The Bank of Korea: "Economic Growth Rate Decline Should Not Be Seen as Poor Performance" [Q&A]

August Revised Economic Outlook Briefing
Economic Growth Rate Downgrade Does Not Mean Economic Slump
Inflation Expected to Stabilize in Low 2% Range

The Research Department of the Bank of Korea stated on the 22nd that it lowered its annual economic growth forecast by 0.1 percentage points because "the temporary factors behind the first quarter's domestic gross domestic product (GDP) surprise were larger than expected," and added, "We do not believe that the downward revision to a 2.4% growth rate this year necessarily indicates a recession or economic sluggishness."

[Image source=Yonhap News]

At a revised economic outlook briefing held at the Bank of Korea annex in Jung-gu, Seoul, the Research Department said, "There is a trend of improvement in domestic demand such as facility investment and private consumption, which were weak in the first half of the year," and evaluated, "Consumption is influenced by corporate earnings improvement and income. Considering that recent corporate investment news is gradually emerging, we expect the gap between exports and domestic demand to narrow compared to the first half."

Regarding the downward revision of the inflation rate forecast to 2.4%, down 0.2 percentage points, they explained, "From August, base effects will significantly contribute to lowering inflation to the low 2% range," and added, "Although there will be volatility due to geopolitical risks and adjustments in public utility fee hikes, inflation is expected to stabilize at a low level, with considerable progress in disinflation."

On the upward revision of the current account balance forecast, they said, "Looking at individual items, IT exports are performing well due to semiconductors," and "In the case of automobiles, hybrid vehicles are showing good performance mainly in exports to Japan, so we expect a favorable trend to continue in the second half."

Below is a Q&A from the August economic outlook briefing with the Bank of Korea Research Department.

- What is the reason for the downward revision of the annual facility investment forecast this year?

▲(Lee Ji-ho, Director of Research Department) We had expected semiconductor companies to invest accordingly because the semiconductor market was strong in the first half. However, unlike in the past, this time there was a conservative trend, and actual performance fell short of initial expectations. Also, the delay in aircraft deliveries due to production delays by overseas suppliers was reflected. We expect these two issues to be resolved toward the end of the year, acting as positive factors.

- What is the reason for the downward revision of the annual private consumption forecast this year?

▲(Kim Woong, Deputy Governor) We lowered the private consumption forecast from 1.8% to 1.4%. There are two main reasons. We expected household income to improve in the first half, but it was sluggish, and the pace was slower than anticipated, so we revised it downward. We expect private consumption to improve in the second half because corporate earnings will improve, leading to higher wages and consumption. One reason for weak consumption in the first half was high inflation levels, which are expected to ease. Also, the significant drop in market interest rates is expected to alleviate constraints on consumption. Although the forecast was lowered by 0.4 percentage points, private consumption is expected to gradually improve.

- The quarterly forecast shows improvement in the fourth quarter compared to the third quarter. What factors contributed to this?

▲(Lee Ji-ho) A characteristic of the first half of this year was the large gap between domestic demand and exports. We expect the semiconductor sector, which drove exports in the first half, to remain largely unchanged in the second half. Meanwhile, domestic demand such as facility investment and private consumption, which were weak in the first half, are showing signs of improvement. Ultimately, consumption is influenced by corporate earnings and income, and as investment news from companies gradually emerges, we expect the gap between exports and domestic demand to narrow compared to the first half.

- How was the interest rate change reflected when adjusting assumptions in the quarterly forecast?

▲(Kim Woong) There are three ways to reflect the policy interest rate path in economic forecasts: implicitly through economic models, by assuming a fixed interest rate, or by calculating the average interest rate expectations of market participants embedded in government bond yields. The Bank of Korea Research Department reflects market participants' expected interest rates in its forecasts.

▲(Lee Ji-ho) There are various ways to gauge market interest rate expectations, such as reflecting rates embedded in government bond yields or surveying bond experts. These are used to reflect an average policy interest rate level.

- The current account balance forecast was revised upward. What is your assessment of exports in the second half?

▲(Yoon Yong-jun, Head of International Trade Team) Looking at individual items, IT exports are performing well due to semiconductors. In automobiles, hybrid vehicles are showing good performance mainly in exports to Japan. We expect a favorable trend to continue in the second half.

- The exchange rate has recently been falling. What impact will this have on exports?

▲(Yoon Yong-jun) Korea's exports are mainly driven by semiconductors and automobiles. They are highly rated for quality competitiveness rather than price competitiveness. Therefore, we do not expect the exchange rate to have a significant impact on exports.

▲(Lee Ji-ho) It is expected that corporate profitability will certainly be affected.

▲(Park Chang-hyun, Head of Price Trends Team) The impact of the exchange rate on inflation can act as downward pressure mainly on import prices. The exchange rate recently fell to the 1,330 won level. Since the exchange rate had been maintained at a high level for a considerable period, we need to observe how this will affect the economy going forward.

- The inflation rate forecast was lowered by 0.1 percentage points. Is this due to the recent downward stabilization of inflation?

▲Inflation is expected to stabilize downward in the low 2% range. On the supply side, agricultural product prices significantly slowed in the second quarter. Oil prices were also revised downward, easing supply-side pressures considerably. From August, base effects will significantly contribute to lowering inflation to the low 2% range. Although there will be volatility due to geopolitical risks and adjustments in public utility fee hikes, inflation is expected to stabilize at a low level, with considerable progress in disinflation.

- The oil price forecast for the second half of this year is $84. Isn't this too high?

▲(Kim Dae-yong, Head of General Research Team) Although Middle East risks have decreased, the situation could escalate at any time. However, we do not see this as a situation warranting a revision of the forecast.

▲(Lee Ji-ho) Oil prices have been volatile. Our forecast is fundamentally based on supply and demand fundamentals. Compared to current Brent crude prices, the forecast seems high, but when averaged over one or two months, it is not excessive. Nevertheless, if the current situation persists, the inflation forecast could decline. We understand the forecast is made conservatively.

▲(Park Chang-hyun) The average oil price so far this year is around $83. Major institutions' forecasts are also formed around $83 to $84.

- Except for goods exports and construction investment, growth rates are lower than last year. You emphasized in the morning briefing that it is inappropriate to describe this as 'economic sluggishness.' Why?

▲(Lee Ji-ho) A 2.4% growth rate overall is a reasonable figure. Although domestic demand is recovering more slowly than expected, overall, we do not believe that the downward revision to 2.4% growth this year should be interpreted as a recession or economic sluggishness.

- The annual growth forecast was slightly lowered because temporary factors behind the first quarter GDP surprise were larger than expected. What were these temporary factors and how significant were they?

▲(Lee Ji-ho) The weather had a significant impact in the first quarter.

▲(Kim Dae-yong) The potential growth rate is 2%. If growth is 2.4% this year, it is difficult to evaluate the economy as sluggish. The press release mentioned a favorable growth trend for this reason. After confirming that many temporary factors influenced first-quarter growth, we slightly lowered the annual growth forecast.

- You mentioned that household debt is constraining private consumption. Was this comment made with recent increases in household debt in mind?

▲(Kim Woong) Household debt has increased significantly, especially among the 30s and 40s age groups. Since they bear principal and interest repayment burdens, their consumption is constrained. This explains the restrictive effect of interest rates.