[BOK Focus] Economic 'Cheongsinho' but... Why the Perceived Economy Feels Bad

Real GDP Growth Rate in Q1 Exceeds Expectations at 1.3%
Economic Sentiment Index Falls Below 100
High Inflation, High Interest Rates, and Weak Private Consumption Continue, Leading to Declining Consumer Confidence

[Image source=Yonhap News]

"Because dining out costs are too expensive, I don't even dare to think about buying food. Packing a lunchbox every morning and eating it has become my daily routine."

Lee (23), a university student, recently made it a habit to pack a lunchbox to save on dining expenses while commuting. Before packing lunch, Lee spent about 30,000 won per day on meals, but since then, the cost of lunch and dinner has been reduced to around 20,000 won, significantly easing the financial burden.

In South Korea, the real Gross Domestic Product (GDP) growth rate for the first quarter is expected to be 1.3% quarter-on-quarter, greatly exceeding forecasts, filling the air with voices emphasizing a continuous economic growth "surprise." Upon the release of the first-quarter data, the Presidential Office and the Ministry of Economy and Finance cheered, calling it a "clear green light on the growth path of our economy." The government and the Bank of Korea have also begun revising upward their existing growth forecasts, and major global investment banks (IBs) such as UBS, Citi, and HSBC are successively raising their growth outlooks for Korea.

However, the economic sentiment felt by ordinary citizens remains harsh. The Bank of Korea's April Economic Sentiment Index (ESI) recorded 94.5, and the Business Survey Index (BSI) for all industries, reflecting corporate sentiment, was 71 in April, well below the baseline of 100. When these indices fall below 100, it indicates that more respondents view the current economic situation negatively.

The reasons for the poor economic sentiment include high inflation, high interest rates, and sluggish private consumption. Last month, the consumer price inflation rate was 2.9%, entering the 2% range for the first time in three months. However, with sharp increases in living costs such as vegetables and fruits, and soaring dining-out prices for items like tteokbokki and gimbap, there is a significant gap between the perceived economy and official figures. According to Statistics Korea, the living cost price index rose by 3.5% in April, a slower increase compared to the previous month (3.8%) but still at a high level. The dining-out price inflation rate was also 3.0%, higher than the overall consumer price inflation average of 2.9%. The dining-out price inflation rate has exceeded the average consumer price inflation rate for 35 consecutive months since June 2021.

The prolonged high interest rate environment is also worsening the debt repayment capacity of households and businesses. The balance of card loans, considered a "small loan for ordinary people" amid high inflation, reached 39.4821 trillion won at the end of last month across nine major card companies, increasing by 7.7 billion won from the record high in February. However, on the 2nd (local time), Bank of Korea Governor Lee Chang-yong, during a meeting with accompanying journalists in Tbilisi, Georgia, mentioned the need to reconsider the timing of interest rate cuts due to the delayed timing of the U.S. Federal Reserve's (Fed) rate cuts, the first-quarter GDP growth, and geopolitical risks in the Middle East, indicating that the high interest rate stance is expected to continue for the time being.

There are also criticisms that the first-quarter economic growth surprise in private consumption and construction investment is due to a base effect. Private consumption grew by 0.8% in the first quarter, and construction investment showed a strong growth rate of 2.7%. However, private consumption had shown consistently low growth rates last year and increased by only 1.1% compared to the same period last year, making it difficult to say that a full recovery phase has begun. In the case of construction investment, the poor performance in the fourth quarter of last year is seen as a base effect. Since uncertainties related to real estate project financing (PF) remain, if these effects fully materialize, a sluggish trend may reappear. The Bank of Korea also stated regarding the first-quarter data that "there are signs of domestic demand recovery, but it is necessary to observe whether this will be sustained."

To revive economic sentiment, there is an analysis that proactive interest rate cuts are necessary. The Korea Development Institute (KDI) stated in a report on the 2nd titled "Analysis of Recent Domestic Demand Slump: Focusing on Interest Rates and Exports" that while exports are recovering relatively quickly, domestic demand recovery is delayed, citing prolonged high interest rates as the cause. There is also an argument that to make domestic demand recovery visible, it may be necessary to consider cutting the base interest rate earlier than the U.S.

However, many opinions emphasize caution regarding interest rate cuts. Professor Choi Cheol of the Department of Consumer Economics at Sookmyung Women's University said, "Due to high interest rates, the burden of household interest repayments has increased, and delinquency rates have also risen. Currently, the interest rate gap between Korea and the U.S. is 2 percentage points, which is significant, so there is a possibility of capital outflow, and exchange rate volatility may increase. Therefore, a cautious consideration of one rate cut within the year is necessary." However, he added, "This is only possible if high inflation is controlled and the U.S. signals an interest rate cut."