Korea needs to fix income-led growth strategy

Despite worsening economic data, the Moon Jae-in administration has reiterated that it will not modify its iconic income-led growth strategy vowing to continue to spend taxes to reverse the situation. The Korea Times interviewed eight foreign and Korean economic experts to evaluate the Moon's growth strategy and get policy suggestions. ― ED.

By Kim Jae-kyoung and Yoon Ja-young

While the faltering job indices are pulling down President Moon Jae-in's approval rating, the administration seems to have lost a clue where it should begin. Economists agree it should modify the income-led economic growth strategy which was basis of the steep minimum wage hike.

“The speed of minimum wage increases does seem to have had some negative consequences for businesses and those at the lower end of the income spectrum, for whom some employment opportunities have declined,” said Rob Carnell, Asia-Pacific chief economist at ING Bank.

Rob Carnell, Asia-Pacific chief economist at ING

The country's hourly minimum wage was raised by 16.4 percent to 7,530 won ($6.70) this year, to be followed by a 10.9 percent hike next year. The steep hike is part of the administration's income-led growth strategy which aims at pulling up incomes to increase consumption and thereby boost the economy.

Cart before horse

Katrina Ell, economist at Moody's Analytics, however, stresses that the labor market is a symptom of the economy rather than a target.

“Specifically targeting measures to improve weak segments of the labor market do not address the root cause of why there is a stubbornly weak labor market with chronically high youth unemployment,” she said.

“For instance, increasing the minimum wage may help lower skilled workers in the short term but without helping businesses improve productivity, it's going to be a greater burden to absorb those higher employment costs _ and if they cannot, staff will ultimately be shed,” she said, pointing out that a healthy labor market should be the result of productivity gains further up the chain to have sustained positive impacts.

Alicia Garcia-Herrero, Asia Pacific chief economist at Natixis

“If the government were to introduce more incentives for businesses that encourage higher investment, expansion and productivity gains then this would eventually flow through to improved labor market outcomes. More of this needs to be happening in South Korea.”

Experts say the wage hike won't work unless backed up by higher labor productivity.

“The reality is that the only way out for any country to sustain higher wages is to increase labor productivity. Let me tell you, though, that Korea's problem is not only that of Korea. Japan's labor productivity is among the lowest in the world so it also finds it difficult to increase wages,” said Alicia Garcia-Herrero, Asia Pacific chief economist at Natixis.

She said Korea should increase competition to pull up productivity.

“This is done domestically by reducing the oligopolistic nature of many of the sectors in Korea. Foreign competition is also very important since it obliges incumbents to upgrade,” she said.

Labor market condition overlooked

On top of raising minimum wage, the administration also shortened statutory work hours in expectation that businesses will hire more workers while a balance between work and life will lead to more consumption.

“The shortening of the workweek and an increase in the minimum wage are not necessarily bad policies. South Koreans already work the third-most hours in the OECD and 265 more hours a year than the OECD average, while income inequality has grown,” said Troy Stangarone, senior director at Korea Economic Institute.

Antonio Fatas, professor of economics at INSEAD

However, too many changes came simultaneously, overlooking market conditions.

“Rather than shorten the workweek while rapidly raising the minimum wage, it would have been better to implement the minimum wage increase after allowing the economy to adjust to the shorter workweek or to have coupled the shorter week with a slower minimum wage increase,” he said.

Lee Soo-hyung, professor at Sogang University, said the government seems to have overlooked the fact that the country's job market is not sustained by globally competitive export companies like Samsung. The self-employed and small businesses hiring less than five workers take a considerable portion of the employment, and the minimum wage hike burdened them.

“As competition is too tough in these sectors, they cannot raise the prices of their products or services despite the rise in labor cost. The minimum wage was raised too much in this regard and it dealt them a blow,” she said.

Lee Soo-hyung, professor at Sogang University

She said only a small group of workers enjoy the benefits of the reduced work hours.

“White-collar workers and government officials, who get relatively high pay, will have more room for consumption thanks to reduced work hours, but less-privileged workers are complaining they have to get an extra job to make up for the decrease in income. SMEs, the self-employed, and businesses at the margins can't hire more workers despite shorter work hours,” Lee said.

“Both the minimum wage hike and the shorter work hours would have worked if the economy was in good shape, if the demand on labor surpassed the supply. However, it isn't the case now.”

Antonio Fatas, professor of economics at INSEAD, pointed to the dual labor market as a structural problem of the country.

“It protects heavily the jobs of full-time workers but then it creates a large share of irregular jobs for more marginal workers that are not protected. Those who are protected enjoy strong benefits and stability, but those who are not have difficulty finding jobs. This has a negative effect on productivity in addition to the obvious social consequences.”

Yoon Sang-ho, research fellow at Korea Economic Research Institute

The administration focused on tackling the dualism in the labor market, but Fatas stressed that it won't achieve its goal if it tries to give everyone the protected status of those fully employed.

“Companies cannot afford the cost and they need flexibility. The classic solution involves protect workers, not jobs. You want companies to have the flexibility to change jobs and job conditions but then you want to have workers being protected by a combination of generous unemployment benefits and active labor market policies, or policies to help workers find a new job,” he said.

Income-led economic growth unproven

Yoon Sang-ho, a research fellow at Korea Economic Research Institute, said the income-led economic growth strategy pursued by the current administration is not a proven theory.

“Businesses cannot raise wages unless productivity rises as much. They will be maintaining employment as they cannot fire regular workers, but they won't hire new workers. Youth unemployment will worsen as a result,” Yoon said.

“Five thousand new jobs were added according to recent statistics, but most of them came from the public sector. This means jobs are disappearing in the private sector. Unless the administration deserts its income-led growth strategy, no job policy would work.”

Ha Joon-kyung, professor at Hanyang University

Ha Joon-kyung, professor at Hanyang University, said it won't be easy for job figures to improve due to the demographic structure.

“The economically active population between 15 and 64 started to decrease this year. As young people are decreasing while senior citizens are increasing, there is restriction in adding the number of the jobs.”

The demographic structure is challenging the demand side as well.

“The young population consumes more while senior citizens spend relatively less except for medical services. Education services are also shedding jobs as the number of children decreases. Demography does affect jobs.”

Stangarone cited the U.S. Trump administration's trade war, the country's anti-graft law which hit restaurants and retail sector, as other negatives for businesses.

“With a significant degree of uncertainty, it is not surprising companies are refraining from hiring or cutting back on staff until the economic situation stabilizes.”

Katrina Ell, economist at Moody's Analytics

Against this backdrop, he advises the government to help SMEs grow and expand, especially in the services sector.

“While the chaebol may be the largest firms in South Korea, the majority of future jobs will be created by SMEs and startups. Without policies that promote SME growth and entrepreneurship in the services sector, it will be difficult to continue to create new jobs as manufacturing increasingly automates and much of the rest of advanced economies turn to integrating services into manufacturing,” Stangarone said.

Spend tax rightly

The administration is coming up with diverse fiscal packages to sustain the job market, but economists are divided over this.

“Structural factors are the main cause of the troubled job market, and recent policy changes do little to address this. But there are also cyclical factors at play, and fiscal policy is a sensible tool in these circumstances,” Carnell said.

Troy Stangarone, senior director at Korea Economic Institute

“Without these fiscal measures, the situation in Korea could well have been worse, and Korea has substantial room to try to boost growth with fiscal policy without this seriously affecting government finances. It would have been reckless not to try to do so,” he said.

Lee, however, advises the government to lessen the tax burden.

“The government is seeing a surplus in tax income, but it cannot expect an increase in consumption which can lead to more jobs if it collects so much tax. The government is spending the tax surplus for its policy packages, but it cannot be more effective than the private sector. It had better lessen the tax burden to increase disposable income of the private sector,” the professor said.

She added that the administration needs courage to switch to a new policy if its current policy seems to fail.

Ha said the key lies in where the tax money is spent.

“Though it may be helpful as a social welfare policy, it won't be sustainable if the money is spent to create low-quality jobs. The key lies in raising productivity,” he said, advising the government to spend money on job training and creating quality jobs.

Also, the government should pull up the employment rate by helping women and young people get jobs.

“Korea's female employment rate is lower than that of Japan. They give up surviving in the labor market due to career breaks following childbirth and childcare. The government seems to be focusing on short-term remedies while spending little on such urgent problems,” the professor said.