Does Public Credit Guarantee Contribute to Economic Growth? : Evidence From Korea

The credit guarantee program holds a key post in financing small and medium enterprises (SMEs) in Korea. However, it has been criticized for providing excessive credit guarantees after the Foreign Exchange Crisis of 1997. The economic effect of public credit guarantees has been examined in a variety of different theoretical frameworks, although empirical evidence has been rather hard to come by. The purpose of this paper is to examine the causality between public credit guarantees and economic growth, and to obtain policy implications from our results. This paper examines the long-run and short-run causality issues between public credit guarantees (PCG) and economic growth in Korea by using the co-integration and vector error-correction models (VECM). The overall results show that there exists bi-directional causality between PCG and economic growth. This means that economic growth has negative effects on PCG supply and increasing PCG has positive effects on economic growth. That is, a policy for increasing public credit guarantees is likely to contribute to economic growth for Korea, and in the long-run, economic growth curtails the need of a public credit guarantee supply. These results reveal that the role and the size of the credit guarantee can vary according to the growth stage of financial market's class structure in each country.