Reforms Ambitious, But Bode Well For Growth

BMI View: While the prescribed targets laid out in South Korea president Park Geun-hye's economic reform plan may appear overly ambitious, the proposed drive towards deregulation and support of the services sector, if realised, will provide the Korean economy with new pillars of economic growth and set the country on a more sustainable path of economic expansion. Also, the planned pullback the public sector's involvement in the economy will aid not just in growth of the private sector, but also help to improve the government's fiscal profile.

South Korea president Park Geun-hye unveiled an economic reform plan on February 25, which she hopes will reinvigorate South Korea's slowing economy. Dubbed the '474 Vision', Park hopes the overhaul will help the economy to achieve 4% real GDP growth, a 70% employment rate and US$40,000 per capita income. With the exception of the per capita target, Park is aiming to achieve her other two targets by 2017. The essence of the plan is three-fold: allow the private sector to play a bigger role in driving the economy, reorient the economy towards services from manufacturing and away from exports and towards domestic consumption.

Focus On The Means, Not The End

Addiction To Debt
South Korea - Public and Corporate Debt Profile

Reforms Ambitious, But Bode Well For Growth

BMI View: While the prescribed targets laid out in South Korea president Park Geun-hye's economic reform plan may appear overly ambitious, the proposed drive towards deregulation and support of the services sector, if realised, will provide the Korean economy with new pillars of economic growth and set the country on a more sustainable path of economic expansion. Also, the planned pullback the public sector's involvement in the economy will aid not just in growth of the private sector, but also help to improve the government's fiscal profile.

South Korea president Park Geun-hye unveiled an economic reform plan on February 25, which she hopes will reinvigorate South Korea's slowing economy. Dubbed the '474 Vision', Park hopes the overhaul will help the economy to achieve 4% real GDP growth, a 70% employment rate and US$40,000 per capita income. With the exception of the per capita target, Park is aiming to achieve her other two targets by 2017. The essence of the plan is three-fold: allow the private sector to play a bigger role in driving the economy, reorient the economy towards services from manufacturing and away from exports and towards domestic consumption.

Focus On The Means, Not The End

At the very outset, the '474' targets appear to be a tough sell. Since the Global Financial Crisis, the South Korean economy has struggled to recover the growth momentum it exhibited before the crisis. Real GDP growth has averaged just 2.9% since 2011 and we project the economy to grow 3.0% this year, a considerable distance away from Park's 4.0% target. Meanwhile, employment stands at 65% while per capita income stands at US$24,500 presently. That said, the targets set out by Park are of less concern to us than the measures through which she hopes to achieve these targets.

Central to Park's reform package remains wide-ranging deregulations and the tearing down of bureaucratic redtape that has stifled growth of the private sector. Five service industries have been prioritised for deregulation: finance, education, healthcare, tourism and software. While details on the ground are thin, companies within these sectors will be given tax incentives and financial support for R&D. Late last year (see 'Three Risks To Growth: A Sectoral Perspective', November 14), we highlighted that the traditional pillars of South Korea's economy were wavering and that new avenues of growth would set the country on a more sustainable path of economic expansion. This thrust could now come from the service sector.

Heavy investment in R&D and the consequent innovation that ensued gave rise to world-beating Korean brands. However, this innovation has been confined to the chaebols (Korean family-owned conglomerates) within the manufacturing sector. Unable to compete with the conglomerates, small and medium businesses have instead proliferated within the services sector. However, given the lack of funding, innovation and productivity have been lacking within the sector. Coupled with the economy's external focus, the Korea's services sector has consequently been unable to grow. With the government now not just lowering the barriers to entry but also providing financial support, we could see a positive change in this scenario.

Measures Bode Well For Fiscal Trajectory

A key plank of Park's plan has also been to scale back on the public sector's involvement within the economy. From a fiscal perspective, we find this to be a big step in the right direction. Korea's public institutions have been criticised for being inefficient and unproductive. In areas where public companies have established a considerable presence (such as the energy sector), competition is scarce. Not only has their presence crowded out the private sector, but a series of questionable investments have also been made and consequently, as seen in the accompanying chart, public sector debt has witnessed a considerable increase.

Addiction To Debt
South Korea - Public and Corporate Debt Profile

According to the Finance Ministry, debt undertaken by public agencies has surpassed sovereign debt. Park's plan calls for SOEs to streamline their activities and sell non-core assets. Meanwhile, a ceiling on debt undertaken by them will also be introduced and barriers to entry will be lifted so as to encourage competition. With South Korea's demographic profile progressively deteriorating, its welfare expenditure is set to see a commensurate rise in the coming years. Unless the government starts to adopt a more prudent spending pattern, Park is unlikely to be able to attain her goal of keeping the country's sovereign debt level in check.

Staying Cautious Despite Constructive View

While we are in broad agreement with Park's policy direction, it remains to be seen if the reforms will come to fruition. The Korean business environment has deeply rooted business practices and the chaebols are intricately weaved into the economy. Also, given the country's proclivities towards debt and Seoul's endeavor to boost domestic consumption, the government is likely to face an uphill task in getting both consumers and the corporate sector to develerage. Also, we have seen increasing incidence of political infighting that may eventually translate into delays in the policymaking process.

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