The logic: Korean consumer spending trends resemble Japan’s in the late 1980s, just before its economic crash—a crash that marked the end of Japan’s economic miracle and the beginning of two decades (and counting) of deflation and low growth. Hence, Korea must be on the verge of crashing and burning in a similar fashion.
This is a flawed argument though—consumer spending habits didn’t cause Japan’s crash and aren’t responsible for the malaise that followed. Japan’s troubles result more from weak demographics, flawed economic policy, lack of domestic competition and trade protectionism.
The Korean editorial also references a piece from the US’s Foreign Policy magazine, which takes a deeper look at some of the similarities between Korea and Japan and draws the same conclusion.
Among the similarities highlighted here are the huge conglomerates that have historically dominated both nations’ economies—keiretsu in Japan and chaebol in Korea. The piece argues Japan’s failure to break up the keiretsu and increase competition among domestic producers is one big reason Japan has stalled, and it foresees similar weakness in Korea 15-20 years from now if Korea’s government can’t crack down on the chaebol.
In my view, this is only half right. Stagnant keiretsu have contributed mightily to Japan’s woes, but a key difference between the keiretsu and chaebol mitigates the risk of the same thing happening in Korea.
Japan’s six major keiretsu are all centered around banks—the banks have cross-shareholdings in the keiretsu affiliates and subsidiaries, and these companies have partial ownership of the banks. This makes it too easy for these firms to secure corporate financing—because of the cross-shareholdings, banks have a vested interest in supporting them and, problematically, keeping struggling affiliates afloat. This is why Japan has so many so-called “zombie companies”—companies that should fail and make room for smaller firms with more growth potential.
In Korea, the chaebol are legally separated from banks—no chaebol’s holding company is allowed to own a stake, however small, in a bank. Hence, chaebols’ affiliates and subsidiaries—and sometimes even the main holding company itself—can and do fail. During the late 1990s Asian financial crisis, known in Korea as the IMF Crisis, 25 chaebol went bankrupt, including one of the top-five. In Korea, the chaebol must stay competitive and profitable in order to survive. And the chaebol at the top of Korea’s economy today are quite adept at this.
That said, the need for chaebol reform is a legitimate concern in Korea. Because of the cross-shareholdings and ruling family members’ dominance of the companies’ executive boards (chaebol are all family-run), corruption runs rampant. Cross-shareholdings also give the chaebol incentive to award contracts to their own affiliates, shutting out smaller competitors who might offer a better product or service. And trade barriers designed to protect the chaebols’ dominance of Korean markets further stifle competition, making goods more expensive for Korean citizens.
Both candidates in Korea’s upcoming presidential election are campaigning chaebol reform. The ruling Saenuri party’s candidate, Park Geun-hye, is pledging to improve corporate governance, while her opponent, the Democratic United Party’s Moon Jae-in, is pushing for limits on cross-shareholding. Their proposed measures might help increase competition within Korea, but in my view, tax reform and free trade should be top of the list. Lowering Korea’s trade barriers will accomplish two things: It will make it much easier and cheaper for smaller firms to compete internationally, and competition from foreign goods would help fragment domestic markets, providing an opening for new market participants. Making the corporate tax code more equitable—it heavily favors the chaebol—would make it even easier for small firms and entrepreneurs to profit and grow. The chaebol will continue to play a role, but Korea would get a new growth engine, and all Koreans would benefit from cheaper goods, more choices and—importantly—more employment options.
But the need for chaebol reform doesn’t make Korea the next Japan. Korea’s pretty competitive globally, and its fundamentals are plenty stronger than Japan’s. There are just key policy steps the next government could take to help take Korea to the next level.
For more on this, check out my recent column on Equities.com, “Competition, Gangnam Style.”