AMRO Director’s and Chief Economist’s Interview with Chosun Biz (Korea)

September 4, 2017 | Interview

Korean Economy Showing Recovery with Fiscal Soundness as Future Challenge

The original version of this interview in Korean was first published on Chosun Biz

Interviewer: Seul-ki Jun

AMRO Director Junhong Chang and her mission visiting Korea to take stock of current economic conditions after launch of new administration.

“The Korean economy is showing strong recovery, with a particularly strong external position. However, the fact that unemployment is still high, and that the benefits of economic growth are not being returned to the poor, present challenges. While we support the inclusive growth strategies launched by the new government, maintaining fiscal soundness will be a challenge.”

This assessment of the current status of the Korean economy comes from AMRO – the regional macroeconomic surveillance unit of the CMIM, established by ASEAN as a financial stability framework together with Korea, Japan, China, and Hong Kong – as it engaged in this year’s round of annual consultations with the Korean government.

2017 marks the 20th anniversary since the currency crisis broke out impacting many Asian economies including Korea. Asia has built up greater resilience since then, mostly by accumulating more foreign currency reserves but Asian economies remain vulnerable to changes in the global financial markets given their heavy dependency on exports, which accounts for a big share of their economic growth.

Seeking to respond to the currency crisis, Asian economies set out to create a self-help arrangement for the region – the Chiang Mai Initiative Multilateralisation (CMIM). A regional financial safety net arrangement between the ASEAN+3 countries and Hong Kong, where members provide emergency liquidity support to one another in case of crisis, the CMIM initiative came into effect as of March 2010. Under the CMIM, which totals USD 240 billion, one member can seek to swap its local currency with US dollars from other members through multilateral currency swap arrangements.

AMRO, the ASEAN+3 Macroeconomic Research Office was established in 2011 by the CMIM to support its operations. Mandated with a surveillance function, AMRO examines the economic and financial conditions of member economies, evaluating risk factors for respective members, and sending out early warning alarms, with CMIM funding activated during crisis mode. In short, the CMIM and AMRO, together, function as an Asian version of the IMF.

With a 16% financial contribution stake, Korea is the third largest shareholder of AMRO, following China and Japan. With a new government in office, AMRO arrived on the 16th to take stock of Korea’s current economic situation since the launch of the new administration. Led by AMRO Director Dr. Junhong Chang, the eight-member delegation met with Deputy Prime Minister and Minister of Finance and Strategy Kim Dong-yeon among others to hear about the new government’s “income led growth” strategies. AMRO is planning to release a report on the Korean economy sometime in October or November later this year. The following are some questions and answers with Director Junhong Chang.

Photo by: Jaeseung Lee/Chosun Biz

Q: What was the background for the CMIM’s establishment, and its role?

AMRO Director Junhong Chang: “Having gone through the Asian currency crisis, many Koreans will probably be quite familiar with the IMF – what kind of organization it is and its role, etc. Actually, this year marks the 20th year anniversary of the Asian crisis. Korea and other East Asian countries share the bitter experience of having to follow what may have been seen as harsh policy prescriptions from the IMF. After going through that experience, there was greater consensus among Asian countries to establish a regional financial safety net on its own.

This was the context in which the Chiang Mai Initiative was born, its purpose being to strengthen the self-rescue capacities of the ASEAN+3 countries in mobilizing regional funding. Another goal was to complement existing financial arrangements such as the IMF. As regional financial cooperation became more full-fledged, the CMI later evolved into the Chiang Mai Initiative Multilateralisation (CMIM) in the wake of the 2009-2010 global financial crisis.

Under the CMI, the central banks of member economies already had existing bilateral swap agreements with other members. After multilateralisation into the CMIM, these swap contracts were integrated under a single swap arrangement, with total funding expanded to USD 240 billion. The CMIM has two goals. The first is to provide short-term liquidity support to any member experiencing difficulty in terms of its balance of payments or a shortage in short term liquidity. Its second goal is to complement the existing global financial system, which is centered around the IMF.

For example, if a member country experiences a short-term liquidity problem, it is expected to use its own foreign currency reserves first. The CMIM can provide additional liquidity support as a second line of defense for mobilizing funding. If that is still not enough, members can seek further assistance from the IMF or other donor countries or organizations.”

Q: What is AMRO’s role?

AMRO Director Junhong Chang: “The CMIM provides funding support to its members in the event of crisis so they can respond and resolve their situations. For member economies though, prevention is more important that reacting after-the-fact. For prevention to work well, early surveillance or monitoring becomes very important. And that is what AMRO was created to do.

AMRO monitors and reviews the economic and financial status of its 14 member economies, which includes the ten ASEAN countries, along with Korea, China, Japan, and Hong Kong. During non-crisis times, AMRO’s function is to monitor the economic and financial conditions of its members to identify and detect risk factors that may be specific to different economies. Since there is greater inter-linkage among all capital markets nowadays, we also closely monitor any spillover effects from one economy to another, while providing early warnings or policy recommendations to members when required.

AMRO also provides technical support to help strengthen the self-surveillance capacities of respective member economies. Moreover, in the event of any imminent crisis or unforeseen situation, AMRO may activate CMIM funding support. So it’s fair to say that the CMIM and AMRO combined, make up a regional financial safety net, serving as an important line of defense for its members.”

Q: What kind of relationship does AMRO have with Korea?

AMRO Director Junhong Chang: “Korea is a key shareholder of AMRO, with the third highest stake following Japan and China. The Korea government provided us with a lot of financial support when we were first launched, and is providing additional support through a Korea Trust Fund. For our part, we are prepared to stand by Korea’s side, providing it with support in the event of a contingency.

AMRO is in the middle of a two-week long annual consultation visit to Korea, which started last week. We have been providing an assessment on the current status of the Korean economy as well as policy recommendations. At AMRO, we carry out annual consultations with all of our members once a year, and provide reports comprised of relevant policy recommendations.

My goal is to grow AMRO into a stronger and more important organization within the region during my term. We intend to strengthen our own internal surveillance capacities – increasing our man power as well as analytical capacity so that we can play a bigger role in greater regional integration and financial cooperation, and establish ourselves into a high profile international organization in both form and substance.”

“Korea – 2017 economic growth forecast at 2.9%”

Director Chang, together with seven other experts from AMRO met with representatives from the Korean government to hear about the direction of the new administration’s economic policies. AMRO Chief Economist Dr. Hoe Ee Khor explained that he finds the Korean economy more resilient to external shocks now than before, also expressing support for the new government’s “income led growth” initiatives.

When asked about recent economic developments within the ASEAN region, Dr. Khor said that most ASEAN economies were now showing economic recovery, with risk factors such as the US rate hike, Chinese downturn, etc. now slightly diminished. A question and answer session with AMRO’s Chief Economist Dr. Khor was conducted as follows.

Q: How do you diagnose the Korean economy today?

AMRO Chief Economist Dr. Hoe Ee Khor: “The Korean economy is doing well. Although it was exposed to various shocks over the years, it appears to have bottomed out and is now showing what I believe is a strong recovery. Our growth forecast for Korea this year is 2.9%.

One of the biggest strengths of the Korean economy is its strong external position. It is running a large current account surplus, and foreign reserves have also increased significantly, making Korea more resilient to external factors. Korea’s economy has been recovering very well, with the very strong rebound in exports serving as a key driver. Although the scope of recovery is still narrow, it is gradually becoming broader.”

Q: What are your views on the new government’s paradigm shift in economic policies?

AMRO Chief Economist Dr. Hoe Ee Khor: “Unemployment still remains high in a relative sense, so the high rate of unemployment and the fact that the benefits of growth are not being returned to the poor are a source of concern for the new government. In response, it has introduced a package of new economic policy measures that aim to achieve inclusive economic growth.

Inclusive growth is a big issue for many countries, not just Korea, amid a growing realization that the poor have not been benefiting as much from economic growth compared to the past. We strongly support the government’s new policies that intend to achieve more inclusive growth than before. I understand there are four pillars to the government’s new policies- increasing minimum wage, creating quality jobs, industrial innovation, and fair competition.

I believe the challenge for the Korean government will lie in how it manages to secure stable resources to fund its plans while maintaining fiscal soundness. We heard that the initiatives would mostly be funded through excess tax revenue and expenditure reform. Fortunately, the government seems well aware of the importance of fiscal discipline in maintain fiscal soundness. AMRO supports the Korean government’s commitment to implement its ambitious plans while enforcing fiscal discipline.”

Q: If the government is not able to secure funding as planned, how much risk do you think this may present to the Korean economy?

AMRO Chief Economist Dr. Hoe Ee Khor: “I became more reassured of Korea’s commitment to fiscal discipline after meeting the Deputy Prime Minister and Minister of Strategy and Finance. Deputy Prime Minister Kim explained the government’s plan to maintain fiscal deficit at 2% of GDP, and government debt at moderate levels. Korea is one of the few countries that enjoys fiscal space. Although it has mostly been reluctant up to now, I believe there is significant scope now for the government to use its fiscal space to boost the economy. Because past governments have been conservative in managing government finances, the risk of having a big increase in the fiscal deficit is very low.

The Korean government believes it should be able to cover most of the funding required to implement its policy initiatives via excess tax revenue and expenditure reform. Although additional financing might become required, it should be kept manageable within the government debt to GDP ceiling.”

Q: Critics point out that there is a lack of direct economic growth policies, what are your views?

AMRO Chief Economist Dr. Hoe Ee Khor: “From what we have observed, with exports increasing investments have also recovered. The government’s supplementary budget can help increase household income, which in turn can boost private sector consumption. On the demand side, as exports, investments and consumption recover, this can have a stimulus effect on the economy. On the supply side, although the recovery in exports has mostly been concentrated in certain industries such as semiconductors, it is now gradually spreading to other sectors.

The increase in private spending can lead to a recovery in the service sector. Of course, certain industries such as shipbuilding and shipping have to undergo and complete restructuring before they can show any recovery, so this will take considerable time. However, the petrochemical industry has already started its recovery, and this is likely to spread to more industries. In other words, although today’s recovery is mostly limited to a few sectors such as electronics and semiconductors, this is likely to spread and become more broad-based across other industries.

In our meeting with Deputy Prime Minister Kim, we heard that the government will focus on qualitative growth rather than quantitative growth. So high quality growth of 2.9% may be just as good as 3.0%. Although certain industries such as construction may see a partial correction during the second half, 3% may still be achievable. What’s important is the quality of growth.”

Q: What are some risks to the Korean economy?

AMRO Chief Economist Dr. Hoe Ee Khor: “You could point out household debt. The government is well aware of the need to curb household debt growth, and has been responding fairly well including the adoption of certain measures. North Korea is a geopolitical risk, but up to now, the market response appears to be stable. I don’t think its viewed as an imminent or impending risk.”

“Reduced risk of US rate hike, Chinese soft landing”

Q: What trends are you seeing in the ASEAN economies?

AMRO Chief Economist Dr. Hoe Ee Khor: “ASEAN economies are in a similar situation to Korea. They were exposed to various risk factors, but most have bottomed out and started recovering. Malaysia has shown strong economic recovery this year, whereas Indonesia’s economic growth is similar to last year’s levels at around 5.1%. Like Korea, Singapore has been recovering thanks to a strong rebound in exports. The Philippines has been one of the strongest ASEAN economies for several years already, and Thailand has been showing strong recovery like Korea as well. Overall, the five major ASEAN economies have been showing growth similar to Korea.

Cambodia, Laos, Myanmar, and Vietnam have been showing significant recovery as well. These four countries have been growing quickly at around 6-7%. So overall, ASEAN as a whole is continuing to recover. Although there were concerns about the US rate hike or protectionism early in the year, these risk factors have since become diminished, which is now supportive of economic growth.”

Q: US rate hike prospects?

AMRO Chief Economist Dr. Hoe Ee Khor: “Although the Fed has one more rate hike left this year, market rates have not risen abruptly as expected, mainly because President Trump has been incapable of implementing his economic campaign pledges. Initially, there were expectations that there would be a big boost in infrastructure and other fiscal spending, which would widen the US fiscal deficit and boost economic growth. Consequently, interest rates were expected to rise quickly. Although rates did rise quickly immediately after President Trump took office, they have since come back down. In fact, instead of rising quickly as initially expected, market rates have actually been coming down.”

Q: Even with recovery, any other risks for ASEAN?

AMRO Chief Economist Dr. Hoe Ee Khor: “Actually, the risk factors themselves are no different from before. Korea and China both face the risk of trade protectionism from the US, and although the financial markets are calm now, there is the risk of a correction since the markets have risen so much already and may be overvalued. If investor sentiment deteriorates suddenly and they become risk adverse, there could be the risk of significant capital outflows from the region, in which case interest rates will rise, putting pressure on exchange rates. The Chinese economy may look like it has made a soft landing now, but in the event that China deteriorates suddenly, this may then have a negative spillover effect in the region. North Korea, as you mentioned, may also be another uncertainty risk for this region.”

Q: Has China made a soft landing?

AMRO Chief Economist Dr. Hoe Ee Khor: “Just three years ago, we were worrying about China making a hard landing, but now the general view is that it has managed to pull off a soft landing. If you look at the latest figures, economic growth in the first half was 6.9%, which is higher than expected, thanks to a recovery in exports and private investment. Also, Chinese corporate profitability has been improving, so no matter what indicator you look at, they all show that China has been recovering growth. For now, the likelihood of China’s economic growth slowing down further is not high.

There were concerns that credit expansion was too fast, and that corporate debt was increasing too quickly at unsustainable levels. However, as corporate profitability has improved, these concerns have reduced. Our internal view is that risk is concentrated in certain industries, and because the Chinese government has significant fiscal space, they may be able to help SOEs with over-capacity issues restructure, in which case their profitability will improve.”

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