[Exclusive] Ministry of Economy and Finance to Release Long-term Fiscal Outlook Reflecting Board of Audit and Inspection's Recommendations

Discretionary Expenditures Linked to Nominal Growth Rate
National Debt Projection for 40 Years Later
Expected to Soar to Triple-Digit Percentage of GDP

The Ministry of Economy and Finance has decided to produce long-term fiscal projections in a manner similar to that before the Moon Jae-in administration, reflecting the Audit Board's criticisms. This means partially accepting the criticism that Hong Nam-ki, Deputy Prime Minister and Minister of Economy and Finance during the Moon Jae-in administration, arbitrarily changed assumptions to reduce the projected ratio of national debt to Gross Domestic Product (GDP). Accordingly, the '40-year national debt projection' to be included in the long-term fiscal outlook to be announced this September is expected to soar to a triple-digit percentage relative to GDP. The current national debt ratio stands at 46.1% of GDP as of 2024. The government plans to respect the opinions of a committee composed of private-sector members as much as possible to ensure transparency in the projections.

According to related ministries on the 17th, the Ministry of Economy and Finance is conducting the '3rd Long-term Fiscal Outlook' work this year based on these contents. Under the National Finance Act, the ministry must present fiscal projections for periods exceeding 40 years every five years since 2015. The 3rd projection is scheduled for release this September, and the ministry is placing emphasis on a scenario that separately calculates mandatory expenditures and links only discretionary expenditures to the nominal growth rate (growth rate + inflation) to predict the future scale of national debt. Total expenditures are divided into mandatory expenditures, such as basic pensions with legally stipulated payment obligations, and discretionary expenditures, which can be reduced according to government policy intentions.

In the 2nd long-term fiscal outlook produced in 2020, a scenario was presented assuming that the entire government expenditure, including mandatory expenditures, would increase by the nominal growth rate. Since mandatory expenditures increase at a rate higher than the nominal growth rate due to ongoing aging, this assumption was criticized as an attempt to underestimate the long-term national debt projection, and it was pointed out by the Audit Board last year.

In 2015, the assumption was that only discretionary expenditures would increase by the nominal growth rate, while mandatory expenditures were separately calculated based on the increase rate due to demographic changes to project the national debt level. For example, if the nominal growth rate rises by 5%, it was assumed that the government would increase discretionary expenditures by 5% accordingly. However, assuming that the entire government expenditure increases by the nominal growth rate, as in 2020, implies that in a situation where mandatory expenditures rise significantly due to aging, there is little room to increase discretionary expenditures or they must even be reduced. As a result, the Audit Board judged that the government's discretionary expenditures were projected lower than the actual situation, leading to an underestimation of the national debt ratio.

Major Countries Including the National Assembly Budget Office Do Not Reflect Debt Reduction Intentions in Scenarios

Jeon Byung-mok, president of the Korean Association of Public Finance, explained, "Whether to reduce or increase discretionary expenditures ultimately depends on the government's will, and the 2020 method reflected the policy intention that the government would reduce discretionary expenditures in the future." At that time, former Deputy Prime Minister Hong argued that the 2015 method could rather inflate the national debt ratio compared to reality. Since it is practically difficult to continue increasing discretionary expenditures at the nominal growth rate level when mandatory expenditures surge, he countered that it is reasonable to reflect the government's intention to reduce national debt in the long-term fiscal outlook.

The Ministry of Economy and Finance is leaning toward reverting to the 2015 estimation method. They judge that not linking mandatory expenditures to the nominal growth rate and showing future fiscal conditions as they are aligns better with the purpose of the system. In this case, the national debt ratio projected by the government for 40 years later is likely to soar to a triple-digit percentage relative to GDP. Jeon said, "Strongly reflecting policy intentions in long-term fiscal projections may be contrary to the original purpose. Since the purpose is to see how fiscal conditions will change if the current system is maintained, major countries including Korea's National Assembly Budget Office do not incorporate strong policy intentions into their scenarios."

The Ministry of Economy and Finance explained that to ensure the reliability of the projections, it will respect the judgments of the Long-term Fiscal Outlook Committee, which is composed of both public and private members, as much as possible. A ministry official said, "Since there was an Audit Board criticism last year, we will not intervene in the committee members' judgments this time. If the members deem it necessary, various scenarios reflecting multiple variables can be included." In January, Kim Yoon-sang, 2nd Vice Minister of Economy and Finance, stated at the '1st Fiscal Management Strategy Committee' that "The 3rd Long-term Fiscal Outlook will be conducted more transparently and objectively to enhance the reliability of the projections," and "Various scenarios based on population and macroeconomic variable forecasts will be analyzed."

The ministry is expected to present a scenario that links only discretionary expenditures to the nominal growth rate as the framework for projecting national debt, along with various scenarios reflecting population decline in the future. For example, pessimistic scenarios reflecting worsening demographic structures compared to current trends will be additionally presented. However, the specific timing of the projection has not yet been decided. A ministry official explained, "Regarding the projections to be announced this year, some institutions have expressed difficulties in estimating up to 2070, so the specific timing is being discussed."