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[Editorial] Strong headwinds ahead

Preemptive measures needed to stabilize financial market, avoid hitting stagflation

June 16, 2022 - 05:30 By Korea Herald
Alarming signs about the South Korean economy are popping up everywhere. Inflation is soaring, stock markets tumbling, the local currency’s value dropping. Growth outlook is turning gloomier while investors across the world are turning jittery as the US Federal Reserve is speculated to hike interest rates at a faster pace.

The combination of ominous signs is dreadful enough to spook both policymakers and investors. But being aware of impending economic pitfalls is not enough; decisive and preemptive actions are in order.

The country’s main bourse Kospi kept sliding this week after plunging by 3.52 percent Monday. The sharp drop came after the US stock market tanked Friday amid deepening concerns that the Fed may hike its key interest rate by 0.75 percentage points -- a “giant step” to tame the increasingly intractable US inflation, which hit a 41-year high of 8.6 percent in May.

But the steep fall of the global financial markets cannot be explained by the Fed’s interest rate hike alone. In fact, worries have been mounting about several negative factors, including Russia’s invasion of Ukraine, which worsened the already clogged global supply chain and sent energy prices flying higher.

Some experts argue that liquidity-fueled financial, real estate and crypto market bubbles are set to burst, as major economies are move to tighten their monetary policies.

South Korea was not immune to the global trend. When Kospi started the year by closing at 2,988.77 on Jan. 3, optimistic investors were full of hope that it would surpass the 3,000 level and move far higher. Since then, however, the Kospi had lost nearly 500 points this year -- and fell for seven straight days to close at 2,447.38 Wednesday.

The outlook for the country’s economy this year is far from encouraging. For instance, Fitch Ratings, a credit appraiser, lowered its 2022 growth outlook for the South Korean economy to 2.4 percent Wednesday, citing the fallout of the Russia-Ukraine war and the economic slowdown in China, which is South Korea’s biggest trading partner.

To calm spooked investors and help stabilize the market, Korean policymakers are declaring their resolve to tackle the challenges.

“The government needs to take actions to prevent market jitters from sharply rising due to excessive herd behavior in the FX market and review contingency plans that can be mobilized at any time,” Finance Minister Choo Kyung-ho said in a meeting with senior officials including the central bank chief Tuesday.

But the road ahead looks bumpier than previously thought. The country’s consumer prices jumped 5.4 percent on-year in May, the fastest rise in almost 14 years. Given the rising local inflation and the Fed’s expected rate hikes, the Bank of Korea is also set to additionally raise the rate soon. The Korean central bank already raised the policy rate by a quarter percentage point to 1.75 percent last month, marking the fifth increase in borrowing costs since August last year.

As economists warned, however, raising interest rates too much and too fast could tip the economy into a recession, creating a situation that discourages firms from borrowing money and making new investments, and forces consumers to tighten their purse strings.

Given South Korea is an export-driven economy vulnerable to external shocks, the latest turmoil in the global markets point to a higher possibility that the country might fall into a stagflation, a mixture of high inflation and sluggish economic growth linked to higher interest rates.

To avoid this dreaded scenario, the Yoon administration should take all possible measures to stabilize the financial market, help keep a lid on inflation and introduce policies aimed at shoring up the country’s economic competitiveness.