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Is South Korea's Recovery For Real?


International Business: South Korea

Is South Korea's Recovery for Real?

Investors are back, but ordinary citizens are still feeling lots of pain

It's sale time at Seoul's cavernous department stores, but the crowds aren't buying much. "I'm just browsing so I can haggle for a better price at another outlet--if I decide to buy at all," says 27-year-old Nam Chang Soo as she eyes a discounted television set at Lotte Department Store in downtown Seoul. "The news says the economy is picking up, but ordinary people like myself don't believe it."

If only Ms. Nam strolled over to the Seoul stock exchange, she would see where the real buying is going on. A year after global investors fled in panic from Korea, they're back, snapping up shares of local companies and fueling a 100% rise in the Korean stock index since early October. The brokerage firms are churning out reports listing Korea's gains under President Kim Dae Jung--a surge in the trade surplus, record foreign investment, and a spate of upgrades from the credit rating agencies. Backwash from Brazil's devaluation may cool Korean and other Asian exchanges for a bit. But any pause is likely to be only temporary, given the optimism about Seoul's reforms. Says Stanley Fischer, deputy chief of the International Monetary Fund, "There is no question Korea is turning around."

Clearly, there's a disconnect between how ordinary Koreans see their economy and what the market thinks of the country's prospects. But this may be one of those moments when both average folk and market pros are right. Korea is indeed recovering. Yet it's a pitiless recovery that will not swiftly reduce joblessness--it may even increase it. Like the former communist countries of Eastern Europe, which now produce high growth rates but still suffer from high unemployment, Korea is embarking on a difficult transition that will produce plenty of fresh growth, but also pain and turmoil for the working class.

The astounding gains of the last few months are giving investors momentary confidence that Korea will stick with this difficult course. The country enters 1999 with a healthy current account surplus of $39.9 billion, and the won has strengthened dramatically. A record trade surplus guarantees that there will be no repeat of Korea's near-default on its foreign debt last year.DRAMATIC CONTRAST. Just as encouraging, in 1998, foreign investment hit an all-time high of $8.8 billion. The flood of cash allows companies to repay domestic and foreign debt, while the presence of more foreign shareholders will dilute the power of management, which for years has ignored shareholder rights. Foreign investment is expected to hit $15 billion this year, helped by signs that sovereign credit ratings will be upgraded to investment level.

Meanwhile the big chaebol have reluctantly acceded to government-brokered deals like Samsung Co.'s divestment of its car company and the merger of Hyundai Group's and LG Group's chipmaking businesses. News of these deals stands in dramatic contrast to the poorly managed auction of bankrupt Kia Motors Corp. last fall.

What really gives investors heart is the prospect of some heavy U.S. investment in the financial sector.

The government's promise to sell debt-heavy Korea First Bank, which has $27 billion in assets, to GE Capital and Newbridge Capital Ltd., signals that more big banks and insurance firms may end up in foreign hands. A foreign buyer for Seoulbank, where nonperforming loans make up 16% of the portfolio, should be found before the end of the month.

Such deals mean the money-starved banks will get billions in fresh capital. More important, says analyst Joydeep Mukherji of Standard & Poor's Corp., is the ripple effect of a U.S. presence in the banking sector. In Latin America, American takeovers of some key local banks improved the financial industry vastly by introducing better technology, sound lending policies, and real consumer banking. The hope is that the same will happen in Korea, whose sick banks triggered the crisis in the first place.

Foreign-run banks will also avoid making disastrous loans to the chaebol, many of which have accumulated debt levels four times greater than their equity. Already, President Kim has restrained the ability of the chaebol to dominate the credit markets by limiting the number of chaebol bonds that local mutual funds and investment firms can hold. "That was a critical move," says G. Paul Matthews, president of Matthews Korea Fund, which had a 96% runup in 1998. "Korea's capital markets have changed more in 15 months than they did in the previous 15 years."

The optimism stemming from these developments has prompted the Bank of Korea to revise its growth forecast upward from zero growth to 3.2% this year. Even George Soros, once the scourge of Asian markets, may be considering a large stake in Seoul Securities. Economists also note that Korea is well-positioned to profit from any upward swing in semiconductor prices, while exports in steel and autos have been surging."HOLDING BACK." This is all good stuff. But it's not going to make any immediate difference in the lives of ordinary Koreans. They are still fearful of joining the growing ranks of the unemployed, which should reach 8% of the workforce this year, up from 2% in 1996. These frightened workers are not in a mood to spend money. Kodak Korea Ltd., like most foreign companies, saw its sales drop 30% last year and does not look for much of a rebound in 1999. "Consumer demand has not picked up yet. They're holding back in case it gets worse," says President John C. Bay.

Labor strife is the sleeper the government fears most. Quiet for most of the last few months, unions recently rallied over a planned business swap between Samsung Motor and Daewoo Electronics. More dramatic labor protests could still spook overseas companies. "Foreign investors are not entirely sure the government has resolved the labor issue," says Kim Ki Hwan, South Korea's roving ambassador for economic affairs. Sacked blue-collar workers may revolt if they see the middle class escape with mere wage cuts, and street rallies by angry unemployed would put a dent in Seoul's carefully calibrated recovery plan. Policymakers are ready to tough it out, so confrontations are inevitable. "We cannot delay economic restructuring over fears about unemployment," says Hyun Oh Seok, director of economic policy at the Finance & Economy Ministry.

Labor unrest, low consumer confidence, and further foot-dragging by the chaebol could slow the recovery. The chaebol are still masking many of their debt problems by raising funds through rights issues. Asset sales would boost efficiency, but the top chaebol are mostly choosing to hang on to the family silver. Despite the planned sale of Korea First, "foreigners aren't interested in most of the assets they want to sell," says Namuh Rhee, head of research at Samsung Securities. Return on assets in corporate Korea remains very low, a sign that companies are still running a lot of unproductive factories.

The difficult truth is that Korea has plenty to fix before it emerges whole from the crisis. The process will take years, maybe even decades, and will proceed in fits and starts. But when Korea called on the International Monetary Fund for help in December, 1996, plenty of market observers thought the country would never recover and that its political will to change was nonexistent. Now investors are delighted at the country's progress, and they are willing to bet that Korea will show more signs of resilience. As they cheer Korea on, they are hoping the rest of Asia will follow its example.By Jennifer Veale in SeoulReturn to top


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