In recent years, the South Korean government’s budget has grappled with challenges as government spending has outpaced revenues. Factors like the aftermath of COVID-19 and financial difficulties encountered by major companies manifested in declining exports in crucial industries, exacerbating this situation. A Korea Pro analysis reveals:

• The proposed budget for 2024 aims to bridge the revenue shortfall through austerity measures in select areas. The education sector will witness a reduction of 6.9%, the R&D sector 16.6% and general and regional administrations face a cutback of 0.8%.
• Meanwhile, some segments will see a budgetary increase, such as infrastructure at 4.6%, business and energy at 4.9% and, notably, national defense at 4.5%.
• The strategy behind these cuts is to recalibrate government expenditure. By slashing budgets in certain areas, the government aims to divert more funds toward its priorities and simultaneously curb the growth rate of the budget amid declining revenues.
• These fiscal decisions come during a precarious time, with the country navigating China’s economic turbulence and persistent challenges for South Korean corporations.
• While the government remains firm in its stance against extensive borrowing to address the fiscal deficit, such an approach may pose short-term economic setbacks.
• The country faces worrying long-term structural trends, such as a rapidly aging population, a shrinking workforce, and the effects of Chinese import industrialization. While fiscal discipline is necessary, the current timing of these decisions raises concerns about the broader implications for South Korea’s economic trajectory.

SHIFTING BALANCES

Last year’s budget reflected a nominal increase of 5% in South Korea’s overall expenditure. However, when adjusted for supplementary budgets, it amounted to an actual decrease of 6%. Within this context, the R&D budget saw a rise of 3% and the defense budget increased by 4.6%. Conversely, the budgets for business and industry underwent an 18% reduction and infrastructure funding was slashed by 10.2%.

In terms of budgetary oscillations, the infrastructure allocation, after being severely curtailed last year, witnessed a partial rebound. Yet when compared to the 2022 figures adjusted for inflation, current allocations still fall short. The business and energy sectors exhibit similar funding patterns.

In 2023, the education sector enjoyed a substantial funding boost, up 14.2% from 2022. However, projections for the 2024 budget indicate a cutback of 6.9%. This contraction aligns with decreasing school and university enrollments and a reduction in research outlays.

Meanwhile, R&D financing paints a sharper picture. Following a modest 3% rise in 2023, the 2024 budget proposes a stark reduction of 16.6%. Given inflationary pressures since 2021, this suggests researchers are bracing for a tangible reduction in financial support.

On the other end of the spectrum, two dominant budgetary segments persist in their upward trajectory, outpacing the overall budget growth. Public health, welfare and employment — the budget’s largest component — grew by 4.1% in 2023, with a proposed 7.5% hike for 2024.

Parallelly, defense expenditure, having increased by 4.6% in 2023, is set to rise by 4.5% in 2024. The projected increase for 2024 is especially significant given the lower inflation rates, translating to more substantial real-term increments.

South Korea’s National Assembly building, April 14, 2023 | Image: ROK National Assembly via Instagram

SHRINKING BALANCES

Budgetary reallocations in South Korea stem, in part, from the escalating structural deficit. Rising allocations toward public health and welfare directly address the needs of the nation’s significant elderly population living in poverty, along with increased funding for housing.

The defense budget increase from the previous year underscores the government’s dedication to boosting its deterrence capabilities, including the three-axis system and other advanced defense technologies. This move also aims to bolster the nation’s growing munitions sector.

Notably, while allocations for defense technology witnessed an upswing, a substantial portion of the monetary increase was channeled toward raising military personnel’s wages, covering aspects like pay and living costs. Given North Korea’s advancing nuclear and missile capabilities, the rationale behind these decisions is evident.

This year, the government seems to prioritize enhancing the country’s satellite infrastructure, major weapons systems such as the F-15K and the integration of advanced technology at the frontline. Nonetheless, there’s a projected 26.9% hike in military personnel’s salaries, underscoring the nation’s intensifying focus on its long-term defense capabilities.

However, the fiscal landscape also reveals a deteriorating revenue scenario. While the year began with revenue growth projections of 1.2%, by July, the actual figures stood at a mere 54.3% of the annual target. This figure suggests a potential shortfall of approximately $45.2 billion (60 trillion won) by year-end.

This downturn can be traced back to the revenue windfalls of 2021 and 2022, driven by soaring housing prices, robust corporate profits and escalating share values. However, this year has seen a significant contraction in corporate profits, with the housing market experiencing a downturn since its peak in late 2021. A considerable drop in income tax revenue further compounds the issue.

Looking ahead, ROK government projections indicate subdued revenue growth over the next five years, spanning 2023 to 2027. The anticipated growth of 2.7% is considerably lower than the 6.6% forecast for the 2022-2026 period, as predicted in 2022. Analysts attribute this revision to previous overly optimistic economic predictions coupled with reductions in corporate and property tax rates.

CYCLICAL AND STRUCTURAL PROBLEMS

South Korea’s economy grapples with cyclical challenges, some of which eluded anticipation. For example, predictions of surging Chinese consumption did not materialize, even as China’s strategy focused on localizing high-tech manufacturing remains a concern for South Korean firms and the government. The substantial decline in export revenues and corporate profits raises questions about the prudence of enhancing corporate earnings through tax reductions.

Inflation and a tighter monetary policy also contribute to the nation’s economic woes. With the Bank of Korea having maintained elevated interest rates, policymakers should have recognized the potential vulnerability of revenues from property and capital gains. Implementing cuts in such an environment, especially against rising interest rates, will likely compound the issue.

Further, reductions in real-term budgets are liable to exacerbate the economic impact of China’s downturn. The decisions to trim R&D budgets, intended to aid fiscal balance, are particularly concerning. These reductions could lead to job losses in research sectors, hindering South Korea’s capacity to innovate going forward.

Given the high automation and capital-intensive nature of the South Korean economy, coupled with a diminishing labor force, growth predicated on productivity and innovation becomes essential. Undermining the country’s scientific and research sectors may further diminish growth prospects in the medium term. Moreover, substantial segments of the nation’s service industry demand innovation and investments to sustain growth.

The fiscal shortfall is undeniable, and the medium-to-long-term outlook remains worrisome. Navigating the nation onto a sustainable fiscal trajectory will demand rigorous decision-making. Instead of merely implementing cuts, it might be prudent to explore avenues to enhance revenues. Despite potential political hurdles, the government could have deliberated on broader revenue-generation strategies akin to approaches adopted during the Park Geun-hye administration.

Edited by John Lee