Yejungcheo "Fiscal Deficit to Negatively Impact Current Account Balance 'in 2 Years'"

Source: National Assembly Budget Office

[Asia Economy Sejong=Reporter Son Seon-hee] A research analysis has revealed that when the fiscal balance deteriorates, it negatively affects the current account balance with a lag of about two years. Amid growing concerns over the so-called 'twin deficits' as the current account surplus sharply decreases recently, the analysis suggests that the fiscal deficit, which has rapidly expanded over the past two years, has had an impact.

The National Assembly Budget Office (NABO) released a report titled 'Economic and Industrial Trends & Issues' on the 29th, presenting the results of an analysis on the relationship between fiscal balance and current account balance. The report analyzed data from 1991 to 2020 and confirmed a significant correlation between the fiscal balance and the current account balance. Jo Eun-young, an economic analyst at NABO, pointed out, "The fiscal balance from the year before last shows a positive (+) relationship with the current account balance of the same year," adding, "Under the condition that other factors remain constant, if the fiscal balance worsens, the current account balance can also deteriorate, and this effect can be transmitted throughout the economy through various channels."

Under the Moon Jae-in administration's 'expansionary fiscal' policy, total expenditures increased significantly, causing the annual fiscal deficit to widen each year. The integrated fiscal balance recorded a deficit of 12 trillion won in 2019, which expanded to -71.2 trillion won in 2020 and -75.4 trillion won in 2021.

Although the current account balance still maintains a surplus, its margin has been decreasing trendwise. As of January, the trade balance showed exports of $55.32 billion and imports of $60.2 billion, resulting in a deficit of about $4.8 billion.

The report analyzed the relationship between fiscal balance and current account balance by citing Keynesian 'Twin Deficit Hypothesis.' According to this hypothesis, when fiscal spending increases due to expansionary fiscal policy, the issuance of government bonds rises to finance it, pushing up market interest rates. In this case, foreign capital, which is sensitive to changes in domestic and foreign interest rate differentials, flows into the country, causing the Korean won to appreciate. This appreciation, in the short term, increases imports and raises export prices, negatively impacting the current account balance. Additionally, the increased demand for imports due to higher fiscal spending also leads to a decrease in the current account balance.

In other words, the recent reduction in the current account surplus margin was also influenced by the overly expanded fiscal spending two years ago. Furthermore, since the fiscal balance has yet to escape deficit territory, this implies that the current account balance could be adversely affected until 2024, two years later.

Analyst Jo stated, "The increase in government bond issuance due to fiscal deficits raises interest rates, increasing the loan interest burden on households and businesses, which can lead to reduced consumption and investment." He added, "The expansion of the current account deficit not only raises the won-dollar exchange rate but also affects external creditworthiness, potentially causing difficulties for domestic companies in raising overseas funds." He further noted, "Even if the fiscal balance is maintained stably, the current account balance could deteriorate due to delayed recovery of global supply chains, the ongoing Ukraine-Russia conflict, and sharp rises in crude oil and raw material prices."

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