Korea’s V-shaped recovery from the Great Recession that began in early 2009 was among the fastest in the world and gave way to a robust expansion in 2010 that is now in full swing. This impressive growth was initially driven by supportive macroeconomic and financial policies and normalization of global trade, but has become increasingly more self-sustaining during 2010 with a robust recovery in private domestic demand. In the last quarter of 2010, exports began to accelerate again, after the moderation from the exceptionally fast postcrisis rebound, helped by the consolidation of recovery in advanced economies as well as by the brisk pace of intraregional trade. As a result of these developments, IMF staff estimate that Korea’s output gap, that is, the difference between actual and potential economic output, has closed in the second half of 2010, and since then the pace of expansion has been proceeding somewhat above the economy’s underlying potential. Consequently, excess domestic demand pressures have led to rising inflation pressures.

With solid economic prospects for the remainder of the year, the main short-term policy challenge now is to ensure a soft landing to a sustainable medium-term growth path and contain inflation pressures. There is also a need to address the medium-term policy challenges to enhance the resilience of the Korean economy and pave the way for sustained and inclusive growth over the medium-term.