Rapid recovery in the South Korean post-covid economy

In the second half of 2021, the International Monetary Fund (IMF) revised upwards its GDP forecast for advanced countries. The main reason for the IMF’s more optimistic assessment is the improved pandemic situation in these countries. However, due to the sudden recovery, labor shortages and commodity bottlenecks are driving up inflation and wages/salaries in many countries. The surge in wages and prices seems to be a long-term factor that advanced countries need to manage. While the average GDP growth forecast for advanced Asia is 3.8 percent, the IMF estimates South Korea’s GDP at 4.3 percent.

Introduction

The South Korean economy has responded only moderately to the global pandemic, although both fiscal and monetary policy measures have been moderate, and the population vaccination rate has been rather low, with the process until the summer of 2021. Now, according to Our World In Data, the rate of fully vaccinated persons is 66.8 percent, higher than the world average (36.9 percent, as of October 22, 2021). However, containment measures have helped the South Korean economy even during times when vaccination rates were low.

This blog post looks at the key elements of the South Korean economy’s recovery and also briefly analyses the social consequences of the global pandemic in the Republic of Korea  (hereafter South Korea ).

Mild recession in 2020

In 2020, the South Korean economy contracted by 0.9 percent, a  milder decline in GDP than the average for advanced countries (-4.5%) or advanced countries (-2.9%) Even regional competitors, Japan and Singapore suffered large GDP declines, only Taiwan province of China gaining in GDP as it relied on extreme demand for semiconductors, a strength of the Taiwanese economy. (See Table 1!) The other reason for the relatively small GDP loss was the South Korean authorities’ quick response to the pandemic and immediate fiscal and monetary policy measures. At the same time, we can say that the fiscal and monetary measures were rather moderate in South Korea. Kirkegaard compares the G20 countries’ fiscal measures and finds that they amount to 14.7 percent of GDP, while the same indicator is 44.2 percent in Japan, 38.8 percent in Germany, 27.9 percent in the United States, and 20.7 percent in Singapore. (China’s fiscal measures added up to 6.1 percent of GDP).

As for the monetary policy response, the Bank of Korea  only cut the key interest rate by 25 basis points to 0.50 percent. That means the central bank still has the powder to boost the South Korean economy if needed later, especially since it raised the rate again in the summer due to the rapid recovery.

 202020212022
South Korea  -0.94.33.3
Japan-4.62.43.2
Singapore-5.36.03.2
Taiwan province of China3.15.93.3
Advanced Asia-2.93.82.5
Table 1. GDP forecasts for advanced Asian economies
Source: IMF October 2021, Outlook
GDP growth in details

Demand for semiconductors, other computer parts, and automobiles – albeit in a somewhat attenuated form – also helps explain South Korea’s relatively rapid GDP growth. Strong global demand for semiconductors and automobiles led to  a surge in exports.[1] This explains why South Korea  was one of the first OECD countries to reach pre-crisis production levels in the first quarter of 2021. South Korea, as one of the world’s most open economies, benefited from the stronger than expected rebound in the United States, Japan, the United Kingdom and other advanced countries too.

This robust growth – 6.0 percent on year-on-year basis in the second quarter of 2021 – was underpinned by strong domestic consumption. The final consumption expenditure rose by 4.1 percent (year-on-year) in the second quarter of 2021, providing a solid foundation for GDP growth.

The above increase in exports was also reflected in industrial production. Industrial production picked up in March and this trend continued, peaking in April (8.5%). Since then, the growth rate of industrial production declined slightly and returned to 4.7 percent growth rate in July 2021. See Table 2!

 December 2020January 2021February 2021March 2021April 2021May 2021June 2021July 2021
Industry output (y-o-y, %)-0.71.50.45.88.56.96.54.7
Table 2. Industrial production in South Korea
Source: Ministry of Economy and Finance, Economic Bulletin, October 2021

GDP forecasts for 2021 range from 3.5 to 4.5 percent. There are two elements that make these estimates uncertain: labor market bottlenecks and rising inflation.

Bank of Koreacirca 4.0
OECD3.8
IMF4.3
Korean Ministry of Finances4.2
Oxford Economics3.3
Fitch Ratings4.5
Table 3. GDP forecasts for the South Korean economy in 2021 (percent)
Source: own compilation
Inflation

Inflation is a key issue in South Korea as in many other countries. The Bank of Korea raised its key interest rate its key interest rate from 0.50 percent to 0.75 percent in August 2021. It was the first interest rate hike in two years and nine months.

Although the growth rate of the price index in September was lower than in August 2021, experts do not rule out inflation of 3 percent this year. Inflation this year has been driven by the rise in commodity and oil prices. A finance ministry official said,“The possibility of 3 percent price growth is not ruled out, because of the base effect from last year, ….Supply-side factors will determine the course of inflation in the coming months … “ If we include South Korea’s inflation rate in a reginal comparison, we see that the rate in 2020 is already above the median of advanced Asian countries (0.2%) and even IMF forecasts predict a higher rate for South Korea  than its peers. A higher inflation rate in this case can be associated with higher growth than in other advanced Asian countries. We cannot rule out the possibility that the key interest rate will be raised by 0.25 percent to 1.00 percent at the end of the year.

 202020212022
South Korea  0.52.21.6
Japan0.0-0.20.5
Singapore-0.21.61.5
Taiwan province of China-0.21.61.5
Table 4: Inflation forecasts for advanced Asian economies
Source: IMF October 2021, Outlook
The emergence of dual labor market

Despite the positive macroeconomic indicators, there are a few worrying features of the post-covid recovery. According to the OECD, South Korea’s employment recovery has been slower than the OECD average, the Gini coefficient[2] is higher (0.34) than the median for advanced countries (0.30), and productivity is 37 percent lower than the OECD average. While the OECD analysis suggests that the emergence of the dual labor market is responsible for social tensions in South Korean society, other analyses criticize the government when it favors established firms over newcomers, small and medium-sized enterprises. The term dual marking refers to a growing number of contract workers in both the public and private sectors. The popularity of this form of employment is also about flexibility and cost cutting. It can open up many opportunities for companies to operate smoothly, while demanding more flexibility from workers, leading to social instability.

At the same time there are clear bottlenecks in the labor market. In July 2021, unemployment rate fell to 3.3 percent from June 3.7 percent in June, but the employment rate declined. In other words, unemployment has not declined because people have found new jobs, but many have left the labor market. There are only conjectures as to where these people went. These can include retirement, job dissatisfaction, or other unpaid work.

Summary

For many decades, the South Korean economy was described as a variant of the Asian developmental state, where conglomerates dominated the economy, in contrast to the Japanese economy, where the focus was on keiretsu-s[3], and the Taiwanese economy, where the backbone of the economy was small and medium-sized enterprises. In recent years, South Korean conglomerates, or chaebols, have been considered less important by South Korean economic decision makers. Although the chaebols in earlier decades were able to accelerate capital accumulation and allowed for more independent decision making (as opposed to countries relying on foreign capital), the growing openness of the South Korean economy led large firms to shift production to neighboring Asian countries with low costs, thus increasing the economic importance of small and medium-sized firms, leading to the emergence of a dual labor market and more flexibility in business decisions, which has now been rewarded by higher growth in the post-covid period, as we have seen in the analysis. We must also add that this rapid recovery can be partly explained by the authorities’ smooth pandemic management, which prevented a total lockdown of the economy.

Author: Csaba Moldicz


[1] For this reason, the export expanded by 55.9 percent on year-on-year basis in September of 2021.

[2] The Gini coefficient measures the distribution of wealth within the society. The coefficient ranges from 0 to 1.  0 represents perfect equality and 1 stand for perfect inequality across a population.

[3] Keiretsu means “group” in Japanese. The specific term in economics refers to a group, a network of closely aligned companies that rely on a government or government-sponsored bank while owning significant stakes in each other’s companies. This form means there is less dependence on outside investors and the keiretsu can make long-term decisions and develop long-term strategies, which is less typical of companies whose management is more dependent on changes in the stock market.

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