South Korea warned on Thursday of only a modest recovery in the economy next year while its central bank promised to focus on supporting growth for the time being, both bolstering expectations for more fiscal and monetary stimulus.
The finance ministry set its first growth target for the new year at 3 percent after projecting 2.1 percent growth this year. This is lower than a 3.2 percent gain for 2013 gross domestic product forecast by the central bank in October and a 3.4 percent rise tipped in the latest Reuters survey in October.
"Growth next year will be better than this year, although there are significant downside risks," Choi Sang-mok, a director-general at the Ministry of Strategy and Finance, told a briefing in the administrative capital of Sejong.
"Nevertheless, the strength of the recovery won't be strong enough for the economy to catch up to its potential growth rate," he said.
The Bank of Korea also warned in its 2013 policy statement that growth in Asia's fourth-largest economy would remain below its potential rate for some time, citing risks stemming from the euro zone crisis.
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"The Bank will for the time being respond with an emphasis on ensuring that the economy's growth potential is not eroded due to its continued low growth," the central bank said.
Government and central bank officials have recently said South Korea's potential rate of growth - the maximum pace at which an economy can grow without incurring inflationary pressure - would be around 4 percent per year.
Taken together, comments from the ministry and the central bank suggest that additional rate cuts from the Bank of Korea or more fiscal stimulus measures from the incoming administration, or both, may be required.
"The economy is already in poor shape, the won is getting very strong and there is no evidence to expect a recovery next year, so countermeasures are necessary," said SK Securities economist Yum Sang-hoon, who expects two rate cuts next year starting in the first quarter.
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Local bonds responded positively to the central bank's remarks, which buoyed hopes for additional rate cuts. Lead March futures on three-year treasury bonds <KTBc1> were up 0.08 points at 105.84 as of 0449 GMT.
"At this point, it makes sense for the Bank of Korea to pay more attention to boosting growth since inflation is low at present," said Meritz Securities fixed-income analyst Ough Chang-sup, who said a rate cut and additional fiscal spending is likely in the first half of next year to maximise the boost to the economy.
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In the first nine months of this year, Asia's fourth-largest economy grew 2.2 percent on average from a year earlier. The finance ministry's projected growth rate of 2.1 percent for the whole of 2012 would be the weakest since a 0.3 percent increase in 2009.
Choi said economic indicators for the current quarter will show post modest improvement from the third quarter but added the ministry did not expect to see a firm rebound through next year.
The ministry had assumed real economic growth of 4.0 percent next year when it submitted the government's 2013 budget bill totalling 342.5 trillion won ($318.80 billion) to the parliament in September for approval.
The parliament aims to complete its review of the budget bill before the next fiscal year starts on Jan. 1, but the ruling party wants to increase spending plans to honour campaign pledges by President-elect Park Geun-hye.
Park, from the ruling conservative Saenuri Party, won last week's election and will start a single five-year term as president in late February. She has promised to boost welfare spending and create more jobs.
As the euro zone's fiscal crisis and slowing growth elsewhere hit South Korea's export-reliant economy, the central bank cut interest rates twice this year while the government adopted around $12 trillion in fiscal stimulus steps.
Though calling the government's forecasts pessimistic, SK Securities' Yum said forecasts for 2.7 percent private consumption growth and 3.5 percent rise in capital investment for next year may be "too rosy."
The ministry expects annual average consumer inflation to accelerate modestly to 2.7 percent in 2013 from a projected 2.2 percent this year, suggesting that additional rate cuts or government spending would not cause any inflation pressure.
The government plans to spend 60 percent of its budget in the first half of 2013. Ronald Man, a Hong Kong-based economist at HSBC, said whether Park will draft a fiscal stimulus package next year will depend on whether growth picks up well enough in the first quarter.
Latest indicators showed the economy was stabilizing but it is now feared that the rapidly appreciating wonis hampering a fast recovery in exports at a time demand in Europe and the United States remains weak.
Two private surveys released later on Thursday showed that sentiment among South Korean businesses has improved slightly, although the majority of the respondents were still pessimistic.
The surveys from the Federation of Korean Industries and the Korea International Trade Association both cited the won's recent strength against the major currencies as a key risk to the exporters.
The local currency has risen by more than 7 percent against the dollar and by more than 20 percent against the yen so far this year.