Korean Economy: Upgraded for the Future

Korean Economy: Upgraded for the Future

Adam Smith Seminar November 2012

HUR, Kyung Wook

Ambassador of Korea to the OECD

Contents

I. Korean Economy

 Growth

 Trade

 Consumption & Invest- ment

 Employment

 Inflation

 Fiscal position

 Capital market

 External soundness

II. Recent Issues

 Household debt

 Public corporations’ debt

 Property market

 Sovereign credit rating upgrades

 Capital flows

 Macro-prudential mea- sures

 Green Climate Fund

 Politics

Contents

3

III.Future Challenges

 Potential growth rate

 Aging society

 Welfare demand

 Inequality

 Employment

 New growth engine

 North Korea

Korean Economy(1): Growth

GDP growth(%)

Economic growth has continued at a moderate pace.

However Eurozone debt crisis is significantly weighing on the Korean economy

Q1 2007 Q2 2007 Q3 2007 Q4 2007 Q1 2008 Q2 2008 Q3 2008 Q4 2008 Q1 2009 Q2 2009 Q3 2009 Q4 2009 Q1 2010 Q2 2010 Q3 2010 Q4 2010 Q1 2011 Q2 2011 Q3 2011 Q4 2011 Q1 2012 Q2 2012

-6.0 -4.0 -2.0 0.0 2.0 4.0 6.0 8.0 10.0

1.4 1.4 1.2 1.6

1.0 0.4 0.2

-4.6 0.1

2.5 3.4 0.2

2.2 1.4

0.7 0.6 1.3 0.8 0.8 0.3 0.9 0.4 4.5 5.3 4.9 5.7 5.5

4.4 3.3

-3.3 -4.2 -2.1

1.0 6.3

8.7 7.6

4.5 4.9

4.2 3.5 3.6 3.3 2.8 2.4

Korean Economy(2): Trade

5 Trade balance (million$). Export & Import (%)

Global economic slowdowns and base effects are leading to slower export growth.

(By regions, export to Japan, Middle-East and ASEAN remains robust, whereas export to China and EU is shrinking)

Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10 Jan-11 Mar-11 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12

-4,000 -3,000 -2,000 -1,000 0 1,000 2,000 3,000 4,000 5,000 6,000 7,000

-60.0 -40.0 -20.0 0.0 20.0 40.0 60.0

Trade balance(LHS) Export(yoy,RHS) Import(yoy,RHS)

Korean Economy(3): Consumption & Investment

Investment has also been declining

Plant & Equipment Investment(%)

Domestic consumption has been weakening

Consumption(%)

Due to internal and external uncertainties, consumption and investment are weak

09.3Q 4Q 10.1Q 2Q 3Q 4Q 11.1Q 2Q 3Q 4Q 12.1Q 2Q -1

0 1 2 3 4 5 6 7 8

YoY QoQ

09.3Q 4Q 10.1Q 2Q 3Q 4Q 11.1Q 2Q 3Q 4Q 12.1Q 2Q

-15 -10 -5 0 5 10 15 20 25 30 35

YoY QoQ

Korean Economy(4): Employment

7

Labor market conditions continue to improve with robust job gains

Private sector is leading job creation

Increase in Employment (yoy; unit: 10,000)

Employment rate has recovered with low unemployment

Employment and Unemployment Rates (%)

Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10 Jan-11 Mar-11 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12 Sep-12

2.0 3.0 4.0 5.0 6.0

55.0 57.0 59.0 61.0

Unemployment Rate(LHS) Employment Rate(RHS)

08.7 11 3 7 11 3 7 11 3 7 11 3 7 -40

-20 0 20 40 60 80

Total Public Private

Korean Economy(5): Inflation

Inflationary pressure has receded substantially

Inflation rate dropped to below 3%

Inflation(CPI and Core, % yoy)

Policy rate was lowered to 2.75% (Oct. 10th)

Policy Rate(%)

Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10 Jan-11 Mar-11 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12 Sep-12

1.0 2.0 3.0 4.0 5.0 6.0

2.0

CPI Core inflation

0.0 1.0 2.0 3.0 4.0 5.0 6.0

2.75

Korean Economy(6): Fiscal position

Korea has the strongest fiscal position globally

9 Government debt to GDP ratio is low, allowing a greater room for fiscal policy

General government debt (KRW tr; % of GDP)

2007 2008 2009 2010 2011 2012F 2013F 2014F 2015F

0 100 200 300 400 500 600

20 22 24 26 28 30 32 34 36

299 309 360 392 421 445 465 471 481

30.7 30.1

33.8 33.4 34 34

33.2

31.4

29.9

General government debt (LHS, KRW tr) % of GDP (RHS, %)

Korean Economy(7): Capital market

The interest rate dropped to below 3%

3-year KTB yield(%)

Stock price is bouncing back

KOSPI Index

Capital market is influenced by credit rating upgrades and abundant global liquidity

1,000 1,500 2,000 2,500

KOSPI KOSPI

2.00 2.50 3.00 3.50 4.00 4.50 5.00

Bond Yield(3yr)

Korean Economy(8): External soundness

11 CDS is at a record low

5-year CDS(bps)

Short-term external debt has declined significantly

ST External debt

External soundness has improved

26-Aug-11 21-Sep-11

14-Oct-11 7-Nov-11

29-Nov-11 21-Dec-11

12-Jan-12 7-Feb-12

29-Feb-12 23-Mar-12

17-Apr-12 10-May-12

4-Jun-12 27-Jun-12

19-Jul-12 10-Aug-12

4-Sep-12 26-Sep-12 0

50 100 150 200 250

83

CDS(5yr) 2007 Q1

2007 Q3 2008 Q1

2008 Q3 2009 Q1

2009 Q3 2010 Q1

2010 Q3 2011 Q1

2011 Q3 2012 Q1

100 110 120 130 140 150 160 170 180 190 200

30.0 40.0 50.0 60.0 70.0 80.0 90.0

ST External Debt($bn,RHS)

ST External Debt Ratio/ Total External Debt (%, LHS) ST External Debt/ FX Reserves (%, LHS)

Korean Economy(9): Basic policy directions

Improving people’s liv- ing condition

Revitalizing economy

 Navigating through the global debt crisis

 Boosting domestic de-

• Providing fiscal supports(8.5 + 4.6 mand

KRW tr)

• Lifting regulations on companies

 Preparing for post 1 tril- lion$ era

 Expanding infra for sus- tainable growth

 Easing inflationary pres- sure by advancing price

system

 Creating more jobs

 Supporting low and mid- dle income class

 Strengthening Social

Safety Net(SSN)

Recent Issues(1): Household debt

Household debt is still manageable

Increasing rate of household credit has slowed

Household Credit

Q1 2010 Q2 2010

Q3 2010 Q4 2010

Q1 2011 Q2 2011

Q3 2011 Q4 2011

Q1 2012 Q2 2012 700

750 800 850 900 950

0 1 2 3 4 5 6 7 8 9 10

783.3800.1815.9843.1851.6873.3887.5911.8911.1921.9 8.1 8.2 8 8.4 8.4 9.1 8.8

8.1 7

5.6

Total Credit(KRW tr) Credit Growth(YoY)

Household assets is more than double of household liabilities

Assets/liabilities (%)

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 1.8

1.85 1.9 1.95 2 2.05 2.1 2.15 2.2 2.25

2.03 2.09

2.14 2.19

2.142.17

1.96 2.122.15

2.09 2.13

Household financial asset/ Household financial liabilities (%)

13

Recent Issues(2): Public corporations’ debt

Public corporations are expected to be capable of servicing their debt

Jun.30 Sep.3

0

Public Corporations (LH, KEPCO and etc.)

Ministry of Strategy and Finance As well as Ministries in charge

National Assembly Strategy and Finance Committee Assets outweigh liabilities by far and liability growth

has slowed down

Financial condition of 28 public corporations (KRW tr) ■ KEPCO is responsible for net loss of public corpo- rations as a whole

* KEPCO’s net profit (KWR tr): <2010> △0.07⇒

<2011> △ 3.3

Net loss in 2011

  2007 2008 2009 2010 2011

 Liabilities 158.0 200.8 238.7 292.0 329.5 (yoy, %) (16.8) (27.1) (18.8) (22.3) (12.8)  Assets 312.8 358.3 403.3 458.9 498.9 (yoy, %) (10.9) (14.6) (12.6) (13.8) (8.7)

 Net Profit 6.6 0.01 3.6 2.3 △0.6

Distinctive Features

■ KEPCO raised electric charges by 4.9% starting from Aug 6^th, following the government’s approval

■ Starting this year, a mid-to long -term financial management plan for public corporations was sub- mitted to the National Assembly

94 95 96 97 98 99 100 101 102 103 104

0 1 2 3 4 5 6 7 8

2.8 3.54.1

4.85.35.96.46.97.17.16.9 6.55.9

5 4.3

3.63 2.5

1.9 1.2

Housing purchase price composite index(LHS) growth(yoy, RHS, %)

Recent Issues(3): Property market

15

The number of unsold homes are down 58% from the highest level

Total number of unsold homes Housing price is gradually slowing down

Housing purchase price composite index

Property market is in a natural adjustment process

■ Housing price is gradually slowing down

■ The market does not display the same kind of volatility as those in other Advanced Economies

■ The number of unsold apartments has steadily dropped (as of the end of Aug., 2012 the total num- ber of unsold apartment stands at 69,511 units, down 58% from the highest level in2009)

- 20,000 40,000 60,000 80,000 100,000 120,000 140,000 160,000

180,000 165,641

69,511

Recent Issues(4): Sovereign credit rating upgrades

Recently 3 major credit rating agencies upgraded Korea’s credit rating.

‘A1(A+)’ → ‘Aa3(AA-)’

Aug. 27th

‘A+’ → ‘AA-’

Sep. 6th

‘A’ → ‘A+’

Sep. 14th

Foreign investment is on the rise, particularly in KTB market

Stock

Net purchase(KRW tr), Foreign share(%)

Korea Treasury Bond

Net investment(KRW tn), Foreign share(%)

Recent Issues(5): Capital flows

Jan/11 Mar/11

May/11 Jul/11

Sep/11 Nov/11

Jan/12 Mar/12

May/12 Jul/12

Sep/12

-8 -6 -4 -2 0 2 4 6 8

20 22 24 26 28 30 32 34

31.8

Net purchase(RHS) Foreign share(LHS)

Jan/11 Mar/11

May/11 Jul/11

Sep/11 Nov/11

Jan/12 Mar/12

May/12 Jul/12

Sep/12

-6 -5 -4 -3 -2 -1 0 1 2 3 4

0 2 4 6 8 10 12 14 16 18

14.8

Net investment(RHS) Foreign share(LHS)

17

■ Banks’ FX forward positions are capped as a percentage of their capital to curb the exces- sive increase of ST borrowings in the banking sector

■ Withholding tax on foreign holdings of KTBs and MSBs was reinstated for the equal treat- ment between residents and non-residents

■ “Macro-prudential Stability Levy” has been in- troduced to discourage excessive ST borrow- ings by the banking sector(2-20bp)

Ceiling on banks’ FX forward positions

Took effect on October 9, 2010

Macro-prudential Stability Levy

Took effect on August 1 ,2011

Domestic

Banks 50%

Branches of

Foreign Banks 250%

Previous month’s capital

Foreign Currency-denominated Liabilities (Except deposit)

2-20bp varying on maturity (Up to 50bp) Base

Rate

40%

200%

Reinstating Withholding Tax on Foreign Bond Investment

Took effect on January 1 ,2011

For the equal treatment

between residents and non-residents

Reinstating withholding tax on interest Background

Contents

Macro-Prudential measures were introduced to mitigate the volatility of excessive short-term capital flows

Recent Issues(6): Macro-prudential measures

■ What is GCF?

- Green IMF which supports reducing greenhouse gas and adapting to cli- mate change

- GCF will officially launch in 2013 with headquarters in Incheon, Korea - Raising 100 billion USD every year until 2020

* Agreement to establish GCF in Cancun, Mexico in Dec 2010

* Adoption of fund-raising plan in Durban, South Africa in Dec 2011

■ Korea as host country

- First major international organization hosted by Korea

- Economic impacts: job creation, growth of service industries * estimated number of GCF staff: 500 or more

- Intangible benefits: strengthening soft power and leadership, synergy

with GGGI and GTC-K 19

Recent Issues(7): Green Climate Fund

GCF Board decides to base the headquarters in Korea (Oct 20, 2012)

Will the politics matter in the economy?

Recent Issues(8): Politics

■ Currently the democratization of the economy is a critical issue in the presidential election (Dec. 19

)

■ Common ground: Strengthening penalties for illegal and unfair activities or prac- tices of conglomerates (“Chaebol”), Fostering mutually beneficial relation between conglomerates and SMEs

■ But, major presidential candidates differ in focus area and the way to achieve the democratization of the economy Mr. Moon

Opposition Party

Mr. Ahn

Independent candidate

Ms. Park

Ruling Party

21

Source: Korea Development Institute

Future Challenges(1): Potential growth rate

Growth Potential is decreasing

■ Potential growth rate is expected to decrease in Korea ^(annual

average, %)

2001-2009 2011-2020 2021-2030 2031-2040

-1 0 1 2 3 4 5

4.2 4.1

2.8

1.7

Demographic Challenges ahead

■ Aging Korea: fastest among OECD countries

(‘10) 4th youngest (‘50) 2nd oldest

Future Challenges(2): Aging society

Tax burden

Public social spend- ing

(% of GDP, 07)

Rate of increase

age)

OECD average 36.8 (07) 19.3 6.3

KOREA 25.6 ^{(09) 7.5} 14.7

source: OECD Social Expenditure database, MOSF

Japan level OECD avg. level

source: Korea Institute of Public Finance

Demand for social protection is increasing

: Social spending is relatively small, but increasing fast

23

Future Challenges(3): Welfare demand

Low burden, low welfare Mid burden, mid welfare

[Scenario 1] No Action

Gov’t debt explodes

if tax burden remains at cur- rent level

[Scenario 2] Tax increase

To keep gov’t debt at 60% in 2050,

tax burden must increase substantially

Gov’t debt (% of GDP)

Tax burden (% of GDP)

Seeking sustainability with increasing social spending

Future Challenges(3): Welfare demand

25

0.7

3.3

Korea enjoyed growth with relatively low inequality until 1990

Mexico Venezuela Argentina Peru

Philippines

Chile Colombia

Brazil

Malaysia Singapore

Thailand

Indonesia

Taiwan Hong Kong

Korea

0 0.1 0.2 0.3 0.4 0.5 0.6 0.7

0 1 2 3 4 5 6 7 8

<Gini coefficient and GDP per capita growth rate: 1965- 1990

Gini coefficient

Per capita GDP growth rate (%)

Future Challenges(4): Inequality

1.7

2.3

0.7

3.3

Inequality is increasing rapidly since 1990s

■ Worsening Gini Coeffi- cients

■ Vanishing Middle Class

■ Exacerbating Social Con- flict

Future Challenges(4): Inequality

27

Source: OECD Factbook & Society at a Glance

Gini-coefficient Interdecile ratio

(p90/p10)

Interdecile ratio

OECD average 0.31 4.16 2.09

KOREA 0.31 (17

) 4.73 (24

) 2.50 (27

)

Poverty rate Poverty gap*

OECD average 11.1% 28.6%

KOREA 15.0% 36.0%

Snapshot of Income inequality

Poverty rate is higher with a wider poverty gap than OECD avg.

* poverty gap: the percentage by which the mean income of the poor falls below the poverty line

Future Challenges(4): Inequality

Policy priority: Raising employment rate

Korea OECD average Labor Force (15-64)

Participation Rate 66.2% 70.6%

Women 54.9% 61.8%

Employment Rate 63.9% 64.8%

Women 53.1% 56.7%

Youth (15-24) 23.1% 39.5%

■ Employment rate of women must be raised

(2011, OECD Employment Outlook)

Future Challenges(5): Employment

Growth engine : service sector

 Low productivity in the service industry

 52% of manufacturing

 40% of US, 52% of France, 54% of Japan

Share of

GDP (%) Share of Em-

ployment (%) Service Sur- plus

(bn. USD) OECD average

(05) 68.9 69.4 51.4

KOREA (07) 57.6 66.7 - 20.6

29

Future Challenges(6): New growth engine

Growth engine : focusing on highly productive services

 Deregulation in professional services

 pharmacists, medical doctors, lawyers

 Upgrading the leisure and tourism industry

 More R&D investment in the service industry

Wholesale /retail

Hotel &

restaurant

Medical

service Financing growth rate

(01-09 average) 2.8 2.2 6.0 7.6

% of employed 21.8 11.6 7.2 4.9

Future Challenges(6): New growth engine

대한민국

Comparison of South and North Economy

31 GDP

북한

GDP Per capita (PPP)

Popula-

tion

Imports: 422.4 bil- lion

US$40 billion (1/36 )

$1,800 (1/17)

Imports: $3.1 bil- Trade lion

US$1,459 billion

$30,000

50 million

Exports: $464.3 bil-

lion Exports: $2 billion

24.5 million (1/2)

source: 2011 CIA WORLD FACTBOOK

Future Challenges(7): North Korea

Cost Benefit

$ 70.65 billion $ 83.50 billion

Council for future &vi-

sion  of Korea (2010) Hyundai Research Institute (2010) WSJ, Peter

Beck (2010)

$ 2 - 5 trillion -

-

Estimated Cost and Benefit of Reunification of Korea

$ 32.2 billion (grad- ual)

$ 2.14 trillion (radi- cal)

Assumptions

Goal of GDP per capita:

$10,000

Goal of GDP per capita:

$24,000 Balanced GDP

between North and South

■ Assumptions are different

■ Cost of reunification vs. Cost of separation

■ Lessons from German reunification (Exchange rate, Expenditure for Social Safety Net)

* DMZ

Future Challenges(7): North Korea

 GDP per capita $3,000 in 10 yrs: $1,065 (2008)  $3,024 (year 10) ( if 11%

annual growth for 10 years)

* Examples of rapid growth after opening (annual average for 10 yrs) - Korea (1963-1972): 12.7%

- China (1980-1989): 9.8%

- Viet Nam (1986-1995): 9.2%

 Example of Kaesung Industrial Complex - Employment: 53,655

- Export: 160 million USD

Non-Nuclear, Open North Korea, 3000 Plan

33

Future Challenges(7): North Korea

 “Iron Silk Road”

- Trans Siberian railway - Trans Mongolian railway

 Energy Connection

- Trans Siberian gas pipeline

 Reflow of Huge Reserve in the Region

North Korea as a Land Bridge

Infrastructure Investment

Future Challenges(7): North Korea

T h a n k y o u

35