January 17, 2024


Miracle in Reverse

The trials of South Korea’s growth models

The South Korean economy is widely seen as the paragon of the East Asian miracle, characterized by its rapid economic growth and a fairly equal income distribution. The country continued its upward growth trajectory even in the aftermath of the 1997 financial crisis, emerging as a global leader in manufacturing semiconductors, automotive, and batteries. But the South Korean economic outlook has proven far less hopeful since the dawn of the twenty-first century. Income inequality began to rise in the early 2000s, and Korea now is home to the lowest birth rates and highest suicide rates in the developed world. In 2017, President Moon Jae-In attempted to change course, introducing a progressive income-led growth strategy. Through more active state intervention, the policy focused on increasing household consumption and promoting aggregate demand. Five years into its government, however, the administration lost its leadership and was replaced by the current conservative government of Yoon Suk Yeol. Keynesian wage-led growth has been replaced with trickle-down economics, with poor prospects for growth and redistribution. What went wrong? Examining the trials and tribulations of South Korea’s experiments with income-led growth reveals important implications for fiscal policy and the enduring influence of austerity.

Reversing the miracle

In 1997, foreign capital flowed rapidly out of East Asia, beginning from Southeast Asian countries that had high foreign debt and vulnerable economic fundamentals. Korea was no exception: its corporate sector had made substantial debt-financed investments, and its economy had lots of foreign short-term debt. Across the West, the crisis was explained as the result of crony capitalism and political interference in market processes. Grossly overlooked were the reckless financial openings and government retreat from economic management since the 1990s. 

Accepting a $57 billion bailout from the International Monetary Fund (IMF), the Korean government adhered to the predominant reading. The East Asian growth miracle was the culprit. In response, the government implemented neoliberal, market-led economic reforms, including corporate restructuring to reduce debt ratios, financial restructuring involving substantial public funds, and labor market flexibilization measures. Progressives expressed serious concerns that post-crisis restructuring would bring an end to the previously successful growth model, leading to economic stagnation and worsening income inequality.  

These predictions were partially verified. After 1997, investment growth and the economic growth rate declined. The economy as a whole, however, continued to grow, thanks to the resilience of major business groups known as the Chaebol, and effective government promotion of information and technology (IT) industries. 

The global economy also played a crucial role in sustaining Korea’s economic growth during the early 2000s. Currency depreciation combined with a global economic boom led to surging exports between 1999 and 2000. When China was admitted into the World Trade Organization (WTO), the export share of GDP in South Korea rose from 28.6 percent in 2002, to 47.6 percent in 2008—primarily led by Chinese imports of intermediate and capital goods. This trend intensified after the Global Financial Crisis, as massive Chinese stimulus measures drove the Korean export share of GDP to its peak in 2011 at 54.1 percent. Despite such turbulence, South Korea held a current account surplus in the mid-2010s and managed to achieve export-dependent economic growth.

But important changes were taking place under the surface. In particular, the share of domestic consumption contributing to economic growth declined throughout the 2000s.  In the mid-2010s, the share of private consumption was less than 50 percent of GDP, significantly lower than that of other advanced countries. This growth pattern was associated with rising income inequality and wage depression. The Gini coefficient of disposable income rose, and the wage share of workers fell significantly in the 2000s, though there was some improvement after 2010. Notably, the relative poverty rate reached 17.6 percent, and the share of low-wage workers receiving less than two thirds of the median wage stood at 23.5 percent in 2016. By contrast, the rich fared well, with the top 10 percent income share at about 43 percent of GDP in 2016, second only to the US. 

In the face of stagnation and inequality, Koreans called for “economic democratization”—the distribution of income from the Chaebol companies to vulnerable workers in small and medium enterprises.  In response, the conservative Park government of 2012 introduced a universal pension system for the elderly, partially embracing the reform agenda but implementing tax cuts and deregulation. Ultimately, Park was embroiled in a corruption scandal and impeached amid a wave of public protests and political resistance. 

The income-led growth strategy

Moon Jae-In came to power in 2017,  criticizing former conservative governments for adopting trickle-down economics and prioritizing export-led growth. The new government-proposed economic paradigm was a Korean version of wage-led growth, promoted limited government redistribution, and boosted aggregate demand by increasing wages and household incomes. This approach was broadly consistent with inclusive growth promoted by international organizations after the global financial crisis. As part of its reform efforts, the government raised the minimum wage by 16.4 percent in 2018 and 10.8 percent in 2019, and offered incentives to small companies that hired minimum wage workers. It also raised the Earned Income Tax Credit (EITC) and offered subsidies for social insurance premiums for self-employed workers, who constituted 25 percent of the total labor force. Furthermore, the government expanded social welfare by raising the elderly pension benefit, introducing child benefits, and expanding unemployment insurance. Finally, it reduced the costs of medical care, child care, and housing, increasing the budget for these sectors by more than 10 percent in 2018 and 2019. Total public social expenditure as a percent of GDP rose from 10.1 percent in 2017 to 12.3 percent in 2019.

The first year of the Moon government saw significant setbacks: only one-third of the number of jobs were created in 2018 compared with 2017, and income inequality was found by the Household Income and Expenditure Survey (HIES) to rise rapidly. Faced with overwhelming criticism, the Moon government loosened its commitment to income-led growth and changed the presidential economic advisor.

Not all of the criticisms, however, were justified. For example, the HIES which found rising inequality underwent a change in sample and population group in 2018 and experienced limitations in accurately capturing changes in inequality using quarterly data. The more credible Survey of Household Finances and Living Conditions (SHFL), which provides official income distribution statistics with results published much later than the HIES, showed that income equality has clearly fallen since 2018. The Gini coefficient of disposable income of households fell from 0.354 in 2017 to 0.339 in 2019, and 0.333 in 2021, and the relative poverty rate fell too. The share of low-wage workers fell from 22.3 percent in 2017 to 17 percent in 2019, alongside a significant reduction in wage inequality. The adjusted wage share also rose from 68.1 percent in 2017 to 72.2 percent in 2019. Income-led growth did, after all, succeed in raising incomes of workers and households. 


While wages in South Korea were rising, wealth inequality and concentration worsened thanks to a rapid increase in real estate market prices. The price of apartments in Seoul nearly doubled between 2017 and 2021, increasing the Gini coefficient of net wealth from 0.584 in 2017 to 0.603 in 2021. The very high real estate prices compared to income are particularly noteworthy, significantly higher than that in other advanced countries. For example, the ratio of total net national wealth to net national income was 9.5 in 2017, rising to 11.9 in 2021 due to the rapid increase in housing prices. 

At the same time, meaningful growth failed to materialize. The GDP growth rate fell from 3.2 percent in 2017 to 2.9 percent and 2.2 percent in 2018 and 2019, respectively. The total fixed investment growth was -2.2 percent in 2018 and -2.1 percent in 2019 because of the fall in both equipment and construction investment. A decline in equipment investment was closely associated with the change in exports to the global market. Korean exports increased by 15.8 percent in 2017 but only by 5.4 percent in 2018 and -10.4 percent in 2019. The semiconductor industry’s exports surged by 64.7  percent in 2017 but its growth fell to 27.5 percent in 2018 and -28 percent in 2019, leading to a significant reduction in investment growth. The growth of equipment investment in the consumer electronics and petrochemical industry also increased rapidly in 2017 but declined in 2018 and 2019. Government statistics report that the growth of the index of machinery and equipment investment was 20 percent in 2017 but fell to -5.3 percent in 2018 and -10.2 percent in 2019. This was mainly driven by the fall in investment in special industrial machinery and equipment, including the equipment used in semiconductor production. While private consumption growth had become the largest contributing factor to economic growth in 2018, it was not powerful enough to offset the decline in industrial investment. 

Where did Moon’s policies go wrong? First, the government failed to implement an effective tax on real estate in 2017. By the time it did so, the real estate bubble had already generated widespread complaints about the higher tax burden. Second, the Moon government neglected to articulate and implement a clear fiscal policy. It reduced the budget for Social Overhead Capital (SOC) by 14 percent and decreased construction investment by about 1 percent in 2018. Fiscal stimulus was important for mitigating the potential shock of income-led growth policies, such as the rapid increase in the minimum wage. While tax revenues left the budget with its highest budget surplus since 2007, no supplementary budget spending was planned, resulting in de facto austerity.

The inactive stance on fiscal policy reflected the strong influence of conservative government officials and a persisting ideology of austerity. While the gross public debt as a percentage of GDP was less than 40 percent in 2018, concerns about fiscal deficits and rising government debt persisted in Korea. The president and his advisors in the presidential office appeared not to have strong political will and capacity to pursue active spending. This contradicted even the mainstream Keynesian macroeconomic argument to support fiscal stimulus when the economy is in stagnation and the interest rate is low. The fiscal policy of the Moon government thus fell desperately short of its Keynesian aims. 

Last, but not least, the Moon government experienced the impacts of a changing global economy. Escalating tensions between the US and China significantly decreased trade growth in 2019, reducing export growth to -10 percent in 2019 in dollar terms. With unfavorable global economic conditions, the challenges to growth were nearly insurmountable. 

Future paths

Reservations about fiscal spending persisted throughout the Covid-19 pandemic. While wealthy governments spent an average of 11.7 percent of GDP on pandemic mitigation between early 2020 and mid-2021, Korea’s spending stood at just 6.4 percent. Consequently, self-employed workers in Korea faced severe economic hardships and the already high level of household debt increased from 98 percent of GDP in 2019 to 108 percent in 2021. This, in turn, was met by public disapproval of the government, particularly among the self-employed.

Elections in 2022 saw conservative candidate Yoon Suk Yeol win the presidency by a tiny margin. The government’s return to trickle-down economics was marked by tax cuts for large companies and the wealthy alongside fiscal consolidation. In 2023, tax revenues are anticipated to fall short of expectations by 15 percent due to stagnation and cuts. The government has introduced an exceptionally restrictive budget for 2024, significantly reducing spending on R&D and social programs. In stark contrast to its narrative of successful growth, today South Korea turns away from state intervention just as economies across the world begin to embrace industrial policy. 

The international economic environment has also worsened, with US export regulation in the semiconductor industry poised to harm Korean production. Thanks to the development of its own intermediate and capital goods industry, China has also recently reduced imports from Korea—declining by 16 percent in 2019, mainly due to the fall in exports of intermediate goods. By August of 2023, exports to China fell by 25 percent compared to the same period in 2022. Between the stagnation and economic upgrading of the Chinese economy, Korean exports are in a bind. 

With this as the backdrop, the growth rate in Korea is expected to be a mere 1.4 percent in 2023 according to the IMF. If South Korea is to reverse course, it must reap the lessons from both its export-led and income-led growth turns. Chief among these is that increased consumption must be coupled with a more active role of the government in promoting social welfare and public investment. The reduction of income inequality by enhanced government redistribution is necessary to boost domestic consumption. Fiscal spending to address challenges related to the population is crucial, considering the extremely low birth rate of 0.78 in 2022 and the highly elderly poverty rate of 38 percent in 2021. Finally, active public investment and industrial policy must be called on to develop green industries and address climate change.

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