an assessment of structural reforms in korea: implications for … · 2020. 6. 25. · corsetti....
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An Assessment of Structural Reforms in K,orea: Implications for Economic
Revival in Japan
Jongkyu Park and Yoon Je Cho*
Prior to the economic crisis. realestate prices. wage rates ,
interest rates. and the exchange rate had been derailed on a large scale from the levels reflective of Korea’s econonl1C’
fundamentals. This distortion was the ultimate source of Korea ’s economic crisis but was remedied only partially during the last five years. lea띠ng the task of economic reform as incomplete Although a consensus 띠ew about the fundamental source of Japan’s economic problems has not yet emerged. a chronol앵y
of Japan ‘ s lost decade casts doubts about the popular view that financial reform is the sufficient condition for a durable recovery in ,Japan. We suggest that Japan’s effort should be directed to improving producti띠ty of nontradable seπice sector and to sol띠ng the problem of popula디on a핑ng.
Keywords: Korean economic crisis. Japan’s lost decades. Economic reform
JEL Classifkation: E60. 053
I. Introduction
Th is essay seeks lessons from the Korean experience in struc
tural reform that could be of benefit to Japan in re씨ving its
economy. Korea has been congratulated for overcoming macro
economic catastrophe in one year. This spectacular achievement is
*Research Fellow. Korea Institute of Finance. 7th Fl. KFB Building. 4-1 Myung-dong l-Ga. Chung-ku. Seoul 100-021. Korea. (Tel) +82-2-3705-6257 ‘
(E-mal l) [email protected]; Professor. Graduate School of Intemational Studies. Sog잉19 University. C.P.O. Box 1142. Seou! 100-611. Korea. (Tel) +82-2 -705-8682. [email protected]. respectively. [Seoul Jour:nal of Economics 2003. Voìl. 16. No. 2J
248 SEOUL ]OURNAL OF ECONOMICS
100ked upon as represen디ng the benefits of structural reform. thereby drawing aUention from economísts ínterested in the ch머1enging issue of how to resuscitate Jap와lese economy.
The ori핑n of Korea’s economic crisis resided in a distorted price system which forced national income to be allocated out of corporate opera디ng surp1us into 1abor compensa디on. This pattem of disproportionate income al1ocation had persisted consistently for a very 10ng time and caused the corporate sector to accumu1ate a huge amount of debt and. consequently. a staggering amount of non-performing 10an in the financia1 sector. The structura1 reform in Korea during the 1ast five years cou1d rectify the distorted price system to the extent that a startling recovery ensued right after the crisis. 1n retrospect. however , the distortions which drove the nation into the economic crisis were remedied on1y partial1y. 1eaving the task of economíc reform as íncomp1ete. This experience highlights that chief sources of economic prob1ems shou1d be identified correctly ín the first place and then determined efforts shou1d be made to tackle the identified prob1ems.
The process of Japanese chronic recessíon is very different from and more complicated than that of Korea's economic crisis. It
seems to us that a consensus view about the fundamental source of Japan’s pro1onged slump has not yet emerged either. Various diagnoses and prescríptions have been suggested by foreign academics. foreign govemment officials. and staff members of intemationa1 economic organizations. We believe. however. that on1y the Japanese are in a position to ascertain the ultimate causes of their recession and prescribe the right solutions for it because no other countIγ in the wor1d has ever suffered the same kind of recession as Japan has. We propose. however. that Japan’s economic reforms shou1d be directed to improving productivity of nontradab1e service sector. We a1so suggest that the prob1em of popu1ation aging is one of the u1timate sources of Japan’s 10st decade.
1n Section II. we start with describing the origin of Korea’s economic crisis. i.e. the distorted price system. We then proceed in Section III to evaluate to what extent the distortions were corrected during the 1ast five years. 1n Section IV. we summarise a chron010gy of Japan ’s 10st decade and elicit some lessons which may be usefu1 for re띠띠ng the Japanese economy. Concluding remarks are included in Section IV.
AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA 24'9
11. Origin of Korean Economic:: Crisis
During the economic crisis in 1998, Korea’s macroeconomlC performance ch윈1ged dramatically in a disastrous way; much more disastrous than anyone could have imagined. Its annual real growth rate in 1998 plunged to - 6.7 percent, its lowest since the Korean War (1 950-3). In 1999 , however, the real GDP growth rate recorded 10.9 percent, a remarkable 17.6 percentage poínts improvement from - 6.7 percent in the prevíous year. Such a sudden and abrupt recovery from recession is unprecedented in the world histmγ of economícs since the World War 11. The economic recovery was spectacular indeed, but 야le overall adjustment process can be characterized as an ‘adjustment at the cost of gro\\딴1. ’
Nllmerous explana디ons have been put forth for Korea’s cllrrency and financial crises using different approaches .l However , the ultimate callse must have been the low profitability of the corporate sector, which was under a crushing burden of financial debt. It is ironic that, instead of being flush ‘wíth cash, the corporate sector of a country which had been praised for splendid achievements in economic growth should have suffered such deep and extensive indebtedness. At the heart of the low profitability was a deeply entrenched incentive system which directed an excessive amount of corporate revenue into labor compensation. The bulk of whatever income generated at 밍1y point during the busíness cycle was distributed outside the corporate sector through the traditional income allocation pattems. The corporate sector ine띠tably piled up more and more of debt and the financial sector, in turn , was saddled wíth 하1 excessive burden of non-performing loans until the economy became extremely vulnerable to extemal shocks.
A. Disproportionate Income Allocation Pattem
For the last three decades , the Korean economy has expanded vigorously. The nominal GDP has increased by 219 times , from 2. '7
trillion won in 1970 to 596.4 tεillion won in 2002. The dollar-
lReferences are abundant. To n없ne a few , Calomiris (1998). Corsetti. Pesenti. and Roubini (1 999). Dooley (1997. 2000). Feldstein (1999a. 1999bl. Frankel and Roubini (2001) , Furrnan and Stiglitz (1 998). Krueger (1 9971 ,
Kn핑man (1998) , Lane and Phillips (200이， Radelet and Sachs (1 9981. Summers (200(기
250 SEOUL ]OURNAL OF ECONOMICS
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FtGURE 1
TRADlTIONAL PATIERN OF ALLOCATION OF NATIONAL INCOME (1)
denorninated per capita GDP amounted to 10,006.2 dollars in 2002.
37 times as big as that in 1970. The national income. defined as the sum of labor compensa디on and operatlng surplus.2 has increased by 191 times when aggregated at 1995 constant p디ces .
While the economy had developed enonnously. the qu려itative
pattem of income allocation has not changed at 허1 during this period. Figure 1 displays the traditional allocation of the national income bebNeen compensa디on of employee and opera디ng surplus. It shows that labor compensa디on has increased a t a much higher rate than the operating surplus. More specifically. labor compensation increased 282 times from 1970 to 2002. while operating surplus increased 127 디mes. Clearly. the Korean economy had allocated consistently a much hi양ler percentage of corporate profits into labor compensation during this entire period ‘
Figure 2 redraws Figure 1 putting 와1 of national income. operating surplus 킹ld labor cornpensa디on at a baseline of 100 at 1970. 1980. and 1990. the first years of each decade. Figure 2 reveals 하1 interes디ng fact that the growth in labor compensa디on has exceeded that of the operating surplus by large margins at specific 디mes during 삼le following three sub-periods. The first was
2Equivalently, the national 1ncome c없1 be obtained by ad띠ng subsidies to GOP and then subtracting from it. indirect taxes. depreciation and net factor incomes from abroad.
AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA 251
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late 1970s, which includes the second 011 shock (1 977-80); 야m second was late 1980s and early 1990s, when increases in real wages were ex:plosive and the realestate bubble had emerged and ex:p와1ded 찌gorously (1988-9 1); 없1d the thtrd was mid 1990s. which overlaps 바1e cyclic허 recession after the expansion of the semi -conductor industry (1995-6).
lf labor compensation increases at an excessive rate with respec t to operating surplus. it can be looked upon as a profit squeeze (Sachs 1979). Figure 3 shows the ordinary income to sales of each industry 윈1d indicates by means of shaded area the three periods of profit squeeze, Le. 1977-80, 1988-91. and 1995-6. The ordinary income to sales declined markedly during the periods of profi'~
squeeze with only mlnor exceptlons.3
The pe디ods of profit squeeze are closely related with cyclical recessions. The period from 1977 to 1980 includes the contrac .. 디on없y phase of the second business cycle4 (February 1979 ..
1'he exceptions are 히ectricity . gas . ste와n industry in 1977 -80 reflectin‘: high energy prices, and construction industry. realestate service industry. 없ld tr와1sporta디on . warehouse . communicatlon Industry In 1988-91 떠fectecl
mostly by severe realestate bubble and expanded consumption of au tomobiles.
"The officia1 datlng of buslness cycle expanslons and contractioml published by the Korea Nationa1 Statistica1 Office staπs from the year 0::
252 SEOUL ]OURNAL OF ECONOMICS
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FIGURE 3
ORDINARY INcoME TO SALES AND PEruODS OF PROFIT SgUEEZE
September 198이 ， which was triggered by the second oil shock. The period from 1988 to 1991 covers the fourth contractionary phase (J킹lUary 1988-July 1989), which followed a spe따acular export boom.5 The period frorn 1995 to 1996 over1aps the s iXth
contractionary phase (March 1 996-August 1998), which started when the terms of trade suddenly plurnrneted.
It is natural that operating surplus of corporate firms declines in cyclic려 recessions. So the ques다on is how could labor payment have continued to rise in those recessions at about the same rate
1970. 5It is called “ three-low boom" meaning international interest rates. oil
prices. and the value of domestic curren양 were low enou핸 to warrant compe때veness of Kore킹1 expoπ products.
253 AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA
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PA1TERN OF NATIONAL INCOME ALLoCATION lN OrHER COUNTRIES
as during boom years? Another question 1s how come opera섭n당 surplus could have never exceeded labor payment for more than twenψ years during which the profit squeeze was not observed,
except in 1974? When the economy 1s slu잃1sh. opera다ng s따plw>
is squeezed by recession itself and additlonally by steady increase of labor payment. When the economy 1s 1n a good shape. operatln갱 surplus growth cannot exceed that of labor compensatlon. As a matter of course. labor compensation has grown up at a faster rate 납1an opera디ng surplus for the last three decades.
256 SEOUL JOURNAL OF ECONOMICS
Figure 4 shows the pattem of national income allocation of sixteen major industrial countries fo11o뼈ng the same method used in Figure 2. It tums out that Korea is the only country that has exhibited the singular pattem of disproportionate income allocation. Japan. the Netherlands. Bel명um. Fr밍lce and Spain a110cated more income to labor compensation in the 1990s. but unlike Korea. their opera디ng surplus in the 1980s had increased as fast as (Japan) or much faster (the Netherlands. Belgium. Fr윈lce 밍ld Spain) than their labor compensa디on.
By alloca디ng more income to the labor sector a11 the times. the profitability of Korean corpora디ons had been consistently d없naged.
leading to the accumulation of an enormous volume of corporate debts and non-performing loans.
B. Distoned Price System As the Source 01 the Mis-Allocation 따 Income
There must be a strong and deeply entrenched incentive structure which had brought about the singular pattem of income mis-a11ocation. From a macroeconomic perspective. in Korea. real estate prices. wage rates. interest rates. and the exchange rate comprise the system of core prices (Park 없ld Cho 2002). Prior to the economic crisis. these core prices in Korean economy had been derailed on a large scale from the levels reflective of Korea’S
economic fundamentals (Cho 1997). π1is kind of distortion in the price system is responsible for the disproportionate income a11ocation. or equivalently. the traditional profit squeeze. Households had enjoyed incomes that were artificially high at the cost of corporate profits. while deepening corporate indebtedness. Furthermore. the market forces to correct the inadequacy of the price system had been par머yzed. a110wing the distortions to persist un디1
the crisis broke out. Although it is hard to present quantifiable evidences. there are several facts that can be put forth in proof of our arguments.
Among other 삼lings. the ever-increasing realestate prices were 삼le
primary factor of the distortion of the price system. Higher re외
estate prices induced higher rents. higher service costs. higher housing expenses and higher living costs. Since Korean people have a characteristic incIination toward realestate ownership (Kim and Park 2001). higher realestate prices raised target levels of saving
AN ASSESSMENT OF STRUCrURAL REFORMS IN KOREA 2:;7
from the so-called ‘down-payment motive. ’ In order to meet the higher target sa띠ng levels and the higher living costs , workers hεd to demand higher nominal wages because household loans were not readily accessible under a strictly regulatory regime. In this way ‘
increases in realestate prices caused real wages to grow faster than the labor produc디vity.
On 삼1e other hand , corporations were preoccupied with expanding sales and were not verγ concerned about profitability. They were able to obtain loans from financial institutions only if they had sufficient realestate assets as collateral. 0삐ng to the lack I)f global standards of operation in the capital market and the unreliability of corporate financial statements , even troubled firrns were not discriminated in the capital market and their executive officers didn’t have to worηr about being ousted. Regardless of the profitability of projects , investment for expanding the size of the cornpany continued unabated , leading to a chronic and excessive dernand for labor and funds. The natural result of this was that real wages increased faster than labor producti찌ty and interest ratεs were higher than the rate of return on investment.
Korean economy was , after all , a risk-free economy. Until the outbreak of the econornic crisis , for exarnple , financial cornpanies preferred corporate bonds to the governrnent bonds because they could not find any practical reason to hold safe assets. Tbe ever-increasing realestate prices were the single rnost irnportant buttress propping up the risk-free economy. Stripped of cosmetics ,
the Korean economy prior to the econornic crisis was a bubble econorny in the sense 삼1at it could operate only if realestate prices continuedl to rise.
Realest3.te prices suddenly stopped rising and began to decline moderately in the second half of 1991 (Figure 5). The most important engine of the bubble economy was out of seπice. Firms could no longer expect to see their operating losses offset by increases in value of their assets. Nevertheless , they continued to expand as a rnatter of common practice from behavioral inertia. Their excessive dernand for labor and funds remained unchanged ,
rnaintaining rent , real wage , interest rate at excessively high levels until the end of 1997.
Along with the cease of the realestate bubble expansion ,
fundamental factors of Korean economy such as the manner of resource allocation, the pattern of consumers’ consump디on-Ieisure
258 SEOUL JOURNAL OF ECONOMICS
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FIGURE 5 .ANNUAL LANo PruCE lNOEX
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FIGURE 6
GROSS SAVING RATE AND W EEKLY WORKING HOURS
choice. the composition of household expen이ture. and biπh rate etc .. went through important structural changes in the early 1990s (Figure 6). Looking back, with these dramatic ch없1ges in economic fundamentals , 산le early 1990s was the era in which Korea should have started extensive structural reforms in search of a new growth strategy. But it was also at this time that the massive volume of foreign capital started to flow into Asian countries. inclu띠ng Korea.
AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA 254
’ (Unit: Percent of GDP)
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FIGURE 8 INVESTMENT RATIO AND RATE OF RETURN TO INVESTM ENT
giving rise to an over-confidence in Kore와1 economy and over valu ation of the exch없1ge rate. A1암10U방1 단ley became aware of the rising compet피ve threat from China and Southeast Asian countries. instead of searching desperately for the ways to upgrade national competitiveness. the Korean people whiled away their time in
260 SEOUL ]OURNAL OF ECONOMICS
euphoria at their recent economic achievements. Meanwhile , distortions in price system became more serious and
symptoms of macroeconomic disequilibrium began to stand out. The acceleration in the current account deficit in 1996 is one of salient manifestation (see Figure 7). Another import없11 one was the over-investment that emerged in the late 1980s. Figure 8 presents Korea’s total investment ratio and three different estimates of the rate of retum to total investment (Park 2003). It can be seen that Korean economy had been loosing dynamic efficiency since 1989 ,
meaning that the return to investment was less than the investment expenditure. The excessive investment lasted for nine years without any interruption and was only put to an end by the economic crisis.
III. Distortions in the Price System Before and After the
Economic Reforms
Prior to the currency crisis , every one of the core prices , which are realestate prices , wage rate , interest rate , and exchange rate ,
had deviated greatly from their equilibrium leve1s. After the economic crisis , the exch밍1ge rate has returned successfully to a realistic level. In our judgement, the single most important factor of the rapid and solid recovery since 1999 was the sizable depreciation in the won per dollar exchange rate. The cut in interest rates also contributed to the rapid macroeconomic recoveπ and financial and corporate sector reforms were indispensible for the adjustment in the interest rates. But in recent years the interest rates were lowered too far and have been held down for too long, disturbing 삼le adjustment in realestate prices. A new realestate bubble emerged in late 2001 and then expanded 띠gorously until recently. Fin외ly， not뻐thstanding the labor market reforms , we could not find any solid evidence of the a며ustment in wage rate. Wage rigidity in the labor market became aggravated in the post-crisis years.
A. Realestate Prices B얻fore and After the Economic Rξforms
A change in realestate prices effectively redistributes wealth between genera디ons and social classes , either directly or indirectly.
AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA 261
TABLE 1 RATIO OF TOTAL LAND V ALUE TO NOMINAL GDP
Korea Jap없1 U.K. U.S.A.
1985 2.9 1.2 1.1
1986 3 ‘ 7 1.3 1.0
1987 4.7 1.5 1.0
1988 4.8 1.9 1.0
1989 9.03 5.3 1.9 1.0
1990 9.03 5.4 1.6 0.9
1991 8.41 4.7 1.5 0.8
1992 7.32 4.1 1.3 0.7
1993 6.00 3.9 1.3 0.7
1994 5.07 3.8 1. 1 0.6
1995 4.37 3.7 1. 1 0 .6
1996 3.97
1997 3.68
1998 3.24
1999 3.07
Sources: Data for Japan. U.K. and U.S.A.; Korea Appraisal Board (1998). Data for Korea; Kim 하ld Park (2001)
In a country where the pension system is not fully developed. increases in rea1estate pIices could contribute to socia1 stability by securing for home owners and land10rds adequate wea1th to see them through their retirement years. However, hi양1er rea1esta"te prices can 허so impose a huge poten디al economic burden on the young generation.
At the peak of the rea1estate bubble in the early 1990s. tot꾀
land va1ue was slightly more than nine times nomina1 GDP (see Table 1) . For a compaIison , at the pe와‘ of rea1estate bubble :in 1990. 야1e ratio of total 1없1d va1ue to nomina1 GDP in Japan was ~ust’ 5 .4. Even Jap없1. then the foremost leader in m하1ufacturing
produc디씨ty in the world. could not endure that much high land prices and the bubble went bustl This tells us that Korean realestate bubble back in the early 1990s was truly monstrous.6
~eaders should be reminded that the land price of Korea in Table 1 was
262 SEOUL JOURNAL OF ECONOMICS
TABLE 2 OFFICE RENTS AND ÜCCUPANCY COSTS
rentll 때뼈I핑 대피dng 때때ng 때뼈ng 때때ngrar빼ng 때뻐ng (2003.1) (2003. 1) (2α)2 끼 (2002.1) (2001.'끼 (2001.1) (2αXl.끼 (2αXl.l)
Market
2 London
(West End) Toky。
(Inner Central) Iρndon
(City) Tokyo
(Outer Central)
Paris , France
Moscow. Russia
Birmingh없n’
En_g.land Edinburgh. Scotl하ld
Dublin. lreland
Manchester. England
150.86 1
118.04 2
112.91 3
92.74 4
8 1.91 5
64.49 6
63.26 7
62.86 8
60.23 9
60.06 10
Zurich. Switzerland 59.14 11
Midtown Manhattan 57.13 12
Frankfurt, Gennany 57.07 13
Glasgow. Scotland 56.05 14
Mumbai(Bombay) 53.04 15
Geneva, Switzerland 52.49 16
Hong Kong 52.38 17
Milan, ltaly 5 1.74 18
Seoul, South 51.56
5 1. 13
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Madrid , Spain
Luxembourg City. Luxembourg
Source: CB Richard Ellis Global Research and Consulting, Global Market
17
24
Rents (Various Issues). Note: 1) U.S. Dollars , Per Square Feet. Annual.
30
13
18
34
11
25 n.a.
7 8
38
35
34 26
aggregated according to publicly appraised land prices which were not higher than 60-70 percent of market prices in 1990s. Allowing for the underestimation in official apprais외， the total land value. evaluated at market prices. would have amounted to far more than 10 디mes of nominal GDP.
AN ASSESSMENT OF STRUCTlJRAL REFORMS IN KOREA 26;:、
Th.e ratio of total land value to nominal GDP started to decline in 1991 both in Japan (Okina et a l. 2:001) and in Korea. In Korea. the
ratio had fallen back to 3.68 by 1997 from 9.03 in 1990. Durin딛 this time the nominal GDP increased 2.5 times. while the total land value remained almost unchanged. In Japan. the ratio fe11 to 3.7 by 199Ei from 5 .4 in 1990 as total land value dropped by 22.8 percenl
while the nominal GDP increased by 12.6 percent. In light of the fact that ~Japan is still suffering from the aftermath of the bust, i1
may seem at first that Korea’s adjustment to its much more severe realestate bubb1e had been much smoother and more successfu: than that of Japan. In Korea. after a11. the bubble did not bust.
The harmful side-effects of the realestate bubble. however. d iC
not magica11y disappear in Korea. Instead. the bubb1e exercised ε veηr unfavorable influence on the Korean economy in a roundaboul way. By the mid-1990s. the annua1 interest obliga디on of leasing c house in metropolitan areas was much higher than ha1f of the industrγwide average annual salaη. In an economy characterized
by such exorbitant housing expenses. workers wi11 natura11y clemand higher labor payment. The realestate bubble also led tc extremely high office rents and occupancy costs. Immediately before the currency crisis. Seoul was 4tll or 5th most expensive city in the world with regard to ren디ng office space (see Table 2) Furthermore. the high land prices discouraged 야le govemment from
purchasin당 land for development of the social infrastructure. an깅 as a result. transporta디on and delivery costs and warehous t'
charges etc. rose sharply. During the economic crisis. realestate prices went down for th('
first time i.n modern Korea. The economic contraction was so much appalling that the govemment did everything in its power tc,
prevent further decline in realestate prices. fearing that a vicioUE circle of nega디ve growth and declining realestate prices wou1d b('
set in motion. A number of revisions to the tax laws and to rules of policy aclministration were made in order to encourage investments in realestate assets and to promote construction 01 residential buildings. The problem was that these policy measureE were not withdrawn even after the economy had achieved a remarkable recovery in 1999 and 2000. Rea1 economic growth waE 10.9 percent and 9.3 percent during these two years. respectively.
Policy measures which served to sustain realestate prices wer('
maintainecl until the second half of 2002.
264 SEOUL JOURNAL OF ECONOMICS
Composite Index
g
@,
‘
에
Tenement House w
l
까l
에
@
‘ I
’‘ lIi IJ ltI 11) !J) ..., !’ .. ’ “ “ !lI !I W CU I~ rP 10
sø laIIeO'lCJ이-
Detached House
• g
。
‘ 11 ... 'tJ '" " 'lÐ .,. '85 i5 91 ’”‘D IJI lR ‘n - -9IIS ... 。、.... -
Apartments
‘p
..,
".
‘n
g
.，~/ ‘ 11
.. ,
‘‘ ” IG 11 • IÐ !J) ~ 'P 영 91 '1. !)'". 91 t.II 깨 ‘” ’“, '. 9IIS ‘ J!lØtO'\åDfbi“
FIGURE 9
HOUSING PRIcE INDICES (1 995= 100.이
Meanwhile, interest rates beg;하1 to decline signific킹1tly in 앙1e second h려f of 2001 , σiggering a lending boom. More than half of household lending reporte버y made its way into the realestate
market, aw와‘ening the realestate bubble which had been dormant for about a decade (see Figure 9). This time , 야1e new realestate bubble was inflated by housing prices rather than by land prices 없ld rent increased a lot faster 삼1an building prices (see Figure 9 킹ld Table 3).
Al삼lOugh the rate of increase in housing prices has moderated recently, housing prices are s디11 unreasonably high; high enou뱅 to
AN ASSESSMENT OF STRUCTURAL REFORMS lN KOREA 265
TABLE 3 INCREASES OF HOUSING PRICES BY PERIOD
1987.8-1991.4 1998.11-2002.7 Comparison
Sale Lease on Sale Lease on Sale Lease on (A) deposit (B) (C) deposit (D) (C/A) deposit
(D/B) Detached 55.9% 70.6% 5.7% 32.5% 0.10 0.46 house Tenement 86.2% 94.3% 15.4% 60.6% 0.18 0.64 house
Apartrnents 125.2% 10 1.0% 46.1% 91.5% 0.37 0.91
Composite 77.8% 82.0% 27.0% 66.0% 0.35 0.81 index
trigger. sooner or later. a strong demands for higher wages as we had witnessed in the 1990s. Office buil며ngs are also too much expensive yet. As of March 2003. Seoul was ranked at the 19th most expensive city in the world for renting a square foot of offke space. more expensive than Washington D.C .. the Silicon Valley in the San Francisco Bay Area. downtown Manhattan. Chicago. Toronto. Taipei. or even Singapore (see Table 2).
The current realestate bubble must have contributed significantl.y to the economic growth in 2001 and 2002 by encouraging priva1.e consumpUon through the wealth effect. The real growth rate in 2001 and 2002. 3.1 percent and 6 .4 percent. respectively. were higher than those of Korea’s trading paπner countries during 다)e
same period with only one excep디on: China. In the long-run. however. the realestate bubble will not only cause real wage to rise faster than labor productivity. it will 외so bring about higher rents. higher service costs. higher transportation costs. higher delive1Y costs and higher warehouse charges. higher housing expenses and higher li띠ng costs. All of theses developments will serve to erocle corporate surplus as more and more income is allocated outsicle the corporate sector. That the govemment failed to prevent the reemergence of the realestate bubble is extremely regrettable because the benefits of structural reform may come to nau방11 in 야le long-run as a result of it. Without defla디ng realestate bubble adequately. it would be impossible for Korea to achieve a sustainable economic groV\πh in the future.
266 SEOUL }OURNAL OF ECONOMICS
.10
5
35
30
25
20
15
10
0
4 ‘
71 73 ì5 77 79 81 83 85 87 89 91 93 95 97 99 01
- Ia b or p ro duct'I/ , ty + C PI - AII-indust ri es AI/e ra g e G ro wth Ral e 01 Wag e
FIGURE 10
RATE OF lN얹EASE OF NOMINAL WAGE. CPI. AND μBOR PRODUCTlVTIY
B. Wage Rates B닫fore and After the Economic Reforms
Since the second oU shock and up until the mid-1980s, the government pursued heavy-handed income policy to curb runaway wage inflation , effectively discoura밍ng wage increases during 삼lat time. However, as soon as 야le oppressive regulations on labor union activi디es were lifted in late 1987 , nominal wage began to increase at 없1 accelerating rate from the fourth quarter of 1987 onwards. During the 10 years from 1987 to 1996, nominal wages consistently rose more rapidly than the sum of CPI 하ld the labor producti찌양 (see Figure 1이.
Table 4 compares Korea’s per capita gross national income (GNI)
and hourly manufacturing wage with those of the U.S . , Jap따1 ，
Germany, the U.K. , Hongkong, and Singapore. As the table clearly summarizes, since the late 1980s, 삼1e dollar-denominated hourly manufacturing wage in Korea became greater 삼lan or equ려 to those of Hongkong and Singapore, where per capita income was twice as high as 야lat of Korea. A case study poin잉 out that in the mid-1990s , the total labor expenses per worker in one of Korea's leading comp하ùes in heaη， industry sector amounted to 45 thousand dollars a year, which was hi양ler than that of companies producing 삼le same products in the U.S. (Cho 1997).
AN ASSESSMENT OF STRUCTURAL REFORMS lN KOREA 26~l
TABLE 4
GNI AND MANUFACfURlNG WAGE: KOREA VS. Fo앉IGN COUNTRlE:S
U.S.A. Germ윈1Y U.K. Period
Wage(A) GNI田) A/B Wage떼 GNI(B) A/B Wage(.쩌 GNI(B) A/B
1980-87 0.15 0 .13 1.08 0.20 0.18 1.09 0.25 0.25 0.98
1988-97 0.43 0.30 1.42 0.36 0.32 1.08 0.43 0 .43 1.00
1998-2000 0 .40 0.24 1.63 0.33 0.30 1. 14 0 .36 0 .31 1.03
Japan Hong Kong Singapore Period
wage때 GNI田) A/B Wage(A) GNI(B) A/B Wage(.쩌 GNI(B) A/B
1980-87 n.a. 0 .1 8 n.a. 0.82 0.34 2 .15 0.77 0 .34 1.89
1988-97 0.53 0 .24 1.98 1. 10 0 .44 2 .51 0 .99 0 .45 2 .17
1998-2000 0.46 0 .23 1.97 0.77 0.34 2 .25 0.69 0.35 1.94
As Figure 10 shows. the level of nominal wage declined in 199딩 when the Korean economy fel1 into the severe economic recession . The won-per-dol1ar exchange rate also jumped up dramatical1y du디ng 암le currency crisis. A10ng with the value of currency. the dollar-denominated nominal wage and nat10nal income declinecl sharply in 1998. Naturally. from 1998 to 2000. Korea’s ratio of uni r..
wage per hour to per capita GNI declined relative to Hongkong ancl Singapore. but the ratio did not change agalnst Japan or the U. K. .
In fact. it even rose relative to the U .S. and Germany (see Table 4) . This suggests that the hi방1 wages which prevailed for 10 yeanì prior to the economic crisis may not have fully corrected du디ng the pe디od of economic reform. For the four consecu잉ve years. frorn 1999 to 2002. real wages rose faster than labor producti씨양·
Especia1ly. in 2002. the increase in real wages exceeded that of labor producti띠ty by 6.1 percentage points. the widest margin since 1989. Excluding 1989. 삼1is was the widest margin in 24 yean‘ since 1978 (see Figure 11).
Korea has made serious efforts to make the labor market more flexible. The labor laws were amended 없ld firms were allowed “ large scale lay-off as a preventive measure ag며nst outright bankruptcy. But. it is hard to find any solid evidence of improve ment in labor market flexibility. Tradition려 wage set디ng behavior became more rigid after the economic crisis.
268 SEOUL JOURNAL OF ECONOMICS
m
15
10
~
- 10
FIGURE 11
REAL WAGE GROWTH RATE NET OF LABOR PRODUCfIVI1Y GROWfH RATE
The fo11o뼈ng equatlon measures 삼le degree to which nominal wage gro\\πh rate( L7ln(찌아) is affected by the inflatlon rate( L7 ln(PJ) 하ld by ch킹1ges 1n unemployment( L1 ln(Ut)). The ra디o of coefficients in this equatlon, - a /β ， indicates how much unemployment rate needs to change in response to changes in the inflation rate in
order to preserve 야le nominal wage growth rate (Bell 1986).
L1 ln(Wt) = a L1 1n(Pt) + β L1 ln(Ut) + e!
If a is estimated to be bigger than β in absolute terms , we c윈l
interpret that the nominal wage responds to the inflation rate more sensitively than to changes in unemployment.7 Equivalently, we can say that 야le nominal wage setting is more favorab1e for preserving real income, regardless of changes in labor market situation. Table 5 summarizes estimation results of the wage equation when Korean quarterly data are used.
The table indicates that wage ri명dity during 야le period from the fourth quaπer of 1987 to the end of 1993 (see Figure 1 이 was significantly stronger than in 삼le pre찌ous pe디od. From 1994 to the
7Theoretic려ly. 야le coefficient a must be pos띠ve 없ld the coefficient β must be negative.
AN ASSESSMENT OF STRUCTURA1‘ REFORMS IN KOREA 2‘,9
TABLE 5 RESULTS OF WAGE EgUATION ESTlMATION 11
estimatlon 디밍dity L1 ln(P) L1 ln(이
rigidity period
p u parameter par킹netεr
198OQ1 1.06541 -0 . 18938 5.63
0 .63082 -0.10153 6 .21
-87Q3 (1 2.3037) (2.94177) (2.29419) (3 .51186)
1987Q4 2.35674 0.02465 n.a _21
1.33892 -0.15031 8.91
-93Q4 (1 6.5270) (0.31497) (1 .96026) (2.56542)
1994Q1 2.08500 -0.05035 4. 14
0 .85284 -0.15310 5.57
-97Q4 (13.5273) (1.25908) (0.88653) (2.09426)
1998Q1 1.97376 -0.131728 14.98
1.93735 -0.17085 11.34
-03Q1 (24.3262) (4.80659) (40.9243) (5.93642)
Notes: 1) Rate of increases used on the right hand panel are compared with pre띠ous quarter. on the left hand panel. quarter on quaπer.
t -values are in parentheses 2) During 삼11s pertod. coefficient of the rate of increase of unemploy
ment (u) was estimated to have a wrong sign without any statistical significance.
00 ~흐←L으
‘0
30
~ :0
10
-'0
‘ 、_.,.
、 , v
7 1 13 76 77 7‘”’ u ~ ~ u ~ ~ H n ~ ~ ------------- .----Co.‘’ n •• 1I0n 0 1 Errø~r ••• - - Oø. ,. L.r1g Sur에"' --11.ι00“ "'(101‘’
FIGURE 12 GROwrH RA.TE OF NI. OPERATING SURPLUS. LABOR COMPENSATION
end of 1997. wage rigtdity was rnoderated sornewhat. but it became
aggravated dr하natica1ly since 1998. The wage setting behavic r
which prevailed during the pe디od of realestate bubble retumed and
270 SEOUL ]OURNAL OF ECONOMICS
was actually more severe. n야withstanding the economic crisis and the labor market reforms. The cyclic외 recession in 2001 was such a relentless blow to the business sector that opera디ng surplus declined as much as it did in 1998. the crisis year. But labor compensation continued to grow 찌gorously (see Figure 12). so the corporate sector faced yet another profit squeeze (see Figure 2).
C. Interest Rates Bξfore and AJter the Economic R，앙orms
In Korea. domestic interest rates had been much higher through most of its recent history than intemational rates (see Figure 13). The total volume of corporate debt was also very large. and therefore. corponite financing expenses were inordinate compared with sales (see Figure 14). Although the ratio of opera디ng income to total assets was reasonably high (see Figure 15). ordinary incomes after financial expenses were megere (compare Figure 16 with Figure 15). This implies that a dominant proportion of operating income was going towards financial expenses. Figure 17 and Figure 18 show opera디ng income to sales and ordinary income to sales of manufacturing industries in the U.S .. Japan. Taiwan. and Korea. Figure 19 and Figure 20 compare those countries’ ratios of operating income and ordinary income to total assets in their manufacturing sectors. We can see that Korea’s opera디ng income relative to sales 없ld total assets was the highest but that the country’s ordinary income relative to sales and total assets had been the lowest.
Entering the second half of 2000. domestic economy fell into another recession as a result of the world-wide slump in the information and technolo잃T índustry. Export growth rate fell down lower 야lan - 20 percent for July and August in 2001. and the recessíon was exacerbated by the September 11. 2001 terrorist attack in the U.S. As a counter-cyclical measure. the Bank of Korea lowered the target call rate on a number of occasions. bringíng it down from 5.25 percent in January 2001 down to 4.0 percent ín September 2001 (see Figure 21). When household len며ng boom (see Figure 22) became conspicuous 밍ld realestate bubble was 띠gorously exp킹lding. the B밍lk of Korea raised the call rate by 0.25 percentage points in early May in 2002. Since then. the call rate had been maintained at 4.25 percent for the following twelve months during which household debt mounted to 밍1
AN ASSESSMENT OF STRUCTURAL REFORMS lN KOREA 271
‘s
‘(/
’5
'0
5
’i , .' .、. ... ‘ .. . .. " ‘
‘ . . ...... . . ..
‘ , . " v
’>
7' 74 77 80 83 e6 B9 92 95 98 /)1
----Man비actu(lno ElocltlClIy. Û3S and 잉eam
----Conslruchon - - - - YvtIolasal~ ðrl이 RI>’811 Irat1<' - - _ .. ‘ .. - "ran!ìoon Businoss ÐcI'VlCO ----Aecrea!lon. CU" Ur(! ond soα15
FIGURE 13 INTEREST EXPENSES TO BORROWINGS AND BONDS BY INDUSTRY
? l- .. • 、/ .' 、• . '
a
6
ε
0
8. 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 0 ' 02
- Manufac{urfng • Elec!(lcl’V. G" and S!earn ----ConstwcIlOI'l - - Wh미esale and Ae!헤 Trad I - - - - rransDor ‘ ----- Buslness Scr\'lce I
l ---- RecrealÎon , Cultu rø Bnd Sports
FIGURE 14 F'INANClAL EXPENSES TO SALES BY INDUSTRY
272
24
20
16
12
8
0
-4
- 6
::>4
20
16
12
8
0
- 4
- 8
- 12
SEOUL JOURNAL OF ECONOMICS
71 13 75 77 79 61 63 85 87 89 91 93 95 97 99 01
-Man비aCluflng -‘- EJ&ιII IClly. Gas and Sleam - ConstruclIon - - Whotesale and AOla,J T'ode - - • .Trans∞" ---Buslnoss SOrVlCO - RecreSllon, Cullωe and 5oo!!s
FIGURE 16 OPERATlNG INCOME TO TarAL AsSETS BY INDUSTRY
\1
71 73 75 77 79 61 63 85 87 89 91 93 95 97 99 01
----Manuf acllr.ng ’ ----Consl'κtoon - - - . Transporl
___ Eleclricily , Gas and Steam
- - Wholesale and Rela.1 Trade ----8usiness SerVIC4:!
---Rα1잉lion. ClAl lSe and Soorts
FIGURE 16 ORDINARY INCOME TO TOTAL AssETS BY INDUSTRY
AN ASSESSMENT OF STRUCTURAL REFORMS lN KOREA 273
16
1 4
1~
10
6
0
10 12 14 76 78 80 82 8‘ 86 88 90 92 9‘ 9b 98 00 02
1
’ ----u S A ___"_~Iapan Ta lwan ----KOfea I
FIGURE 17 OPERATING INCOME TO SALES IN MANUFAcruRlNG INDUSTRY
16
14
17
， 。
8
6
2
0
-;:>
70 72 74 76 76 80 82 84 66 86 90 92 94 96 98 00 02
U.S.A‘ • J aDa l" - Talw an ----Ko’ ea
FIGURE 18 ORDINARY INCOME TO SALES IN MANUFAcrURlNG INDUSTRY
274
16
14
12
10
8
6
2
0
16
14
12
10
8
6
4
2
0
-2
SEOUL JOURNAL OF ECONOMICS
70 72 H 76 78 80 82 84 86 88 90 92 94 96 98 00 02
U.S.A Japan ----Ta.wan ----I<oroo
FIGURE 19
üPERATING INCOME TO TOTAL AsSETS IN MANUFACTUR1NG
m n ~ ~ ro ~ ~ M æ æ ∞ 92 94 96 98 00 02
lJ SA ---+-Japan - Tarwan ----Kotea
FIGURE 20
ORDINARY INCOME TO TOTAL AsSETS lN M.ANUFACTUR1NG
AN ASSESSMENT OF STRUCTURAL REFORMS lN KOREA 27;:;
enormous size and rea1estate bubb1e inflated by overflowin당
short-term funds , almost risking socia1 solidarity.8
The Bank of Korea‘s decision to maintain the cal1 rate at such a 10w 1eve1 was hard1y persuasive because the rea1 economic growth rate in 2002 recorded a solid 6.3 percent. In JanuaIγ 2003. another recession arrived and the Bank of Korea lowered the targe • call rate 1wice in May and July 10 3.75 percent. Short-term ancl 10ng .. term interest rates followed the downward path of the call rate (see Figure 21 and Figure 23).
As Figure 13 disp1ays , interest expenses of c(πpora디ons a1so contJnued to decline untJl recen t1y. Since the economic crisis corpora디ons were forced to reduce debt level 윈ld recently the tota: debt ratio of the corporate sector has recently fal1en to rough1y the same 1evel as in the U.S. As the debt ratio declines , and also reinforced by declining interest rates , the ratio of ordinary income to sales rose to its highest in 2002. Comparing Figure 18 with Figure 17 , we can see that the ratios of ordinary income to sales
and to total assets dramatically improved in 2002 , while the ratios of operating income to sales and to total assets did not exhibit any significant improvement from the pre띠ous year. The difference is , 01 course , due to the dramatic reduction in non-operating expenses ,
the bulk of which were obviously interest e)φenses. While the govemment largely failed to control real estate prices
and wages in recent years , it seems to have accomplished lowering interest rates very successive1y. However , the rates have been 10wered too far and have been held down for too long ruining the task of controlling realestate prices and wage rates. Interest rates are 80 10w that they have actually helped fuel the rise in real
estate prices and wages. Table 6 estimates the simplest form of caus써ity from interest rates to real estate prices. It tums out that decreases in interest rates acceler앉ted the rise in housing prices from Ju1y 1999 to Apri1 2003 , the period when the current
8In late 1980s, when the realestate bubble was expan띠ng violently, 야le govenlment legislated a new tax law to restrict propeπy right on land and residency buildings depending on type of use , location , 따ld size. Criticism burst out that the new law did not fit with the principle of capitalistic constitution of Korea. The govemment. however, enforced the law arguing that it was to be deemed as a cost to stabilize and maintain democratic capitalis디c society. The constitutional court of Korea judged in late 1990s that the law does not accord with the constitution.
276 SEOUL ]OURNAL OF ECONOMJCS
8 여하
7 ∞ l‘ .. _‘ .. , r -.、
;뿔:$헥$헥{ rr「「μ-、、~、、，펙--6뼈% r L U ‘Slays r ↓녕‘
5 ∞ f i 써f'J’‘1‘ 페 }L눠‘카-t ~“감섣침산jLζ씨씻‘;피섯:직、:、、‘、. ’깐섣는섣꾀펀꽉?F핀，낭_A'션;L뇨χL‘아낀‘ 섹f 、찬 ~써4;jj -j“」」:
5.0。
4.50
4.00 •
3.50 ...
00.1 3 5 7 9 11 01.1 3 5 7 8 9 11 02.1 3 5 7 9 11 03 ’ 3 5 7
(Q.O.Q, ~
55 r ..... ‘--%
45
40
35
30
25
20 15
10
5
0 -5
- 10
- 15
FIGURE 21 SHOR1‘-TERM lNTEREST RATES
æ ~ 00 00 ~ 00 W 00 이 02 03
FIGURE 22
REAL GROwrH RATE OF HOUSEHOLD L END1NG (BANK1NG SECI'OR)
AN ASSESSMENT OF STRUCTURAL REFORMS lN KOREA 277
TABLE 6 EFFECT OF INTEREST RATE ON HOUSING PruCE INDICES1l2131
Period βl )'1 ß2 1'2 ß3
1999:07-2003:04 0.841 -0.295 0.846 -0.169 0 .839
(0 .000) (0.037) (0.000) (0.144) (0.000)
2001:07-2003:04 0 .836 -0.751 0.854 -0.545 0.840
(0.000) (0.027) (0.000) (0.044) (0.000)
Period ~1 ηl ~2 η2 ~3
1999:07-2003:04 0.814 -0 .450 0.817 -0.246 0.813
(0.000) (0.032) (0.000) (0.1551) (0.000)
2001:07-2003:04 0.799 - 1.041 0.813 -0.734 0 .802 (0.000) (0.043) (0.000) (0.075) (0.000)
Notes : 1) TotaJt = βlTot려(- 1 + 1'1 L1 DRt. TotaJt = ß2TotaJt 1 + y2 L1 CBYt. To떠1， = β~TOtaJ( - 1 + 1'3 L1 LRt. Aptt= ~IAptt 1 + η l L1DRt.
Aptt = ~2Apt(- 1 + η2 L1 CBYt . Aptt= ~JAptt 1 + η'3 L1LRt.
1'3
-0.290 (0.040)
-0.831 (0.016)
η3
-0.459 (0.029)
- 1. 175 (0.025)
2) TotaJ denotes 와l-city composite index (see Figure 9) , Apt denotes 려l-city apaπment index. DR is the weighted average of deposit rates at commerciaJ banks. CBY is three year corporate bond yie1d. 없ld I.R denotes the weighted average of 10an rates at commerciaJ banks.
3) Numbers are estimated vaJu es of coefficients and p-v려ue of each parameters are in paren삼lesis.
(~ 10.80 -
6.80 ' /
、LV""'.;\.‘
OebenlUfes(' yr)
5.80
4.80 •
3.80
corp Bon에3yrs)
Na뼈n퍼 l-busir、gBαld(5yrs)
GovOlTYπnlBα、이3yrs)
00.' 3 5 7 9 11 01.1 3 5 7 8 9 , 1 02.1 3 5 7 9 11 03.1 3 5 7
FIGURE 23 LoNG-TERM INTEREST RATES
278 SEOUL }OURNAL OF ECONOMICS
realestate bubble emerged 하ld expanded (see Figure 1이 . If we restrict the estimation period to the shorter time interval during which interest rates fell sh와ply， Le. , from July 2001 to April 2003 ,
the coefficients of interest rates in the causality equation are estimated to be larger in absolute terms and to be more sta디stically significant.
Interest rates in Korea , prior to the economic crisis , were too high. A sizable decline in interest rates was required to improve the profitability of the corporate sector. Corporate sector reforms forced business firms to begin paying down their enormous debts and helped lower the market interest rates by easing the traditional excessive demand for loans 밍ld bonds.9
An effective macroeconomic policy approach to lowering nominal interest rates would have been lowering the inflation rate. However ,
since the second half of 2001 onwards , the decline in interest rates was mainly driven by the declining target call rate. To be sure ,
lower interest rates were called for in 2001 , as one of macroeconomic stabilization policy measures. The problem was that the call rate was maintained at such a low level throughout 2002 ,
when the real growth rate rose to 6.4 percent from 3.1 percent the previous year.
Meanwhile , the Bank of Korea did not 핑ve any reliable sign려
that the interest rate could be raised some 디me in the future , and consumers and investors felt assured of their expectations that interest rates would remain low for a long period of time. This led to an explosíve increase in demand for consumer loans , and financial institutions extended loans to households very aggressively because they were locked ín overheated compe디디on to preseπe
their shares of the consumer loan market. What ís more , the financial supervision agency did not apply rigorous standards of financial soundness to the financial institutions until the end of 2002 because it implicitly cooperated with the govemment in stimula디ng the economy as much as possíble. As a natural consequence , household lending íncreased at an alarming rate (see
9Moreover, as the task of fiscal consolidation was accomplished well ahead of schedule. the consolidated central govemment balance tumed to a surplus of 1.08 percent of nominal GDP in 2000. from a deficit of 4.2 percent in 1998 and a deficit of 2.7 percent of GDP in 1999. Consequently. the supply of govemment bonds shrank sharply in 2001 , contribu디ng to lowering long-term interest rates.
AN ASSESSMENT OF STRUCTURAL REFORMS lN KOREA 27~’
(%) :ID.O :nl.0
’EKl.O 250.0 ’60.0 -. .
‘ ·
’:20.0
. -- . … … ” “ ” --1400 ‘' .. - :ID.O
100.0 ISJ.O
æo
‘ 11 ‘--100 0
600
40.0
200 I --를 • 녁-- • 0 0
1!llO 1991 1 잉;J2 1잊l3 1잊)4 1잊15
____ GovO,nrrenl SeC1Of(L) --Pubhc Enle,pnses(L) •••••• • Pnvale Enle,pr,ses(L)
-→←-In이씨ωal Seclα(L) __ DomJs~c SutHotal(R)
FIGURE 24 FINANC버L DEBT/ GDP BY SECTOR(FLow OF FuNDS)
Figure 22) . Along wi삼1 삼1e explosive increase in household len띠ng. 야1<:’
composition of sectoral debt has changed signific킹ltly. Figure 24 displays the total and types of financial debt relative to nominal GDP since the 1990s. From 1998 to 2002. the ratio of total domestic debt to nominal GDP rose by 2 .0 percentage points. Thε government debt rose 4.0 percentage points because the central government ran sizable budget defìcits in the several years followin딛 the economic crisis. Owing to the corporate sector reforms ‘
corporate debt declined by a remarkable 19.8 percentage points o:f nominal GDP. The debt-to-GDP ratio of public enterprises declined by 5.2 percentage points during the last five years. 3.6 percentage points of which occurred in 2002. Financial debt of privatε
individuals. however. rose by tremendous 23.1 percentage points αr GDP. 20.4 percentage points of which occurred during the last twc’ years. 2001 and 2002. While household len띠ng increased at an alarming rate. a significant proportion of the loans was reportedly extended without rigorous credit screening. The number of credil; deliquencies rose to 2 .6 million by the end of 2002. and then to 3.2 million by the end of May 2003.
280 SEOUL }OURNAL OF ECONOMJCS
D. Exchange Rate Bξfore and Ajter the Economic Rξforms
One of the most important factors which forced the Korean economy into the cuπency crisis was the shortage of foreign reserves. Prior to the currency crisis. there had been a current account deficit for m뻐y consecutive years. draining the stock of foreign reserves (see Figure 끼. At the beginning of 1997. foreign reserves totaled about 30 billion dollars. which could afford commo버양 imports for only 2 months and 6 days. 1O The overvalued exch없1ge rate was the key cause of the chronic balance of payments deficit. although this point remains controversial in the academic arena.
The Jap밍lese yen depreciated by about 40 percent from the second quarter of 1995 to the third quarter of 1997. During the same period. the Korean Won depreciated by only 18 percent. and. in terms of the real effective exchange rate. it appreciated by 8 to 9 percent (see Figure 25). Both the Chinese govemment's massive one-time 50 percent devaluation of the yuan in the first quarter of 1994 and the energe디C허 increase of Chinese share in Korea’s trade volume in the 1990s should have exercised a significant influence in this apprecia디on.
It should be noted. however. that the overvaluation of the Korean won was not the only factor which can account for the current account deficit in the mid-1990s. The deficit can also be attributable to a huge deterioration in the terms of trade which occurred abruptly in 1996. The terms of trade fell by 4.6 percent in the first quarter of 1996. and then by 12.1 percent in the second half. y.o.y. (see Figure 26). In the mid-1990s. Korea’s five leading export products (semiconductors. iron 밍ld steel. petrochemicals. automobiles. and ships) accounted for more than half of Korea’s total expoπs. And the intemational prices for all of these five types of products dropped simultaneously in 1996. The decline in p디ces for semiconductors alone caused a staggering 10-billiondollar decline in exports. which amounted to 44 percent of the total current account deficit in 1996.
Back in the mid-1990s. the Korean exchange market was not fully opened yet. so it was difficult to determine the correct relative value of the Korean currency. Accordin밍y. the exch와1ge rate could
lOForeign reseπe at the end of 2002 c없1 afford imports for 9 months 없ld 18 days.
AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA 2Hl
1800 2∞
1600 180
14∞ 160
120J 140
1αp 120
1∞ 800
80 600 60 400 40
2∞ 20
0 0
1980 1981 1983 1985 1987 1잃8 1990 1992 1994 1995 1997 1999 2001 2002
10 40 3Q 2Q 10 40 3Q 20 10 40 30 20 10 40
'MlI1/doIlar rate (U - ræl sfoctive e<<:tenge rate (R)
FIGURE 25 NOMINAL AND REAL EFFECTIVE EXCHANGE RATE OF KOREA
(unit: %. q .o.q .)
:3)
15
10
5
0
-15
- :3)
FIGURE 26 RATE OF CHANGE lN THE TERMS OF TRADE (COMMODlTIES)
282 SEOUL ]OURNAL OF ECONOMICS
not have adjusted flexibly enough in reaction to the abrupt and dramatic changes in the intemational prices of export products 잉ld
in trade partner countries' exchange rates. Since 1999. after the over-shooting in exchange rate subsided.
the Korean won has fluctuated at an average rate of about 1.200 won per dollar. At the extremes. it has touched nearly 1. 100 and 1.350 (see Figure 25). An exchange rate of 1.200 won per dollar implies that the Korean won has been depreciated by about 50 percent compared with the pre-crisis pe디Od. 11 The real effective exchange rate shows a depreciation of about 22 percent compared with the rate in 1995-6. even higher than the rate prevailed during the “ three-low boom" period (see Figure 25).
The exchange rate. after all. has retumed to a realistic level. It is interesting to note that three countries in East Asia have successively depreciated their currencies by about 50 percent. After China’s surprising one-time 50 percent depreciation of the yuan. the Japanese yen depreciated by 40 percent over a period of two and a half years staπing in the second quarter of 1995. Since the Korean won 띠d not adapt itself to these changes promptly. it was forced to do that via 삼le currency crisis situation in late 1997. After the currency crisis. the Korean won is depreciated roughly by 50 percent compared with the pre-crisis period.
Figure 26 shows that the deterioration in the terms of trade since the fourth quarter of 1999 was more serious in its duration and its depth than the one that occurred in 1996. This time. nevertheless. the current account balance remained a sizable surplus in the following years thanks to the big jump in the exchange rate. The sufficient exchange rate depreciation brought by 야le currency crisis has been one of the kemel sources of economic growth during the last five years.
IV. Lessons for Economic Reviva1 in Japan
The persistent Japanese economic recession in itself has aroused cu디osi양 among economists for many years. and long lists of diagnoses and prescriptions have been suggested by foreign scholars. foreign govemment officers 하ld staffs from intemational
llThe 밍lnu외 exchange rate in 1996. one year before the onset of the currency crisis. was 803 won per dollar.
AN ASSESSMENT OF STRUCl'URAL REFORMS IN KOREA 283
economic organizations. ln most cases , their diagnoses were reasonable , but we should recall that their prescriptions may not be the rilght answers to the problems that Japan is currently facing. 12 The most typical examples are su똥es디ons regarding Jap,ill’s macroeconomic policy. It is evident by now that the expémsionary fiscal and monetary policies in the past did little to revive the Japanese economy. These policies might actu떠ly have made Japan’s economic problems more difficult to solve. Since no other countrγ in the world has ever suffered the s밍ne kind of recession as Japan has , we believe that only the Japanese are in a position to ascertain the ultimate causes of their chronic recession and prescribe the right solutions for it.
What implica디ons can we deriv당 from the Korean experience in structural reform during the last fìve years7 The structural reform in Korea could rectify the distorkd price system which drove th컨 country into the economic crisis to the extent that a startling recovery ensued right after the cri.sis. At the very least, corporate debt will no longer build to such extreme levels and bring about the same kind of financial crisis.
From t:he macroeconomic perspec디ve ， however , the structural reform in Korea is incomplete yet. The distortions were remedied only pa띠며ly and some of them were even aggravated. And we have yet to find any reliable evidence to believe that the structural reform has improved efficiency in resource 머location significantly enough to permit sustainable gro\\πh 1 3 as promised in the literature (Alex밍lder et aL 1997) . πlis experience h1방llights that chief targets of economic reform should be identified correctly in the first place. Otherwise , after hassling with its unpleasant and painful aftermath ,
야le refonn would fail to eliminate the very causes that forced the nation to carry it out.
Although Japan has been working on financial reforms for more than a decade , there still remains , allegedly, a huge amount of non-performing loans in the banking sector (Callen 밍ld Ostry 200~‘). The slow progress of the financial reform is looked upon as the very obstacle to Japanese economic revival , especially when
l2It took several ‘years’ for them to recognize and admit their mistakes in their policy recommendations for Korea and other Southeast Asian countries.
l3That was what all of Korean people en띠saged when they endured paim; from the aftermath of the reform.
284 SEOUL JOURNAL OF ECONOMICS
compared with Korea’s post-crisís performance. There ís. of course. pervasíve evídence that the adverse ímpact of the decline ín asset prices was magnified by the faílure of financíal system ín the early 1990s (Bayoumí 2001). However. the breakdown of financíal system may not be the one and only source of Japanese persístent recessíon. If other factors than the financial system f;없lure were also behínd the chroníc recessíon. it would be hardly persuasíve to argue that economíc vitalíty would be restored πght away 야le
comple디on of fínancíal sector reform.
A. A Chronology oJ Japan's Prolonged Recession and Its Implications
The character of Japanese chroníc recessíon ís very dífferent from and more complicated than that of Korea’s economíc crísis. The be밍nníng of the Japanese economíc dífficulties can be traced back to the mid-1980s. Since the Plaza Accord in 1985. 삼le Japanese yen underwent a truly massive currency apprecia디on. By the second quarter of 1995. the nominal exchange rate had declíned to 84.4 yen per dollar. exactly one thírd of 250.7 yen per doll하 ín 삼le
second quarter of 1985 (see Figure 27). During the three years from the second quarter of 1985 to the second quarter of 1988. the exchange rate appreciated 50 percent from 250.7 yen per dollar to 125.6 yen per dollar. Consequently. 삼le ra디o of net exports to GDP declíned 2.7 percentage points ín five years from 3.9 percent ín 1984 to 1.3 percent ín 1989.
In response to the large scale exchange rate shock. the Jap밍lese
government stimulated domestic economy 삼1rough an expansionary monetary policy. The official díscount rate was cut by half from 5.0 percent ín December 1985 to 2.5 percent in March 1987 and was maíntained at 2.5 percent for the next two years (see Fígure 28). The result was more than offsetting the adverse impacts of the currency shock. The ratio of total investment to GDP rose by 4.8 percentage points from 26.6 percent in 1985 to 31.4 percent in 1990 (see Figure 29). And the average real GDP growth rate from 1986 to 1990 recorded 4.9 percent. much hígher than 3.3 percent from 1981 to 1985.
Unfortunately. however. for the Japanese. however. the asset príce bubble emerged and expanded 찌gorously in the meantime until ít
went bust by 1991 (Okina et al. 2001). Along with the burs디ng of
AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA 28,:;
4()()
350
300
250 '
XlD i
150 ,
50 '
0 70 η N ffl M 00 ~ ~ ~ 00 00 ~ ~ 00 00 00 æ
FIGURE 27 QUARTERLY YEN PER DOL나R EXCHANGE RATE
14
8
6 '
‘ -2 •
O ‘ . ' ". … ............... ,.,., ...... , •• ".,. ..... .0.] ...... , . .... " •••.• ，‘uι‘“‘
19801.1 1 19821.1 1 ’ 984 1.1 119861.11 19881.1 119901.1 1 19921.11199‘Ml ’ 996M 1 19981.1 1 20001.1’ 2002MI
--01프잎NT RATE (태o OF PERI。미 ---CALl 펀뀔헐
FIGURE 28 MONTHLY CALL RATE AND OFF[C때L DISCOUNT RATE OF JAPAN
286 SEOUL JOURNAL OF ECONOMJCS
“‘ ”*
ti
$
g
a
3i
3
2i
05
∞ dl 8)많 81 æ æ 잉 æ 91 g;영Q) æ 8)많 81 æ æ 잉 æ 명g; !B Q) æ
三포률펀렘 -TC1ð~
FIGURE 29 GDP RATIOS OF NET EXPORTS AND TOTAL lNvESTMENT lN JAPAN
the bubble. the financial system broke down and Japanese economy fell into a recession in 1992. The official discount rate was lowered aggressively from 6.0 percent in June 1991 to 1.75 percent in October 1993. It was almost ineffective, however, for S디mula디ng 삼1e economy because the function of financial intermediation was not rehab피tated. The Japanese economy could bottom out in October 1993, but the subsequent recovery was extremely slow and the average real GDP growth rate from 1994 to 1995 was 1.3 percent.
The proposition that the lirnited progress in financial reform is the cause of Japanese economic sluggishness seemed well justified in the early 19905. Since the mid-1990s , however. the failure in rehab피tating financial system was no longer the central element of the prolonged recession. Not only large Jap없1ese firms completed their shift away from bank loans by 1990 (Hoshi and Kashyap 1999), sm려1 firms 외so could finance their investment pr애ects by their own gross corporate sa띠ng and fmancial assets from 1993 onwards (Hayashi 없1d Prescott 2002). Above 려1， financial investment abroad by Japan sharply rose from 1995 to 1997 (see Figure 3이 and surged into Asian countries inclu며ng Korea. which was a strong counter evidence of the view that the lack of credit supply restricted demand for funds in Japan throu땅lout the 1990s. Moreover. in explaining the extreme slow recovery in 1993 and 1994, Ito (1996) argues that the nega디ve effect of currency apprecia디on was more preponder없1t than the breakdown of financial intermediation.
AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA 28'7
(띠t: tril. YEr1) ro f
ro
40
20
O! /、 ‘ .....
~ ~ æ ~ææ ~ ææro ~ æro~~rew
-20
‘ 10
-6J
--~ " ._.' _ ~ ~ __ --1r-__ _ P-t:ItIdk! 야S
FIGURE 30 INTERNATIONAL INVESTMENT POSITION OF JAPAN
(UOlt‘ 닝효쁘，l_ 140
120
100
80
40 ' ~‘"，-y /' !
20 Lμμ*ι니 |
FIGURE 31 EXPORTS AND IMPORTS OF JAPAN (F.O.B.)
288 SEOUL jOURNAL OF ECONOMICS
By the mid-1990s. a new sort of obstacles to durable economic re찌V외 seem to have emerged. From 1995 onwards. Japanese exp야ts stopped its traditional increasing trend (see Figure 31). And it could be ascribed to the accelerated trend of overseas produc디on of Jap따lese manufacturing firms. Developments such as the burs디ng of the bubble economy. concems about the b없lking system. technological innovation related to telecommunication 없ld the escalation of 맹obal compe디디on were 외lege버.y responsible for the increase in overseas production (Development Bank of Japan 1996). However. the sharp appreciation of the Japanese yen from 155.3 yen per dollar to 84.4 yen per dollar during the five years from the second quarter of 1990 to the second quaπ.er of 1995 must have been the critical source of the explosion of overseas production in the mid-1990s.
In 1995. the official discount rate was lowered from 1.75 percent in March to 0 .47 percent in October. and a large scale public expenditure program was passed in autumn. Although these attempts were useful for improving corporate profitabilities. they were not able to stimulate the domestic economy as a growing number of manufacturers were investing abroad due to the strong yen. Meanwhile. the trade volume with Asian countries had increased sharply. so the currency crises in those countries in late 1997 was a smashing blow especi외ly for Japan. The Japanese econoiny fell into a recession in 1998. the second time in the post-bubble era and the financial crisis reoccurred. Furthermore. a persistent deflation began to enervate the Jap와lese economy. Following the world-wide slump in the information and technology industry which occurred in the second half of 2000. 밍lOther
recession arrived in 200 1, the third time in the post-bubble period. The chronology of Japan’s prolonged recession we presented
above persuades us to harbor doubts about the popular view that financial reform is the sufficient condition for a durable recovery in Japan. Financial reform is no doubt an indispensible task for reviving the Japanese economy. but the breakdown of financial system may not be the one and only source of Japanese persistent recession. Although 삼le problems with the Japanese economy. such as large non-performing loans. inadequate fiscal p이icy. 납le liquidity trap. deflation. massive currency appreciation etc. are closely interrelated with each other. financial reforms alone may not automatically solve 허1 other structural problems. especially if the
AN ASSESSMENT OF STRUCTURAL REFORMS IN KOREA 289
reforms are of a kind that carried out in Korea during the last five
years.
B. Concluding Remarks
In retrospect. momentum of economic growth of Korea cou:.d
resume just as soon as 단le exchange rate adjusted to a realistic
level. The sharp decline in interest rates also contributed trernendously to the economic growth in the post• crisis period. 14 In
contrast. it is hard to identifY correctly which particular macroeconomic variables are responsible for the Japan’s lost decade.
Furthermore. even if we succeed in idenUfYing the target variables.
it is not easy to draft a structural reform agenda for adjusUng
effectively the identified target variables. Considering recent
Japanese market interest rates and the level 0아f g망overnme앉n따t budg，~
deficit a없n띠d so forth. macroeconornic variables may perhaps be
irrelevant to reviving Japanese economy.
In order to accomplish a durable recovery. we suggest that Japan ’s economic reforms should be directed to improving produc디vity (Porter et a l. 2000: and Hayashi and Prescott 2002).
Especially. Ito (1996) argues forcefully that the tradiUonal slow
productivi양 growth in nontradable sectors. such as construction and retail senηces. was responsible for the rapid real appreciation in the Japanese yen. We can easily deduce from his analysis an
irnportant policy recornrnendaUon that Japan should try to encour
age productivity growth in nontraclable sector rather than to pile up
foreign reseπes in order to de외 with exchange rate problems. V.'e
believe that this recommendation applies also to Korea. Before conclucling this paper. let us suggest one more policy
recommendation regarcling the problem of population aging. Figure
31 presents one of recent long-term forecast for Korea’ s real GDP growth rate through 2030. Thi딩 figure is excerpted from Park
(2000) for which he built a large-scale annual macroeconomic
model for the Korean economy. The figure predicts. surprisingly.
14The average nominal exchange rate during 야le post-crisis period from 1999 to 2003 is 1.214.3 won per dollar. 52 percent higher compared with 800.6 won per dollar in the pre-crisis pe디od from 1992 to 1997. The adjustment in interest rates is also impressive. The average corporate bond yield (3Yrs) during the post-crisis period is 7.7 percent. 43 percent lower than 13 .4 percent in the pre-crisis period.
290 SEOUL JOURNAL OF ECONOMICS
""""
IIXIIXI
IIXIIXI
/
‘=
:mm
... '"r:D3:mU1l JXI 2J'l’ ZlII) 3)15 >>11 :1)1, æ m am :aU 0:잉
I ... g •- "“ a:Þ I
FIGURE 32 A LoNG-TERM FORECAST FOR REAL AND POTENTIAL GDP OF KOREA
(I'ruLLlON WON)
that Korea's rea1 GDP is likely to contract starting in 2022. In his report. Park (200이 argues that fiscal exp밍lsion 킹ld monetary expansion whatsoever turned out incompetent to reverse 야le
declining trends of re외 GDP since 2020s. 2020 1s 야le year by which 삼le 이d-age dependency ratio of Korea will reach 20 percent. and the size of population aged between fifteen to sixty-four will begin to decline. As the greying of the popula디on becomes pronounced. p디vate consump디on declines. the current account surplus rises. the exch하1ge rate appreciates. and the inflation rate declines throughout the entire decade of the 2020s. This situation seems qualitatively sirnilar to that of Japan ’s macroeconomy today.
In 1990. 삼le old-age dependency ratio of Japan reached 20 percent. and the size of population aged between fifteen to sixty four beg하1 to decline. Figure 32 suggests that the problem of aging population might be one of the ultimate sources of Jap하1’s chronic economic slumpS.15 Unfortunately for the Japanese. 삼le a sset bubble
1 5y와‘.e note that Tumer et 0 1. (1998) also predict that. owing to population aging. per capita real GDP in the U.S .. EU. and Japan will decline by 10 percent. 18 percent. 뻐d 23 percent respectively by 2050.
AN ASSESSMENT OF STRUC1'URAL REFORMS IN KOREA 291
might have happened to burst at precisely the moment - the early 1990s - when the aging of the population began to exert significan t ne왕띠ve effect on Japan’s macroeconomic performance.
Beyond the task of financial and corporate sector reform , Japan certainly has additional challenging tasks: Japan has to deal with the aging popula디on 밍ld the low productivity in nontradable seπice sector. These additional tasks would not be easy to accomplish. However , the Korean experience in structural reform during the last five years manifests that determined efforts should be made to tackle these tasks. Otherwise , Japanese economy wil1
be exposed to economic difficulties recurrently.
(Received 29 October 2003: Revised 19 Januarν 2004)
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