3Q Economic Slowdown and Soaring Prices... The Shadow of 'Stagflation'

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Overseas IBs Downgrade South Korea's Growth Forecast

3Q Growth Momentum May Slow Compared to 2Q

BOK Also Assesses Rising Inflationary Pressures

Experts: "Immediate Concerns Are Limited, but Policy Responses Such as Liquidity Withdrawal Are Needed"

[Asia Economy, Reporter Kim Eunbyeol] Amid uncertainty over economic recovery in the second half due to the fourth wave of COVID-19, inflation has surged again to this year's highest level, raising fears that stagflation (low growth and high inflation) could become a reality. However, the economy is still holding up thanks to exports and the base effect from last year's COVID-19 shock, and the government is making every effort to stabilize prices, so the possibility of stagflation occurring immediately is considered limited. The future trajectory is expected to depend on the spread of the COVID-19 Delta variant and whether inflation continues to rise sharply.

According to the investment banking (IB) industry on the 3rd, major U.S. IB Goldman Sachs lowered its annual growth forecast from 4.5% to 4.1% after South Korea's 2nd quarter GDP growth rate was announced at 0.7%. British IB Barclays also cut its forecast from 4.1% to 4.0%, and predicted that the 3rd quarter growth rate will be 0.6%, lower than the 2nd quarter. While achieving a 4% growth rate is not seen as a problem, it is expected that the economy will inevitably slow down more than anticipated in the 3rd quarter. This is because with the social distancing level raised, face-to-face consumption is reduced, leading to slower growth.

Meanwhile, the inflation trend continues steadily. The Bank of Korea's view, which initially expected this year's inflation trend to be temporary, has subtly changed. In a report titled "Theoretical Background of Recent Inflation Debate and Assessment of Realization Possibility in Our Economy" released on the 17th of last month, the BOK stated, "It is assessed that inflationary pressures from demand-side factors may expand more than expected."

A snack display at a large supermarket in Seoul. [Image source=Yonhap News]

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Typically, inflation is low during periods of low growth, and inflation rises alongside the economy during boom times. The government and the BOK also inject money or lower interest rates when the economy is in recession, and withdraw money when overheating occurs. However, once entering a stagflation state, economic response measures can actually increase risks. Injecting money causes inflation to rise further, while tightening policies can accelerate economic recession. This is why there is advice to proactively respond to rapid inflation.

Professor Sung Tae-yoon of Yonsei University's Department of Economics recently commented on the situation, saying, "There is clearly a stagflation characteristic," adding, "Although economic indicators are still good, face-to-face consumption is deteriorating and overall inflation is rising significantly." He continued, "It is necessary to view the situation as stagflation and respond with policy, including partially withdrawing liquidity."

Joo Won, director at Hyundai Research Institute, said, "The possibility of inflation has slightly decreased as raw material prices have fallen somewhat," but added, "The possibility of economic recession seems to be increasing from the 3rd quarter." Hyundai Research Institute had identified stagflation as a risk factor earlier this year.

However, there is also analysis that stagflation concerns are exaggerated. Although inflation is high, it is argued that a 4% growth rate cannot be considered a recession. Professor Kim So-young of Seoul National University's Department of Economics said, "I do not agree much with stagflation concerns," and forecasted, "If economic recovery slows, inflation may rise less than expected."

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