Hankyung Research Institute "Rapidly Increasing Korean Debt Raises Concerns Over External Creditworthiness"

South Korea's National Debt Ratio Surpasses 40%, Could Rise to 99.6% by 2045, Potentially Dropping Credit Rating by Two Levels

[Asia Economy Reporter Changhwan Lee] The Korea Economic Research Institute announced on the 13th that an analysis of major countries after the global financial crisis revealed that for every 1 percentage point (p) increase in the national debt-to-GDP ratio, the national credit rating drops by 0.03 levels.

Recently, the government projected the national debt ratio to reach a maximum of 99.6% by 2045, which is 61.5 percentage points higher than last year's 38.1%. If the national debt ratio rises according to this scenario, it would exert pressure for a two-level downgrade in the national credit rating.

The Korea Economic Research Institute emphasized that a red flag has been raised regarding fiscal soundness as South Korea's national debt ratio recently surpassed the potential threshold of 40%.

Until 2018, the national debt ratio was maintained at around 36% of GDP, but it increased to 38.1% last year, and due to increased fiscal spending amid the impact of the novel coronavirus disease (COVID-19) this year, it rose further to 43.9%.

According to the long-term fiscal outlook recently announced by the government, South Korea's national debt ratio is expected to rise to 99.6% by 2045.

Some argue that "due to the recent impact of COVID-19, the government has no choice but to increase fiscal spending," making the rise in national debt inevitable. In response, the Korea Economic Research Institute explained, "During the global financial crisis, some European countries implemented large-scale economic stimulus measures but faced severe fiscal crises," adding, "In times of crisis, spending should be focused on necessary areas without undermining fiscal soundness."

During the 2008 global financial crisis, Spain injected a large budget into economic stimulus measures such as expanding public investment and supporting home purchases to address declining growth rates and rising unemployment.

However, without clear results from fiscal policies and with accumulating fiscal deficits, Spain's national debt ratio to GDP, which was only 39.4% in 2008, increased 2.2 times to 85.7% by 2012 in just four years. During the same period, Spain's national credit rating fell nine levels from AAA to BBB-.

On the other hand, Germany experienced a temporary increase in its national debt ratio after the global financial crisis but has maintained its highest national credit rating through strict fiscal management.

South Korea recently announced a fiscal rule introduction plan that includes management standards for the national debt ratio (60% of GDP) and the integrated fiscal balance (-3% of GDP). However, the Korea Economic Research Institute argued that the fiscal rules have loose standards, such as an excessively high upper limit on the national debt ratio compared to current levels, and lack sanctions for violations, raising concerns about their practical effectiveness in securing fiscal soundness.

A rapid increase in the national debt ratio can lead to a decline in trust in the country's debt repayment ability and capital outflows from foreign investors, increasing the likelihood of the entire country facing a liquidity crisis. Therefore, major credit rating agencies such as S&P use fiscal soundness as a key factor in determining credit ratings alongside macroeconomic indicators like economic growth rate and current account balance.

Choo Kwang-ho, Director of Economic Policy at the Korea Economic Research Institute, pointed out, "There is a perception that South Korea's national debt level is low compared to major countries and thus acceptable, but overconfidence in fiscal soundness is dangerous," adding, "As seen in the cases of Spain and Ireland, strong fiscal health can collapse in an instant, and it is difficult to restore damaged fiscal soundness, so careful management during normal times is essential."

This content was produced with the assistance of AI translation services.