Moody's: Korea and Taiwan face similar headwinds, but policy responses diverge

Moody's Investors Service says that Korea's (Aa2 stable) and Taiwan's (Aa3 stable) credit profiles share robust fiscal metrics and strong governance indicators, combined with a moderate degree of geopolitical risk.

Both sovereigns also face similar headwinds from weak global demand and their strong economic ties with a slowing China (Aa3 negative).

How they address these challenges will be an important factor determining their sovereign credit trajectories, says Moody's.

And while Taiwan's high rating reflects the sovereign's strong shock absorption capacity, Korea's economic, institutional and fiscal relative strengths drive the one notch difference between their ratings.

Moody's conclusions are contained in its just-released report "Governments of Korea and Taiwan: Peer Comparison -- Similar Structural Headwinds, Divergence in Policy Response".

Weak global growth is challenging both export-reliant economies, while ageing populations will weigh on long-term growth. However, Korea's government has implemented some targeted fiscal stimulus measures. Moreover, business investment has remained more resilient in Korea, an indication that business conditions and prospects are better. Both fiscal stimulus and robust investment will contribute to higher growth in Korea than in Taiwan in the near term.

Korea also benefits from a more diversified export product mix and numerous trade agreements, although some of its key industries -- notably shipbuilding, shipping, petrochemicals, steel and construction -- face challenges.

Institutions are very strong in both countries, with somewhat higher government and policy effectiveness in Korea.

Specifically, Korea's government has shown greater willingness to implement policy in a flexible way. It has also taken a number of steps demonstrating government and policy effectiveness, including reforms of state-owned enterprises that have contributed to reducing leverage in the sector.

In Taiwan, the use of fiscal and monetary policy stimulus has been less extensive, while the effectiveness of policy reforms aimed at diversifying the territory's economic, financial and cultural relationships remains uncertain.

Korea and Taiwan have moderate debt-to-GDP ratios and large domestic investors bases, making borrowing highly affordable. However, in both cases the government's revenue base is relatively narrow, potentially restricting revenue-generation capacity.

Moreover, strict fiscal and debt ceiling rules could hinder either government's ability to implement fiscal stimulus measures if needed in the future.

Geopolitical risks constrain both ratings, says Moody's. In Taiwan's case, political tensions with China could constrain its ability to forge economic ties with other countries. For Korea, the risks of either a regime collapse in the North or an outbreak of war on the peninsula are low, but weigh more heavily on the rating should either take place.

In both countries, polarized politics can delay the implementation of policy measures. We do not expect such delays to have a material impact on the economy, fiscal metrics or policy implementation. The current scandal involving Korea's President Park Geun-hye poses risks to this expectation.