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South Korean Financial Leaders Deflect OECD Criticism of Rising Inequities

Wednesday, August 31st, 2011
financial leaders

A tough report issued by the Paris-based Organization for Economic Cooperation and Development portrays the downside of modern South Korea, despite the "miracle" of the rise from the ashes of the Korean War that raged some 60 years ago. Against the image of Korea as a newly-shining giant spewing forth cars, computers, ships, and chips for global consumption, the OECD opened its annual review of the country with the pointblank declaration: "Korea is confronting a serious challenge."

What, in the view of the OECD, does Korea now have to do to respond effectively? First and foremost, it must "improve income equality in the context of a severe demographic transition" - that of "transition from one of the youngest populations in the OECD at present to the second oldest by 2050." That attenuated process, the report warned, "may boost the need for public spending and slow economic growth." But the problem goes much deeper than that, according to the report. "Sustained rapid growth during the first decade of the 21st century has been accompanied by a marked rise in income inequality," it noted. "Underlying social problems were further exacerbated by the 2008 global economic and financial crisis."

Even "as Korea integrates into the global economy, said the OECD study, "it faces many of the same forces that have led to rising inequality in other OECD countries. "In the Korean case, however, the problem is actually worse than in most member states. "First, its level of social spending is among the lowest in the OECD area," said the report. "Second, the impact of its tax and transfer systems on income distribution and poverty is among the weakest. Third, Korea's dualistic labour market is highly segmented between regular and non-regular workers, leading to wide inequality in wage income."

The OECD report offered starkly-realistic recommendations that Korean politicians and bureaucrats do not appear in any hurry to accept: "As the pace of population aging is accelerating, it is important to act quickly in a wide range of areas." These include:

  • "Policies to sustain Korea's growth potential in the face of falling labor inputs;
  • "Measures that improve both growth and equality;
  • "Carefully-targeted increases in social spending to reduce inequality and poverty;
  • "Financing higher social spending, with priority given to a reform of tax and social security that minimizes the negative impact on output growth."

The chances of Korea's digesting such a menu appear remote given the emphasis of the conservative government on welfare - not social welfare but that of the chaebol, the conglomerates that dominate business and industry. Korean bureaucrats prefer to dwell on the country's recovery from the economic crisis that swept the world in 2008 - a "downturn" from which the world's economic leader, the United States, is far from recovering.

"Korea has recovered from the global financial turmoil triggered by the sub-prime mortgage crisis faster than other OECD countries thanks to its rapid and decisive policy responses," said Kim Dong-soo, chairman of South Korea's Fair Trade Commission, the day after the OECD issued its report. "The Korean economy posted positive growth (2.9 percent) in 2009 when major advanced economies were contracting." Then, in 2010, Kim Dong-soo told a meeting in Seoul of the American Chamber of Commerce that the Korean economy "grew by as much as 6.2 percent, the highest growth over the last eight years."

No less an economic analyst, adviser and policy-maker than the International Monetary Fund "commended Korea for its exemplary performance in recovery from the crisis," Kim observed. Moody's accorded Korea the ultimate badge of honor by raising Korea's national credit rating from A2 to A1 in April 2010, he said, while the World Bank forecast in May that six countries, Korea, Indonesia, and the BRICs, (Brazil, Russia, India and China) "would account for more than half of the world's economic growth for the next 20 years."

After all that success, then, what could be going wrong? Kim preferred to lay the blame on popular opinion rather than government policies. "The problem is that the general sentiment on the economy is not improving in Korea," he said, "despite strong signs of recovery from these macroeconomic indicators." Besides "inflationary pressure in the Korean economy," he acknowledged that "large companies' undue influence over small and medium-sized enterprises (SMEs), collusion practices, institutional and structural factors" and "the creation of monopoly and long-sustained monopolistic market structures" were all "aggravating the current conditions."

Kim addressed the issue of reforms, however, in vague terms that suggested few real possibilities for reversing a trend in which the power of the chaebol has been smothering competition from upstart rivals. The Fair Trade Commission "is implementing competition policies," he said, that would:

  • "Create an open market where entry or exit of the market occurs freely;
  • "Uncover and correct illegal practices of companies that harm the principles of a market economy;
  • "Ensure shared growth between large companies and SMEs by inducing them to change their corporate culture voluntarily;
  • "Create an environment where consumers serve as competitive pressure."

Kim Dong-soo spoke of "the ultimate goal" in verbiage that resembled that of a pastor inveighing against sin. The key, he said, was "to spread competitive principles across the economy, building more transparent and sound economic systems, thereby keeping the national economy stable."

He predicated those fine words on President Lee Myung-bak's "three values" for a "fair society," that is, "autonomy, fairness and responsibility." Considering Lee's background as top executive of Hyundai Engineering and Construction and his support of expanding the chaebol while paying lip service to the SMEs, one had difficulty viewing such "values" as anything other than window-dressing.

Kim himself recognized the problem from his years as president of the Korea ExIm Bank. "Unfortunately these experiences have brought me to the conclusion that mutual partnership between large and small companies has yet to take root in Korea," he said. Kim, however, was not in favor of rules and regulations that might bring about change. "Companies need to improve their culture and attitude through their voluntary effort," he made clear, "rather than being forced by laws or regulations."

Bahk Jaewan, minister of strategy and finance, answered concerns about income inequities and the power of the chaebol in remarks that left open the question of exactly what the government would really do. "The government will finely tune up social safety nets and encourage shared growth," he declaimed in a speech at the Seoul Foreign Correspondents' Club after the issuance of the OECD report. No way, however, could people expect handouts. "The government's welfare policy," he said, "is aimed at encouraging recipients to work rather than relying on welfare benefits."

On the sensitive issue of what to do about SMEs, Bahk promised that the government would "encourage shared growth by large companies and SMEs while enhancing fair competition by closely monitoring unfair backing practices between affiliates." Yes, he vowed, "We plan to prevent large conglomerates from gaining unfair benefits through trades with their own affiliate or subsidiary companies." But what would the government really do? Cooperation on the part of business would be "voluntary," he said, spurning the idea of new "rules and regulations." Bahk acknowledged, however, that the government under President Lee had done away with "regulations" that were only impeding business growth. He argued that Korea was actually doing more than most other countries to close the gap. "Through deregulation and tax cuts the government will enhance economic freedom," he said, "and reduce government influence to revitalize private sector activities."

That laissez-faire view provided a rationale that would only contribute to the repression of SMEs and deepen inequities to cure the ills that Bahk claimed to want to address. The Korean position also defied the recommendations of the OECD, which Korea joined 15 years ago in a great show of national pride over acceptance into one of the global economy's most elite clubs. The OECD placed top priority on increasing the efficiency of labor in a system in which hours are long but productivity in the service sector is half that of the manufacturing sector and 40 percent of the service sector in the United States. "Faster labor productivity in services requires strengthening competition through regulatory reform," said the OECD report.

The OECD report called for "greater openness to the world economy as one way to boost productivity in an inward-looking society in which foreign direct investment as a percentage of the gross domestic product is the second lowest in the OECD area." Foreign affiliates, it said, account for only 8 percent of service-sector turnover and four percent of employment, "well below OECD averages of 19 and 10 percent." The report advised "strengthening international competition" by "reducing barriers to FDI, including foreign ownership ceilings in key services, and liberalizing product market regulations." Besides, it added, it's "important to foster a foreign investment-friendly climate by enhancing the transparency of tax and regulatory policies and reforming the labor market."

The issue of social spending lay at the heart of the problem of overweening inequities. "Social spending - at 7.5 percent of GDP - remains well below the OECD average of 20 percent," said the report, while Korea's "tax and transfer systems have the smallest impact on inequality of any country in the OECD area" and "well-targeted tax and benefit programs are needed to mitigate increasing inequality trends." That was an area in which Kim Dong-soo of the Fair Trade Commission did not care to venture while calling for "open competition" on a "level playing field."

Donald Kirk is the author of numerous books and articles on Korean business and economic issues, including "Korean Dynasty: Hyundai and Chung Ju Yung" and "Korean Crisis: Unraveling of the Miracle in the IMF Era."

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