Possible Drop in Potential Economic Growth Rate to 4 Percent

The Bank of Korea will initiate efforts to decrease Korea`s estimated potential growth rate to 4 percent. The move is attracting much attention since it means that Korea will now be entering an era of low economic growth in earnest.

A ranking official of the central bank said, ˝The Bank of Korea has estimated the nation’s potential growth rate at 5 percent and implemented monetary policies in line with that figure. But the figure seems to have dropped to 4 percent this year, and so the bank will readjust the potential growth rate again by the end of this year.˝

˝Korea’s potential growth rate seems to have fallen due to sluggish facility investment since the Asian financial crisis, a drop in labor supply caused by the reduced birth rate, and not enough investment in technological innovation. Given the circumstances, Korea has to change its concept for growth.˝ he added. The reduced estimate by the bank, which is a renowned institution for economic analysis, is a warning for Korea’s economic fundamentals.

As a result, the government’s policy goal of increasing the potential growth rate up to 7 percent and achieving per capita income of $20,000 in 10 years has become a more elusive goal.

Choi Kyng-su, a researcher at the Korea Development Institution, said, ˝Every 1 percent drop in the real economic growth rate hikes the unemployment rate by 0.2 percent. Korea has to grow an average of 5 percent if is to employ those who are just entering the labor market at an ordinary level.˝

The KDI has already issued a warning that if Korea does not improve its economic institutions and open up its markets further, its growth potential could go down to 4.8 percent from 2003 to 2007 and 4.5 percent from 2008 to 2012.

According to the KDI, the nation’s potential growth rate has dropped from 7.8 percent in the 1980s, to 6.6 percent in the first half of the 1990s, to 6.0 percent in the latter half of the 1990s.

Chung Mun-gun of the Samsung Economic Research Institute emphasized, “The downward adjustment of the potential growth rate by the central bank indicates that the Korean economy has entered the low growth phase earlier than expected. If the nation is to regain the 5 percent growth potential, the government and the public will need to put forth painstaking efforts.

Potential economic growth is the GDP growth rate that can be achieved without causing inflation. Its downward adjustment by the Bank of Korea therefore indicates that the Korean economy will have difficulty expanding without triggering inflation in the future.

Joong-Hyun Park sanjuck@donga.com