[Post-Covid-19 New Normal] No longer doomed but not out of the woods yet

In-depth

Published: 06 Dec. 2020, 17:32

[Post-Covid-19 New Normal] No longer doomed but not out of the woods yet

The empty alleyway of Namdaemun market in November. Due to the continuing Covid-19, the once traditional market that was crowded with tourists and local visitors have been struggling. [NEWS1]

Don’t pop the champagne yet, Finance Minister Hong Nam-ki warns. Despite signs of recovery, especially after third-quarter growth came in better than expected, Covid-19 remains a problem, and it is far too early to call a bottoming out of the crisis.

At the government’s emergency economic meeting on Oct. 28, Finance Minister Hong Nam-ki vowed to utilize all available tools in securing recovery momentum in the fourth quarter as he noted the resurgence of the pandemic in mid-August limited the recovery of the economy in the third quarter.

“We will put emphasis on maximizing the use of budgets, including the fourth supplementary budget within this year, for the purpose of strengthening the economy,” the finance minister said. “In the fourth quarter, we will focus on everything from fiscal policies, investment, consumer spending and exports in securing a recovery of momentum in the fourth quarter.”

Since that announcement, Korea is again facing another troubling sign as the number of daily confirmed cases of coronavirus infections have been between 400 and 500, forcing the government to implement strict social distancing regulations at a similar level as to those implemented between August and September.

After much friction, the political parties have come to an agreement about expanding next year’s budget, which will include a third round of emergency relief grants targeting small businesses affected by the second Level 2 social distancing rules.

In facing an unprecedented crisis, the Korean government has swiftly and aggressively implemented fiscal policies to defend the nation’s economy, which is facing a crisis dwarfing the 1997-1998 IMF crisis and the global financial crisis in 2008-2009.

In addition to the public’s strict adherence to the government’s social distancing that helps control the spread of the virus so the country does not have to go on a full lockdown, the expansionary fiscal policies have helped defend the economy from falling sharply, putting Korea at the top among Organisation for Economic Cooperation and Development (OECD) countries with the slowest year-on-year contraction.

Yet experts warn against the growing debt, and advised that it is not the size of the fiscal policy that is important, but more importantly where it is spent.

Aggressive fiscal spending
Since the first confirmed cases of Covid-19 were reported on Jan. 20, the government over the past 11 months has opted for an aggressive expansionary fiscal policy in mitigating the unprecedented crisis.

The government has so far spent 285 trillion won ($263 billion), which not only includes the four supplementary budgets amounting to 66.8 trillion won but also other measures, such as financial support.

The total accounts for roughly 15 percent of last year’s GDP, with supplementary budgets alone equaling 3.5 percent of last year’s GDP.

While Korea has faced major economic crises in the past, the government’s fiscal spending has never been as aggressive as this year.

In 1998, lawmakers approved a 13.9-trillion-won supplementary budget. It held the title of the biggest supplementary budget for more than a decade until a 28.4-trillion-won supplementary budget was approved in 2009 after the global financial crisis.

But this year, the record was broken, indicating the urgency of the crisis caused by the pandemic.

Even by ratio, this year’s supplementary budgets are far higher than the 2.6 percent to the GDP in 1998 and 2.4 percent compared to 2009.
A study by the National Assembly Budget Office (NABO) released Oct. 20 ranked Korea as eighth among the G-20 countries on fiscal expenditure to GDP ratio in fighting Covid-19.

At the time the report was released, Korea’s fiscal expenditure was 12.8 percent of GDP. Germany ranked highest, at 40.9 percent, followed by Italy, at 37.5 percent, and Japan at 36.3 percent. The United States ranked world’s sixth, at 14.8 percent.

Korea’s fiscal measures against Covid even exceed those of China, which ranked 26th at 4.6 percent.

By ratio to GDP, Korea’s was higher than the G-20 average of 12.1 percent. But by the amount spent, Korea falls behind other countries.

China has spent $659.7 billion, which is three times Korea.

Germany spent $1.57 trillion, Italy $750.4 billion and Japan $1.79 trillion.

The NABO study noted that the more advanced the economies were, the more aggressive they were.

The average of advanced economies was 19.8 percent, while for developing countries it was at 5.1 percent.

Fiscal measures cushion crisis
The Korean government’s aggressive spending has been duly noted by think tanks and was the key factor in assessing Korea’s relatively better economic growth outlook for this year.

The OECD, in its latest outlook announced on Dec. 1, projected the Korean economy to contract 1.1 percent in 2020.

While the projection was lower than its earlier forecast of a negative 1 percent in September, among OECD countries, Korea’s fall was the slowest.

Among the G-20, Korea is expected to have the strongest economy after China, which is not in the OECD.

The reason for the change on the updated forecast was the second resurgence. Social distancing rules reinforced in November affected the “operation of facilities such as bars and restaurants,” the OECD report noted.

It said Korea’s “effective measures” were able to contain the spread of Covid-19 and limit the fall.

“The smallest decline in the OECD,” the report noted.

“Fiscal expansion is appropriate given economic conditions,” the OECD noted in its outlook. It encouraged the continuation of measures “supporting households and businesses until the economy is on a firmer recovery path.”

Similar advice was offered by other institutions, including the IMF.

In its updated outlook that was release in October, it projected Korea’s growth this year at minus 1 percent. This was a sharp improvement from the June outlook, when Korea was expected to contract 4.9 percent.

While the recent development of a second resurgence could affect projected growth, Korea’s relatively successful move in keeping the economy from tumbling further was attributed to the aggressive fiscal response.

According to the Finance Ministry, IMF managing director Kristalina Georgieva during a phone call with Finance Minister Hong in late October cited the Korean government’s swift fiscal actions as the key factor of successfully minimizing the damage caused by Covid-19 on the economy.

The IMF has recommended countries continue fiscal expansion.

“Pull the plug too early, then we can see serious self-inflicted harm,” Georgieva said. “Avoid doing that.”

In a Nov. 2 report, the IMF stated that while fiscal support of the G-20 countries amounting to $11 trillion have been provided in supporting businesses and on health care, the support has been winding down recently.

It said that “premature withdrawal of support would impose further harm on livelihoods and heighten the likelihood of widespread bankruptcies.” This could jeopardize recoveries.

In its projection on Nov. 1, the Korea Development Institute (KDI) kept this year’s growth projection at a 1.1 percent decline, unchanged from September.

As with the IMF, KDI also insisted that in order to keep the momentum, the current aggressive fiscal policy must be maintained.

“In order for an economic recovery, the spread of Covid-19 needs to be controlled,” said Jung Kyu-chul, head of KDI’s macroeconomic analysis and forecasting department. He especially noted the importance of the fiscal policy targeting the vulnerable.

“Covid-19 is having an imbalanced effect on different subjects and therefore the fiscal support should be focused more on the vulnerable people in order to increase the efficiency.”

President Moon Jae-in on Tuesday stressed the positive impact the government efforts have made.

“If we continue the drift of the economy rebound by the end of this year, which is not long from now, we could expect our economy absorbing the Covid-19 shock and entering normal orbit in the first half of next year,” Moon said during his cabinet meeting at the Blue House.

His comment came after the Bank of Korea on the same day announced that the Korean economy in the third quarter grew 2.1 percent compared to the previous quarter, an improvement from the 1.9 percent expansion in the initial estimate made in October.

“It shows that our economy is recovering at a faster pace than expected and that the rebound in strong,” Moon said.

Rising debt
As a result of the government’s unprecedented support, the economy has been able to avoid suffering the worst economic crisis even if the economy ends as projected by the numerous think tanks with a 1 percent decline, which would be the country’s first contraction in more than two decades.

Yet the aggressive spending comes at a cost: Debt.

According to the Finance Ministry, the national debt already exceeded 800 trillion won as of the end of September, a new record.

By the end of this year, the total debt is expected to amount to 846.9 trillion won. That’s nearly 40 trillion won more than the initial debt expected for the entire year before Covid-19, which was 805.2 trillion won.

With debt rising, the debt-to-GDP ratio will exceed 40 percent for the first time.

While Korea doesn’t have a fiscal rule, the government has tried to keep the national debt at 40 percent.

If it weren’t for the aggressive fiscal measures implemented since the outbreak, this year’s debt ratio would have been an estimated 39.8 percent.

That national debt is expected to go up next year as a result of the supersized budget that easily passed the National Assembly on Tuesday.

The ruling Democratic Party and the main opposition People Power Party on Tuesday reached an agreement of increasing next year’s budget.

The budget included 3 trillion won of funding that will be granted to small businesses that are struggling from the reinstated stricter social distancing due to the resurgence. Additionally, 900 billion won was added to the budget for Covid-19 vaccines.

The budget for next year is set at 558 trillion won, up from the previous 556 trillion won.

The national debt by the end of next year is estimated at 956 trillion won with the debt-to-GDP ratio rising closer to 50 percent, at 47.3 percent.

This represents a rapid increase in debt. In the first year of the Moon Jae-in government, the national debt was at 660.2 trillion won.

The Korean Economic Association in a survey released in October found 75 percent of 40 economic scholars and experts worrying about the rapid ascension of the national debt.

“There wouldn’t be a problem if by 2024 the fiscal balance turns surplus and there’s a recovery in the economic growth,” said Korea University finance Professor Kim Woo-chan. “But if the fiscal deficit continues and the economic growth doesn’t recover, it will be a huge problem.”

Yonsei University Professor Sung Tae-yoon said while the current debt-to-GDP ratio when compared to other OECD countries is relatively low, one should be cautious in comparing the debt ratio with advanced economies with internationalized currencies.

“We have to consider that countries with high debt ratios are already experiencing problems such as pension payments,” Sung said.

The finance minister has been defending the mounting debt.

“While the government debt when compared to a year ago has increased 7 percentage points due to the four supplementary budgets, the OECD member countries’ [debt-to-GDP ratio] rose 15 to 20 percentage points on average,” Hong said during a National Assembly hearing on Nov. 5. “Yet our growth projection is better than any of the countries on the OECD.”

He strongly defended on the government’s budget, stating that though next year’s budget increased, it is not at the level that would bring about a fiscal crisis or a national default.

“Expansionary fiscal measures are policies taken up by a majority of the OECD countries, and ours are relatively slow or less wide,” Hong said.

The biggest concern of the sharply rising debt is the fact that Korea could be in a vulnerable position of another economic crisis or could face a fiscal risk especially with the population aging rapidly.

In hopes of addressing worries about rising debt, the government in October announced the implementation of a fiscal rule of keeping the debt ceiling at 60 percent.

The new rule will be adopted starting 2025.

“In the world, 92 countries have fiscal rules,” Finance Minster Hong said during a press briefing. “Among advanced economies, Korea and Turkey are the only ones that don’t.”

In its latest report, the OECD also welcomed the government’s decision.

“The recently planned introduction of fiscal rules limiting the general government deficit to 3 percent of the GDP and the gross government debt to 60 percent of GDP from 2025 onwards is welcome, especially as ageing will push up welfare spending,” the OECD report noted.

Precision support
Experts say the importance is not how much the government raises fiscal funding in time of crisis, but where it is being spent.
They note that during this year’s support, the government has increased transfer income, such as the first emergency relief grant that gave as much as 1 million won to every household in May.

While consumer spending has increased from the one-time event, they say it did not have a major effect.

Seoul National University Professor Kim So-young estimated that if the government spends 1 trillion won through fiscal support, it only had an effect of adding 600 to 700 billion won on the GDP, indicating that it didn’t generate much of an economic contribution.

This is because people aren’t willing to spend much.

“We don’t know how the situation would turn out next year,” Kim said. “It would be better to increase the budget on quarantine and health care or directly inject funding to companies that are facing crisis as the situation prolongs.”

The professor said one of the areas that needs to be changed is the government trying to create public jobs when it should be focused more on keeping the private sector from crumbling.

BY LEE HO-JEONG [lee.hojeong@joongang.co.kr]