Expect timely fiscal expansion

By Park Chong-hoon

"Don't tell me what you value. Show me your budget ― and I'll tell you what you value."
-Joe Biden

The government budget represents the political philosophy of the current government. The annual budget decisions can often be driven more by political than economic considerations, with more emphasis on the distribution of funds than on supporting growth.

Given this, it is no surprise that the ruling and opposition parties are engaged in a tight battle for budget priorities. The budget confirmation process also tends to be political, as opposed to focusing on spending, which affects people's livelihoods. In the end, therefore, the budget bill should reflect the political values of each party.

The first budget bill under President Yoon Suk Yeol passed the National Assembly in the early morning of Dec. 24, 2022, three weeks after the legal deadline of Dec. 2. The two parties accepted the party chairman's political compromise. A budget of 638.7 trillion won ($513 billion) was passed, down a net 300 billion won from the originally planned amount following consultations between the ruling and opposition parties ― this reflected a cut of 4.2 trillion won and an increase of 3.9 trillion won.

Key issues discussed by the parties until the end of the talks include corporate tax; the budgets of the Ministry of Public Administration and Security's police department and the Ministry of Justice's personnel information management team; the local currency budget; and the public rental housing and public sale housing budget, both key presidential pledges mentioned during the presidential election in 2022. The budget outcome came as no surprise.

The budget bill represents an effort to transition to the new government's tighter fiscal stance ― the allocated 639 trillion won is significantly lower than the total 680 trillion won budget for 2022, which includes the supplementary budget. The 2023 budget is only 5.2 percent higher than the original 2022 budget of 608 trillion won, a lower budget growth rate than usual.

Excluding 22 trillion won in local relocation funds, available resources increased by 1.5 percent to only 9 trillion won. We view the new budget as an effort to change direction from the previous administration's 'big government' policy to a conservative stance led by the private sector but with lower corporate tax. Financial markets are likely to appreciate the government's judicious fiscal stance especially given the recent, sudden increase in government debt to mitigate the pandemic's impact.

However, we think the government needs to consider being flexible within its goal to achieve sound finances via austerity. If the economy slows substantially in 2023, it might need to support the economy beyond the current budget, perhaps even through an extra budget.

Although first, there is a difference in forecast timing, it is widely agreed that growth will be lower this year compared with last year. Private investment is likely to shrink, given most central banks are expected to maintain tight monetary policy due to the sustained effect of rate hikes in 2022.

Uncertainty over rising energy prices due to geopolitical and trade conflicts is also a downside risk to growth. Recently, the WTO predicted that global trade would fall to 1 percent in 2023 from 3.5 percent in 2022. Notwithstanding slight forecast variations between institutions, global growth forecasts reflect significant concerns about a recession.

Second, it is uncertain if private consumption, which drove economic growth in 2022, will remain a key driver in 2023.

There are few catalysts for a pick-up in household consumer spending, given households' interest burden has jumped along with a tripling of benchmark interest rates compared with the start of 2022, and real wage growth is set to slow if prices rise more than 5 percent. If export growth is sluggish and private consumption also shrinks, the government will need to shift its focus to growth from sound finances.

Third, the government's tax revenue outlook appears optimistic. An extra budget may be needed if tax revenue drops according to our worst-case scenario. The income tax share of tax revenue picked up last year as the Korean economy grew higher than its potential growth rate in 2022 and 2021.

In addition, considering that the real estate market boomed in 2020 and 2021, the property tax income in 2023 may be much smaller than the government forecast even though the government revised down the tax income in their budget forecast.

Finally, we estimate that 2022 tax income will be higher than the budgeted amount. Based on the budget balance from January to October 2022, tax revenue in 2022 is likely to be larger than the second supplementary budget. We think there could be more than 20 trillion in additional tax revenue than last year's second revised budget. In this case, we think the government could afford to boost the economy through an extra budget.

The supplementary budget is a one-time budget to address ad-hoc financing needs, arising due to unexpected events. As the government has already shown its commitment to sound finances through the main budget for 2023, it may have the headroom to support the economy in a timely manner through extra-budgetary funding.

Park Chong-hoon (ChongHoon.Park@sc.com) currently heads the Korea Research Team at Standard Chartered Korea. Before joining the bank, he worked as a senior research fellow and head of telecommunication policy at the Korea Information Society Development Institute (KISDI).