[Insight & Opinion] High Oil Prices, China's Economic Slowdown, and Political Turmoil... The Three Major Risks Facing the Korean Economy

Rising Oil Prices Fuel Inflation and Exchange Rate Volatility
Current Account Deficit Could Trigger Capital Outflows
Excessive Politicization of the Economy Is Also a Concern

Although there remains a possibility of another interest rate hike in the United States, the Korean economy is gradually escaping the risk of capital outflows caused by the rapid rate increases in the US. However, domestic and international shocks that could trigger a crisis are scattered throughout the Korean economy, requiring cautious responses from policymakers.

First, there is the rise in international crude oil prices and the deterioration of the current account balance. The combination of production cuts by the Organization of the Petroleum Exporting Countries (OPEC) and increased demand during the winter season has caused international crude oil prices to rise sharply again. The increase in oil prices raises the cost of oil imports, worsening the current account balance, and pushes up the exchange rate, which can lead to capital outflows. Additionally, it raises inflation, potentially deepening an economic recession through further interest rate hikes. Considering the trend of rising wages, prices of all goods, and housing prices since the COVID-19 pandemic, international crude oil prices are expected to continue their upward trajectory next year, necessitating countermeasures.

Second, the economic slowdown in China and the weakening of Korea’s export competitiveness are also concerns. Due to the US-China hegemonic competition, the US is strengthening import restrictions on China, while China is attempting to shift from an open economy to a closed economy to maintain its communist system. As China’s growth rate slows, there are concerns that exports to China, which account for 19% of Korea’s total exports, will significantly decrease. Furthermore, weakening export competitiveness is another factor reducing exports. The technological gap between Korea and China is narrowing due to China’s catch-up, weakening export competitiveness. The accelerated relocation of key industries such as shipbuilding, steel, automobiles, and electronics to China is also causing a significant reduction in jobs. If the current account balance, which has recorded a surplus of $6 billion from January to July, turns into a deficit due to decreased exports to China and rising oil prices, there is concern that Korea could be exposed to a crisis from capital outflows.

Third, political turmoil and the politicization of the economy also contribute to concerns about a crisis. Korea’s political environment has changed significantly compared to the past. While the economy and politics influence each other, the politicization of the economy is currently excessively intense. Many economic policies, including taxation, fiscal, housing, and energy policies, are influenced by populism and political factors aimed at maintaining power. Countries where economic policies are determined by political factors often experience crises. Especially when the deterioration of the current account balance coincides with political turmoil, countries in Latin America, including Venezuela, frequently suffer repeated crises characterized by low growth and high inflation. The US, China, and Japan are united politically in their efforts to foster new industries represented by batteries, semiconductors, and biotechnology, and to transform their industrial structures. If political turmoil like the current partisan conflicts continues, the Korean economy is likely to stagnate and falter at the threshold of becoming a developed country.

What solutions can help the Korean economy escape the crisis phase? First, the politicization of the economy must be overcome. This is a political issue and cannot be resolved by the economic team alone. However, if the public becomes aware of the high costs that politicization of the economy will bring in the future and forms an opposing opinion, overcoming it is possible. Reducing dependence on trade with China and diversifying export markets to establish a current account surplus trend is also important. Facing a major industrial structural transformation, the government must establish new industrial policies to foster new growth industries by expanding the training of skilled personnel and support for new technologies, ensuring the country can sustain itself for the next 20 years by enhancing export competitiveness. Additionally, preparations should be made for rising international oil prices by increasing oil reserves, and sound energy policies should be established based on economic logic rather than political factors.

Although the wave of US interest rate hikes has passed, many challenges remain ahead for the Korean economy. To escape the risks of crisis and low growth, policy choices that end political turmoil and enhance export competitiveness through a major industrial structural transformation are necessary.

Kim Jeongsik (Emeritus Professor, Department of Economics, Yonsei University)

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