[Inside Chodong] IMF Sounds Early Warning on National Debt

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Last week, the International Monetary Fund (IMF) released a report warning the Korean government about debt management, naming Korea as the country whose debt-to-GDP ratio is projected to rise the fastest. According to the report, Korea’s debt-to-GDP ratio (D2) will surpass the average of advanced non-reserve-currency countries by the end of next year, and rise to 60.1% in three years. While an immediate fiscal crisis is not expected, the IMF issued an early warning that a combination of slowing growth and rapid aging could quickly erode Korea’s fiscal capacity.

However, in the press release distributed by the Ministry of Planning and Budget on the same day, which translated the key contents of the IMF report for the press, these warnings were omitted. Instead, the release focused on portraying the delay of the debt ratio exceeding 60% by one year as a “virtuous cycle in fiscal management” achieved by the government. This improved outlook is actually due to higher nominal growth forecasts reflecting the semiconductor boom cycle, not because the government has slowed the pace of borrowing. Nevertheless, even senior staff at the presidential office joined in, claiming the “debt ratio controversy is a political frame, a simplistic fear narrative,” thus fueling an ideological debate.

It is true that Korea’s debt-to-GDP ratio is lower than that of major advanced economies. When Korea exceeds 60% in 2029, the average for major advanced economies will soar to 112.3%. These advanced economies with debt ratios above 110% are reserve-currency countries with a long history of expanded fiscal investment, having increased national debt significantly through military spending during World War I and II. Reserve-currency countries can continue to increase their debt without much concern for rising interest rates due to strong demand for their government bonds, and the risk of a credit rating downgrade is relatively low. Kim Yong-beom, the policy chief at the presidential office, questioned whether reserve-currency status is the criterion for fiscal soundness, but one must ask whether Korea, in an emergency, could print won to fend off external shocks. For non-reserve-currency countries like Korea, which experience capital outflows and currency instability during external shocks, the appropriate debt threshold is fundamentally different.

Moreover, the IMF is particularly concerned about the future pace of increase, rather than the current debt level. Unprecedentedly rapid population aging is driving up welfare costs, while a declining birthrate reduces tax revenue and weakens the growth base. Although government debt is still at a low level, household debt has surged to 90% of GDP, leaving households with little capacity to bear further national debt. Despite this, the government continues to push expansionary fiscal policy while deferring long-term structural reforms. The IMF stated that without bold structural reform, achieving 3% growth is impossible. Kim also acknowledged, “Of course, structural reform tasks remain,” but failed to present any concrete alternatives.

Even if the Lee Jaemyung administration continues to champion a “virtuous cycle of fiscal expansion for growth,” there is a minimal red line that should not be crossed-even at the cost of chronic deficits. If the government fails to sufficiently assure the market that Korea is safe from crisis, a harsh bill may arrive in the form of soaring government bond yields, a surging exchange rate, and even a credit rating downgrade. The 3-year government bond yield has been rising since April last year, even amid a trend of benchmark interest rate cuts. The bond-driven high interest rate crisis experienced by advanced economies may not be a distant issue for Korea. A former senior official at the Ministry of Economy and Finance whom I met recently remarked, “The biggest Achilles’ heel of the current administration will be the debt problem.” The debt issue is like the elephant in the room-it cannot be solved simply by ignoring it.

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