[Issue Interview] Author of '2024 Outlook' Shares Conviction: "Active Fiscal Policy Inevitable in Economic Downturn"

Ryu Deokhyun, Professor of Economics at Chung-Ang University
Co-author of '2024 Korea Economic Outlook'
"Pandemic is over but the economy remains cold... Government must stoke the fire"
"Technological innovation can sufficiently challenge a 3% potential growth rate"

"Sound fiscal policy is obviously necessary. However, the context before and after must be considered. When the economy is in a downturn phase like now, the fiscal multiplier is large. It is time to focus on economic recovery through expansionary fiscal policy."

On the 15th, Professor Ryu Deok-hyun of the Department of Economics, whom I met at Chung-Ang University’s research lab, expressed concern that the current government's austerity fiscal stance could lead to a vicious cycle that deepens economic contraction. He said, "When the economic situation is deteriorating like now, the fiscal multiplier is large," and added, "If we insist on excessive fiscal soundness, we could collapse."

Professor Ryu is also the deputy director of the non-profit organization 'Economic Catch-up Research Institute,' which publishes the annual 'Korean Economic Outlook' series. In this year's '2024 Korean Economic Outlook' released by the institute, the key phrase for next year's Korean economy was set as 'Chunrae Bulsachun (春來不似春, spring has come but it does not feel like spring).' Professor Ryu explained this by saying, "It expresses that although the pandemic, which froze everything, has ended and spring has come, the economy still remains cold."

He emphasized, "We expected stability in interest rates and prices, as well as recovery in the Chinese economy and the semiconductor industry, but the situation remains unclear and uncertain," adding, "The government must play the role of stoking the fire so that warmth can be felt."

Professor Ryu Deok-hyun, Department of Economics, Chung-Ang University. Photo by Heo Young-han younghan@

The following is a Q&A with Professor Ryu.

- There are voices calling for active fiscal policy at this point, with tax revenue deficits and ongoing austerity, but some argue that in a global economic downturn, a highly open economy like Korea’s would see minimal effects from expansionary fiscal policy and should rather save.

▲ The growth contribution of the government sector was negative in the first and second quarters. This means government consumption and investment were low compared to the private sector. Our economy grew by about 1%, but the government sector had a negative contribution. Moreover, although there was excess tax revenue in the year before last and last year, the economy worsened from the second half of last year, causing tax revenue deficits this year and making expenditures difficult. The government is not fully spending the budget planned last year. This leads to a vicious cycle. The budget should be spent as planned. I think it is unacceptable to take it for granted that there are unused funds in the current government.

Fiscal soundness is necessary, but it should be emphasized according to the situation. Pursuing excessive fiscal soundness before the economy fully recovers causes side effects. For example, after the 2008 global crisis, Southern Europe faced another crisis. To overcome it, European countries implemented expansionary fiscal policies, but countries like Greece, Spain, and Italy, where economic recovery was still incomplete, suffered because they rushed into austerity.

Furthermore, we are not at a stage where fiscal soundness is urgently needed. It is true that national debt relative to GDP has increased significantly due to welfare spending for COVID-19 and aging population responses, but this is partly because we did not implement policies to raise the tax burden. To summarize, about half of the increase in national debt is due to COVID-19 response, 25% due to aging population response, and the remaining 25% due to progressive policies of the previous government.

- The high interest rate environment seems to be making the economy more difficult. Given that the policy rate gap between Korea and the U.S. is at an all-time high, do you think Korea can cut rates before the U.S. next year?

▲ That seems difficult. We have to watch movements in the foreign exchange and capital markets, so it is hard for us to move first. At the beginning of this year, many predicted the U.S. would cut rates around the second half, but this seems to have been delayed by about six months. We should observe the situation until June next year and then discuss the possibility of rate cuts. This is also reflected in the current FOMC atmosphere and comments by Chairman Jerome Powell. Recently, I watched a dialogue between Lee Chang-yong, Governor of the Bank of Korea, and Harvard Professor Lawrence Summers, and they perceived inflation stabilization as a distant issue. So it seems difficult for us to mention rate cuts until next summer.

- Earlier this year, the U.S. Federal Reserve was widely expected to cut policy rates around the second quarter of next year.

▲ The U.S. is showing an incredible performance. A country accounting for about 25% of global GDP is growing at 4%. That makes it hard to talk about rate cuts. The high interest rate level will likely continue into next year because the labor market and inflation remain unstable.

- Is this because of expansive fiscal policy?

▲ I don't think this growth is maintained solely by expansionary fiscal policy; it seems that U.S. containment of China has been effective. According to the Economic Catch-up Index developed by the Economic Catch-up Research Institute, last year China was expected to narrow the gap with the U.S. in 7-8 years, but this year the pace is expected to slow. The pressure and competition in advanced industries seem to be showing results. Also, China's reopening recovery speed is lagging, which seems to widen the gap. Additionally, industrial innovation and leadership of tech companies have played a role.

- International demands for carbon neutrality and ESG (environmental, social responsibility, and governance) are increasing. Do you think Korea can realistically keep pace with these?

▲ Europe is implementing industrial policies that strongly demand external parties to meet technical standards for environment and carbon neutrality. It is no longer optional. If we do not make efforts such as using renewable energy sources, we will reach a point where we can no longer export to European countries. This is an area where we must take technological innovation as an opportunity and adapt. We need to invest in this field and follow international standards.

- Recently, there have been calls for coordination between macroprudential policy and monetary policy to ease household debt, and financial authorities have introduced special loans for newborns. Do you think this is out of sync?

▲ I don't think it is completely out of sync. The special loan for newborns targets a limited group. It is not expected to explosively move the market like expanding jeonse (long-term lease) loans. While reducing debt itself is important, the focus should be on easing the real estate market. Besides Korea, Australia also has a high household debt ratio due to weak housing policies. Smooth housing welfare and supply are necessary to reduce household debt.

- There is a prevailing forecast that Korea’s potential growth rate will fall to the 1% range due to aging and other factors. Should low growth be accepted as inevitable?

▲ It would be problematic if the low growth trend becomes entrenched. Of course, it is unrealistic to continue the past rapid growth. Most advanced countries have maintained low growth rates as their economies grew. However, in Korea’s case, I believe we can sufficiently challenge a 3% potential growth rate. We can increase total factor productivity by opening up blocked industrial ecosystems, technological innovation, and advancing the AI (artificial intelligence) ecosystem.