SINGAPORE, March 27, 2018 – Korea’s economic growth is expected to gain traction in 2018 boosted by external demand, but is likely to moderate slightly due to weaker private investment, according to the 2017 Annual Consultation Report on Korea published by the ASEAN+3 Macroeconomic Research Office (AMRO) today. The report was prepared on the basis of AMRO’s Annual Consultation Visit to the country in August 2017 and data availability as of January 25, 2018.

The Korean economy is projected to expand by 2.9 percent in 2018, which is slightly lower than 3.1 percent in 2017 but remaining at around the potential growth rate. In 2017, inflation picked up to 1.9 percent. Demand-side inflation pressures remain subdued with stable core inflation and moderate wage growth. In 2018, consumer price inflation will remain at 1.9 percent, supported by a sustained recovery in private consumption.

The external position remains strong. The current account surplus has remained sizable on the back of a large trade surplus despite a deterioration in the services account deficit. External debt repayment capacity remains strong with improved maturity structure and ample foreign reserves buffer.

Credit to the private sector—particularly to households—expanded at a slower pace. The imposition of stricter loan screening guidelines has contributed to a slowdown in lending to households. Financial institutions’ buffers to cover expected and unexpected losses remain sufficient, with high capital adequacy ratios and low non-performing loan (NPL) ratios in both banks and non-banks.

Fiscal buffers remain ample with strong revenue collection. In 2017, fiscal revenue continued to grow strongly supported by brisk tax collection while fiscal spending expanded with a higher priority on job creation. On a net basis, the fiscal balance is expected to deteriorate slightly in 2017, but the government debt level in terms of GDP remains low.

Headwinds to the growth outlook include a sustained drag on private consumption from high household debt amid rising trade protectionism. Meanwhile, heightened geopolitical tensions and tighter global financial conditions may pose significant tail risks to financial stability.

From a longer-term perspective, key challenges are centered around declining potential growth rate. In the corporate sector, the uneven growth between information and communication technology (ICT) and non-ICT companies, and the excessive concentration in the ICT sector may make the economy susceptible to shocks arising from global ICT downturns and fierce competition in the sector. The continued relocation of production lines abroad could adversely affect Korea’s key manufacturing sectors and further weaken domestic employment.

The active use of fiscal policy to pursue an inclusive economic growth strategy without jeopardizing fiscal sustainability is commendable. The government’s strong commitment to achieving more inclusive growth through an incomes policy is welcome. However, the policy should be implemented in a flexible manner to avoid adverse effects in the labor market. The government should also be mindful of the effects of higher costs for the business sector in the near-term.

The current accommodative monetary policy should be headed toward a gradual normalization to build up policy space in view of the robust economic growth. It would be prudent to shift the policy mix towards greater reliance on fiscal policy to sustain the growth momentum and facilitate the restructuring of the economy. However, the timing and pace of withdrawal of monetary stimulus should be consistent with macroeconomic and financial developments and the external policy environment. The high level of household debt, which has increased rapidly in the last few years, needs to be contained through stricter macroprudential measures.

The continued implementation of structural reforms is required to strengthen long-term growth potential. The new government’s “innovative growth” pillar is commendable. This encompasses strong support to cutting-edge technologies, higher investment in competitive small and medium-sized enterprises (SMEs), and the development of 5G and Internet of Things (IoT) networking infrastructure. Furthermore, greater efforts should be made to speed up a broad range of institutional reforms, including labor market reforms and financial innovations, which have been delayed due to political uncertainty in the past year.

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About AMRO and AMRO’s Annual Consultation Report

The ASEAN+3 Macroeconomic Research Office (AMRO) was established to contribute to securing the economic and financial stability of the ASEAN+3 region, which includes 10 members of the Association of Southeast Asian Nations and China, Hong Kong, China, Japan, and Korea. As an international organization, AMRO fulfils its mandate by conducting macroeconomic surveillance, supporting the implementation of the regional financial arrangements, the Chiang Mai Initiative Multilateralisation (CMIM), and providing technical assistance to the members.

The Annual Consultation Report was prepared in accordance with AMRO’s macroeconomic surveillance function. AMRO is committed to monitoring, analyzing and reporting to its members on their macroeconomic status and financial soundness. It also helps identify relevant risks and vulnerabilities, and assists members, if requested, in the timely formulation of policy recommendations to mitigate such risks.