Emerging

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EcoEmerging// 4 quarter 2018  
economic-research.bnpparibas.com  
South Korea  
Solid macroeconomic fundamentals  
The “détente strategy” adopted by President Moon since taking office in May 2017 would seem to be bearing fruit: in September, the  
leaders of the two Koreas held their third meeting, and a new trade deal was signed with the USA. On the economic front, the  
outlook remains good, despite the trade war between China and the USA. On the one side, South Korea’s positioning on value  
chains is shifting, which should allow it gradually to reduce its exposure to the Chinese economy. On the other, macroeconomic  
fundamentals are solid and the country’s external vulnerability is very low, allowing it to stimulate the economy if needed.  
Affected by the trade war  
1
- Forecasts  
1
Whilst tensions mount between China and the USA , the “détente  
2016  
2017 2018e 2019e  
strategy” adopted by President Moon since taking office in May  
2.8  
3.1  
2.9  
2.8  
Real GDP growth (%)  
2
017 would seem to be bearing fruit. Relations with North Korea are  
Inflation, CPI, year average (%)  
Gen. gov. balance / GDP (%)  
Gen. gov. debt / GDP (%)  
1.0  
1.8  
1.9  
1.4  
1.7  
1.4  
1.9  
1.0  
gradually improving. The leaders of the two countries met in  
September, opening the way, amongst other gains, to a resumption  
of dialogue between North Korea and the USA. Following this  
meeting, South Korea and the USA finalised a new bilateral trade  
deal at the end of September, building on an agreement in principle  
reached in March of this year. The signature of this new deal  
highlighted the good relationship between the two countries,  
although in effect the details of the previous treaty (signed in 2012)  
remain broadly the same.  
38.6  
7.0  
39.6  
5.1  
39.5  
4.5  
39.5  
4.3  
Current account balance / GDP (%)  
External debt / GDP (%)  
27.0  
366  
27.7  
384  
28.3  
402  
28.6  
409  
Forex reserves (USD bn)  
Forex reserves, in months of imports  
Exchange rate USDKWR (year end)  
8.4  
7.9  
7.3  
7.5  
1 160  
1 130  
1 070  
1 100  
e: BNP Paribas Group Economic Research estimates and forecasts  
This said, South Korea is not immune to the effects of the trade war  
between China and the United States. Although the tariff increases  
are aimed only at products from the two countries, the list of  
products encloses hi-tech items, including electronic components.  
By their nature, these products are dependent on value chains;  
Asian countries export components to China, where they are  
transformed and then exported onwards. As a result, restrictions on  
China’s trade affect the whole of the region. The worst affected  
countries will be those with the greatest direct exposure to China  
and the USA, on the one hand, and those with the greatest  
integration into regional and global value chains on the other.  
2
- “Direct” exposure to China and the USA  
5Global value Chains ParticipationIndex  
0
7
7
KO  
6
6
5
5
4
4
3
5
0
5
0
5
0
5
MY  
TH  
SI  
VI  
PH  
HK  
JP  
IN  
ID  
This is true of South Korea: exports to the USA and China represent  
30  
25  
Share of exports to the US andChina (% of 2017 total exports)  
10 20 30 40 50 60 70  
Source: IMF, TIVA  
26% and 12% of total exports respectively, and given the  
0
specialisation of its economy, particular in logistics and high  
technology sectors , the South Korean economy plays a central role  
2
in regional production networks. Exports within Asia make up more  
than 50% of total Korean exports.  
semiconductor companies, and electronics companies more  
generally, are in good financial health, which should allow them to  
absorb at least part of the shock. Advance indicators (order books,  
PMI index) suggest that the semiconductor sector will post good  
performances over the coming months.  
In other words, South Korea looks highly exposed to the fallout from  
a trade war between China and the USA. However, although short-  
term growth prospects have been downgraded, they remain  
relatively positive: real GDP growth is likely to fall back only slightly,  
from 3.1% in 2017 to just below 3% in both 2018 and 2019. Export  
growth has slowed since the beginning of the second quarter, but  
Meanwhile, domestic demand growth is also likely to slow, but will  
remain strong. Investment growth is likely to be held back by new  
regulations on the real estate market (and on mortgage lending to  
consumers), whilst consumer spending will be boosted by increases  
to the minimum wage and the package of social reforms introduced  
by the government. Lastly, the easing of political tensions between  
China and South Korea has enabled a return of Chinese tourists  
1
On 17 September, the USA announced an increase of 10% in customs tariffs  
on approximately USD200 billion of imports from China. In return, Chinese  
authorities increased tariffs on some USD60 billion of imports from the USA.  
2
The semiconductor sector alone represents 20% of total exports whilst exports  
of machines and electrical equipment to China account for 10% of total exports.  
th  
18  
EcoEmerging// 4 quarter 2018  
economic-research.bnpparibas.com  
(
the proportion of Chinese visitors as a share of total tourists to  
3
- Outbound FDI  
South Korea fell from 50% in 2016 to 30% in 2017). Since March  
018, visits from Chinese tourists have been rising again.  
2
to China  
to the United States  
to Vietnam  
A move up the value chain  
Over the longer term, the diversity of the South Korean economy is  
a significant strength, which increases its capacity to absorb shocks.  
According to the “Atlas of Economic Complexity” produced by the  
University of Harvard, South Korea is the world’s third most  
USD bn, 4-q rollingsum  
2
5
0
5
0
5
0
2
1
1
‘complex’ economy – in terms of the diversity of exports and the  
intensity of knowledge required to produce the goods exported –  
after Japan and Switzerland. The five biggest export sectors are  
electronics and printed circuits, automotive, refined oil products,  
shipbuilding (passenger and cargo) and automotive components.  
In addition, for a number of years now we have witnessed a move  
up the value chain by South Korean industry, which should  
gradually help to limit exposure to the Chinese economy. From a  
regional view point, China remains the centre of Asian value chains,  
but since the early 2010s 3 this central role has diminished  
somewhat in favour of intra-regional relationships between its  
neighbours.  
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018  
Source: Korean Central Bank  
macroprudential regulations and the package of measures  
introduced over the last ten years have significantly reduced the  
vulnerability of the banking and business sectors. Banks’ short-term  
debt now represents 5.5% of GDP, down from 13% at the end of  
The ‘traditional’ structure of regional specialisation based on China,  
Korea and Japan seems to be shifting slowly towards South Korea  
and the ASEAN nations. An example of South Korean industry’s  
move up the value chains can be seen in the case of Samsung’s  
smartphones. Some 80% of the assembly of the finished product is  
carried out outside the country, but with components which  
incorporate increasingly sophisticated Korean added value. Thus, at  
a regional level, South Korean companies (mainly from the  
electronics sector) have become major suppliers of high added  
value intermediate products.  
2
009. Lastly, the country’s net external position was continuously  
strengthened between 2010 and 2016. It worsened slightly in 2017  
to 16.2% of GDP) but remains very solid, reflecting the country’s  
(
reduced vulnerability to capital outflows.  
With South Korean direct investment into China having stayed fairly  
stable over recent years, investment in ASEAN countries,  
particularly Vietnam (where labour costs are lowest), has risen. At  
the same time, investment in the United States has grown rapidly  
since 2016, reflecting the desire of South Korean companies to get  
closer to their end market.  
Very low external vulnerability  
Lastly, South Korea has solid macroeconomic fundamentals, which  
will allow the authorities to support the economy if necessary.  
Inflation is low, the government has had a budget surplus (taking the  
social security surplus into account) every year since the early  
2000s, and government borrowing is at around 40% of GDP with a  
good profile. In particular, external vulnerability is currently very low.  
The current account has been in surplus every year for the past  
decade, at an average of 4.1% of GDP between 2007 and 2017  
(
5.1% in 2017). The surplus is likely to remain at around 4% of GDP  
in 2018 and 2019. These surpluses have strengthened the  
government’s position and those of the banking and manufacturing  
sectors in the event of increased volatility of capital flows. Similarly,  
3
KIEP, “China’s Manufacturing development and its implications for Korea”,  
World Economy Brief, Vol.8 No 18, July 2018  
QUI SOMMES-NOUS ? Trois équipes d'économistes (économies OCDE, économies émergentes et risque pays, économie bancaire) forment la Direction des Etudes Economiques de BNP Paribas.
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