KDI - Korea Development Institute - RESEARCH - Research Areas

Summary

Policy Study KOR The Impact of Demographic Changes on Productivity

Demographic transitions in South Korea are projected to slow its potential economic growth through declining labor input and lowering total factor productivity (TFP). However, the TFP channel has been relatively underexplored compared to the labor input channel due to data limitations. To address this gap, this study constructs a comprehensive firm-level dataset by combining KISDATA from the NICE Information Service with income tax records from the National Tax Service. The resulting dataset includes information on both firm-level productivity and the age composition of employees, enabling a quantitative analysis of how workforce aging affects TFP.

The analysis reveals five key findings. (1) An inverse U-shaped relationship exists between employee age composition and TFP, peaking at ages 35-49. (2) Among employees aged 50 and older, TFP significantly decreases as their share rises. Relative to the 35-39 reference group, an increasing share of 40-49 year-olds has no statistically significant effect. However, a 1%p increase in the 50-54 share decreases TFP by 0.2%, and a 1%p rise in those aged 55 and above shows a larger 0.5% decline. (3) The negative impact of workforce aging is more pronounced in firms in the Seoul metropolitan area, firms with 50-299 employees, manufacturing and construction sectors, and firms operating over 30 years. (4) Firms with low average education and wage levels, high labor intensity, or low value-added per employee exhibit greater TFP declines due to workforce aging. (5) While strong seniority-based wage systems are associated with an earlier peak in the inverse U-curve, firms with weak seniority wages experience larger TFP declines due to aging.

The findings suggest that overlooking the TFP channel may lead to underestimating the demographic effects on economic growth. Mid-to-long-term population projections indicate that population aging will reduce TFP by an annual average of 0.2% between 2031 and 2041. The persistent downward pressure on productivity should be incorporated into assumptions about the future TFP trajectory.

This study identifies firms most vulnerable to population aging through heterogeneity analyses, offering targeted policy recommendations for South Korea's labor supply strategies. As industries become more labor-intensive, low-skill, and low-wage, their productivity declines are expected to be even steeper from workforce aging. Expanding younger foreign worker inflows in the short term can bolster labor supply, while long-term strategies should enhance productivity in these industries to attract domestic youth. Additionally, as seniority-based wage systems exacerbate the productivity impact of aging, reducing reliance on seniority and expanding task- and performance-based compensation systems is advisable for improving TFP.

Summary

KDI FOCUS The Impact of Demographic Change on Household Debt

Over the past two decades, Korea’s household debt-to-GDP ratio has trended upward, reflecting greater incentives for asset accumulation amid rising life expectancy. Household debt has increased through different asset accumulation patterns across generations: older cohorts prepare for longer post-retirement years by building financial assets that supply funds, whereas younger cohorts borrow them mainly to acquire housing. However, this trajectory is forecast to reverse in the coming years as longevity gains slow and accelerating population aging reshape intergenerational financial flows. Maintaining stability in the short to medium term will require close coordination between prudent financial policies and non-financial reforms, such as improving labor market flexibility.

- Korea’s household debtto-GDP ratio has risen steadily over the past two decades, pointing to structural rather than cyclical drivers.

- Declining interest rates amid sustained debt growth suggest that fund supply has outpaced demand.

- This study examines whether rising life expectancy can explain the sustained co-occurrence of increasing household debt and declining interest rates.

- The sustained rise in household debt over the last decade, despite income and wealth inequality remaining broadly unchanged, suggests structural drivers
beyond inequality.

- Household debt ratios tend to rise with longer remaining life expectancy and decline with higher old-age dependency ratios, suggesting demographic shifts as a major driver in shaping debt dynamics.

- Life expectancy has risen rapidly, but with the retirement age unchanged, the postretirement phase has lengthened, strengthening incentives for asset accumulation.

- Middle-aged and older cohorts primarily invest in financial assets and supply funds, while younger cohorts build housing assets by borrowing from them,
accumulating debt.

- In the past decade, per capita debt has increased among younger cohorts and decreased for older cohorts.

- Changes in age profile have influenced household debt dynamics.

- A declining share of younger cohorts borrowing for housing, combined with a rising share of older cohorts drawing down assets for consumption, may lower the household debt-to-GDP ratio.

- A one-year increase in life expectancy raises the household debtto-GDP ratio by about 4.6%p, while a 1%p shift in population share from the younger (2544) to the elderly (65+) cohorts reduces it by roughly 1.8%p.

- The empirical analysis indicates that rising life expectancy explains most of the increase in Korea’s household debt-to-GDP ratio over the past two
decades.

- The household debt ratio is projected to peak in a few years before entering a downward trend.

- Stronger incentives for asset accumulation from rising life expectancy, together with portfolio differences across age groups, have been the primary drivers of household debt growth.

- With slowing gains in life expectancy amid accelerating population aging, the household debt ratio is likely to enter a downward trend.

- Flexible, performance-based wages can strengthen labor market efficiency and ease household debt pressures.

- Household debt policy should prioritize repayment capacity and soundness of financial institutions over arbitrary aggregate targets.

- Scaling back DSR exemptions will be critical.

- Excessive policy financing may lead to household debt growth, underscoring the need to recalibrate guarantee ratios and fees and examine the overall policy financing system.

Summary

KDI FOCUS South Korea Needs More Big Company Jobs

South Korea stands out among OECD countries for its lowest proportion of jobs in large enterprises. Good jobs, often synonymous with employment opportunities in large enterprises, are in short supply. This shortage prompts various societal issues: the overheating of college admission competition, a decline in social mobility, decreased birth rates, stagnating employment rates for women, and increased concentration in the capital area. There is a pressing need to identify and address policy barriers to company scale-up.

- Despite the stronger employment preference among young adults in large enterprises, the majority of available job opportunities are actually in smaller businesses.

- Larger establishments tend to offer higher wages and better working conditions.

- The marked wage gap between graduates of top and bottom universities intensifies competition for admission to top-ranking schools.

- The scarcity of good jobs results in both low utilization of maternity protection programs and female underemployment.

- Even at the city and province levels, larger establishments are observed to have higher labor productivity.

- Identifying and addressing policy barriers that impede company scaleup through targeted policy improvements is a necessary course of action.

Summary

Policy Study KOR A Study on Service Expenditure Slowdown in Korea

This article investigates structural transformation of domestic consumption in Korea.

Korean economy exhibits a typical pattern of structural transformation commonly observed in advanced economies; In a long term perspective, the share of service consumption expenditure increases while the share of agricultural consumption expenditure shrinks over time.

However, a unique feature of structural transformation is also observed. After the global financial crisis, the share of service consumption expenditure stagnates, at most.

This article analyzes these features of structural transformation in Korea through the lens of the utility maximization framework. In particular, this article aims to explain the structural transformation in Korea with income and price effects.

The estimation result suggests that the key source of structural transformation in Korea is a income growth. At the same time, the price effect, summarized by the rapid increase in relative price of service to other consumption goods, also plays non-negligible role in a long run perspective.

Limiting the scope of the analysis to the post global financial crisis period, the estimation result suggests that the weakening relative price of the service to manufacturing goods played a central role in explaining the stagnation of the share of service expenditure. The relative price of the service to manufacturing goods seems to have decreased as a result of the great trade collapse and the weakening of global value chain after the global financial crisis.

If the relative price of service to other consumption goods and the income have evolved following the pre-global financial crisis trend, the share of the service expenditure would have been 3.2~3.6 percentage points higher as of 2018.

Summary

KDI Policy Forum Business Groups and Declining Allocative Efficiency in Korea

□ The allocative efficiency in Korea is on a rapid downturn.

- Based on Statistics Korea’s Survey of Business Activities, an analysis was conducted on firms with over 50 regular employees and 300 million won in equity during 2006-2015 to find that allocative efficiency has continued to decline since 2008 (labor productivity from 2008, TFP from 2011).

- Using the methodology proposed by Melitz and Polanec (2015), allocative efficiency was measured through the covariance between firms’ productivity and market share―a decline in allocative efficiency means that resources are being excessively allocated to low-productivity firms while the opposite is true for high-productivity firms.

□ Since 2011, the decline in allocative efficiency has been observed mostly among affiliates of large business groups that are designated by the Korea Fair Trade Commission (KFTC) for limitations on cross-shareholding.

- Considering large business groups’ immense share of inputs (labor and capital), their diminishing efficiency in resource allocation accounts for much of the recent productivity slowdown in Korea.

□ To improve overall economic growth, efforts must be made to offset the declining allocative efficiency engendered by large business groups.

- The holding company system needs an overhaul to prevent the growth of business-group firms from eroding allocative efficiency.

- Actions need to be taken so that any problems incurred from the misconduct of controlling shareholders do not lead to misallocation within business groups.

Summary

Policy Study KOR Economic Dynamism of Korea: With a Focus on the Economic Concentration of Business Groups

The gross domestic product (GDP) growth rate of South Korea has declined since 2011 mainly due to dampened growth in total factor productivity (TFP). By studying changes in productivity growth from 2006 to 2015 with firm-level microdata, this paper shows that a decrease in allocative efficiency across firms can account for the recent dampened aggregate productivity growth and that most of a decrease in allocative efficiency since 2011 can be attributed to firms affiliated with business groups subject to the limitation on cross-shareholding designated by the Fair Trade Commission. Given the fact that business groups’ shares in input markets have been steadily rising, the economic concentration of business groups can be a main factor in the recent misallocations, which give rise to the diminished economic dynamism and dampened TFP growth of South Korea.

Summary

Research Monograph KOR Enhancing the Dynamism of Korea: the Role of Financial Policy on Vitalizing Firm’s Entry and Exit

This study tries to examine policy direction for improving the dynamics of the Korean economy by analyzing how the financial policy of the government affects the entry and exit of enterprises. From the empirical analyses on the government’s role in the establishment and growth of enterprise and restructuring of insolvent company, we draw the following policy implications. First, it is necessary to strengthen the evaluation of policies, such as financial support to start-up companies and large restructuring firms, to reduce the social cost of 'government failure'. Government intervention through financial aid, though it has inevitable aspects due to market failure, can sometimes cause a consequence inferior to what would be observed under laissez-faire. Second, the incubating role of venture capital to start-ups should be strengthened because the analysis results indicate that the mentoring activity of venture capital to young firms actually increases the possibility of follow-up investment. Third, it is desirable to construct a new corporate restructuring framework which integrate the existing corporate workout and court receivership system. Due to the complexity of creditor structure and the proliferation of industry-wide restructuring, the current system is found to be no longer efficient in supporting corporate restructuring in recent years.

Summary

Policy Study KOR Korea’s Demographic Changes and a Long-term Growth Projection: a General Equilibrium Analysis

This research monograph builds a Overlapping Generations Model to study the effects of Korea's demographic transition on the GDP growth rate in the long-run. The model incorporates the population projection through 2060 by Statistics Korea and the effects of low fertility and rise in life expectancy on the output growth rate are studied. In the model, endogenous responses of female labor are also considered. Under the assumption that the TFP growth rate will be slowed moderately in the future, maintaining 1.3% per annum, the GDP growth rate of the Korean economy is projected to slow down to 1.1% per annum in 2050s from 4.0% in 2000s. The shrinking workforce due to persistently low fertility will play a significant role in the slow-down. The rise in life expectancy will play a mitigating role, but the magnitude of its effect is not large enough to offset the negative effect of the low fertility.

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