Will Korean economy slip into recession in 2023?

Faltering exports, private spending expected to further weigh on Korean economy

By Yi Whan-woo

Korea could face a mild recession in 2023, as exports and private spending ― the twin engines of the nation's economy ― are forecast to falter at the same time amid a global economic slowdown caused by high inflation and supply chain disruptions, according to multiple analysts.

A recession is technically defined as a contraction in gross domestic product (GDP) for two or more consecutive quarters. But even when GDP growth displays a sharp slowdown, the economy is considered as being in a state of recession.

The projection comes amid the dominant outlook that Asia's fourth-largest economy will display rare low growth in the 1-percent range in 2023, compared to estimated growth in the 2-percent range in 2022.

The Ministry of Economy and Finance forecasts Korea's 2023 GDP growth at 1.6 percent, compared to the Bank of Korea's projection of 1.7 percent. The OECD estimates Korea's economy to grow 1.8 percent in 2023, while the IMF forecasts 2 percent growth and the S&P 1.4 percent.

Korea achieved 1-percent-range growth or lower during only four past crises: 1980 in the aftermath of the second oil crisis, 1998 in the midst of the Asian financial crisis, 2009 in the midst of the global financial crisis and in 2020 due to the COVID-19 pandemic.

"While a recession is not our base case for Korea, we cannot rule it out," S&P's Asia-Pacific Chief Economist Louis Kuijs said in an email interview.

He noted the highest risk of a possible recession stems from the U.S. Federal Reserve's need "to raise its policy interest rate more than what is currently envisaged to rein in the high core inflation amid very low unemployment."

He forecast the Fed's policy rate to peak at over 5 percent in the third quarter of 2023.

"That will impose more pain on the U.S. as well as the global economy including Korea," Kuijs said.

On the domestic side, he viewed that a high benchmark interest rate in Korea will force "households and firms to 'tighten their belts' more than we currently expect, cutting their spending."

Sohn Sung-won, a professor of finance and economics at Loyola Marymount University, wrote in an email that Korea will enter a recession during the second half of 2023.

Also the president of economic consulting firm, SS Economics, Sohn said, "Inflation and high interest rates will sap the buying power of consumers" while the slowdown of the global economy will also result in a further slowdown of Korea's exports.

Regarding the Fed's hawkish approach to monetary policy, Sohn said it is possible that the Fed's overreaction could be the "most immediate danger" for the global economy.

The former senior economist at the White House under the Nixon administration noted that about 60 percent of the central banks' tightening cycles resulted in recessions during the post-war period around the world and that "they may have gone too far already."

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Jung Yoo-tag, research fellow at Hana Institute of Finance, predicted there is "a 25-percent chance of a recession throughout 2023."

Joo Won, deputy director of the Economic Research Department at the Hyundai Research Institute, viewed that the Korean economy will undergo a recession in the first half of the year before rebounding in the following half.

"The serious nature of the circumstances of the Korean economy comes from a highly-anticipated joint fall in exports and consumer spending," he said, adding that exports and private spending used to offset each other in the pandemic era when one of them remained sluggish, but that is not likely next year.

"Correspondingly, our economy is expected to enter a recession in the first half of the year before it rebounds in the latter half so that it can meet the government's growth target goal of 1.6 percent," he added.

Joo's prediction was in line with Deputy Prime Minister and Minister of Economy and Finance Choo Kyung-ho's view that the Korean economy will "go downhill in the first half, uphill in the second half."

Some analysts had different views from Choo's.

"We don't see obvious room for a meaningful acceleration in growth in 2023, notwithstanding the resilience in domestic demand shown so far. We see the Korean economy picking up speed in 2024," Kujis said.

Sohn also said the recovery in Korea "won't commence until 2024" although the country's economy will experience "a rolling recession," meaning that not every sector sinks at the same time and therefore such a recession will be short-lived.

Asked about other economic risks that can cause a recession, Institute for Global Economics Chairman and CEO Jun Kwang-woo, the former chairman of the Financial Services Commission, picked snowballing household debt driven by massive mortgage loans, plus inefficiency in the labor market.

"Under the circumstances, I'd say the 3Rs ― recession, real estate and reform (in the labor market) ― are the three key words for next year's economy," he said.

Regarding the widening trade deficit caused by declining exports, the Hana Institute of Finance economist said the trade balance will continue to remain in the red in 2023, although it will improve from this year's.

Jung viewed this year's deficit to be at $50 billion, as forecast by the government, and at around $20 billion for 2023.

Concerning how the monetary authorities should balance out growth and inflation, Jun said the focus should be on growth on the premise that inflation does not "adversely affect the economy."

The inflation is forecast to fall to the 3-percent range in 2023, down from the 5-percent range this year.

Lee Sang-ho, head of the economic policy team at the Korea Economic Research Institute (KERI) also said that growth should be prioritized in terms of monetary policy, saying, "It is the market consensus that inflation has peaked out and preventing a possible recession is seen as more urgent than curbing prices."

Regarding how high the BOK's base rate will increase, Joo said it will be in the market expectation of 3.5 percent, while Lee said it can go up to 3.75 percent.

The base rate currently stands at 3.25 percent.

On the currency exchange rate, the experts remained optimistic that the Korean won will gain ground against the U.S. dollar.

"The value of the won should appreciate against the U.S. dollar starting in the early part of the year. This will reduce the burden of importing food and energy denominated in the U.S. dollar," Sohn said.

Citing multiple studies, Jun found the won-dollar exchange rate "reasonable" to be in the range of 1,300 won per dollar for the manufacturing sector and in the range of 1,200 won per dollar for the service sector.

The KERI researcher found the range of 1,200 won idealistic for businesses in general.

On the U.S. economy, Sohn said it may experience a rolling recession while the country's trade friction with China will continue to worsen.

He, however, said the friction will be "slow and gradual" because the two countries "are too dependent on each other now and can't afford to cut the cord abruptly."