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South Korea teeters on edge of yet another fiscal cliff

Friday, April 10, 2015 - 07:59
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South Korea's persistently rosy assumptions about government finances risk derailing public spending in a year when exports and other engines of growth are sputtering.

[SEOUL] South Korea's persistently rosy assumptions about government finances risk derailing public spending in a year when exports and other engines of growth are sputtering.

The government expects its 2015 revenue to rise 8.1 per cent from last year's actual receipts. But that target is increasingly looking elusive. The goal is based on assumptions of 4 percent economic growth and 2 per cent inflation, both about 1 percentage point above market estimates. Even the central bank has lowered its GDP and inflation forecasts. Slower GDP growth would cut tax revenue, including from corporate income tax, while lower consumer inflation would dampen revenue growth for taxes on goods, as their prices increase more slowly.

The central bank's governor said on Thursday that he expects a government revenue shortfall this year as economic conditions deteriorate, although it may not be as huge as last year's. South Korea missed its revenue goal by a record 11 trillion won (S$13.7 billion) each in 2014 and 2013. A shortfall would force the government to reduce spending.

It spent some 18 trillion won less than planned both in 2014 and in 2013. As a result, public construction projects and other government investments accounted for just 0.2 percentage point of GDP growth last year.

Despite the looming fiscal crunch, the government has been reluctant to draw up extra spending plans due to strict laws that only permit supplementary expenditure if there is massive unemployment or a significant slowdown in economic growth.

The government can sell bonds to plug a temporary mismatch in funds, but it has to pay them back by the end of the year. Parliamentary approval to borrow for a period beyond the current year is also required - a potentially protracted process.

The government's spending constraints could undermine the effect of the central bank's interest rate cuts. The Bank of Korea has trimmed its policy rate by 1 percentage point to a record low of 1.75 per cent since President Park Geun-hye took office two years ago.

"The rules for laying out a supplementary budget are quite rigid, and there will be many difficulties, but for economic recovery and strengthening potential growth, government spending should take on some responsibility," Bank of Korea Governor Lee Ju-yeol told reporters on Thursday.

REUTERS

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