Korea’s experience following the second wave of oil price increases is an excellent example of how orthodox stabilization policies, effectively implemented, can help a country adjust to domestic and external shocks. There has been wide recognition of the Korean “economic miracle” of the 1960s and 1970s, when an export-led growth strategy resulted in a phenomenal increase of 30 percent a year in export volume and a tripling of real per capita incomes. However, there is markedly less awareness of the severity of the economic problems that Korea faced at the beginning of the 1980s and of the magnitude of the economic adjustment that took place during the subsequent years.

Toward the end of the 1970s, the Korean economy began to experience widening structural imbalances that were associated with a prolonged period of rapid growth and relatively high inflation. The underlying strains and pressures were exacerbated in 1980 by a disastrous harvest, the rise in international oil prices and interest rates, and domestic political disturbances. Consequently, Korea’s economic performance worsened sharply. Output declined in 1980 for the first time in Korea’s modern history. Inflation soared, and the current account deficit rose to a record level. The authorities responded to the crisis by implementing a comprehensive adjustment program which was supported by two one-year stand-by arrangements with the Fund (March 1980-February 1982). Substantial recovery took place during 1981–82. Economic growth resumed at an annual rate of 6 percent. The inflation rate, which had peaked at 35 percent in 1980, fell to 5 percent in 1982. The current account deficit narrowed by more than half to 4 percent of gross national product.

In spite of the improvement in economic conditions in 1982, the high level of Korea’s external debt and its relatively short maturity caused increasing concern, particularly at a time when exports were weakening and the international debt crisis was unfolding. To remedy the situation, the Government intensified its adjustment effort through a far-reaching stabilization program which was supported by another stand-by arrangement with the Fund (July 1983-March 1985). The program proved to be highly successful. Output rose by an average of over 8 percent during 1983–84, while inflation was contained at 2 percent, and the current account deficit fell below 2 percent of GNP. At the same time, the growth of external debt decelerated sharply, and the maturity structure of the debt was lengthened significantly. Korea’s outstanding performance during this period ensured that, in contrast to several other large borrowers, its reception in the international capital markets remained favorable.

This paper describes the salient features of Korea’s recent adjustment effort. Section II summarizes Korea’s historical development during 1960–78. The following three sections deal with the crisis years of 1979–80 (Section III), the recovery years of 1981–82 (Section IV), and the adjustment years of 1983–84 (Section V). A summary of the previous sections and a brief assessment of the medium-term prospects of the economy are provided in Section VI. The structure of the public sector is described in Appendix I and that of the financial sector in Appendix II. Charts and tables on fiscal operations, monetary developments, output and expenditure, and external developments are contained in Appendix III.