Proposal for President Roh, Moo-hyun
National Economic Advisory Committee (NEAC)
Foreign Business Committee

[DRAFT]

Wednesday, December 17, 2003
Prepared by (in alphabetical order):
The American Chamber of Commerce in Korea (AMCHAM Korea)
European Chamber of Commerce in Korea (EUCCK)
Seoul Japan Club (SJC)

We are honored to have participated in the National Economic Advisory Committee organized by The Blue House during the year 2003. This document summarizes the suggestions for the Korean government compiled by the representative organizations of foreign companies doing business in Korea.

We have expanded on the report "The Direction of Economic Policy of Participatory Government" presented by the Deputy Prime Minister and Minister of Finance and Economy, Kim Jin-pyo during the 1st National Economic Advisory Council Meeting held in June 11, 2003.

We agree with Minister Kim's report stating that Korea needs to use its geopolitical advantage, excellent worker resources and the world's best IT technology in the promotion of mid-term and long-term policies that contribute to the expansion of Korea's growth potential.

As also explained in MOFE's "Direction of Economic Policy of Participatory Government" report, Korea needs to continue to improve its corporate governance, labor relations and consistency in the way government policies and regulations are administered.
CONSISTENCY/PREDICTABILITY: The government should continue efforts to develop the financial industry as the new growth engine driving the Korean economy in the 21st century.
BETTER CORPORATE GOVERNANCE: Corporate transparency needs to be increased, trust needs to be developed, and investment to prepare for the future needs to be expanded.
IMPROVED LABOR RELATIONS: The government needs to foster an environment where workers will use rational dialogue rather than group action to attain their objectives, restrain from demanding salary increases that exceed the range of productivity enhancement, and cooperate in fostering national competitiveness

Strong Domestic Economy

While the Korean economy is currently experiencing a slowdown in domestic investment and consumption, Korean industry, including foreign investors, are exporting from Korea in record numbers. This fact clearly points to the current international competitiveness of Korean industry and remarkable progress Korea has achieved in improving efficiency and quality in production.

Foreign investors come to Korea to participate in Korea's robust domestic economy and to engage Korean industry as partners. Without a thriving domestic economy, foreign investment will be difficult to attract. Therefore, the Korean government must create an environment where it is imperative that domestic industries are confident about the Korean market.
We cannot stress how critical it is to get these Korean investors to commit to expanding their business in Korea in the future. Remember, Korean investors are also international investors with options. They can choose to move their investments offshore, and there are plenty of other countries that who want their investments. As you can see in manufacturing industries, more and more Korean companies are moving their production facilities to China to reduce costs and to tap into that large market. The government needs to pay attention to this trend and plan a course of action to prevent a hallowing effect, perhaps by providing incentives for companies and a more business friendly environment.

Korea's Edge Over China: Quality

Foreign companies come to Korea because Korea presents unique opportunities and resources for investors. Korean suppliers provide high quality goods on time, with high quality labor. Vendor costs may be higher than other countries, namely China, but Korea still has an edge when it comes to quality.

During the past few years, it appears there has been little overall change in the investment patterns of Japanese companies in Asia. But when the data is examined closely, it reveals that investment has increased in China while decreasing in Korea.

Korea cannot stop investments flowing into China, but it has control over its own investment climate. The Korean government needs to highlight Korea's advantages, and we believe the answer to the question posed by foreign investors, "What are the benefits of investing in Korea rather than China?" is worth giving much thought. Investment is being moved to China where labor costs are low, but Korea has to appeal to potential investors by promoting its strengths.

We believe Korea's strengths are (1) ability to provide quality products & services and (2) ability to successfully commercialize IT technology. The most successful case of technology commercialization was CDMA, which is the backbone technology for Korea's robust mobile communications industry. Korea needs more success stories like the CDMA. Broadband penetration is the highest in the world, and content creation may be an area where Korea can lead the world.

Also, Korea should focus on building a country image focused on quality. Thanks to companies like Samsung and LG, "Made in Korea" enjoys some quality brand equity in international markets. However, unfavorable images related to quality still exist for Korea due to such events like the 1.5 trillion won SK Global problem, political difficulties involving politico-economic alliances, government support for nuclear development in North Korea by the Hyundai Group, and problems concerning quality engineering, such as the recent subway tragedy, and the collapse of a department store and bridge during the 1990s. Unfortunately for Korea, these domestic events are well known around the world. Today, a nationwide commitment to quality from everyone including workers, management, and politicians as well as civil servants is needed to build a positive image for Korea.

This should not be difficult for Koreans as they have always been committed to quality. Koryo Dynasty celadon and "Palmandaejanggyeong" of Haeunsa from 750 years ago are great masterpieces. For example, Haeunsa's Palmandaejanggyeong, which is a product of about a thousand of engravers, has 52 million characters on 81,340 printing blocks. It predates Gutenberg's printing press, which is usually considered the world's first. When Palmandaejanggyeong was computerized recently, it was reported to have no spelling errors or missing words. As demonstrated here, Korean ancestors achieved perfect quality. This is something to be proud of and worth continuing in Korea.

Trade Relations

Korea is opening its doors to the world through trade, and we fully support and encourage Korea's efforts in signing Free Trade Agreements (FTAs) with other countries.

The global trend is to form trade zone blocs, but one in Asia like Europe's EU and America's NAFTA does not yet exist. With changes in the economic structure of East Asia and the rise of China, FTAs in the region can benefit Korea. Economic cooperation with China should be gradually phased in, but it is too early to enter an FTA that will remove tariff rates.

Before Korea and the U.S. can begin FTA talks, we need to complete a Bilateral Investment Treaty (BIT). In the case of the U.S., Korea could not sign the U.S.-Korea BIT due to the screen quota. Benefits of a BIT can be seen through the Korea-Japan BIT that was signed in January 2003. With the conclusion of Korea-Japan BIT, both countries' investments are being promoted and should be mutually beneficial. The two countries are now beginning FTA negotiations.

Korea as the Asia Hub

Korea has the potential to become a hub of business, logistics, R&D, tourism and finance in the region.

One worthy goal is to focus on developing Korea's asset management market. Creating a business climate that will allow the world's major private equity investors as well as asset managers to commit significant resources (assets & manpower) is an achievable goal for Korea. This can be achieved by utilizing the Free Economic Zones in Incheon and elsewhere by adjusting Korea's economic policies to attract investors.

Historically, Korea has been successful in attracting foreign investment in manufacturing with tax incentives. Currently, incentives for asset management industry are unavailable in Korea. Modifying current policies to attract this industry will not only bring expertise, but also create high paying service jobs for thousands of Koreans, improve credit and financial analysis skills in Korea and promote foreign investment into all industries. Improvement of credit and financial analysis skills in Korea and promotion of foreign investment in all industries will take Korea a step closer to becoming the region's hub and prepare for its role as Asia's financial center.

Revenue generated by investment/fund management companies in Korea will be exempt - whether from investments in Korea, China or elsewhere around the world. This would provide huge incentives for these funds to locate in Korea. More importantly, these tax incentives should also be extended to companies that receive investments from these funds. This will encourage the target companies to keep their funds into Korea for the long-term, rather than for short-term capital gains. It will also prevent these companies from sending funds to China or elsewhere that provides these incentives.

Labor Reform

However, all of our recommendations listed in this paper cannot be achieve without a significant improvement in labor-management relations in Korea. By now, everyone in Korea is aware of the need for Korea's labor market reform. We believe the goals for the Korean economy simply cannot be realized without establishing a healthy flexibility in Korea's labor market. Labor should be Korea's one of core competencies, with its highly educated and diligent workers.

Industry has found flexibility through the contract worker system, but this system is not desirable for Korea's long-term stability of workers or the economy. True flexibility by permitting companies to lay off workers will promote higher employment and resolve much of youth unemployment problems Korea is faced with today.

The problems of labor-management are not just political problems but business problems. They can be best resolved by fostering an environment where management more transparent and by building a more trusting relationship with workers. The Chaebol system has a weakness of not being able to separate management and ownership. There are many Chaebol companies with no labor-management disputes, but we must keep in mind that it is easy for management to become secretive and less transparent, if management and ownership cannot be separated.

The good news is that Korea's labor management relations can be improved. A good example is Fuji Xerox Korea. The company has reached an agreement on employee wage increases without employees going on strike every spring, as is sometimes the trend in Korea. Fuji Xerox Korea's last three years show that no labor disputes occur when a trusting relationship with the labor union is in place. Korean workers are outstanding, and we firmly believe that labor-management problems will disappear if a more trusting relationship can be fostered between labor and management.

While there are still labor-management problems today, clear and consistence use of laws and principles to formulate countermeasures by the government will assist in improving the business environment and attracting foreign capital.

Mid-term Goal: Research & Development

In the mid-to-long term, R&D is critical to Korea's future economic success and to development and maintenance of both thriving service/manufacturing sectors. At present, however, the combined spending by the government and industry in research and development is insufficient. To improve this spending, we would suggest that the Korean government issue special education bonds and dedicate the funds raised by these bonds to (1) improving educational facilities at the high school and college levels and (2) government funded research and development.

The success of Silicon Valley in the U.S. was due to institutional cooperation between industry and institutions of higher learning. Improving high school & college facilities and providing government grants in research and development are possible with special government bonds. This will allow Korea to develop world-class R&D capabilities.
R &D investment should be part of the mid-term and long-term plans. According to a report by the Korea Industrial Technology Association, "investment on R & D by Korea for the past 30 years increased 22.4% annually, exceeding that of advanced countries. However, the amount invested in 2001 totaled 12.5 billion dollars- 8% of the amount committed in Japan".

Accordingly, the government should not disburse support funds by designating companies and types of business, but should change the nation's awareness by educating people of the importance of the manufacturing industry and R & D, and let the market determine where the funds are best spent. The nation needs to understand the importance of expanding the tax system support and providing incentives for R & D and equipment investments. From the structural reformation of the law and system focusing on hardware, there should be reformation on software, such as enhancing the awareness and customs of each economic body.

Increase research & development budgets and programs for clearly defined new technologies in order to maintain the technological advantage over China. This is an area Korea can lead, if it wanted to.

In conclusion, we have listed our committee's recommendations in bullet points.

Recommendations:

o Successfully complete a U.S.-Korea BIT
o Negotiate, conclude and ratify Free Trade Agreements with main trade partners in the region (Japan, China, ASEAN).
o Maintain strong domestic economy
o Create a business environment for all investors, both domestic and foreign
o Improve labor flexibility
o Finalize as soon as possible the ongoing investigations related to the irregular funding of the last election campaign.
o Maintain inflation within a range of 2-3% per annum.
o Continue progress in structural reforms mainly in Corporate Governance, Labor Market, and Strength Financial Markets.
・ Enhance transparency of ownership and control of Corporate Korea.
・ Provide tax exemptions set forth in the Foreign Investment Promotion Act (7-year complete exemption and 3 year 50% reduction) to financial investors, fund managers, private equity investors, who locate their businesses in the Free Economic Zones.
・ Strengthen investor protection and hold management accountable for violation of investor rights.
・ Act to limit the damage to Korea's International image, by making organized labor fully accountable for their actions.
・ Push further all countries involved in order to come to a peaceful solution on the North Korea nuclear threat, improving relations with the USA.
・ Start International Advertising Campaign to improve Korea's image abroad.

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