Bracing for worst-case scenario

The central bank has officially sounded its alarm bell over economic growth by announcing that it now expects Korea to grow just 3 percent this year instead of 3.5 percent due to the presumed impact of the prolonged euro zone crisis. The Bank of Korea expressed greater pessimism about domestic consumption, exports, construction and capital investment, pointing to the fact that the two growth engines of domestic consumption and overseas demand are still losing steam.

The government, international organizations and private think tanks have all downgraded their growth estimates for this year due to external factors that can affect the export-driven Korean economy. In a pre-emptive move to try and stop the rot, the BOK also cut its benchmark interest rate to ease liquidity and boost spending.

Adding to the gloomy outlook on the global economic horizon is the fact that the latest data shows a continued slowdown in China, the world’s second-largest economy. In Q2, China’s GDP grew 7.6 percent, slipping for the first time below 8 percent since the second quarter of 2009 in the wake of the global financial meltdown.

Beijing has officially targeted full-year growth of 7.5 percent for 2012, but 8 percent is still unofficially seen as a key safety threshold below which the possible ramifications for its trading partners cause concern.

With Europe in a deepening recession and the U.S. recovering from its financial troubles at a snail’s pace, the global economy will likely remain subdued for some time.

A slowdown in China, which eats up roughly one-quarter of Korea’s exports, could deal a heavy blow to local companies. According to Hyundai Economic Research Institute, if China’s growth rate falls by 1 percentage point, the loss is likely to trim Korea’s export growth by 1.7 percentage points and GDP growth by 0.4 percentage points. Petrochemical and steel industries, which depend heavily on China, are already feeling the pinch.

Korea may not even grow 3 percent as the central bank’s revised estimate was based on expectations that the budgetary spending of 8.5 trillion won ($7.4 billion) and the rate cut could help bolster the economy in the second half. But if the global situation worsens, Korea could be heading for a recession. As such, stimulus measures are needed, while the services sector should be liberalized to boost domestic consumption.