1.  The sluggish growth of the Korean economy’s total factor productivity (TFP) is closely related not only to the slowdown in technological advancement but also to the rising allocative inefficiency. Allocative efficiency refers to the extent to which resources are distributed in proportion to firm productivity, as a key factor in boosting economic growth even under the same level of technology and total factor inputs.

 2.   An estimation of the extent of factor misallocation among domestic firms, following the methodology of Hsieh and Klenow (2009), reveals that allocative inefficiency in the Korean economy has significantly widened over the past 30 years. In particular, such inefficiency in the service sector has increased more rapidly than in manufacturing, a trend that has become more pronounced following the 2008 global financial crisis and the COVID-19 pandemic.

 3.  Allocative inefficiency has increased primarily among high-productivity firms under-endowed with resources, with a notable rise in the share of those under-endowed with capital relative to labor, especially in the service sector and among startups. Meanwhile, the share of low-productivity firms over-endowed with resources has hovered at a certain level without declining over the past 30 years, thereby making no contribution to the reduction of allocative inefficiency.

 4.  Therefore, to achieve sustainable growth through improved productivity across the entire economy, it is essential to fundamentally improve the inefficient resource allocation structure. To do so, the financial system and access to capital markets should be improved first so that high-productivity firms and innovative startups can smoothly secure funding and grow. Second, excessive protection for low-productivity firms should be eased to encourage the efficient reallocation of resources to high-productivity firms. Establishing an efficient resource allocation structure through these measures will enhance aggregate TFP in the Korean economy, solidifying the foundation for long-term sustainable growth and competitiveness.