Korea’s Economic Development Experiences

1. Korea’s Economic Development Experiences Taeho Bark The Graduate School of International Studies (GSIS) Seoul National University March 30, 2005

2. Contents • Korea in the Late 1950s • The Korean Economy 40 Years Later • Overview of Korea’s Economic Development • Evaluation of Korea’s Economic Development • Factors Contributing to the Success • Lessons from the Korean Experiences • Is the Korean Model Replicable?

3. 1. Korea in the Late 1950s • Largely rural peasant economy, wholly lacking natural resources • Has the highest density of people on arable land in the world • Exports were 3% of GDP (88% of which were primary products) • Crucially dependent on foreign aid-transfers (More than 10% of GDP) • The third poorest country in Asia with no hope for growth

4. 2. The Korean Economy 40 Years Later • Real GDP per capita grew 10-fold - Almost 3 times that of Brazil and almost 3.5 times that of Mexico in 2000 • Exports grew on average by more than 30% a year over three decades and more - Exports grew to 37% of GDP in 2000 - $ 253 bil (Manufacturing: 97%) in 2004 • Dramatic improvements in the quality of life - Infant mortality dropped, life expectancy rose, real wage rose, unemployment fell • The 13th largest economy in the world - FX reserves (4th), shipbuilding (2nd), steel (6th), automobile (6th), DRAM semiconductors (1st)

5. 3. Overview of Korea’s Economic Development < Export-led growth: 1962-1972> • Policies - Currency devaluation - Interest rate reform for high savings - Nationalization of commercial banks - Establishment of specialized banks - Limited import liberalization • Export incentives: Industry Neutral - Tax deduction, wastage allowances - Export credit subsidies - Based on export performance

6. 3. Overview of Korea’s Economic Development < H & C industrial promotion: 1973-1979> • Policies • Designate the industries (steel, machinery, petro-chemical, shipbuilding, electronics) • Long-term subsidized loans: National Investment Fund (Credit rationing) - Tax holidays and investment tax credits - Accelerated depreciation - Reduced export incentives - Expansionary monetary policy • Government guarantee of foreign loans

7. 3. Overview of Korea’s Economic Development < Stabilization, liberalization and renewed growth: 1980-1996> • Policies - Anti-inflationary policy measures - The HCI drive was toned down - Abolished preferential lending rates - Privatized the commercial banks - Deregulation - Market opening (goods and services, FDI, financial markets) - Financial support for small and medium firms

8. 4. Evaluation of Korea’s Economic Development < Successful Aspects > • Rapid Growth - GDP, Capital formation (Investment) • Strong export performance • Upgrading the economic structure - Larger share of manufacturing industry • Establishing competitive heavy industrial sector • Establishing infrastructure for industrial development

9. 4. Evaluation of Korea’s Economic Development < Negative Side Effects > • Price distortions • Distortions in financial sectors - Non-performing loans • Excess capacity in some H&C sectors - Overlapping investment • Increased economic power of Chaebols and resource- wasting competition out of dynastic pride - Sales of the top five business groups: 50% of GDP (1991) - SMEs were crowded out: handicap for competitiveness

10. 4. Evaluation of Korea’s Economic Development < Negative Side Effects (Cont’d)> • Excessively high debt/equity ratios for Chaebols - Moral hazard from government loan guarantees • Lack of foreign competition in the domestic market - Producer protection policy: restrictive trade and FDI policy • Nationalistic sentiments in the general public • Less focus on social welfare and environment protection programs

11. 5. Factors Contributing to the Success • Strong Political leadership and institutional building - Early reform, well-prepared planning, administrative support (export target, monthly export meeting presided by the President, HCI Committee) • Consistent growth-oriented economic policy - Outward-looking and industry-oriented development strategy - Stable macroeconomic policy • Interventionist policy based on technical and economic criteria • Risk-sharing among government, financial institution and business enterprises

12. 5. Factors Contributing to the Success • Emphasis on education and human capital - Establishment of R&D centers, recruiting Korean scientists and engineers from abroad • Dynamic entrepreneurship • Well-trained labor force • Successful borrowing from abroad • Relatively clean government officials • Eagerness to catch-up • Liberal world trading environment

13. 6. Lessons from the Korean Experiences • No secrete recipe, an outward orientation with strong incentives for exports and a commitment to growth through trade are the key • Address fundamental problems - Remove bottlenecks and Tackle problems of poor infrastructure - Stick with reforms - Sound macroeconomic policies - Economic liberalization and importance of foreign trade recognized

14. 6. Lessons from the Korean Experiences • Remove any bias against exports - Realistic exchange rate – incentives for exporters - Inputs for exports at world prices - Incentives are uniformly applied across all exporters • Leaderships - Strong commitment from President - Large conglomerates • Political stability - Consistent policy implementation - Long-term goals can be set

15. 6. Lessons from the Korean Experiences • Policies need be closely monitored and modified if necessary - Monthly export performance meeting chaired by President - H&C Committee • Investment in human capital and R&D • The competition in the domestic market - Liberalization of trade and FDI must be continued

16. 7. Is the Korean Model Replicable? • Is export promotion policy possible? - WTO prohibits trade distorting subsidies: export subsidies, import substitution subsidies - Allowed subsidies: R&D, environment, regional development • Is specific sector targeting industrial policy possible? (especially for H&C sectors) - Too much risks: financing, excess capacity in the world, foresight and ability of government, able entrepreneurs