In a desperate attempt to shore up public confidence in its failing economy, the South Korean Government has moved to a “wartime” footing last seen in the days of the Asian financial crisis of 1997.

As economists at the LG Economic Research Institute in Seoul told local media that the country was vulnerable to economy-led trauma, adding that a significant drop in GDP growth would “invite a surge in suicides and divorces”, the Government tried to reassure the public that South Korea's banks and large companies were in a much better state than they were a decade ago, backed by a prodigious stash of foreign reserves.

Public recollections of the Asian slump of a decade ago are still raw and Koreans are jittery at any sign of history repeating itself, reopening the country's deepest wound.

President Lee reiterated the claim: “Right now,” he said, “the situation is fundamentally different ... and I can tell you for a fact: Korea will not have another financial crisis.”

Yet the Government's efforts may be overwhelmed by events: the country's banking system is beginning to look increasingly fragile, its credit bubble is at risk of deflating uncomfortably fast, the reserves are shrinking quickly and economists have started to downgrade South Korea's growth prospects.

Seoul is also faced with challenges beyond its control: consumers in the United States are buying fewer electronics and cars; and the global shipbuilding industry, in which South Korea excels, is at risk from order cancellations as shipping rates plunge.

Analysts at UBS believe that growth in South Korea will slow to 1.1 per cent in 2009, which would mark only the third time since the nation began to industrialise in the 1950s that its growth rate has sunk below 3 per cent.

Added to the Government's headache is the very high level of private sector debt, which hit 180 per cent of GDP in the second quarter of this year and is higher than in America. That debt, analysts say, is going to start to unwind soon because of slowing employment and wage growth. Capital adequacy ratios at Korea's largest banks are also under closer scrutiny as they dwindle towards recommended minimum levels.

Jae Ha Park, of the Korea Institute of Finance, argued that at the heart of the psychological battle were South Korea's large foreign reserves, which stand at $212 billion (£135.8 billion). That is $27 billion lower than they were a month ago, but still among the largest in the world. He said that they were a carefully positioned psychological tool to persuade the public that the country would not run out of dollars again.

When the Asian financial crisis broke, ordinary Koreans could not understand how their country, which appeared to be highly prosperous, could suddenly run out of foreign currency. In astonishing scenes, Koreans rallied round, selling their gold and jewellery to help with the national drive to raise dollars. When the IMF stepped in to rescue the situation, it dealt a massive blow to national pride.

In a severe knock yesterday to the Government's efforts to talk-up the country's underlying financial health, Fitch, the ratings agency, downgraded its outlook for South Korea from “stable” to “negative”.

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