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South Korea Country Risk Report Q2 2016

South Korea Country Risk Report Q2 2016

Core Views Although the US and South Korea are likely to establish a working group to explore the deployment of the Terminal High Altitude Area Defense (THAAD) missile defence system in the latter country, Seoul is likely to postpone the actual introduction of THAAD, owing to Chinese opposition and concerns about a regional arms race. With parliamentary elections due on April 13, conservative South Korean politicians are likely talking up THAAD to bolster their support. South Korea's 2015 real GDP growth came in at 2.6%, slightly higher than our forecast of 2.4%. We maintain our real GDP forecast for 2016 at 2.8% due to our expectations for only a modest pick-up in economic momentum. High levels of household debt will undermine the government's plans to drive growth through domestic demand, while external demand is likely to remain weak due to the slowdown in the Chinese economy. South Korea's stimulus package, aimed at supporting growth by aiding exports and boosting domestic spending, will have a limited effect on the country's growth, which will continue to be hampered by stiff export headwinds as well as high levels of household debt. With the stimulus mostly coming from policy bank lending, it is unlikely to have a significant impact on the government's 2016 fiscal deficit. However, we expect the central bank to cut interest rates to lend support to the government's initiatives, and now forecast a 25bps cut to 1.25% over the coming months. The BoK kept its base rate steady at 1.50% following its February 16 monetary policy meeting, but we retain our forecast for the central bank to cut its base rate by 25bps to 1.25% over the coming months to support exports and the government's fiscal stimulus measures. The South Korean won will weaken against the US dollar in the near term due to falling real interest rate expectations amid growing external headwinds and still subdued domestic demand. Accordingly, we have downgraded our 2016 end-year KRW forecast to KRW1,255/ USD from KRW1,200/USD previously. Over the long term, depreciatory pressures will be capped owing to a strong current surplus and large foreign exchange reserves, which reflect the won's slight undervaluation against the USD. Major Forecast Changes We have downgraded our 2016 end year KRW forecast to KRW1,255/ USD from KRW1,200/USD previously to reflect falling real interest rate expectations amid growing external headwinds and still-subdued domestic demand.


Executive Summary
Core Views
Major Forecast Changes
Key Risks
Chapter 1: Economic Outlook
SWOT Analysis
BMI Economic Risk Index
Economic Growth Outlook
Maintaining Growth Outlook Amid Export Headwinds
South Korea's 2015 real GDP growth came in at 2.6%, slightly higher than our forecast of 2.4%. We maintain our real GDP forecast for
2016 at 2.8% due to our expectations for only a modest pickup in economic momentum.
GDP By Expenditure Outlook
TABLE: GDP GROWTH FORECASTS
TABLE: PRIVATE CONSUMPTION FORECASTS
TABLE: GOVERNMENT CONSUMPTION FORECASTS
TABLE: FIXED INVESTMENT FORECASTS
TABLE: NET EXPORTS FORECASTS
Fiscal Policy And Public Debt Outlook
Frontloading Of Budget Will Have Limited Impact On Growth
South Korea's stimulus package, aimed at supporting growth by aiding exports and boosting domestic spending, will have a limited
effect on the country's growth, which will continue to be hampered by stiff export headwinds as well as high levels of household debt.
With the stimulus mostly coming from policy bank lending, it is unlikely to have a significant impact on the government's 2016 fiscal
deficit.
Structural Fiscal Position
TABLE: MAIN SOURCES OF REVENUE & EXPENDITURE
Monetary Policy
Rate Cut Looming
The BoK kept its base rate steady at 1.50% following its February 16 monetary policy meeting, but we retain our forecast for the
central b3ank to cut its base rate by 25bps to 1.25% over the coming months to support exports and the government's fiscal stimulus
measures.
Monetary Policy Framework
External Trade And Investment Outlook
KRW: Further Weakness In Store As Rate Cut Bets Rise
The South Korean won will weaken against the US dollar in the near term due to falling real interest rate expectations amid growing
external headwinds and still-subdued domestic demand. Accordingly, we have downgraded our 2016 end-year KRW forecast to
KRW1,270/USD from KRW1,200/USD previously.
TABLE: CURRENCY FORECAST
Outlook On External Position
TABLE: MAIN IMPORTS AND EXPORTS
TABLE: MAIN IMPORT AND EXPORT PARTNERS
TABLE: CAPITAL & FINANCIAL ACCOUNT BALANCE
Chapter 2: 10-Year Forecast
The South Korean Economy To 2025
Slower Growth To 2025
Internal and external factors have led us to downgrade our long-term economic outlook for South Korea, forecastin g real GDP growth to
average 3.4 % over the next decade compared to 4.3% previously.
TABLE: LONG-TERM MACROECONOMIC FORECASTS
Chapter 3: Political Outlook
SWOT Analysis
BMI Political Risk Index
South Korea Domestic Politics
THAAD Feasibility Studies Unlikely To Result In Rapid Deployment
Although the US and South Korea are likely to establish a working group to explore the deployment of the THAAD missile defence
system in the latter country, Seoul is likely to postpone the actual introduction of THAAD, owing to Chinese opposition and concerns
about a regional arms race. With parliamentary elections due on April 13, conservative South Korean politicians are likely talking up
THAAD to bolster their support.
TABLE: POLITICAL OVERVIEW
South Korea Long-Term Political Outlook
Constitutional Reform To Improve Governance?
South Korea is likely to see a renewed push for constitutional change in order to address imbalances in the political system that lead to
periodic instability. In addition, owing to the single-term restriction on the presidency, most presidents typically become 'lame ducks' well
before departing office, leaving the country in a state of drift.
North Korea Domestic Politics
A New North-South Korea Crisis In Spring 2016
North and South Korea are heading for a new crisis following the South's shutdown of the jointly run Kaesong Industrial Complex in the
North. The biggest risk is an armed clash between the two Koreas as a result of miscalculation.
TABLE: MAJOR EVENTS IN THE KIM JONG UN ERA
North Korea Long-Term Political Outlook
Status Quo Increasingly Unsustainable
Although North Korea's regime has proved much more durable than many expected, it is becoming increasingly difficult to see how the
country can avoid dramatic change over the course of the next 10 years. The North's opacity means that change – whether it is a palace
coup, regime collapse or mass uprising – could emerge completely out of the blue.
Chapter 4: Operational Risk
SWOT Analysis
Operational Risk Index
Operational Risk
TABLE: OPERATIONAL RISK
Trade Procedures And Governance
TABLE: EXPORT AND IMPORT DOCUMENTS
TABLE: TRADE PROCEDURES BREAKDOWN
TABLE: ASIA – TRADE PROCEDURES AND GOVERNANCE RISK
Vulnerability To Crime
Chapter 5: BMI Global Macro Outlook
Global Macro Outlook
Tail Risks Mounting Amid Sub-Par Growth
TABLE: GLOBAL ASSUMPTIONS
TABLE: DEVELOPED STATES, REAL GDP GROWTH, %
TABLE: BMI VERSUS BLOOMBERG CONSENSUS REAL GDP GROWTH FORECASTS, 2015 AND 2016 (%)
TABLE: EMERGING MARKETS, REAL GDP GROWTH, %
TABLE: MACROECONOMIC DATA & FORECASTS

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