South Korea’s potential growth rate, the highest achievable without causing inflation, is projected at 2.0% this year, falling behind the U.S. rate of 2.1%. South Korea’s potential growth rate has dropped by 0.4 percentage points over the past five years, while the U.S. has successfully increased its potential growth rate by 0.2 percentage points in four years through improvements in productivity driven by innovation. South Korea’s per capita income is about $36,000, only 42% of the U.S. level of $85,000. While South Korea has just entered advanced status and has much room to grow, its growth potential now lags behind that of the mature U.S. economy.
The decline in potential growth signals a future decrease in actual growth, leading to chronic low growth. While low birth rates and an aging population play a role, the larger factors are declining innovation, weak investment, and decreasing labor productivity, which weaken economic vitality. Demographic changes are unavoidable in the short term, but policy measures such as regulatory reform and fostering new industries can enhance growth potential.
Comprehensive policies for economic revitalization have proven effective, with the U.K.’s potential growth rate rising from 0.9% in 2020 to 1.1% this year, and Germany’s increasing from 0.7% to 0.8%. South Korea’s potential growth rate is higher than that of G7 countries excluding the U.S., but if the rapid decline continues, it will inevitably fall into a ‘low-growth trap’ along with its extremely low birth rate.
There is no magic bullet for restoring growth potential. Structural reforms are necessary to modernize outdated systems and economic conditions that hinder growth. It is crucial to implement bold deregulation and improve the investment environment. Educational reforms are also urgently needed to ensure a skilled workforce for industries. Given the persistent low birth rate, increasing labor force participation among women and older workers is essential. Populist measures, such as debt-financed spending, will not stop the rapid decline in potential growth.
