Trade Investment and Policy in Asia - Article Example

Camdessus (1997) contends that globalization comes with a cost and the risks can never be totally eliminated. Countries are faced with challenges which are not possible to handle alone. The support of the advanced economies becomes essential to integrate the developing economies into the global economy, to open their markets, and to offer investment opportunities. However, there are risks in tapping global markets because markets can be slow to reacting to changes in the economic conditions or they may over-react with brutal force. South Korea, like other developing Asian economies, had adopted strategic macroeconomic management disciplines. The state wanted to play a key role in mobilizing the resources and they preferred to take their own initiative. By East-Asian standards, Korea is a relatively open economy. This openness is the result of an export-led growth model started in 1961 (Andreosso-O’Callaghan, 2009). The Korean government took economic liberalization measures in line with the gradual integration of Korea into the global system. Such features such as the FDI liberalization measures have been the features of modern Korea. In the areas of preferential trade agreement (PTA) and free trade agreement (FTA) Korea has been a late entrant. However, Korea’s FTA strategy included regional integration in Asia through bilateral deals such as the ASEAN-China, and the ASEAN individual countries – Japan agreements. Korea’s strategy was to avoid exclusion from the general trend of the FTAs. Korea reached a number of FTAs with countries such as Chile, Singapore and also into negotiation and planning stages with several other nations. In 1995 Korea adopted globalization as its national goal and pursued it in different sectors such as education, market and economic systems, politics, environment and culture. Their strategy induced foreign investment and liberalized their financial market. Korea realized that it could no longer depend on the protectionist attitude of the government. Korea thus became an open economy and its free and open market-oriented strategy has enhanced its competitiveness round the world. Towards the financial reforms, many non-viable companies and banks were either closed or merged with stronger institutions (Moak, 2000). The bankruptcy process was supported by a legal system a viable commercial banking system was introduced to efficiently allocate financial resources. Korea started encouraging FDI and foreigners could buy land. However as wages are high in Korea, this erodes its competitiveness against China and other Asian economies. Korea recognized that it was not endowed with natural resources and it had a small domestic market. This prompted the state to have an outward-looking strategy early on. FDI was encouraged in different ways which led to inflow of foreign resources and development of exports at a very fast pace. Today Korea has a worldwide reputation of being an export powerhouse. To overcome its protectionism and regional blocks that threatened the free multi-trading system, the policy of ‘internal liberalization’ was introduced which minimized the government interference and allowed private sector to be better guided by market incentives (Ungson, Steers & Park, 1999). The seven individual laws to promote specific sectors were abolished. Then ‘external liberalization’ opened by the market to foreign competition and stimulus. Korea’s liberalization policies gave impetus to three distinct but interrelated areas – increased export competition from other countries that threatened its traditional position, financial and market liberalization that enhanced international capital accounts, and the globalization movement that provided incentives to the chaebols to build strong positions in global markets. As a part of its FTA, Korea has been very selective in its partners in the EU. This was based on a number of economic and political criteria. They took into account the market potential of the EU firms and the prospects for EU exports (Andreosso-O’Callaghan, 2009). The EU too wanted market access in Korea in industries such as motor vehicles and business services. The EU represents South-Korea’s third largest export destination and in terms of FDI, EU is the biggest investor in the Korean economy. Korea already had the geographical advantage and added to that was the decision to turn the nation into an international business hub for the Northeast Asian Region. Special Economic Zones were established to promote international business. The government decided to focus on three main sectors – logistics, finance and industry - and it was believed that such a strategy would transform the nation into a knowledge-based service-oriented economy (Lee & Hobday, 2003). The government also introduced socio-economic and institutional reforms with the aim to improve the operating environment for the MNCs. This strategy helped to bring about reforms in labour market conditions, liberalization of immigration policy and tax benefits at the national level. Korea, one of the new developing economies (NIC) was also a part of the ‘flying-geese model’ which means that sequential development of manufacturing industries took place in these developing economies (Kojima, 2000). The aim was to catch-up with the process of globalization. In this model, in the primary stage, when an underdeveloped economy wants to enter the global system, it first exports its specialized products and industrial products for consumption are imported. At the second stage domestic production of the imported goods is initiated. Domestic production becomes profitable as consumption increases. In the third stage the export of consumer products starts to decline and capital goods domestically produced are exported. Korea followed, imitated and replicated this Japanese FG model of growth and as a result today there is a tight inter-relation of networks between Korean and foreign firms. According to Lee and McNulty (2003) strong economic growth is usually attributed to favorable internal and external environments and appropriate macroeconomic policy. The Korean government negotiated with the IMF to expand fiscal spending and ease monetary policy. This was aimed at stimulating domestic business activities and employment. Because of the changes in the economic policy, the interest rates fell steadily and stock market received a boost. The growth rate of private consumption turned from negative to positive by 2000. Investments in machinery and equipments increased. Korea’s growth can be attributed to the trade balance improvement combined with growth while most debtor countries achieved trade surpluses through recession induced reduction in imports. Because of a sweeping set of policy reforms, Korea experienced enormous increase in international trade (Connolly & Yi, 2008). The trade policy reform was necessary as Korea needed to start exports but had constraints of natural resources. To promote exports tariffs were eliminated on imported inputs and capital goods but these imports were not to be used for production of goods sold domestically. Korea also engaged in gradual reduction of tariff rates from 40% to 13 percent. Lower tariffs raises efficiency as it enhances specialization. Korea also received support from the developed nations who lowered their tariffs through two GATT rounds. These three policies were responsible for about 1/5th of Korea’s catch-up in manufacturing GDP per worker. The trade reforms led to too much of Korea’s trade and vertical specialization growth. It has been shown that reduction in trade barriers leads to increase in productivity but in Korea it occurred due to compression of margins and due to economies of scale (Winters, 2004). Investment is another likely route through which corruption and inflation reduce growth. Korea had string incentives to invest which boosted imports of capital goods and the supply of exports with which to pay for them. Hence direct export incentives did not do much to boost exports although being an open economy helped. The slowdown in 2008 reflects an external weaker demand and soaring oil prices. The output growth is projected to increase to 5 percent in 2009 although it has decelerated to less than 3% in the first quarter of 2008 (Anonymous, 2008). Facility investment has declined in the global economy and weakness in production is envisaged. The real estate sector faces problems which has reduced the number of orders in the construction sector. Business-sector confidence has weakened and the consumer sentiment index has drooped as employment growth has slowed. The rising oil import bill has increased inflation. Faced with higher inflation and prospects of slower growth, the Bank of Korea has left the interest rate at 5% since 2007. Taxes have been cut on gasoline and even corporate tax rate has been reduced by the central government. Hence stronger exports combined with tax cuts is expected to boost business investment. As inflation eases it is expected to limit the current account deficit. Korea’s initiative to enter the OECD was an initiative to liberalize both its capital account and its domestic market (Ungson, Steers & Park, 1999). Its foreign debt had increased but inflow of foreign capital led to massive investments in real estate and also provided a boost to the private sector. Reforms in the banking sector brought about long-term changes to the economy. The government also intervened in the banking sector to mobilize savings. Initially the banks worked with the government to distribute capital within the chaebol which weakened the banks by excessive private short-term loans. This strategy failed as confidence in the Korean corporate and banking system began to waiver. Banking reforms were introduced through the Financial Supervisory Commission (FSC) and the entire banking system was restructured into three major groups – leading banks, niche banks and provincial banks. The weaker banks and institutions were either closed down or merged with stronger ones. The banking sector reforms were assisted by large injection of public funds. This resulted in decreasing the share of non-performing loans held by banks. However, the same reform measures were not used in the non-banking institutions like investment trust and credit card companies (WTO, 2004) Another reform came in the small and medium size industries as they faced several challenges (Ungson, Steers & Park, 1999). Default rate on loans taken by these firms was high and many were not even operating under normal conditions. The overall bankruptcy rate was expected to accelerate. When major companies go bankrupt, their associates and subcontractors also face the same fate. Reforms in this sector helped to make the small and medium sized (SMEs) industries more competitive as they benefited from government policy and support. Credit guarantees were provided through various state development and credit guarantee funds (WTO, 2004). The IMF has again raised the growth forecast for South Korea as the credit crunch has eased and the production and service industries have recovered to a high level. The recovery has been attributed to quick responses leading to stabilization of financial markets, expansionary currency and fiscal policies and large surpluses on the current account (TKH, 2009). The state has also inducted liquidity in to the financial plan, slashed interest rates and introduced stimulus packages. The reform measures that gave impetus to the economy include structural reforms in the financial and the corporate sector. Financial reforms brought reforms in the banking sector and corporate restructuring helped improve the bankruptcy laws. The domestic economic environment received a boost because of the multilateral trading system and FDI (WTO, 2004). The macroeconomic policy includes the fiscal policy, the monetary and exchange rate policy (WTO, 2004). The fiscal policy promoted investment especially in the research and development sector, information technology and the human sector. Korea maintained a floating exchange rate and this helped to smooth currency fluctuations. This strategy also contributed to export growth and also helped to keep the competitiveness at home as by keeping imports more expensive. As a result Korea could reduce tariffs and further liberalize trade which in turn helped to promote a more efficient and competitive economy. Corporate restructuring led to several distressed firms being rehabilitated or closed if non-viable. The debt-equity ratio of average chaebol fell and foreign ownership of listed companies increased when ceiling on overseas was abolished. The Korean economy in recent years has moved away from the centrally planned, government-directed investment model toward a more market-oriented one or a new economy (USDS, 2008). Even though it took the support of the IMF after the Asian crisis, the extensive financial reforms helped to restore stability to markets. The economic reforms initiative of the state helped it with growth rates of 10% in 1999 and 9% in 2000. When the economy slowed and the exports started falling, the state took consumer stimulus measures that led to 7.0% growth in 2002. In 2003 the growth again slowed due to consumer over-shopping and rising household debt, along with external factors. The economic performance of Korea improved and remained steady up to 2007 but again the annual growth rate has reduced after the economic and financial crisis of 2008. A rapidly aging population and structural problems have contributed to slowed economic growth in Korea. Besides Korea has rigid labor regulations and there is lack of regulatory transparency. Thus it can be seen that despite facing the crisis, Korea could emerge from its debts and bring about growth through positive reform measures. Reforms were planned and on all sides. They had to take care of macroeconomic policy and the structural reforms. Reforms had to be simultaneously adopted in the financial and the corporate restructuring. Their openness of free trade approach helped them gain access to global market. Through this approach they could expand their exports and even attract foreign direct investment in several sectors. Consolidation in the banking sector and the corporate sector helped to reduce non-performing loans and gave confidence to the private business sector to take their own initiatives. Tax benefits too were allowed and the investor confidence gained through such measures. All through the domestic consumption was encouraged through different measures. It was a progressive attitude and openness of the economy that is responsible for the growth of South Korea among the Asian economies. References Andreosso-O’Callaghan, B. (2009). Economic structural complementarity: how viable is the Korea-EU FTA? Journal of Economic Studies. 36 (2), 147-167 Anonymous. (2008). DEVELOPMENTS IN INDIVIDUAL OECD COUNTRIES AND SELECTED NON-MEMBER ECONOMIES: KOREA. Organisation for Economic Cooperation and Development. OECD Economic Outlook. Paris: Jun 2008. , Iss. 83; pg. 172, 3 pgs Camdessus, M. (1997). The Asian Financial Crisis and the Opportunities of Globalization. Retrieved online 07 October 2009 from http://www.imf.org/external/np/speeches/1997/mds9715.htm Connolly, M. & Yi, K. (2008). How Much of South Korea’s Growth Miracle Can be Explained by Trade Policy? Retrieved online 07 October 2009 from http://www.frbsf.org/publications/economics/papers/2008/wp08-23bk.pdf Kojima, K. (2000). The “flying geese” model of Asian economic development: origin, theoretical extensions, and regional policy implications. Journal of Asian Economics. 11, 375-401 Lee, Y. & Hobday, M. (2003). Koreas new globalization strategy: can Korea become a business hub in Northeast Asia? Management Decision. 41 (5), 498-510 Lee, H., & McNulty, M. P. (2003). Korea’s Information and Communication Technology Boom, and Cultural Transition After the Crisis. Moak, S. K. (2000). GLOBALIZATION AND MARKET ADJUSTMENT: KOREAN CASE. Allied Academies International Conference. Academy of Marketing Studies. Proceedings. Cullowhee: 2000. Vol. 5, Iss. 2; pg. 24, 6 pgs TKH. (2009). expansionary currency and fiscal policies. Retrieved online 07 October 2009 from http://www.koreaherald.co.kr/NEWKHSITE/data/html_dir/2009/08/10/200908100064.asp Ungson, G. R., Steers, R. M., & Park, S. H. (1999). Reappraising Korea: The Crisis, Aftermath, and Future Challenges. Management International Review. 39 (4), 51-83 USDS (2008). Background Note: South Korea. Retrieved online 07 October 2009 from http://www.state.gov/r/pa/ei/bgn/2800.htm Winters, L. A. (2004). TRADE LIBERALISATION AND ECONOMIC PERFORMANCE: AN OVERVIEW. The Economic Journal. Retrieved online 07 October 2009 from http://www.cer.ethz.ch/resec/teaching/seminar_aussenwirtschaft_wt_04_05/winters_EJ.pdf WTO. (2004). TRADE POLICY REVIEW: REPUBLIC OF KOREA. Retrieved online 07 October 2009 from http://www.wto.org/english/tratop_e/tpr_e/tp235_e.htm Read More