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By Park Jung-won
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Just as the ancient Greek philosopher Socrates noted the importance of knowing oneself, the new president should make sure he is fully aware of South Korea's true status in this turbulent geopolitical era. The fate of South Korea's international political situation will be greatly affected by his decisions, and the cost of his actions or inaction will be wholly borne by the South Korean people.
South Korea is not the British Empire, which enjoyed a period of "splendid isolation" at the end of the 19th century. The new president should resist the temptation to seek unrealistic and grand diplomatic and security strategies for his own immediate political interests within the limits of a single, five-year term in office. Calmly assessing the nature of current security conflicts between major powers and responding to them wisely in order to achieve South Korea's interests are what is required of a leader of a mid-sized power.
Since this year began, the international security environment has rapidly turned in a dangerous direction. Inter-state conflict after World War II was dominated by proxy warfare waged by major powers acting through weak contending states. Currently, however, the major powers risk direct military confrontation over problems such as Ukraine and Taiwan. Such a stark structural change in the geopolitical security pattern leaves South Korea unable to stand still, no matter how much it simply desires regional peace.
The new president should carefully keep an eye on the fact that China and Russia are swiftly moving toward establishing quasi-allied bilateral relations. The solidarity between China, Russia, and even North Korea appears to be strengthening in the direction of a common security block. Russian President Vladimir Putin and Chinese President Xi Jinping issued a joint statement on Feb. 4 which contained specific details over issues on which China and Russia will work together in reaction to the United States.
The problem is that China, Russia and North Korea are "revisionist countries," downplaying a "rules-based international order." The current conflicts between the major powers essentially involve disagreements over their ideologies and political systems. There can be little room for compromise when such conflicts are related to fundamental values.
The next South Korean president should study Japan and Australia in this context. These countries, as "liberal democracies," have actively cooperated with U.S. security policies, in particular inserting themselves into the U.S.' "integrated deterrence strategy" to ensure their survival. In contrast, the Moon Jae-in's administration has wasted five precious years by chasing the vain dream of a peace process on the Korean Peninsula, thereby damaging its security interests, which are grounded in a firm alliance with the U.S.
Obviously, China is a critical economic partner for South Korea. However, whereas South Korea's relations with China are largely economic, its relations with the U.S. are fundamentally a matter of national security. Ambiguous double-dealing by South Korea with the U.S. and China will send false signals to its military ally and its economic partner, which could end up harming relations with both.
The new president should also think deeply about why the Moon administration has failed so badly at improving inter-Korean relations despite holding fancy political events such as a series of summits with North Korea's leader. This was because Moon approached the North Korean regime with extremely romantic nationalist sentiments.
Individual South Korean citizens might be free to decide how they feel about the North Korean regime, but it is highly irresponsible for South Korea's leader to incur national security risks by adopting unilaterally submissive attitudes towards the North through claims that they are part of the same Korean nation. Such an irrational approach taken by Moon has only resulted in helping North Korea to become a stronger nuclear power.
A more fundamental problem is that Moon, who should have been in a position to prevent the division in South Korean society over the North Korean problem, has exacerbated the rift through his naive emotional approach to the North Korean regime.
Under Moon's rule, criticism of the North Korean regime has been portrayed as being reactionary and anti-national, whereas appeasing the North Korean regime has been treated as being progressive and nationalistic, regardless of the substance of the arguments. While this approach may have brought Moon temporary political advantage domestically, it has left South Korea's allies bemused.
The new president must make it clear that inter-Korean relations, including the North's denuclearization issue, should be made in accordance with international law and public opinion in the international community. He should move away from the idea that the North Korean denuclearization issue can be resolved by resorting to the sentiments of a common Korean nation.
The cultural homogeneity between the two Koreas has been greatly diluted by the existence of two completely different political, economic and social systems since 1948. If the North Korean regime considers South Koreans to be genuinely part of the same Korean nation, why has it threatened South Korea with nuclear weapons?
Whoever wins the election, the next president should be someone who can prioritize protecting the lives and property of the South Korean people by correctly perceiving the threat of a nuclear-armed North Korea and the increasingly dangerous geopolitical situation. He should then take advantage of South Korea's strong alliance with the U.S. and combine it with an approach justified by a firm basis in international law.
Park Jung-won (park_jungwon@hotmail.com), Ph.D. in law from the London School of Economics (LSE), is a professor of international law at Dankook University.
Focusing on risk management over long-term vision
By Park Chong-hoon
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However, we have a different view: We believe the new government should focus on risk management over a long-term vision. By risk management, we mean resolving short-term economic risks such as financial market stability, high inflation and rising SME debt, as well as narrowing the monetary and fiscal policy divergence, amid a potentially volatile environment in 2022.
As if the prospects of interest rate hikes, rising inflation and oil prices were not enough, the Russia-Ukraine conflict now confronts financial markets with possibly the biggest military threat in Europe since World War II. Given the recent geopolitical events, Korea's policy makers will need to consider the worst-case scenario of the U.S. Fed's strategy.
The Ukraine conflict may send inflation higher and weaken consumer confidence in the U.S., which could prompt the Fed to hike rates by more than expected, damaging consumer confidence still further. At home, concerns over Fed rate hikes in 2022 have driven the KOSPI down by about 10 percent, caused the Korean won (KRW) to depreciate 1.4 percent, and led 10-year KTB rates higher by about 33bps year to date.
Unlike previous governments which were concerned about disinflation or secular stagnation, the incoming government is likely to face inflation or stagflation pressure. Oil prices are set to break the $100/barrel level for the first time since 2014 ― possibly rising beyond, given Russia's incursion into Ukraine. CPI inflation has been above 3 percent for the last four months and should stay around the 3 percent level for the next six months on account of global supply bottlenecks, higher commodity prices due to geopolitical tensions, and pent-up demand on the easing COVID-19 situation.
Faced with rapidly rising inflation, the Bank of Korea (BOK) is likely to increase the base rate, which would put recessionary pressure on heavily indebted households and SMEs. While growth is resilient for now, there is a risk of stagflation in case of rapid rate hikes ― and given that Korea has not seen stagflation since the 1970s, we see a risk of markets panicking unless this situation is managed well.
The strategy of monetary and fiscal policy divergence ― that is, expansionary fiscal policy and tight monetary policy ― was effective in 2021, but the new government needs to worry about the crowding-out effect as government debt rises too rapidly. Even after two hikes, interest rates remain low and the extra budget was financed with higher tax collection rather than debt issuance. While the government passed a supplementary budget of 50 trillion won ($41.5 billion) last year, it collected an additional 60 trillion won approximately.
This year, the government needs to finance the extra budget by issuing government bonds. Recently, the National Assembly passed a 16.9 trillion won supplementary budget to support Omicron-affected SMEs. The BOK has purchased 2 trillion won worth of government bonds to offset the impact of the sudden rise in interest rates. We believe the government will need to coordinate with the BOK to drive fiscal expansion while maintaining short-term interest rates.
The new government will need to provide guidelines for resolving SMEs' financial difficulties amid rising rates and inflation. Higher rates will burden households and increase insolvencies among self-employed people with high household debt. Currently, COVID-19 policy measures are allowing households to delay the payment of principal on their mortgages, but the prospect of insolvencies remains.
As of the third quarter of 2021, household debt stood at 1,844 trillion won and debt held by self-employed persons was at 887 trillion won. If the base rate rises by 100 basis points per share (bps), the interest burden on households would increase by at least 14 trillion won, by our estimate, given that the share of fixed rate debt is less than 20 percent.
The government could delay or resolve the liquidity issue, but the insolvency problem cannot be delayed indefinitely. Restructuring will need to be done, and it would be cheaper to do so earlier rather than later. In response to the insolvency concerns, the Financial Services Commission recently called on banks to raise funds in preparation for bankruptcies. Based on past experience, the government is likely to continue its policy of making banks bear insolvency costs during the post-COVID normalization period.
Rising home prices have been a persistent problem for the current government. With improved macro-prudential policies and rising rates, we should start to see home prices moderate. At the same time, rapid price drops are also a risk as the insolvency of self-employed people can lead to instability in the real estate market. Household debt is often collateralized, leading to a fall in real-estate and asset prices ― this expands the leverage effect of increasing asset value through borrowing and could trigger a financial recession.
In particular, rising home prices can lead to the accumulation of household debt that deviates significantly from income levels; this can substantially reduce the financial system's stability and soundness in the event of a sharp drop in incomes or asset prices due to internal and external shocks.
All in all, we think the economic environment will remain challenging this year, especially given increasing headlines of downside risks rather than positive news. The new administration will not be kicking off its term from a platform of growth and stability, but rather from the perspective of managing immediate risks and emerging from difficult times.
Park Chong-hoon (ChongHoon.Park@sc.com) currently heads the Korea Research Team at Standard Chartered Korea. Before joining the bank, he worked as a senior research fellow and head of telecommunication policy at the Korea Information Society Development Institute (KISDI).
