Structural Causes of South Korea’s Economic Crisis

Crisis in South Korea 1997 n chaebol crisis (bankruptcies) n financial crisis – credit rating downgraded – exchange rate of won – stock market n economic crisis – economic growth rate & GNP per capita – unemployment rate

Chaebol’s advantages n Governance structures of chaebol – centralized control and management – lack of monitor or sanction by shareholders n Organizational advantages – mobilization of resources for new businesses – economy of scale through sharing resources – safety-net for member companies in crisis

Chaebol’s advantages n Park’s economic policy – promotion of export-oriented industries – promotion of heavy industry – suppression of labor movements – protection of domestic market – allocation of resources to chaebol n heyday of chaebol growth – mid-1960s to mid-1980s

“Octopus companies” n Chaebol’s diversification – unrelated new industries n strategic consideration – reduction of financial risk n environmental incentive – “industrial vacuum”

Environmental changes n Challenges since 1980s n political regime shifts n foreign pressure to open domestic market – financial and product market n rise in labor cost n competition from other Asian countries n chaebol became multinationals n industrial shift and competition

Democratization in ROK n 1987 election, former general Roh Tae Woo defeated opposition leaders Kim Dae Jung and Kim Young Sam n 1987, Declaration of Political Reforms n 1988 election, opposition parties won majority in National Assembly n Kim Young Sam won presidential election in 1992 (1st elected civilian president)

Regime shift n Democratization n deregulation – land use (1990) – import liberalization (1992) – open stock market to foreigners (1992) – open domestic capital market (1994) – deregulate loan financing in foreign market (1994)

Labor cost

Chaebol responses n Unrelated diversification in new industries – diversion of resources n from technological innovation – demand for domestic financial resources n accumulated bank loans – demand for foreign financial resources n opening of the domestic financial market n centralized control and management – new competitive environment

Negative consequences n Chaebol’s expansion – lack of transparency and accountability n domestic loans – government pressure on banks n foreign loans – government opened capital market yet controlled exchange rate

Regime shift: continued n President Kim Dae Jung ( ) n free market – minimizing government intervention – deregulation

Former & current Presidents n 1997 presidential election: Kim Dae-Jung – 1st peaceful, democratic transition of power – Asian financial crises of n IMF branch in Seoul ( ) – corruption scandals involved President Kim’s relatives and friends n 2002 presidential election: Roh Moo-Hyun – former lawyer & government minister

IMF conditionality n When a country borrows from the IMF, its government makes commitments on economic and financial policies n Most loans feature phased disbursements – prior actions n before approval & initial disbursement – performance criteria (quantitative & structural) n condition for agreed credit to be disbursed – program review

Restructure the financial sector n Troubled banks – bankrupt – sold to foreign banks – merged n Financial Supervisory Board – power to replace top managers of banks – resurrection of Park’s policies?

Chaebol reforms n Improve financial structure – reduce debt-capital ratio n sale of assets n foreign investors – prohibit cross-investment – prohibit internal trading – consolidated financial statements

Chaebol reforms n Transform governance structure n weaken the centralized control and management in chaebol – owner became formal CEO n full legal responsibilities – outside board members – legal right for minority shareholders n restrict unrelated diversification

Dilemmas for government n Government intervention to establish free market economy?