Choongsoo Kim: The prospects for the Korean economy in 2011
Keynote speech by Mr Choongsoo Kim, Governor of the Bank of Korea, at the Seoul Foreign
Correspondents' Club (SFCC), Seoul, 13 December 2010.
* * *
I. International and domestic economic conditions
1. International conditions
World economy
Although the underlying recovery of the world economy is still on track, there seems little sign
of any narrowing of the gap between the advanced countries and the newly emerging
countries in what has been termed the two-speed global
recovery1.

(USA) The macroeconomic policy stance of pump priming activity has been
maintained for example by means of QE2, and the scale of the increase in facilities
investment has widened because of the upturn in firms' profitability.
- We are unlikely, however, to see any great strengthening of the recovery
momentum as a recovery in the labor and housing markets is yet to be seen
while improvements in the saving rate continues.

(China) Shrugging-off the mildness of the recovery in the advanced countries, the
Chinese economy has maintained its strong growth trend on the basis for domestic
demand in line with the large scale of the rise in incomes and the measures2 to
promote consumption.
- Consumer prices and asset prices seem set to show unstable movements as
the increase in liquidity by way of foreign capital inflows comes on top of the
demand pressures from the high growth rates.

The major economic forecasting institutes are predicting that the rate of growth of
the world economy will be a little above 4% in 2011 and around 4 1/2% in 2012.
Global financial markets
Globally, credit conditions are forecast to continue their improving trends owing mainly to the
accommodative monetary policy stance of the major advanced countries.

For the US and the eurozone, bank lending has shifted to an increase since this
September.
The other side of the coin is that global financial market uncertainty is on the rise because of
euro area's debt problems and additional quantitative easing.

(Euro area debt problems) Despite the funding support from the EU and the IMF,
the sovereign debt problems of certain EU member states are likely to act as a
factor making for market unrest for a considerable time to come.
- If eurozone debt problems do worsen, there is the possibility that the credit
risk of newly emerging market countries would also increase owing to a
strengthened preference for safe haven assets.

(QE2) The global financial markets are likely to react extremely sensitively to the
direction of the US Fed's monetary policy ahead of the expiry of the second
quantitative easing at the end of next June.
- Market attention may well focus on whether or not there will be further
quantitative easing (QE3).3
Commodity markets
International oil prices are forecast to maintain their upward trend in line with the continued
recovery of the world economy and the increase in global liquidity.

Next year demand for crude is likely to surpass supply albeit only by a small margin,
led by the emerging market countries (+500,000bpd).
- The fact that the OECD countries' oil inventories are now at their highest level
since 2005 will act as a factor limiting the scale of upward movement in the oil
price.

Global liquidity, which has expanded greatly in line with QE2, could put upward
pressure on oil prices if it feeds through into commodity markets.
2. Domestic conditions
Fiscal spending
Budgetary expenditures next year will be increased 6.0% over this year (260 trillion won) to
276 trillion won while for the year 2012 there will be a 4.0% increase to 287 trillion won.

The extent of the front-loading of fiscal spending during the first half of 2011 will be
gradually scaled back so that around 2012 it will be back to its pre-crisis level.4
The ratio of the fiscal deficit to GDP will decline from 1.9% this year to 1.6% in 2011 as tax
revenues increase5.

The sovereign debt ratio will decline from 36.1% this year to 35.1% next year.
Household consumption
Household purchasing power is forecast to expand thanks to higher incomes resulting from
the continued economic upswing.

Households are also expected to become more consumption-minded.
- Share prices, which form a leading indicator of consumer sentiment, have
risen strongly since this September.6
Having said this, the worsening of the terms of trade, could act as a factor limiting the
increase in consumption.
Corporate investment
Even in 2011, conditions for corporate investment are expected to present a comparatively
favorable picture as growth trends are maintained in major branches of industry while
capacity utilization rates run at high levels.
 World demand for IT products and cars is increasing continually while domestic
demand is also buoyant owing to the effect of new products such as smartphones.
Construction investment, though, is likely to remain sluggish.

In the housing market, although there is some likelihood of private sector housing
construction picking up as it shows signs of shaking off its long time torpor, the
public sector, for its part, is predicted to present a subdued picture in line with this
year's large-scale reduction in permits issued.
II. Main assumptions & economic outlook
1. Main assumptions of the forecasts
The growth of the world economy next year is set at 4.0%, reflecting the economic conditions
in major countries (4.3% in 2012).
The rate of the expansion of world trade is assumed to be 6.7% (7.3%in 2012).
The price of a barrel of crude oil (annualized average) is set at USD 87 per barrel (USD 90 in
2012).
Main assumptions
2. Economic outlook
Growth
The GDP growth rate in 2011 is forecast to register 4.5%.

In terms of each half year, it is expected to accelerate over the course of the year,
running at 3.8% in the first half and 5.0% in the latter half.

For 2012, it is forecast to rise to 4.7%.
Let us now look at the details of growth next year by sectors of expenditure.

Private consumption is predicted to increase constantly in line with the expansion in
household purchasing power (4.1% in 2011 and 4.3% in 2012).

Facilities investment, similarly, should mark a solidly-based upward trend, but the
scale of its increase is expected to narrow owing to the completion this year of the
majority of investment projects held over because of the financial crisis (6.5% in
2011 and 6.3% 2012).

Construction investment is expected to stage no more than a slight increase (1.4%
in 2011 and 1.3% in 2012).

Exports are forecast to continue on their strongly upward track, boosted by the
advanced countries' sustained recovery mode and the strong growth being
registered in the newly emerging countries (9.6% in 2011 and 12.5% in 2012).
Outlook for economic growth
Employment
The number of persons in employment is forecast to rise by 260,000 in 2011 and by 280,000
in 2012.

The unemployment rate should drop from 3.8% this year to around 3.5% next year.
Prices
Consumer price inflation is seen to accelerate to 3.5% in 2011 and to rise about 3.2% in
2012.

The rate of core inflation, similarly, will edge up above 3% from next year.
Current account
The current account surplus for 2011 is expected to narrow in scale from this year's 29 billion
dollars to 18 billion dollars.

For 2012 it is forecast to be around 16 billion dollars.
III. Overall assessment & policy tasks
Overall assessment
1. Next year's GDP growth rate of 4.5% will be at the trend level7.

The trend of an increase in economic activity should continue as next year's Q4
growth (year-on-year) is projected at 5.6%, well above this year's 4.8%.

In terms of expenditure sectors, domestic demand and exports are likely to act as
twin sources of growth owing to the strengthening of private consumption and
facilities investment.
- The net growth contribution of domestic demand8 will be 2.5% and that of
exports 2.0%.
o The government's net growth contribution will be at the level of
0.7 percentage point, the same as in an average year
(2001~07 average: 0.7%p).

The perceived level of economic activity is expected to improve further as the
growth contribution of domestic demand increases, but it is likely to be difficult to
narrow significantly its differential from the actual level of economic activity.
- The rate of increase of gross domestic income (GDI) will trail that of economic
growth because of the worsening of the terms of trade.
2. In the labor market, the trend of improvement will be maintained with a
private-sectorled increase in the number of persons employed and a fall in the unemployment rate.

Having said that, the degree of improvement in qualitative terms will be checked
somewhat by the feebleness of large businesses in the creation of what are seen as
"decent jobs"9.
3. Consumer prices are expected to stay on a rising track for quite some time, carrying
over from the 3 1/2% level for this quarter.

Demand pressures are being built up from the sustained rise in economic activity
and international commodity prices, wages and rental charges are all on the rise.

The accelerated upward trend of Chinese wages and prices may also act as a cost
push factor for domestic prices by way of higher import prices.

Expected inflation, which has been on the rise since the beginning of this year, will
affect prices after some time lag.
4. The current account will retain its underlying surplus but the scale of this surplus is
seen to shrink owing to the expansion of imports drawn in by the strengthened recovery
momentum of domestic demand.
 The ratio of the current account surplus to GDP will drop from this year's 3% level to
below 2.0% but above 1.5% in 2011.
5. These economic forecasts for 2011 are attended by a considerable degree of
uncertainty. Domestically, there are the geopolitical risks following the North Korean attack
on Yeonpyeongdo. Externally, the unknowns include the sovereign debt problems of the euro
area, price instability in China, and the direction of the US Fed's monetary policy post-QE2.
Policy tasks
1. While the Korean economy will stay on a solid growth track in 2011, political initiatives
should be directed toward raising the living conditions of the public at large including the
boosting of purchasing power by way of price stability and the creation of "decent jobs", given
the persistent gap between public perceptions of the level of economic activity and the actual
numbers.
2. Great care must be taken to avoid an enfeebling influence on the domestic financial
and foreign exchange markets and on real economic activity from the eurozone debt
problems, Chinese inflation and the Fed's monetary policy course post-QE2.
3. In order to respond to an increase in the level of uncertainty of the external
environment, a policy mix should be devised that emphasizes the twin growth pillars of
domestic demand and exports.