agreement with the International Monetary Fund to expedite financial reforms and open its domestic financial markets. It was part of a $10 billion support package to help rescue the economy from the ravages of the 1997 Asian financial crisis.
Although the IMF measures that Korea agreed to were heavily criticized at the time by many and inflicted sharp short-term economic pain, in retrospect they made the country more resistant to many subsequent economic crises, including the 2008 global financial crisis.
Seoul’s willingness to relax rigid regulatory rules and shut down many of the country’s leading chaebol to reduce excessive corporate debt, while strengthening the soundness of banks and rebuilding foreign currency reserves, has meant that Korea has enjoyed relatively good economic growth since 2000.
But Korea is now facing another set of challenging economic issues that relate to the need to increase wages, promote greater income equality and overhaul an industrial structure that relies heavily on exports. This will require improved productivity and labor market efficiency while creating a business environment that encourages the growth of an innovative service-based economy.
President Moon Jae-in came into office promising an average annual growth rate of 3 percent, the creation of more than 800,000 jobs over the next five years to reduce high youth unemployment and a cut in household debt, which is among the highest in the industrialized world. He must also solve long-term structural obstacles to growth such as finding ways to encourage increased female workforce participation.
The environment to tackle these economic issues, however, is becoming increasingly fraught. Moon, who won the presidential election this year on promises to improve the status of the average Korean, has had to spend much of his time dealing with the North Korean nuclear issue. This is likely to take up even more of his time in 2018 as tensions continue to rise between Pyongyang and Washington.
The Korean economy is also facing external political challenges. China engaged in economic retaliation for Korea’s hosting of the U.S. THAAD missile system, while the U.S. has threatened to tear up the KORUS FTA agreement. The two countries alone account for nearly 40 percent of Korea’s total trade.
These developments have reduced the time for the Moon administration to carry out its economic agenda, although it may also increase pressure for the government to put Korea’s economic house in order so domestic demand becomes a bigger growth engine.
In that regard, Moon needs to solve the high youth unemployment problem and curb irregular employment contracts that undermine job stability and wages. But achieving those objectives is now threatened by another emerging global economic development ― the rise in interest rates.
The Bank of Korea last month raised interest rates for the first time in more than six years, becoming the first major Asian economy to tighten monetary policy since 2014. Although the economy is seen as being cyclically strong enough to absorb higher rates, it could affect Moon’s plans to boost domestic demand.
Monetary tightening will discourage companies to hire new people when they face rising costs for corporate debt. It will also increase household debt and thus dampen consumption since people will have to pay more interest on borrowed money.
Household debt largely consists of mortgage debt. Previous governments have been blamed for causing the upward spiral in mortgage debt by keeping interest rates low and encouraging people to buy homes that they can’t afford.
The fear now is that if the U.S. continues to raise interest rates, Korea will be forced to follow, creating the conditions for a possible collapse in the real estate market that would trigger an economic crisis like that in Japan in the 1990s and the U.S. in 2008.
The good news is that the growth of household debt is already slowing due to recent tougher limits on mortgage lending. But 20 years after the Korean economy collapsed due to unsustainable corporate debt, the country still faces the risk of a mortgage debt crisis.
Whether Korea can avoid such an outcome will depend on continued strong export growth for products such as semiconductors, and a gradual recovery in domestic consumer demand. But those favorable conditions in turn will depend on whether Korea can solve remaining trade issues with China and the U.S. while pushing through reforms that benefit workers.
The recent agreement with China to normalize trade relations, including ending Beijing’s year-long freeze on Chinese tourism to Korea, offers some hope since it will likely increase service-sector jobs. But Moon still will need to deal with the looming threat from U.S. President Donald Trump on the KORUS FTA, as well as the more existential issue of war possibly erupting on the Korean Peninsula.
John Burton (johnburtonft@yahoo.com), a former Korea correspondent for the Financial Times, is now a Washington, D.C.-based journalist and consultant.