South Korea’s economy contracts as exports fall, rates rise

SOUTH Korea’s economy shrank for the first time since the beginning of the pandemic last quarter, as exports fell and consumer spending edged down in response to rising interest rates.

Gross domestic product contracted 0.4 per cent from the previous three months, the Bank of Korea (BOK) said on Thursday (Jan 26), matching a Bloomberg survey of economists. From a year earlier, the economy still expanded by 1.4 per cent.

Earlier this month, BOK governor Rhee Chang-yong had flagged the possibility of a contraction when he delivered a 25 basis point interest-rate hike. Recent weakness in economic activity prompted markets to interpret the hike as the final move in the current tightening cycle.

For 2022 as a whole, the economy expanded 2.6 per cent from a year earlier, in line with an earlier BOK projection.

South Korea serves as an early indicator of the state of the global economy, as it depends heavily on international trade. Its performance is closely bound to those of major economies including China, the US and Japan.

South Korea is also vulnerable to fluctuations in global commodity prices, as it relies heavily on imports of oil and food. As rates climbed worldwide, companies reined in investment, reducing demand for its products, such as semiconductors, steel and displays.

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An economic slowdown in China particularly hurt South Korean exports last year. Policymakers are concerned about the potential impact of growing US curbs on China over semiconductor exports, given that South Korea has large chipmaking facilities in the world’s second-largest economy.

Pantheon Macroeconomics economist Duncan Wrigley said: “Exports and their impact on Korea’s growth are top of mind for policymakers.” His comments came after early trade data showed an ongoing decline in overseas shipments last week.

“(South) Korean exports will likely remain on a downward trend given the poor economic prospects in its major markets,” he added.

While trade is on a downturn, consumption is weakening in South Korea, especially after an October 2022 crowd-crush tragedy that killed more than 150 people in Seoul. Household spending was a key driver of economic growth for most of last year, following the relaxation of Covid regulations.

This year, South Korea’s economy is expected to grow slightly less than 1.7 per cent, the BOK said, adding that inflation would reach around 3.6 per cent.

As the outlook darkens, the BOK is winding down its 18-month tightening cycle. The central bank’s hikes included two half-point moves last year as it sought to keep pace with the US Federal Reserve’s aggressive tightening.

Higher rates have strained South Korea’s credit markets. A rare default by the local developer of Legoland Korea sent the corporate bond market tumbling last year. Deteriorating sentiment in property markets as house prices fall is another concern for policymakers.

Rhee said the economy is more likely to return to growth in the current quarter than shrink, as China regains momentum following the end of its Covid lockdowns.

Before the release, Bank of America economists Kathleen Oh and Ting Him Ho said: “Whilst we see a tailwind, a quick reversal of exports is unlikely. What South Korea needs eventually is China’s final external demand pickup to strongly benefit South Korea intermediary goods exports.” BLOOMBERG