Policy Frameworks for Fiscal Consolidation

In this section, I suggest possible policy frameworks that may be used for fiscal consolidation. As mentioned above, Korea's government debt increased quickly in the aftermath of the Asian crisis in 1998 and the global crisis in 2009. It is expected to further increase in the coming years as a result of an aging population. Thus, it is crucial to establish policy frameworks that can secure fiscal consolidation in the long run.

First, the Korean government may want to enforce that counter-cyclical discretionary measures shoud have no long-term implications for the government debt to GDP ratio. This is possible only when government budget deficits made during a recession are reversed during an economic boom. In order to achieve this, Korea will have to adopt a stricter practice of medium-term budget planning. Second, Korea may need to expand automatic stabilizers and reduce discretionary components in the government budget. Under an administration with an expansionary bias, large discretionary components in the government budget may be particularly harmful for fiscal consolidation. Also, Korea has relatively small automatic stabilizers compared with other OECD economies. Automated changes in transfer payments, for example, would help expand Korea's limited social safety net. Third, it may help to produce more comprehensive measures of government debt by extending the coverage of offical debt figures. Fourth, further reforms in the national pension system will be needed, especially because Korea has one of the most rapidly ageing populations. Other standard policy responses to population ageing, such as promoting labor force participation of females and elderly people, would also help.

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