South Korea’s Export-led Growth

The Korean Economy in 1961

• Per capita GDP (or GNP) US$ 82.-• Industry structure : -Agriculture 40% -Manufacturing/Mining 15%• Cement, Plate glass, Fertilizers, • Light industries processing US aid mate-

rials (cotton, wheat, sugarcane syrup)• Illiteracy rate 28% (mostly elders)

Absolute Poverty!• Two round annual cultivation – rice

(summer) and barley (winter)• Chronic shortage of food grain : The

stock of rice used to be exhausted one month ahead of barley crops. “Grass roots-Pine tree skins”

• “Spring starvation” or “barley hill” came every year in May throughout the entire history of Korea.

Competing for Jobs in Manufacturing

• Jobs in manufacturing industry had been occupied exclusively by workers of industrialized economies.

• Undertaking industrialization by de-veloping economies takes jobs away from workers of industrialized economies, either indirectly by im-port substitution or directly by export promotion.

Stages of Manufacturing Activity Primary Materials Part & As-

semblyResources Components

• Technologically accessible : • Techno. not accessible :

Industrial Activities and Catch-Up

• Pre-Industrial economies (may) pro-vide raw materials and buy industrial products.

• Catch-up begins with joining in either accessible assembly or P&C or both.

The First Stage of Industrialization<1>Technologically Accessible Manufacturing<2>Factories, Machinery-Equipments, and

Technology<3>Provision of Materials and Parts-Compo-

nents<4>Marketing of Industrial Products“Begin with affordable technology. Build fac-

tory, get machinery/equipment and materi-als/ parts/components. Operate factory to produce. Sell the products.”

<1>Technologically Accessible Manufacturing

• Unskilled workforce could not afford high value-added manufacturing which are ei-ther capital intensive or high-tech inten-sive or both.

• South Korea started with low value-added manufacturing of simple labor-intensive goods such as plywood, garments and wigs, since they were the only accessible industrial activities for her workforce.

<2>Factories, Machinery-Equip-ments, and Technology

• Capital was needed for investment in building factories and acquiring ma-chinery-equipment.

• Domestic capital for factory site and construction works.

• Foreign capital for importing machin-ery and equipment, and licensing foreign technology.

Capital Policy1. Domestic Capital

2. Foreign Capital

1. Domestic Capital1.1 High Deposit Rate, Low Loan Rate

1.2 Development Inflation and Forced Saving

1.1 High Deposit Rate, Low Loan Rate

• Interest rates were desired to set high for deposits to mobilize domes-tic capital on one hand, and

• low for loans to encourage industrial activities on the other.

• But interest rates of this kind impose loss on commercial banking and many occasions.

continued• Military government forced major

stock-holders of commercial banks to donate their shares, after the coup d’etat in 1961, for pardoning their “il-licit fortune making” to take over the control of all commercial banks, and

• enforced the upside down structure of interest rates.

1.2 Development Inflation and Forced Saving

• Poor Koreans were unable to gener-ate enough savings to meet everlast-ing excess demand for cheap bank loans.

• Chronic savings-investment gap as well as the loss of commercial banks was covered by increasing money supply.

• Forced saving by Development Infla-tion

2. Foreign Capital2.1 No FDI!2.2 Foreign Loan Was Not easy!2.3 How To Break Through?2.4 Deferring Foreign Exchanges Gap

• Widespread misgivings : “Foreign capital is the vanguard of hostile in-vasion!”

• The idea of inviting FDI was rejected in favor of fostering indigenous firms.

• As for foreign capital, Koreans’ bor-rowing was preferred to foreign-owned firms.

2.1 No FDI!

2.2 Foreign Loan Was Not Easy!

• Global investors rated South Korea as ‘non-investable’ in 1960s under still hostile inter-Korean confrontation.

• No Korean entrepreneur had been able to draw any foreign loan on his own.

Samsung Electronics was able to bor-row on its own in international financial market for the first time as a Korean firm only in early 1980s.

2.3 How to Break Through? • Sovereign debt guarantee : the Korean

government selected promising industrial projects and let government-held com-mercial banks guarantee the repayment of principal and interest of the loan.

• But massive inflow of loans from Japan actually took place after normalization of Korea-Japan relation, and this facilitated loans from other countries.

2.4 Deferring Foreign Exchanges Gap

• Foreign lenders are only concerned with safe repayment of interest and principal for their loan.

• Repayment must be made not in Ko-rean currency but in foreign exchanges.

• Foreign loan does not solves foreign exchanges gap but only defers it from the time of importing foreign machin-ery-equipment to repaying the loan.

<3>Provision of Materials and Parts-Components

• All the materials and parts-compo-nents were to be imported from abroad, in fact mainly from Japan.

The more South Korea exported to the USA, the more South Korea had to import from Japan.

• South Korean government began to encourage their localization later.

<4>Marketing of Industrial Prod-ucts

• Domestic market of South Korea was thin and small then, and did not have purchasing power sufficient enough to buy up what was produced.

• Import substituting industrialization limits the market for industrial prod-ucts, and hence jobs created, by do-mestic market.

• Had to aim at world market.

Nature of Early Stage Catch-Up

• Countries commanding the on-going in-dustrial process is outsourcing simple la-bor intensive segment to LD economies.

• This segment is connected with upstream of parts-components and material, and downstream of marketing.

• This outsourcing is the only accessible chance for developing economies to start catch-up by export promotion.

Need for Foreign Exchanges• Foreign exchanges are essential for

attaining equipment-machinery, technology licensing, parts-compo-nents, and material.

• When traditional export cannot pro-vide sufficient amount of foreign ex-changes, then it is inevitable to try to export the industrial products as new export items.

Dollar Earnings?• In 1960 South Korea exported US$32.83

million and imported US$343.53 million with trade deficit of US$310.07 million.

• The deficit was covered mainly by the US economic aid of US$245 million. Still short!

• The Korean government lent the Korean currency to the US troops in Korea for their local spending, and the Americans paid back the loan in US dollars. This sum amounted to 62.6 million dollars in 1960.

Export• Agro-fishery-mining products such as rice,

squid, iron ore, and tungsten were the ma-jor export items until 1962, accounting for more than 80% of the total export.

• South Korea might then have had com-parative advantage in agro-fishery-min-ing, but its production capacity could not generate enough foreign exchanges needed for early stage industrialization.

Export-led Growth 1• Exporting manufactured goods became

an imperative for South Korean industrial-ization.

• Production of plywood, garments, wigs, shoes,… to sell to foreign markets be-came the core of new industrial activities.

• Expansion of export led both economic growth and growth of import in parts-components and materials.

Localization: Equipment-Machinery, Parts-Components, and Materials

• Expanded export augmented de-mand for equipment-machinery, parts-components, and materials.

• Their localization called forth devel-opment of heavy and chemical indus-try, the task of which was basically import substitution.

Heavy and Chemical Indus-try

• Heavy and chemical industry is highly capital-intensive, and its average cost declines as production scale expands due to increasing returns to scale.

• Localization demand was certainly non-negligible, but was not big enough to absorb scale economies to a full extent.

• HCI production had to aim at export from the beginning.

Technological Up-Grading• HCI is by no means simple labor in-

tensive, and requires advanced know-how on technology.

• Partners of industrialized economies will not transfer technology of high level.

• Reverse engineering : recruit cooper-ative expertise and mobilize them with extensive support.

R&D• Steel : POSCO’ finex method• Shipbuilding : ‘Hyundai Heavy Indus-

try’s LNG tankers.• CDMA : ETRI• Passenger Cars : Pony Design at

Torino• Semi-conductors : Samsung’s Palo

Alto Lab.

Export-led Growth 2• The entire global market is the mar-

ket for the South Korean HCI• Failure in HCI export means failure

both in business and nation economy of South Korea.

• Under current trend of globalization, any economic growth will depend more and more upon export and trade.