Korean Presidential Election Raises Prospect of Fiscal Stimulus

  • JPMorgan drops rate cut call as focus turns to fiscal policy
  • Nomura expects an extra budget of about 10 trillion won

As South Korea’s presidential hopefuls rush to prepare for an election due in less than two months, economists are expecting whoever wins will introduce a supplementary budget to bolster the economy.

Expectations of more spending prompted JPMorgan Chase & Co. to withdraw its forecast for a rate cut. It now sees rates on hold at 1.25 percent for this year. Societe Generale SA had expected two cuts in 2017 but now forecasts no change as economic data is improving and the candidates are focusing on containing record household debt.

“Historically, newly launched governments have tended to utilize fiscal options relatively aggressively for the first couple of years,” JPMorgan economists Lim Ji-won and Park Seok-gil wrote in a report after the constitutional court upheld an impeachment vote against Park Gyeun-hye on March 10. “We expect the new government to issue a relatively large supplementary budget in the second half" of the year, they wrote.

Park’s administration had planned a budget of about 400 trillion won ($350 billion), an increase of less than one percent from 2016. Bank of Korea Governor Lee Ju-yeol said this wasn’t accommodative and called for the government to play a bigger role.

Finance Minister Yoo Il-ho had already said the government will mull an extra budget after monitoring first-quarter data. On Monday, he said that is likely to be implemented by the new administration, as an election must be held by May 9 at the latest.

Policy Choices

With national debt at less than 40 percent of the size of gross domestic product, the government has room for more spending. However, there’s limited scope to cut rates any further, with the Federal Reserve likely to raise rates this year and South Korea’s household debt continuing to rise to new records.

Nomura International Ltd. expects an extra budget of 10 trillion won as early as June to help offset the negative impact from falling tourist arrivals from China and corporate restructuring, according to a report on Monday.

Moon Jae-in, the former leader of the Democratic Party of Korea and the leading presidential candidate, has pledged to push for a supplementary budget to create jobs if elected. Moon also suggested capping the pace of household debt growth. Lee Jae-myung, another candidate for the Democratic Party, said he will write off the debt of lower-income households.  

Moon was leading in a Gallup poll released last Friday with a 32 percent approval rating, followed by fellow party member and Provincial Governor Ahn Hee-jung, with 17 percent support. The party will choose a candidate before the election.

“The possibility that a candidate from the Democratic Party will become president is very high, and it seems household debt-worriers are the majority there,” said Oh Suk-tae, an economist at SG Securities Co., a unit of Societe Generale SA. “A rate cut would only come if the economy is in a complete mess, but exports are improving and BOK may have to raise its inflation forecast.”

China Risk

Despite the expectation for a supplementary budget, economists are reluctant to revise their GDP forecast upward as risks include China’s economic retaliation over the Thaad missile shield and the Trump administration’s protectionist trade stance.

“An early election could end recent policy uncertainty and boost sentiment,” said Angela Hsieh, an economist for Barclays Bank Plc. Although the drag on domestic demand could be reduced following the impeachment, the uncertainty around the Thaad deployment and the potential fall in visitors from mainland China could weigh on retail sales and services, she wrote in an email.

The BOK forecasts 2.5 percent economic expansion for this year and inflation of 1.8 percent. 

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