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Impact of Demographic Changes on the Current Account

Kyooho Kwon 2014/11/13
FacrBook
Impact of Demographic Changes on the Current Account
Kyooho Kwon, Fellow at KDI

Summary and Implications

■ Changes in Korea's demographic structure have apparently served to increase the current account surplus over a considerable time, and in particular the recent surplus is estimated to be driven mostly by the demographic change.

○ While a downward swing in the share of the child and youth population acts to reduce investment demand, an upward swing in the share of the middle-aged population leads to an increase in the savings rate; reinforcing the trend of increased surplus in the current account.

○ In this context, considering Korea's rapid demographic changes from a dynamic perspective, it should be recognized that the recent current account surplus stemmed mostly from structural factors.

○ Furthermore, the current account is projected to run a huge surplus (approx. 5 percent of GDP) for a significant period.

■ Considering that the current account surplus is driven mostly by structural factors, responsive measures should be developed with more focus on structural aspects.

○ For instance, simply viewing the recent massive current account surplus as a product of the short-term undervalued exchange rate must be avoided and the won must be appreciated in order to restore the balance in the macroeconomy.
- Given that the current account surplus driven by demographic changes is a result of the increase in voluntary investment in foreign markets (capital outflow), it cannot be considered as a reason to apply upward pressure on the won.

■ Meanwhile, taking into account that the increased surplus in the current account is a consequence of the mismatch between domestic demand and income level, reform efforts need to be strengthened from a structural perspective, focusing more on boosting consumption and investment.

- Measures aimed at reducing the uncertainties of elderly life, for example extending the retirement age in line with the wage peak system could serve to boost current consumption relative to income. Moreover, policies to drastically streamline (rationalize) regulations and therefore to increase expected returns on investment, could serve to invigorate investment.

Please refer to the URL address.
http://www.kdi.re.kr/upload/cu20150612_eng.pdf
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