OECD Economic Outlook, Volume 2023 Issue 2

Korea

GDP growth is expected to ease to 1.4% in 2023, before rebounding to 2.3% in 2024 and 2.1% in 2025. Elevated interest rates and energy prices are weighing on private consumption and investment in the near term. Exports will strengthen as semiconductor sales recover. Energy and food prices have pushed up consumer prices, but inflation will gradually moderate and reach the target in 2025. Unemployment is set to increase from the current historically low level as weak demand reduces hiring.

The Bank of Korea has maintained the policy rate at 3.5% since January 2023 and signalled that monetary policy will remain tight for some time. Fiscal consolidation should proceed given rapid population ageing, and the proposed fiscal rule should be implemented. Support to households should increasingly address gaps in social protection schemes, including eligibility and enforcement. Structural reforms should facilitate the reallocation of labour and capital to address high productivity gaps.

Growth is weak, but there are emerging signs of recovery

Domestic demand remains weak, but exports have bottomed out. Real GDP grew by 0.6% in the third quarter of 2023, mainly driven by exports. Private consumption and investment were subdued reflecting high interest rates, weak real wage growth and a sluggish housing market. Exports strengthened further in October, according to customs data, on the back of recovering semiconductor demand. Headline inflation rose to 3.8% in October due to higher energy and food prices, but core inflation has moderated, even though it remains well above the 2% target. The labour market has held up well, with a historically high employment rate and low unemployment.

Korea: Economic growth and inflation indicators

Source: OECD National Accounts database; and Bank of Korea.

Statlink

Korea: Demand, output and prices

Statlink

A slowdown in global demand along with delayed recovery in China, notably for semiconductors, has dampened exports until recently. Rising global bond rates are set to push up domestic bond yields, increasing the interest burden for the government and the private sector.

Monetary policy remains tight, and fiscal policy is mildly restrictive

The Bank of Korea has kept the policy rate on hold at 3.5% since January 2023. The policy rate is assumed to remain at the current level until the second half of 2024, before being cut gradually to 2.5% by 2025 as inflation approaches the 2% target. The fiscal stance in 2023 is expected to be less contractionary than in the government’s original consolidation plan, due to a massive revenue shortfall. The budget for 2024 is mildly restrictive despite contained expenditure growth, as tax revenue is assumed to remain sluggish. The projected contractionary fiscal stance in 2025 is in line with the government’s consolidation plan.

Growth is projected to rebound

Real GDP growth is projected to be 1.4% in 2023, strengthening to 2.3% in 2024 and 2.1% in 2025. Exports are set to pick up with a recovery in semiconductor demand. Elevated debt servicing burdens and inflation will continue to weigh on private consumption and investment in the short term, but demand should strengthen from the second half of 2024. Inflation will gradually moderate and reach the target in 2025. Further turmoil in global financial markets could hold back growth by raising the debt servicing burden for households and firms. Increasing geopolitical tensions may threaten Korean supply chains. Stronger‑than‑expected global growth and easing geopolitical tensions would improve the economic outlook for the export-dependent Korean economy.

Structural challenges require policy action

Against the backdrop of rapid population ageing, spending pressures are set to increase by approximately 5% of GDP by 2040 according to the OECD long-term model, driven by pensions and health expenditure. Fiscal consolidation is key to meet this challenge. The proposed fiscal rule, which caps the managed budget deficit at 3% of GDP, should be implemented to limit the build up of fiscal pressure. The pension reform needs to ensure adequate retirement income and fiscal sustainability. The government recently extended a temporary fuel tax cut until the end of 2023 to lower energy bills. It would be better to target vulnerable groups more directly, notably by addressing gaps and weaknesses in the social safety net, including eligibility and enforceability. Reducing the stringency of product market regulation by, for example, shifting to a comprehensive negative-list regulatory system and streamlining public support to SMEs would help to lower productivity gaps between large and small firms and reduce labour market dualism. Policies should also focus on reconciling career and family, including increasing the take-up of parental leave and enabling more flexible working arrangements to boost female employment and fertility. To further reduce greenhouse gas emissions, the emission trading scheme should be aligned with climate targets, and incentives for clean electricity supply and energy savings should be enhanced.